Tax Alert Canada. Federal budget The road to balance: creating jobs and opportunities. Tax policy and economic outlook

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1 2014 Issue No February 2014 Tax Alert Canada Federal budget The road to balance: creating jobs and opportunities EY Tax Alerts cover significant tax news, developments and changes in legislation that affect Canadian businesses. They act as technical summaries to keep you on top of the latest tax issues. For more information, please contact your EY advisor. Balanced budgets are important to the long-term prosperity of this country, inspiring confidence in investors and consumers, whose dollars grow the economy and create jobs, and ensuring interest rates stay low. Tax policy and economic outlook Federal Finance Minister Jim Flaherty 2014 federal budget speech Jobs, growth, long-term prosperity and fiscal responsibility have been the mantra of the Conservative government s Economic Action Plans since they took office in Meeting with his provincial colleagues last December, federal Finance Minister Jim Flaherty stressed the importance of responsible fiscal management. Today s budget continues with that theme. In his budget speech, Flaherty states, Our government has reduced direct program spending for the third year in a row in That is something no other government has done in decades. Our government continues to eliminate waste that will cut the cost of government without cutting programs Canadians depend on. By doing these things, we will not only balance the budget in 2015, we will achieve a surplus.

2 Deficit and federal debt outlook Since the government s November 2013 Update of Economic and Fiscal Projections, the projected budgetary balance has improved slightly, reflecting both the economic outlook and the timing of government cost control. Relative to Budget 2013, the projected budgetary balance has improved in every year of the forecast horizon. As set out in Table A, the latest government projections call for a return to a budget surplus by fiscal Measured in relation to the size of the economy, the federal debt, while growing in the short term, is expected to decline to 25.5% of gross domestic product (GDP) by Table A Projections of federal surplus (deficit) and debt Surplus Federal debt (deficit) outlook $billion $billion % of GDP (16.6) (2.9) Totals may not add due to rounding. Eliminating the deficit will ensure that the federal debt-to-gdp ratio will fall to low, prerecession levels by and that Canada s total government net debt-to-gdp ratio remains the lowest in the G7. Canada is also on track to achieve the target, announced on 5 September 2013 at the G20 Leaders Summit in St. Petersburg, Russia, of reducing the federal debt-to-gdp ratio to 25% by In November 2013, the International Monetary Fund estimated that Canada s total government net debt-to-gdp ratio is the lowest, by far, of any G7 country: Canada 36.5%, Germany 56.3%, UK 84.8%, France 87.2%, US 87.4%, Italy 110.5% and Japan 139.9%. Table B Projections of federal budgetary surplus (deficit) $billions Budget Nov Feb Budget 2013 update update Revenue outlook Income taxes Personal Corporate Nonresident Excise taxes GST Customs Other taxes/duties EI premiums Other revenues Program expenses outlook Major transfers to persons Elderly benefits (42.0) (42.0) (41.8) (43.8) EI benefits (18.3) (17.3) (17.0) (17.7) Children s benefits (13.1) (13.1) (13.2) (13.2) Major transfers to other levels of gov t (60.3) (60.5) (60.5) (62.6) Direct program expenses (119.2) (120.7) (118.7) (113.0) (252.9) (253.6) (251.2) (250.2) Public debt charges (29.7) (29.5) (29.3) (29.0) Surplus (deficit) outlook (18.7) (17.9) (16.6) (2.9) Budgetary scorecard As new economic data become available, the government continues to refine and update its forecasts for the return to a balanced budget. These forecasts provide insightful information on the growth in revenue, increases and decreases in transfer payments and program expenditures, and interest on the national debt. In Table B, we summarize the deficit projections of fiscal 2014 and fiscal 2015, including two updates to fiscal 2014 (the final fiscal 2014 Federal budget

3 accounts will be released in the fall 2014 Economic Update). The deficit for fiscal 2014 is now projected to be $16.6 billion, down from the earlier estimate of $17.9 billion in November 2013, and down from $18.7 billion in March 2013, primarily due to reduction in direct program spending and lower Employment Insurance (EI) benefits. The deficit for fiscal 2015 is projected to be $2.9 billion, down from the $5.5 billion projected in November 2013 and the $6.6 billion projected in March A significant factor in the return to a balanced budget is low interest rates. In its November 2013 economic statement, the government noted public debt charges represented approximately 11 cents of every revenue dollar in fiscal , well below the peak of 38 cents of every revenue dollar in fiscal Budget 2014 measures The government s projections of the impact of the measures introduced in today s budget are relatively modest (Table C). The measures are projected to decrease the deficit in fiscal 2015 by $2.1 billion, and to have comparable reductions in the next two years. To a large degree, this will be accomplished by managing compensation costs, higher tax on tobacco products, deferring national defence capital expenditures and selective international and personal tax measures. The international tax measures include amendments to the taxation of captive insurance companies and offshore regulated banks. The personal tax measures include graduated rate taxation of trusts and estates, tax on split income and nonresident trusts. Table C Budget 2014 measures $millions Managing compensation costs ,50 0 1,400 1,200 1,100 1,000 Excise duty on tobacco products National defence capital funding ,100 Improving tax fairness and closing loopholes Increase support jobs (700) Total budget measures (1,00 0) (1,20 0) (1,20 0) (1,60 0) 2,10 0 2,300 2,200 1, Government policy measures The budget documents contain a number of proposed government economic actions which are not tax measures but which will impact the country s finances as well as individuals and Canadian businesses. These are designed to create jobs and opportunities while at the same time helping the government achieve its commitment to balance the budget in Some of the more significant initiatives the government has committed to include: Budget balancing Divesting of certain government assets to the private sector Freezing the operating expenses of departments Deferring national defence capital funding to Consumers Introducing legislation to address the price gap between identical goods sold in Canada and the United States Continuing investments in Canada s food safety system Federal budget

4 Prohibiting the charges to consumers for paper bills including printed credit card statements Making investments to improve broadband coverage in rural and northern communities Taking steps to lower wholesale roaming rates within Canada Financial Charging CMHC guarantee fees for mortgage insurance risks Reducing the amount of new guarantees that CMHC is authorized to provide Permitting the Bank of Canada to provide banking and custodial services to the Canada Deposit Insurance Corporation Providing for a property and causalty demutualization framework Proposing amendment to the Bank Act to strengthen the regulatory regime for overthe-counter derivatives Developing a framework for oversight on retail payments systems Introducing an explicit ban on bearer instruments Introducing anti-money-laundering regulations for virtual currencies such as Bitcoin and making online casinos subject to various money-laundering rules Businesses Making an investment in a new Windsor- Detroit international crossing Amending the Patent Act, the Trade-marks Act and the Industrial Design Act to modernize Canada s intellectual property framework Making an investment in the Canada First Research Excellence Fund Making additional investments in the Automotive Innovation Fund Providing assistance to Ready, Willing & Able, an initiative to help Canadians with intellectual disabilities become part of the workforce Implementing an enhanced Job Matching Service to help unemployed Canadians Immigrants Replacing the Immigrant Investor and Entrepreneur program with an Immigrant Investor Venture Capital Fund pilot project Introducing a new Expression of Interest system to ensure Canada has an efficient, flexible immigration system that matches the needs of employers Charities Reducing red tape for charities by enabling them to apply for registration and to file their annual returns electronically Following is a brief summary of the key tax measures. Business income tax measures Corporate tax rates No changes are proposed to the corporate income tax rates or to the $500,000 smallbusiness income limit of a Canadian-controlled private corporation (CCPC). The enacted Canadian federal corporate income tax rates are summarized in Table D. Table D Federal corporate income tax rates General corporate rate 15.0% 15.0% Small-business rate 11.0% 11.0% Jobs and assistance Creating the Canada Apprentice Loan, which will give apprentices registered in Red Seal trades access to interest-free student loans Federal budget

5 Remittance thresholds for employer source deductions In an effort to help reduce the tax compliance burden, Budget 2014 proposes to reduce the frequency of remittance of source deductions for some small businesses by increasing the threshold level of average monthly withholdings. In particular: $25,000 (up from $15,000) will be the threshold level giving rise to the requirement to remit up to two times per month $100,000 (up from $50,000) will be the threshold level giving rise to the requirement to remit up to four times per month. This measure will apply in respect of amounts to be withheld after Accelerated capital cost allowance Class 43.2 of Schedule II to the Income Tax Regulations provides an accelerated CCA rate (50% per year on a declining-balance basis) for investment in specified clean energy generation and energy conservation equipment. Budget 2014 proposes to expand Class 43.2 to include water-current energy equipment and equipment used to gasify eligible waste fuel for use in a broader range of applications. This measure will apply to property acquired on or after 11 February 2014 that has not been used or acquired for use before that date. Eligible capital property Budget 2014 outlines a proposal to simplify the income tax rules dealing with eligible capital expenditures and eligible capital receipts. The timing and implementation of this proposal will be subject to public consultation. Currently, the rules dealing with the acquisition, disposition and amortization of eligible capital property (ECP) are overly complex. The proposal is to replace the existing ECP regime by transferring a taxpayer s existing cumulative eligible capital (CEC) pools to a new capital cost allowance (CCA) class. Generally, all of the rules applicable to depreciable property would be applicable to this new CCA class and all future eligible capital expenditures and receipts would be accounted for through this new CCA class. Whereas currently 75% of an eligible capital expenditure is included in the taxpayer s CEC pool and deductible at the rate of 7% on a declining-balance basis, 100% of future eligible capital expenditures would be included in the new CCA class and would be deductible at a 5% rate on a declining-balance basis. As with the existing rules applicable to dispositions of depreciable property, future dispositions of ECP and other eligible capital receipts will result in the recapture of CCA and capital gains. Interestingly, this would significantly expand the ability to shelter such gains with available capital losses. Further, for Canadian-controlled private corporations, these capital gains would be subject to a higher rate of tax than would be the case under the current regime. Transitional rules are proposed to allow for a 7% CCA rate in respect of expenditures incurred before the implementation of the new rules. In addition, a transitional measure would apply to eligible capital receipts which relate to property acquired or expenditures made before the new rules are implemented. Further, simplified transitional rules are to be considered for small businesses. International measures Budget 2014 includes a number of measures that reflect the government s ongoing commitment to address international aggressive tax avoidance by multinational enterprises. These measures include specific proposals as well as government consultations. The specific international tax proposals are intended to ensure that (i) Canadian financial institutions are subject to tax in respect of certain offshore derivative insurance swaps, Federal budget

6 (ii) the regulated foreign financial institution exception to the foreign accrual property income rules no longer apply to non-financial institutions, and (iii) certain back-to-back lending arrangements are subject to thincapitalization and interest withholding tax rules. The government is also initiating a new consultation on a specific domestic anti-treaty shopping rule, as well as more general consultation relating to international tax planning by multinational enterprises that is intended to inform Canada s participation in international discussions relating primarily to the OECD Base Erosion and Profit Shifting (BEPS) Action Plan. Captive insurance The Canadian foreign affiliate system contains so-called base erosion rules that are designed to prevent taxpayers from shifting certain Canadian-source income to foreign affiliates. When these rules apply, such income earned by a controlled foreign affiliate is considered foreign accrual property income and is taxable in the hands of the Canadian taxpayer on an accrual basis. The specific base-erosion rule in paragraph 95(2)(a.2) is intended to prevent Canadian taxpayers from shifting income from the insurance of Canadian risks (i.e., risks in respect of persons resident in Canada, property situated in Canada or businesses carried on in Canada) to foreign affiliates. Budget 2014 proposes to modify this rule so that it applies to arrangements sometimes referred to as insurance swaps. Budget 2014 describes such arrangements as transactions that generally involve transferring Canadian risks to a whollyowned foreign affiliate of the taxpayer, which then exchanges those risks with a third party for foreign risks while at the same time ensuring that the affiliate s overall risk profile and economic returns are essentially the same as they would have been had the affiliate not entered into the exchange. More specifically, Budget 2014 proposes to extend the base-erosion rule in paragraph 95(2)(a.2) so that it would apply where, taking into consideration relevant agreements or arrangements entered into by the foreign affiliate or a non-arm s-length person, the affiliate s risk of loss or opportunity for gain or profit in respect of foreign risks can reasonably be considered to be determined by reference to certain criteria in respect of other risks (the tracked policy pool ) that are insured by other parties, and at least 10% of the tracked policy pool comprises Canadian risks. The referenced criteria are the fair market value of the tracked policy pool, the revenue, income, loss or cash flow from the tracked policy pool, or other similar criteria. The proposed changes to paragraph 95(2)(a.2) closely resemble the character conversion rules that were originally proposed in Budget 2013 (and since enacted), insofar as both seek to curtail the use of certain derivative contracts that can alter the tax consequences of economically equivalent transactions. The proposed changes to paragraph 95(2)(a.2) will apply to taxation years of a taxpayer that begin on or after 11 February Offshore regulated banks The foreign accrual property income regime generally requires that income from property earned by, and income from certain businesses carried on by, a controlled foreign affiliate of a taxpayer resident in Canada be included in the taxpayer s income on an accrual basis. Income from an investment business carried on by a foreign affiliate is included in the foreign affiliate s foreign accrual property income. Many financial services businesses would be considered investment businesses but for certain exceptions in the definition of investment business. One of the exceptions (the regulated foreign financial institution exception) is for a business carried on by a foreign affiliate such as a foreign bank, a trust company, a credit union, an insurance corporation or a trader or dealer in securities or commodities, the activities of which are regulated under the laws of the country in Federal budget

7 which the business is principally carried on or another relevant foreign jurisdiction. Budget 2014 suggests that certain Canadian taxpayers that are not financial institutions are accessing the regulated foreign financial institution exception by electing to subject their foreign affiliates to regulation under foreign banking and financial laws. Those affiliates then engage in investment or trading activities on their own account (proprietary trading), as opposed to transactions for customers. Budget 2014 indicates that it is not intended that the exception apply in these circumstances. Budget 2014 proposes to address this concern by adding new conditions for qualifying under the regulated foreign financial institution exception. More specifically, the exception will only be available if: The relevant taxpayer (i.e., the Canadian taxpayer in respect of which the foreign corporation is a foreign affiliate) is a Schedule I bank, a trust company, a credit union, an insurance corporation or a trader or dealer in securities or commodities that is resident in Canada and is subject to regulation by the Superintendent of Financial Institutions or a similar provincial regulator (including corporate parent companies and wholly-owned corporate subsidiaries of such institutions, that are themselves subject to the same regulation), and The Canadian financial institution has (or is deemed under applicable federal statute to have) at least $2 billion of equity, or more than 50% of the taxable capital employed in Canada of the taxpayer and all related Canadian corporations is attributable to taxable capital employed in a regulated Canadian business. In effect, under the proposed change, the status of a Canadian taxpayer will be used as a proxy for whether a foreign affiliate may qualify for the regulated foreign financial institution exception. It is important to note that satisfaction of the new conditions will not guarantee application of the regulated foreign financial institution exception rather, the new conditions are simply prerequisites, and the application of the exception will still depend on whether the foreign affiliate carries on a regulated financial services business and whether the relevant activities form part of that business. Budget 2014 also cautions that the government will continue to monitor developments in this area, perhaps signalling that further action may be required to ensure that the regulated foreign financial institution exception is not used by taxpayers to obtain unintended tax advantages. This measure will apply to taxation years of taxpayers that begin after For this particular measure, however, the government is inviting stakeholders to submit comments concerning its scope within 60 days of 11 February Thin capitalization rules In both the previous two budgets, the thin capitalization rules were significantly amended to extend and tighten their application. These rules are intended to limit the deductibility of interest on debts owing by corporations and trusts to certain specified nonresident persons where the amount of debt exceeds a 1.5 to 1 debt-to-equity ratio. In addition, Part XIII withholding tax generally applies to interest paid or credited by a Canadian resident to a nonarm s-length nonresident. Budget 2014 proposes to extend the anti-avoidance loans made on condition rule to apply more broadly to socalled back-to-back loan arrangements where an intermediary is interposed between the Canadian debtor and certain nonresident persons. The Part XIII withholding tax rules will also be extended to apply to this form of indebtedness. Specifically, a new back-to-back loan rule will apply where a taxpayer is indebted to an intermediary and property is pledged by a nonresident person to the intermediary (or persons that do not deal at arm s length with the intermediary) as security for the Canadian resident s indebtedness, where the intermediary is indebted to the nonresident under a debt for Federal budget

8 which recourse is limited, or where the intermediary receives a loan from the nonresident on the condition that a loan be made to the Canadian-resident taxpayer by the intermediary. In these circumstances, the Canadian resident will be deemed to have an amount owing to the nonresident person and therefore the interest on the indebtedness will potentially be subject to the thin capitalization limitations and the application of Part XIII withholding tax. These back-to-back loan arrangement rules will apply to taxation years commencing after 2014 with respect to thin capitalization. For the purpose of Part XIII tax, the new rules will apply to amounts paid or credited after Consultation on tax planning by multinational enterprises Budget 2014 reiterates the government s commitment to continuing to improve the integrity of its international tax rules and its interest in obtaining views from stakeholders as to how fairness could be maintained between different categories of taxpayers (i.e., multinationals, small businesses and individuals), while maintaining an internationally competitive tax system that is attractive for investment. The government has invited interested parties to submit comments within 120 days after 11 February 2014 with respect to the following questions: What are the impacts of international tax planning by multinational enterprises on other participants in the Canadian economy? Which of the international corporate income tax and sales tax issues identified in the BEPS Action Plan should be considered the highest priorities for examination and potential action by the government? Are there other corporate income tax or sales tax issues related to improving international tax integrity that should be of concern to the government? What considerations should guide the government in determining the appropriate approach to take in responding to the issues identified either in general or with respect to particular issues? Would concerns about maintaining Canada s competitive tax system be alleviated by coordinated multilateral implementation of base protection measures? What actions should the government take to ensure the effective collection of sales tax on e-commerce sales to residents of Canada by foreign-based vendors for example, should these vendors be required to register for GST/HST purposes and collect and remit tax on e-commerce sales to Canadian residents? The stated intention of the consultation is to inform Canada s participation in international discussions, including most notably in the context of the OECD BEPS Action Plan. Consultation on treaty shopping Budget 2013 set out the government s concerns with the abuse of Canada s tax treaties through so-called treaty shopping. Budget 2013 stressed the importance of developing safeguards to ensure that taxpayers cannot make improper use of Canada s tax treaties and announced consultations to seek the views of interested parties regarding possible approaches to address treaty shopping. A consultation paper was released 12 August 2013 and stakeholders had until 13 December 2013 to provide comments. Budget 2014 discusses certain comments received from stakeholders on the consultation paper, which primarily address two fundamental design features of any proposed anti-treaty shopping rule i.e., whether the rule should be general or specific, and whether it should be domestic or treaty based. While briefly discussing the advantages and disadvantages of these paradigms, Budget 2014 concludes that a specific rule (such as a US-style limitation on benefits provision) would not capture all forms of treaty shopping, and that a treaty-based approach would not be as effective as a domestic Federal budget

9 law rule (presumably because of the inability to renegotiate treaties in a reasonable period of time). As a result, Budget 2014 signals the government s intention to move forward with a general, domestic anti-treaty shopping rule. Budget 2014 also announces a new round of consultations regarding the specific provisions of the proposed domestic anti-treaty shopping rule. The main elements of the proposed rule are, however, already outlined in Budget 2014: Main purpose provision Subject to the relieving provision, a treaty benefit would not be provided to a person in respect of an amount of income, profit or gain (the relevant treaty income) if it is reasonable to conclude that one of the main purposes for undertaking the transaction, or a transaction that is part of a series, that results in the benefit was for the person to obtain the benefit. Conduit presumption It would be presumed, in the absence of proof to the contrary, that one of the main purposes for undertaking a transaction that results in a treaty benefit (or that is part of a series that results in the benefit) was for a person to obtain the benefit if the relevant treaty income is primarily used to pay, distribute or otherwise transfer, directly or indirectly, at any time or in any form, an amount to another person or persons that would not have been entitled to an equivalent or more favorable benefit had the person or persons received the relevant treaty income directly. Safe harbour presumption Subject to the conduit presumption, it would be presumed, in the absence of proof to the contrary, that none of the main purposes for undertaking a transaction was for a person to obtain a treaty benefit if (i) the person carries on an active business in the relevant treaty jurisdiction that is substantial in relation to the activity carried on in Canada giving rise to the relevant treaty income, (ii) the person is not controlled, directly or indirectly in any manner whatever, by another person or persons that would not have been entitled to an equivalent or more favorable benefit had the person or persons received the relevant treaty income directly, or (iii) the person is a corporation or trust the shares or units of which are regularly traded on a recognized stock exchange. Relieving provision If the main purpose provision applies in respect of a benefit under a tax treaty, the benefit is to be provided, in whole or in part, to the extent that it is reasonable in the circumstances. Budget 2014 also includes examples of situations that would and would not be subject to the new anti-treaty shopping rule. Interestingly, the first three examples address factual situations that are almost identical to those found in three notable Canadian treaty shopping cases: Velcro, Prévost Car and MIL (Investments). The taxpayer was successful in all of those cases. Certain elements of the proposed anti-treaty shopping rule outlined in Budget 2014 are clearly drawn from Canada s existing treaties. For example, the main purpose provision is consistent with similar provisions that have been included in some of Canada s tax treaties (including, most recently, the treaty with Hong Kong) and elements of the safe harbour presumption are not dissimilar to those in the limitations on benefits provision in the Canada- US Tax Treaty. The new anti-treaty shopping consultation is open for 60 days after 11 February However, despite this relatively short timeframe, Budget 2014 also notes that the OECD is expected to issue recommendations in regard to treaty shopping in September 2014, as part of its BEPS Action Plan initiative, and that these recommendations will be relevant in developing a Canadian approach to address treaty shopping. Therefore, it is possible that the government will not move forward with a specific domestic antitreaty shopping rule prior to considering the OECD recommendations in this regard. However, the outcome from the consultation will likely be Federal budget

10 relevant to Canada s participation in the OECD BEPS Action Plan. Interested parties are requested to provide comments within 60 days after 11 February Tax credits The budget includes proposals for a number of new and enhanced tax credits, computed using the lowest personal tax rate (15%): Update on automatic exchange of information An agreement between Canada and the United States was signed on 5 February 2014 under which Canadian financial institutions will be required to report to the CRA certain information that will be provided to the IRS under the Canada-US tax treaty and be subject to confidentiality safeguards. A variety of registered accounts (including RRSPs) and smaller deposit-taking institutions with assets of less than $175 million will be exempt from these reporting requirements. The CRA will also receive financial information from the US in respect of Canadian residents who hold accounts at US financial institutions. The new reporting regime will come into effect starting in July 2014 with information exchanges beginning in This regime supplants the US unilaterally enacted Foreign Account Tax Compliance Act (FATCA) rules that would have required Canadian financial institutions and US persons holding financial accounts with such institutions to have complied with the FATCA legislation commencing on 1 July Tax relief for individuals and families Search and rescue volunteers tax credit (SRVTC) Effective for 2014 and later taxation years, Budget 2014 proposes a new non-refundable tax credit for eligible ground, air and marine search and rescue volunteers who perform at least 200 hours of volunteer search and rescue services in a taxation year. The credit is based on an amount of $3,000. Adoption expense tax credit The adoption expense tax credit currently allows an individual to claim a non-refundable credit on eligible adoption expenses up to a maximum of $11,774 per child for Budget 2014 proposes to increase the maximum eligible expenses to $15,000 per child for The maximum amount is indexed to inflation for taxation years after Medical expense tax credit For 2014 and later years, the budget expands the list of expenses eligible for the medical expense tax credit to include amounts paid for the design of an individualized therapy plan where the cost of the therapy itself would be eligible for the credit and certain other conditions are met. In particular, the therapy plan must be designed for an individual with a severe and prolonged mental or physical impairment who is eligible for the disability tax credit. There are no individual tax rate or tax bracket changes in this budget. Personal income tax rates The budget does not include any changes to personal income tax rates. The 2014 personal tax rates are summarized in Table E. The list of eligible medical expenses is also expanded to include expenses incurred after 2013 for specially trained service animals that assist individuals with severe diabetes. In addition, the budget proposes changes to the following credits: Table E Federal personal income tax rates First bracket rate Second bracket rate Third bracket rate 15% 22% 26% 29% Fourth bracket rate Mineral exploration credit The mineral exploration tax credit, equal to 15% of specified mineral exploration expenses incurred in Canada and renounced to flowthrough share investors, will be extended to Federal budget

11 flow-through share agreements entered into on or before 31 March This program, initially introduced in 2000, was previously extended and scheduled to expire on 31 March GST/HST credit administration The budget proposes to allow the Canada Revenue Agency (CRA) to automatically determine if an individual is eligible for the GST/HST credit. This change eliminates the need for an individual to apply for the GST/HST credit on their annual income tax return for 2014 and subsequent taxation years. February 2014 and before 2015, or in the current year in any other case. Amateur athlete trusts Starting in 2014, the budget proposes to allow income contributed to an amateur athlete trust to qualify as earned income for RRSP purposes. In addition, individuals will be permitted to make an election in writing before 3 March This election will allow income contributed to the trust in 2011, 2012 and 2013 to also qualify as earned income. This additional amount will be added to the individual s 2014 RRSP contribution room. Other personal measures Graduated rate taxation of trusts and estates Budget 2014 proposes to generally proceed with the measures described in the 3 June 2013 consultation paper. Flat top-rate taxation will apply to grandfathered inter vivos trusts and testamentary trusts for 2016 and subsequent taxation years. Exceptions will exist for the first 36 months of an estate and for testamentary trusts created for the benefit of disabled individuals who are eligible for the federal Disability Tax Credit. Testamentary trusts that do not already have a calendar year end will have a deemed taxation year end on 31 December 2015 (or the year in which the first 36-month period ends). Tax on split income Farming and fishing businesses Transfers of farming and fishing property Budget 2014 proposes to extend eligibility for the intergenerational rollover and lifetime capital gains exemption (LCGE) to taxpayers involved in a combination of farming and fishing. This proposal applies to dispositions and transfers that occur in 2014 and later taxation years. Tax deferral for farmers For 2014 and later taxation years, the tax deferral currently available to farmers who dispose of breeding livestock due to drought, flood or excess moisture conditions in a prescribed region is extended to bees and to all types of horses that are over 12 months of age that are kept for breeding. Pension transfer limits For 2014, the definition of split income will now include income that is, directly or indirectly, paid to a minor from a trust or partnership if it is derived from a business or rental property, and a person related to the minor is actively engaged on a regular basis in the activities. Nonresident trusts The 60-month exemption from the deemed residence rules will be eliminated for taxation years that end after 2014 if no contributions are made to existing trusts on or after 11 Transfer of underfunded commutation payments In certain circumstances, special rules ensure that the maximum amount that may be transferred on a tax-free basis by a member leaving an underfunded registered pension plan (RPP) to their RRSP (or other registered plan) will be the same as if the RPP were fully funded. The budget proposes to extend the application of this special rule to additional circumstances for certain commutation payments made after Federal budget

12 Charities and non-profit organizations (NPOs) Budget 2014 proposes the following measures relating to charities: Estate donations Introduction of a new deeming rule so that donations made by will and designation donations (under a RRSP, RRIF, TFSA or insurance policy) will no longer be deemed to be made by an individual immediately before the individual s death. These donations will rather be deemed to have been made by the estate, at the time at which the property that is the subject of the donation is transferred to a qualified donee. The trustee of the individual s estate will be entitled to allocate the donation to the taxation year of the estate in which the donation is made, an earlier taxation year of the estate or the individual s last two taxation years. (Applicable to 2016 and subsequent taxation years.) Ecologically sensitive land donations Extension of the carry-forward period from 5 to 10 years for donations of ecologically sensitive land. (Applicable to donations made after 10 February 2014.) Certified cultural property donations Removal (for property acquired as part of a tax shelter gifting arrangement) of the exemption from the rule that deems the value of a gift to be no greater than its cost to the donor. (Applicable to donations made after 10 February 2014.) Donations from state supporters of terrorism Refusal of charity registration or revocation of the registration where a charity (or a Canadian amateur athletic association) accepts a donation from a foreign state listed as a supporter of terrorism for purposes of the State Immunity Act. (Applicable to donations made after 10 February 2014.) Electronic filing Funding to be provided to the CRA to enable charities to apply for registration and file their annual information returns electronically. Charitable lotteries Amendments to the Criminal Code to allow charities to conduct various aspects of lotteries (e.g., issuing lottery tickets and receipts to donors) through the use of e-commerce methods. The government also announced its intention to review whether the income tax exemption for NPOs remains properly targeted and whether sufficient transparency and accountability provisions are in place. The review will not, however, be extended to registered charities or registered Canadian amateur athletic associations. Sales and excise tax measures Improving the application of the GST/HST to the health care sector In recognition of the evolving nature of the health care sector, the government has announced three proposed changes concerning the application of GST/HST to certain healthrelated services and medical and assistive devices. These changes will all apply after 11 February Training services for individuals with a disorder or disability: Section 14 of Part II, Schedule V to the Excise Tax Act (the ETA) currently exempts the supply of a training service that is specially designed to assist individuals in coping with, eliminating or alleviating the effect of a disorder or disability. This exemption will be expanded to apply to the service of designing a plan to meet the unique training requirements of a particular individual. Any related services associated with the initial development and design of the plan, as well as any subsequent adjustments to it, will also be exempt. As is the case for training services covered under the existing legislative provision, in order to qualify for exemption, these additional Federal budget

13 training-related services must be supplied under particular circumstances: the services must be either supplied by a government or subsidized under a government program, or they must be certified in writing by a recognized health care professional who is caring for a particular individual, as being an appropriate means of assisting that person to cope with the effects of their disorder or disability. Services of acupuncturists and naturopathic doctors: A health care service rendered to an individual is generally exempt under section 7, Part II, Schedule V to the ETA when it is provided by a health care professional whose practice is regulated under provincial legislation. In recognition of the fact that several provinces now regulate the activities of naturopaths and acupuncturists, the exemption will be expanded to apply to services rendered to an individual by these practitioners. Eyewear to electronically enhance the vision of vision-impaired individuals: Part II of Schedule VI to the ETA zero-rates the supply of a number of medical and assistive devices that are specially-designed to assist an individual in coping with a chronic illness or a physical disability. Section 9 of that Part currently zero-rates the supply of corrective eyeglasses and contact lenses sold under prescription. A new provision will be added to zero-rate the supply of an additional form of corrective eyewear that is supplied under prescription and designed to electronically enhance the vision of individuals with particular vision impairments. GST/HST election for closely related persons Budget 2014 proposes a number of changes to the nil consideration election which is currently available to relieve the GST/HST that would otherwise apply to certain transactions between members of a closely related group (generally a group with common ownership of at least 90%). Subject to the exception noted below, these changes will take effect for elections made on or after 1 January 2015, and will apply to supplies made between parties to such an election on or after that date. Expansion of availability to new members of related group: Section 156 of the ETA currently allows registrants that are resident in Canada, exclusively engaged in commercial activities and that are members of a closely related group to file an election that will relieve them of the requirement to account for tax on certain transactions between them. The election is currently unavailable where a new member of the related group acquires assets from another member of the group and where, before that time, the new member had not yet acquired any other property. This restriction will be relieved to make the election available in these circumstances, provided that it is expected the new member of the group will be exclusively engaged in commercial activities throughout the 12-month period following the time when the election is made. New filing requirement: Under existing legislation, there is no requirement for the parties to an election under section 156 to file the election form with the CRA. Instead, the election must simply be completed by both parties and retained with their books and records. It is proposed that, effective 1 January 2015, the parties to an election under section 156 will be required to file it with the CRA by the earliest date when any of the parties are required to file a return for the period in which the election is to take effect. Where elections are already in place on 1 January 2015, parties will have until 1 January 2016 to file the election with the CRA. Expansion of liability: It is also proposed that parties to a new or existing election effective on or after 1 January 2015 will be subject to a new joint and several (or solidary) liability provision with respect to tax that may arise in relation to supplies made between them on or after that date. Federal budget

14 Joint ventures Participants in certain joint ventures are currently permitted to make an election under section 273 of the ETA to simplify the process by which tax is accounted for in respect of activities of the joint venture. Where the election is made, the participants in the joint venture effectively opt to make one person (the operator) responsible for accounting for GST/HST on all supplies, acquisitions and importations that are made in the course of their joint activities. The election is currently available only if the activities of the joint venture are of a type prescribed under the Joint Venture (GST) Regulations. In order to make the election more widely available, Budget 2014 announced the government s intention to propose new joint venture election measures, together with related anti-avoidance provisions, which would allow participants in a joint venture to make the election regardless of the nature of their field of operations, provided that the activities of the joint venture are exclusively commercial and the participants are engaged exclusively in commercial activities. The government will release draft legislative proposals later in the year and stakeholders will be afforded an opportunity to comment on the proposals before enacting legislation is introduced. Strengthening compliance with GST/HST registration Under current legislative provisions, a business that makes taxable supplies in excess of $30,000 annually is required to register for GST/HST purposes and collect and remit tax on its taxable supplies. Businesses that are required to register, but choose not to, cannot be compelled to do so. Budget 2014 proposes that, effective Royal Assent of the enacting legislation, CRA officials will be given the discretionary authority to register and assign a GST/HST registration number to a person who fails to comply with the registration requirement, after having been informed by the CRA that it is required to register. The CRA will continue to contact noncompliant businesses to ask them to register, but where these attempts are unsuccessful, affected businesses will be issued a formal notification, which will result in registration that will be effective 60 days after the issuance of the notice. Tobacco taxation Budget 2014 introduces a number of changes to the applicable rates of excise duty on tobacco products, ostensibly in support of the government s health strategy to discourage smoking among Canadians. These changes will be effective after 11 February Cigarettes: The rate of excise duty on cigarettes will increase to $ for each five cigarettes or fraction thereof (thereby resulting in an increase to $21.03 per 200 cigarettes). Other tobacco products: The rates of excise duty will also increase for tobacco sticks (to $ per stick) and manufactured tobacco such as chewing or fine-cut tobacco (to $ per 50 grams). For cigars, there will be an increase in the rate of excise duty (to $ per 1,000 cigars) and an increase in the additional applicable duty for cigars to the greater of $ per cigar and 82% of the sale price or duty-paid value. Excise duty is currently imposed on all Canadianmade cigarettes, tobacco sticks and manufactured tobacco that is offered for sale in domestic and foreign duty-free shops, as well as on products imported for sale in Canadian dutyfree shops or brought into Canada by returning travellers. These duty-free rates on tobacco products will also increase after 11 February 2014, and for future years these rates will be legislatively linked to changes in the applicable excise duty for these products. Cigarettes: Duty-free rates will increase to $ for each five Canadian-made Federal budget

15 cigarettes, or $ per cigarette for imported cigarettes. Other tobacco products: Duty-free rates will increase to $ per tobacco stick, and to $ per 50 grams or fraction thereof for manufactured tobacco. The excise duty rates on tobacco products, including the duty-free rates, will be indexed to the Consumer Price Index and will therefore be automatically adjusted accordingly every five years. The first inflationary rate adjustment will take effect on 1 December Excise duty is currently imposed on tobacco products manufactured in Canada at the time when they are packaged by the manufacturer, while duty is imposed on imported tobacco products at the time of importation. In order to ensure that rate changes are applied in a consistent manner to all cigarettes, Budget 2014 introduces a new inventory tax on cigarettes: Inventories held by manufacturers, importers, wholesalers and retailers at the end of 11 February 2014 will be subject to a tax of cents per cigarette. Taxpayers may use any reasonable method for establishing their inventories of these products, including a physical count. The new inventory tax will not apply to taxpayers who hold inventories on 11 February 2014 of 30,000 or fewer cigarettes (or 150 cartons), nor will it apply to cigarettes held in vending machines. Taxpayers who are liable for the new tax must file returns and pay the amount owing by 30 April 2014, after which interest will apply. The inventory tax will also apply at the time of each inflationary excise duty adjustment that occurs at five-year intervals, beginning with the first inflationary adjustment on 1 December Other measures Sanctions for false statements in excise tax returns: Excise tax legislation for fuels, fuelinefficient vehicles and automobile air conditioners is found in the non-gst/hst portions of the Excise Tax Act. Currently, there are no administrative monetary penalties imposed under this legislation for false statements which may be made in respect of these taxes, as there are under other federal tax legislation. Similarly, related criminal offences that apply for this purpose do not provide for prosecution by way of indictment or for imprisonment. Budget 2014 proposes that a new administrative monetary penalty will be introduced, and relevant criminal offence provisions will be amended, to ensure that sanctions that relate to the making of false statements or omissions in respect of excise tax, are consistent with those that apply for GST/HST purposes. These measures will apply to excise tax returns filed after the day of Royal Assent to the enacting legislation. Aboriginal tax policy: To date, the government has entered into 35 sales tax arrangements under which Indian bands and self-governing Aboriginal groups levy a sales tax within their reserves or on their settlement lands. In addition, 14 arrangements respecting personal income taxes are in effect with self-governing Aboriginal groups, under which they impose a personal income tax on all residents within their settlement lands. Budget 2014 reiterates the government s support of these direct taxation arrangements and its willingness to enter into additional agreements with interested Aboriginal governments. The government also announced its support of direct taxation arrangements between interested provinces or territories and Aboriginal governments, and confirmed that it has enacted legislation to facilitate such arrangements. Federal budget