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2014-03-10
1
TX2: Advanced Personal and
Corporate Taxation Instructors:
Dawn Highfield (Modules 1, 5 &6)
dmhighfield@gmail.com
Michael Luzny (Modules 2-4 & 7-10)
blaze42jor@hotmail.com
Module 1: Benefits to Shareholders
1. Benefits conferred on a shareholder
2. Loans to shareholders
3. Non-resident shareholders
4. Paid-up capital (PUC)
5. Deemed dividends
6. Ethics and tax planning
7. Writing a tax opinion
1. Benefits Conferred on a Shareholder
General Rule under subsection 15(1)
◦ Applies each time a corporation confers a
benefit on a shareholder
◦ The value of the benefit received is added into
“ordinary” income of the shareholder, not
dividend income.
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1. Benefits Conferred on a Shareholder
Rules are broad and cover many
situations, including where: 1. a payment has been made to a shareholder other
than pursuant to a bona fide business transaction
2. funds or property of the corporation have been
appropriated in any manner whatever to, or for
the benefit of a shareholder.
3. a benefit or advantage has been conferred on a
shareholder by a corporation.
1. Benefits Conferred on a Shareholder
Often results in double taxation
Exception is when the benefit was
conferred on the shareholder in their
capacity as an employee
15(1) does not apply to amounts already
included in income under section 84
1. Benefits Conferred on a Shareholder
Other subsections to be aware of:
◦ 56(2) Indirect payments
◦ 246(1) Benefit conferred on a person
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1. Benefits Conferred on a Shareholder
Value of the Benefit
◦ generally based on FMV of the property appropriated
◦ If the property used principally for business purposes, the rental value or the costs of maintaining the property for the period of personal use will be used to determine the value of the benefit.
◦ If the property is used mainly by the shareholder, CRA values the benefit on the basis of costs assumed by the corporation with respect to the property, plus the foregone yield on the capital invested for the acquisition of the property where the amount thus calculated exceeds the rental value or where no rental value can be established.
1. Benefits Conferred on a Shareholder
The rules in ss 15(1.2) apply to include
the value of forgiven debt in income of
the shareholder
SS 15(5) Automobile Benefit
1. Benefits Conferred on a Shareholder
Review example 1-1:
◦ Reading 1-1
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1. Benefits Conferred on a Shareholder
Exceptions:
◦ reducing the corporations paid-up capital
◦ redeeming, cancelling, or acquiring shares by the corporation
◦ winding-up, discontinuing, or reorganizing the corporation’s business
◦ winding-up a Canadian Corporation
◦ paying a dividend or a stock dividend
◦ conferring on all holders of common shares a right, identical for each common share, to buy additional shares of the corporation
◦ converting contributed surplus into paid-up capital by an insurance corporation or a bank
◦ converting any contributed surplus created on the issue of a class after march 31, 1077, to paid-up capital of such class of shares, pursuant to paragraph 84(1)(c.3)
1. Benefits Conferred on a Shareholder
Transfer of property between
corporations and shareholders
Beware of
◦ ss 69(1) results in a 15(1) benefit if the
corporation overpays for the asset
◦ ss 69(4) results in a 15(1) benefit when a
corporation sells an asset to a shareholder for
an amount less than FMV.
1. Benefits Conferred on a Shareholder
Subsection 163(2) penalty for false
statements or omissions
◦ This penalty is often imposed by CRA on
15(1) benefit assessments
◦ It is calculated as the greater of $100 or 50%
of the tax evaded
◦ It is imposed when a person, knowingly or in
circumstances amounting to gross negligence,
has made, participated in, assented to, or
acquiesced in a false statement or omission.
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1. Benefits Conferred on a Shareholder
Planning:
◦ Consider the use of a price adjustment clause
for the sale of assets between a shareholder
and corporation when FMV is difficult to
determine.
◦ Consider the use of internal controls when
dealing with shareholder expenses
2. Loans to shareholders
General rule under subsection 15(2)
◦ Where a corporation has made a loan to a person or partnership that was a shareholder of that particular corporation, the amount of the loan must be included in the income of the person or partnership to whom the loan was made in the taxation year during which it was made
◦ Exception: The rule does not apply if the loan is made to another corporation resident in Canada or a partnership all of whose members are corporations resident in Canada.
2. Loans to shareholders
Subsection 15(2) applies in the following
situations:
◦ When a loan is made to a person who is:
a shareholder of a particular corporation
connected with a shareholder of a particular
corporation
a member of a partnership, or a beneficiary of a
trust, that is a shareholder of a particular
corporation
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2. Loans to shareholders
Exceptions - Subsection 15(2) does not
apply if: 1. Repayment is made in the following taxation year
– 15(2.6)
2. Loans are made in the ordinary course of the
lender’s business – 15(2.3)
3. Loans are received as employees – 15(2.4)
2. Loans to shareholders
1. Repayment:
◦ Depending on the Corporation yearend, you may have up to two years to pay back the loan.
◦ In order for the exception to apply, the repayment must not be part of a series of loans and repayments.
◦ Repayment in the form of declared dividends or wages credited to the loan account are not considered part of a series of loans and repayments by CRA.
2. Loans to shareholders
2. Ordinary Course of business
◦ In order for this rule to apply, bona fide
arrangements must be made, and adhered
to, for the loan to be repaid within a
reasonable time.
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2. Loans to shareholders
3. Loans received as employees
◦ When the loan is made to a shareholder who
is also an employee or executive, the loan
must be used to:
purchase a dwelling for personal use
purchase treasury shares
purchase an automobile to be used in employment
◦ In all cases
The loan must be obtained because of employment
Bona fide arrangements for repayment are required
2. Loans to shareholders
3. Loans received as employees ◦ If the shareholder owns less than 10% of the
shares of the corporation, the restriction on the previous slide do not apply.
◦ Criteria for consideration: Are similar benefits granted to other employees of the
corporation?
Is the loan in proportion to the importance of the services rendered to the corp, considering the salary and other remuneration paid?
Would an employee of a similar-sized business who was not a shareholder have received a similar loan?
What is the extent of the ee-sh’s control over the corporation?
2. Loans to shareholders
Deduction on repayment
◦ Paragraph 20(1)(j) allows a taxpayer to deduct
from income any repayment previously
included in income under 15(2) in the year
the repayment is made.
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2. Loans to shareholders
Deemed interest – subsection 80.4(2)
◦ When a shareholder or connected person
receives a low-interest or interest free loan,
they may be required to include a benefit
equal to the interest evaded in income.
◦ This rule does not apply if the amount of the
loan was included in income under subsection
15(2).
2. Loans to shareholders
Employee-shareholder
◦ If loan was received in capacity as an employee, the amount of the benefit is included in employment income under subsections 80.4(1) & 6(9)
◦ If loan is used to purchase a dwelling, the benefit is calculated using the lesser of:
the prescribed rate in effect when the loan was made,
the prescribed rate in effect each quarter during which the loan remains unpaid.
2. Loans to shareholders
Deduction under section 80.5
◦ This deduction is available if the loan is used
to acquire an income-producing property.
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3. Non-resident shareholders
Non-residents are required to pay tax on
benefits received from Canadian
Corporations under paragraph 214(3)(a)
◦ The taxable amount is considered a dividend
◦ Part XIII tax applies at a rate of 25%.
◦ The amount is payable by the corporation and
can be recouped from the non-resident.
4. Paid-up Capital (PUC)
Defined in subsection 89(1)
It is essential in determining the tax
consequences of transactions affecting the
capital stock of a corporation.
PUC ≠ ACB
4. Paid-up Capital (PUC)
Definition:
◦ Paid-up capital is generally equal to the
amount recorded as issued and outstanding
share capital as determined under the
legislation under which the corporation was
formed.
◦ It represents the contribution of capital to the
corporation on issue of shares, as recorded in
the corporation’s legal records.
◦ Accounting PUC ≠ Legal PUC
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4. Paid-up Capital (PUC)
There are many sections in the income
tax act that affect PUC and result in
adjustments to PUC values.
These adjustments are intended to
prevent the conversion of other income
into a capital gain in transactions involving
the issue of shares.
4. Paid-up Capital (PUC)
PUC is calculated separately for each
class of shares.
PUC per share is equal to PUC for the
entire class divided by the number of
issued in that class.
PUC is not equal to ACB.
4. Paid-up Capital (PUC)
Example:
Jim acquires 100 class A shares for
$20,000. This amount is entered into legal
PUC in the corporation’s books.
Class A shares previously issued: 500
shares with a PUC of $4,000.
Calculate the PUC and ACB of Jim’s
shares.
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4. Paid-up Capital (PUC)
PUC represents the return on capital that
may be received by a shareholder without
the amount being subject to tax as a
dividend.
PUC of a share is not affected by a
subsequent purchase or sale of that share.
4. Paid-up Capital (PUC)
PUC serves to determine whether there
is a deemed dividend in the case of
certain transactions provided for in
section 84.
ACB is one of the elements used to
calculate the capital gain or loss on the
sale of shares.
See comparative table (Exhibit 1-1 in
reading 1-4)
4. Paid-up Capital (PUC)
The corporation’s ACT of incorporation
determines the amount that can be
recorded as the amount paid for the
shares in the legal books of the
corporation:
◦ If the shares have nominal value, the amount
paid is the nominal value and any excess is
included in contributed surplus.
◦ If the shares have no nominal value, typically
FMV of consideration received is recorded.
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4. Paid-up Capital (PUC)
Practical aspect
◦ ACB of shares is usually easy to determine
based on information contained in the
purchase documents.
◦ PUC is sometimes difficult to calculate. You
cannot rely on the financial statements to
determine PUC. You should start by looking at
the legal books of the corporation.
5. Deemed Dividends
Section 84 was designed to prevent the
withdrawal of funds of a corporation
resident in Canada as a return on capital.
These transactions are therefore deemed
dividends and taxed as such in the hands
of the shareholder.
5. Deemed Dividends
Taxation of Dividends to individuals
◦ After 2005, must determine if the dividend is
designated as an eligible dividend
◦ The gross-up and tax credit rates vary
depending on the type of dividend.
◦ CCPC’s can designate dividends as eligible up
to the balance in the General Rate Income
Pool and the end of the year.
◦ Non-CCPC’s can designate all dividends as
eligible as long as they have a nil balance in the
Low Rate Income Pool at the end of the year.
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5. Deemed Dividends
When transactions involving a
corporation resident in Canada results in
a deemed dividend under section 84, this
dividend can be designated as an eligible
dividend, taking into account the
limitations mentioned on the previous
slide.
5. Deemed Dividends
Artificial Increase in PUC – subsection
84(1) Arises where the PUC of the issued
shares of a class of shares is increased
without:
◦ A corresponding increase in the value of the
corporation’s assets
◦ A corresponding reduction in the value of its
net liabilities
◦ A corresponding reduction in the PUC of
another class of shares
5. Deemed Dividends
Conversion of Contributed surplus to
PUC of a class of shares may give rise to a
deemed dividend under ss 84(1) unless
the following conditions are met:
◦ The contributed surplus arises from the issue
of shares of such class after March 31, 1977
◦ Neither the rollover provisions of sections
84.1 or 212.1 are applied on the issuance
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5. Deemed Dividends
Paragraph 53(1)(b) will add the value of a
deemed dividend calculated under
subsection 84(1) to the ACB of the shares
held.
This adjustment is required to ensure that
double taxation does not occur.
5. Deemed Dividends
Example:
Mr. & Mrs. Smith each own 100 Class A shares
of the corporation Smith Ltd., for which they
paid $10,000 each. Smith Ltd. is a CCPC that
has nil GRIP.
Mrs. Smith transfers land valued at $30,000 for
100 Class A shares having a PUC and FMV of
$50,000. The ACB of the land is 20,000.
Calculate the tax consequences for Mr. & Mrs.
Smith and Smith Ltd.
5. Deemed Dividends
Consequences for Mrs. Smith Deemed Dividend – 84(1)
Increase in PUC of Class A shares $50,000
Increase in net assets (FMV of land) 30,000
Deemed Dividend $20,000
Mrs. Smith’s share (200 / 300) $ 13,333
Taxable Benefit – 15(1)
FMV of Class A shares received $50,000
FMV of Land 30,000
20,000
Deemed Dividend (84(1)) (20,000)
Benefit conferred on Mrs. Smith 0
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5. Deemed Dividends
Consequences for Mrs. Smith ACB of the Class A shares
Acquisition cost of the 100 new shares $30,000
Deemed dividend – 84(1), 53(1)(b) 13,333
$43,333
ACB of the 100 shares held before transfer 10,000
ACB of the 200 shares held by Mrs. Smith $52,333
Capital Gain on Land
POD – FMV of shares received $50,000
ACB 20,000
Gain 30,000
Less: Amount already included in income 13,333
Capital Gain $16,666
Taxable Capital Gain (50%) $ 8,334
5. Deemed Dividends
Consequences for Mr. Smith Deemed Dividend – 84(1)
Increase in the PUC of the Class A shares $50,000
Increase in net assets: FMV of land 30,000
Deemed Dividend $20,000
Mr. Smith’s share (100/300) $ 6,667
ACB of Class A Shares
ACB of 100 shares held before deemed dividend $10,000
Deemed Dividend – 84(1) 6,667
ACB of 100 shares held by Mr. Smith $16,667
For Smith Ltd
Cost of land (69(1)) $30,000
5. Deemed Dividends
Distribution on the reorganization or
winding-up of a business
◦ A deemed dividend is calculated as the value
distributed to or appropriated by the
shareholders less the PUC of the shares held
at the time.
◦ The dividend is calculated per share class and
each shareholder receives a benefit equal in
proportion to the number of shares held.
◦ If property other than cash is distributed, the
deemed disposition takes place at FMV.
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5. Deemed Dividend
Purchase or redemption of shares by the
issuing corporation – subsection 84(3)
◦ Results in a deemed dividend
◦ To avoid double taxation, the subsection 84(3)
deemed dividend is removed from the POD
of the share by virtue of the definition of
POD under paragraph (j) in section 54.
5. Deemed Dividends
Two step process:
1. Determine whether there is a deemed
dividend under subsection 84(3).
2. Determine whether the disposition of the
share results in a capital gain or loss.
5. Deemed Dividends
Example:
- Mr. T owns 2,000 Class B share of Alpha
Ltd. These shares have a PUC of $20,000
and a redemption value of $30,000. The
ACB of the shares for Mr. T is 18,000.
- On December 31, 2013, Alpha Ltd.
redeems the 2,000 shares held by Mr. T.
- Alpha is a CCPC with a large GRIP.
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5. Deemed Dividends
Tax Consequences
Deemed Dividend
Amount paid on redemption $30,000
PUC 20,000
Deemed dividend $10,000
Capital Gain
POD (54) (30,000 – 10,000) $20,000
ACB 18,000
Capital Gain $ 2,000
Taxable Capital Gain $ 1,000
5. Deemed Dividends
Subsection 40(3.6)
When a shareholder suffers a loss on the
redemption, acquisition or cancellation of a
share and immediately after the transaction the
shareholder or his spouse control the
corporation, the resulting loss is deemed to be
nil.
The capital loss denied to the shareholder is
added to the ACB of the remaining shares held
by the shareholder under paragraph 40(3.6)(b)
5. Deemed Dividends
Reduction in PUC – 84(4)
When there is a PUC reduction of a class of
shares without a reduction of the number of
shares through a redemption, acquisition or
cancellation of share, a deemed dividend may
result. The value will be equal to the amount
paid to the shareholders that exceeds the PUC
reduction of the class of shares.
This may result in a reduction to ACB under
subparagraph 53(2)(a)(ii)
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5. Deemed Dividends
Example
Mary holds 250 Class B common share of
Jane Ltd. The PUC of the shares is 50,000
and the FMV is 250,000. Jane Ltd. no
longer requires as much capital as it did
on incorporation. It decides to reduce the
PUC of the 250 shares to $5,000 and
pays Mary $45,000. The ACB of the 250
Class B common shares is equal to PUC
of $50,000.
5. Deemed Dividends
Tax Consequences for Mary Deemed Dividend – 84(4)
Amount Paid $45,000
Reduction in PUC (50,000 – 5,000) 45,000
Deemed Dividend 0
ACB of Class B Shares
ACB before PUC reduction $50,000
Amount paid less dividend (45,000)
ACB after the reduction in PUC $ 5,000
5. Deemed Dividends
Tax Consequences for Mary if 84(3) applied
Deemed Dividend – 84(3)
Amount Paid $45,000
PUC of shares (45/250 x 50,000) 9,000
Deemed Dividend $36,000
Capital Gain
POD – s54 (45,000 – 36,000) $9,000
ACB (9,000)
Capital Gain $ 0
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5. Deemed Dividends
Deemed Dividend payable from the capital
dividend account Deemed dividends under subsections 84(1) to (4) may
be deemed to have been paid from the CDA if the
subsection 83(2) election is filed.
Dividends paid out of CDA are not taxable.
Under subsection 112(3) to (3.2), if the shares on which
the dividend is deemed to be paid are disposed of and
the result is a loss, this loss may be reduced by the
dividend paid out of the CDA.
5. Deemed Dividends
Shares distributed in transactions covered
by 84(2) to 84(4)
Where property distributed to shareholders
includes shares of the capital stock of the
corporation, the shares should be valued at
their PUC and not FMV
5. Deemed Dividends
Example
Anne Benson owns 200 Class D shares of
XYZ Ltd., having a PUC and ACB of
$4,000 and an FMV of $20,000.
In 2013, XYZ Ltd. redeems 100 Class D
shares owned by Anne in exchange for 10
Class E shares and $6,000 cash. The Class
E shares have a PUC of $1,600 and an
FMV of $4,000.
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5. Deemed Dividends
Tax Consequences for Anne
Deemed Dividend – 84(3)
Cash $6,000
PUC of Class E shares 1,600 $7,600
PUC of Class D shares (2,000)
Deemed Dividend $5,600
5. Deemed Dividends
Tax Consequences for Anne
Capital Gain
POD – s54
FMV of Class E shares + cash 10,000
Deemed Dividend (84(3)) (5,600) $4,400
ABC (2,000)
Capital Gain $2,400
Taxable capital gain (50%) $1,200
ACB of the 10 Class E shares $4,000
5. Deemed Dividends
Planning
You should always assess the impact on
PUC of a class before issuing new shares
of the class.
◦ You must consider the future impact for
shareholders in the case of a purchase or
redemption of shares by the corporation.
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5. Deemed Dividends
Example
In 2005 Henry incorporated H Inc. On
incorporation, Henry acquired 100 common
shares of the capital stock of Communication
Inc. for $10,000
The company has grown and is currently worth
$200,000. They need more capital and Shelly is
willing to invest $200,000 into the corporation
for a 50% interest. She will get 100 common
shares of the corporation.
5. Deemed Dividends
Tax Consequences
PUC of each of the 200 common shares issued
PUC of original 100 shares $10,000
PUC of 100 new shares 200,000
Total PUC 210,000
PUC per share ($210,000 / 200) $1,050
5. Deemed Dividends
Tax consequences for Shelly:
Deemed Dividend – 84(3)
Amount Paid $200,000
PUC of the 100 cs (100 x $1,050) (105,000)
Deemed Dividend $ 95,000
Capital Gain
POD – s54
Amount paid $200,000
Deemed Dividend (95,000) $105,000
ACB of 100 common shares (200,000)
Capital loss (95,000)
Allowable capital loss (50%) $(47,500)
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5. Deemed Dividends
Tax consequences for Hank:
Deemed Dividend – 84(3)
Amount Paid $200,000
PUC of the 100 cs (100 x $1,050) (105,000)
Deemed Dividend $ 95,000
Capital Gain
POD – s54
Amount paid $200,000
Deemed Dividend (95,000) $105,000
ACB of 100 common shares (10,000)
Capital gain 95,000
Taxable capital gain (50%) $ 47,500
6. Ethics and Tax Planning
Know your responsibilities as a CGA. You
may be faced with the following
challenges:
◦ Informing the client about the ITA provisions
that the client is violating
◦ Deal with situations in which the client wants
to structure financial affairs in ways that are
contrary to the ITA.
6. Ethics and Tax Planning
As a tax advisor, you have the following
obligations:
◦ Possess the knowledge required in taxation
matters in order to convey appropriate
information to clients
◦ Act professionally when advising clients.
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7. Writing a tax opinion
Tax opinions should be set out in writing
and should contain the followng elements:
◦ Terms of reference
◦ Facts and assumptions
◦ Laws and documents consulted
◦ Analysis and conclusion
◦ Limitations
◦ Restrictions on use
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