JOBS, GROWTH AND LONG-TERM PROSPERITY HIGHLIGHTS Deficit of $25.9 billion for 2012-13 Projected deficit of $18.7 billion for 2013-14 Tax rate on ineligible dividends increased Capital gains exemption to increase Several tax loopholes closed On March 21, 2013, the Honourable Jim Flaherty tabled his eighth budget as Minister of Finance. Carrying on with the theme of his last budget, today s budget focused on sound fiscal management, long-term growth and closing socalled tax loopholes. The federal government is now predicting a deficit for the 2012-13 fiscal year of $25.9 billion, which is up from the deficit of $21.1 billion predicted in last year s budget. The deficit for the 2013-14 fiscal year is projected to be $18.7 billion and a balanced budget is still planned for 2015-16. On the economic front, today s budget focused on some additional infrastructure funding, job creation, economic development and balancing the books by 2015-16. On the job creation front, the centerpiece of the plan is the new Canada Job Grant, which could provide $15,000 or more per person, including the federal contribution and matching by provinces/territories and employers, to ensure Canadians are getting the skills employers are seeking. On spending and financial management, the Minister states that today s budget contains the smallest increase in discretionary spending in nearly 20 years. The Finance Minister was also looking for new sources of revenue by closing tax loopholes and amending other tax rules deemed inconsistent by the federal government. These changes included rules aimed at leveraged life insurance plans, capital gains avoidance, loss trading and transactions designed to convert income into capital gains. For owners of Canadian-Controlled Private Corporations, this also included an increase in the personal tax rate that applies on ineligible dividends, to eliminate a tax preference that had existed in most provinces by flowing active business income through a corporation. Despite the tax increase on ineligible dividends, the news was not all bad for business owners as the Minister announced that the lifetime capital gains exemption will be increased from $750,000 to $800,000 in 2014 and indexed thereafter. This change will help ensure that the exemption stays in step with business growth. On the international front, this year s changes focused on extending the thin capitalization rules and tax compliance, including a planned review of tax avoidance through treaty shopping. And in a first for the government, the CRA will be enlisting the public in identifying significant international noncompliance for the CRA. The following is a summary of the more important items of interest to our clients.
FEDERAL BUDGET REPORT 2 Key Economic Statistics (Deficit in billions $) 2012-2013 Revised 2013-2014 Projected 2014-2015 Projected Budgetary Revenue 254.1 263.9 279.6 Program Expenses 251.0 252.9 256.0 3.1 11.0 23.6 Public Debt Charges 29.0 29.7 30.2 Budgetary Balance (25.9) (18.7) (6.6) Federal Debt 608.7 627.4 634.0 PERSONAL TAX MEASURES Lifetime Capital Gains Exemption The budget proposes to increase the current lifetime capital gains exemption from $750,000 to $800,000 for capital gains realized on the disposition of qualified small business corporation shares, and qualified farm and fishing property effective for the 2014 taxation year. In addition, the capital gains exemption will begin to be indexed for inflation for taxation years after 2014. Adoption Expense Tax Credit Under the current rules for the adoption expense tax credit, the adoption period generally begins at the time that a child is matched with an adoptive family. The budget proposes to extend the adoption period by moving back the beginning of that period to the time that the adoptive parent makes the application to register with a provincial ministry responsible for adoption or with a provincially licensed adoption agency (or to a Canadian court, if earlier). This change will allow additional adoption related expenses (such as fees for a provincially required home study and mandatory adoption courses) to be eligible for the credit. This measure will apply to adoptions finalized after 2012. First-Time Donor s Super Credit The budget proposes to allow a temporary new measure to enhance the existing charitable donation tax credit in respect of donations made by a first-time donor. An individual would be considered a first-time donor if neither the individual nor the individual s spouse or common-law partner has claimed either of the charitable donation tax credit or the first-time donor s super credit in any year after 2007. A first-time donor would be entitled to an additional 25% credit for up to $1,000 of monetary donations made on or after March 21, 2013. The super credit may be claimed only once in the taxation years 2013 through 2017. A first-donor couple will also be permitted to share the credit, up to a maximum amount of what would have been claimed had only one person claimed the credit. Deduction for Safety Deposit Boxes Currently, the income tax rules allow for a deduction of the cost of renting a safety deposit box as an expense incurred for the purpose of earning business or property income. Effective for taxation years that begin on or after March 21, 2013, this expenditure will no longer be deductible for income tax purposes.
FEDERAL BUDGET REPORT 3 Dividend Tax Credit The current income tax system utilizes a combination of gross-up factors and non-refundable dividend tax credits to tax both eligible and ineligible dividends. The gross-up factor and dividend tax credit work together to ensure that an individual is compensated for income taxes presumed to have been paid at the corporate level on active business income. The budget proposes to adjust the gross-up factor applicable to ineligible dividends paid after 2013 from 25% to 18%, and the corresponding dividend tax credit from 2/3 of the gross-up amount to 13/18 of that amount. As a result of these changes, the federal tax rate on ineligible dividend income for a top rate individual will increase from 19.6% to 21.2%. Registered Pension Plans: Correcting Contribution Errors Current income tax legislation contains provisions which allow for a refund of Registered Pension Plan (RPP) over-contributions if the refund is made to avoid the revocation of the registration of the RPP. However, no such provisions exist for the refund of over-contributions that are made as a result of a reasonable error (e.g., an employer made a mistake in calculating contributions for a particular year). Instead, refunds of such over-contributions are only allowed at the discretion of the Canada Revenue Agency (CRA). In order to circumvent the necessity of obtaining CRA approval, the budget proposes to allow RPP administrators to make refunds of contributions in order to correct reasonable errors, as long as the refund is made no later than December 31 of the year following the year in which the error was made. This measure will apply in respect of RPP contributions made on or after the later of January 1, 2014 and the day of Royal Assent. Extended Reassessment Period: Tax Shelters and Reportable Transactions Further to proposals introduced as part of the 2010 federal budget, this budget proposes to extend the normal reassessment period in respect of a participant in a tax shelter or reportable transaction where an information return that is required for the tax shelter or reportable transaction is not filed on time. The normal reassessment period is three years from the CRA s initial assessment of taxes payable. For taxation years that end on or after March 21, 2013, the normal reassessment period in respect of the tax shelter or reportable transaction will be extended to three years after the date the information return is filed. Taxes in Dispute and Charitable Donation Tax Shelters To build on other measures announced in 2012 to discourage participation in donation tax shelter schemes, and to reduce the risk of unpaid amounts becoming uncollectible, this budget proposes to modify the current prohibition on the CRA from taking collection action against taxpayers who have objected to an assessment. This measure would permit the CRA to collect 50% of the disputed tax, interest and penalties for amounts assessed in respect of a tax shelter that involves a charitable donation for the 2013 and subsequent taxation years, pending the ultimate determination of the taxpayer s liability. Extension of Mineral Exploration Tax Credit for Flow-through Share Investors The mineral exploration tax credit is available to individuals who invest in flow-through shares. The credit is equal to 15% of specified mineral exploration expenses incurred in Canada and renounced to flow-through share investors. The budget proposes to extend eligibility for the credit for one year, to flow-through share agreements entered into on or before March 31, 2014.
FEDERAL BUDGET REPORT 4 Labour-Sponsored Venture Capital Corporations Tax Credit Currently, the federal government offers a 15% non-refundable tax credit on up to $5,000 per year for investments in a Labour-Sponsored Venture Capital Corporation (LSVCC). Select provinces provide similar credits, although Ontario eliminated its credit in 2012. Pending consultations with stakeholders and provincial governments on how best to eliminate the federal LSVCC credit, the government proposes to phase out the credit over the next several years. The proposed phase out will see the tax credit reduced to 10% for 2015 and to 5% for 2016. The credit will be eliminated for 2017 and subsequent taxation years. The budget also proposes to end new federal LSVCC registrations, as well as the prescription of new provincially registered LSVCCs in the Income Tax Act, applicable for LSVCC applications for registration or prescriptions received on or after March 21, 2013. Restricting Certain Financial Transactions The budget contains measures to restrict certain avoidance transactions that seek to reduce or defer tax. Specifically, measures are being introduced to limit synthetic dispositions and character conversion transactions. Synthetic dispositions are transactions which are entered into for the purpose of deferring capital gains tax on the disposition of a property or to obtain tax benefits. More specifically, an agreement is entered into that effectively results in an economic equivalent to a disposition of property, but where legal ownership of the property is retained. Character conversion transactions include derivative transactions that convert fully taxable ordinary income into capital gains taxed at a lower rate. TRUST TAX MEASURES Trust Loss Trading There are many rules for determining when losses may be recognized and used for tax purposes. The rules constraining the ability of taxpayers to engage in arm s length loss trading transactions currently do not apply to trusts. Today s budget proposes to extend, with appropriate modifications, the loss-streaming and related rules that currently apply on the acquisition of control of a corporation to trusts, including the limited exception allowing the ongoing use of noncapital losses from a business. Because of the continuity of ownership rules, it is expected that many of the typical transactions or events involving changes in the beneficiaries of a personal (i.e., family) trust will not result in the trust being subject to these rules. This measure, including any relieving changes that may be made as a result of public consultations, will apply to transactions that occur on or after March 21, 2013, except for transactions that the parties are obligated to complete pursuant to the terms of an agreement in writing between the parties entered into before that date. Non-Resident Trusts The Income Tax Act contains rules designed to prevent the use of a non-resident trust by taxpayers to avoid Canadian tax, by deeming the trust to be resident in Canada if a Canadian resident contributes property to the trust. The Act also contains rules that effectively attribute income from property held by a trust to a taxpayer who transferred the property to the trust where certain conditions apply. In 2012, the Federal Court of Appeal ruled in the Sommerer case that the attribution rules did not apply to property that was transferred to a non-resident trust in exchange for fair market consideration (this was also not considered to be a contribution to the trust by the taxpayer). In today s budget, the government announced changes which effectively overturn this
FEDERAL BUDGET REPORT 5 decision by amending the non-resident trust rules to deem that this trust would be resident in Canada, in this situation. In addition, the budget also proposes to restrict the application of the trust attribution rules so that they only apply in respect of property held by a trust resident in Canada, without regard to the deemed residence rules. Consultation on Graduated Rate Taxation of Trusts and Estates Testamentary trusts and certain grandfathered inter-vivos trusts benefit from the application of the graduated tax rates applicable to individuals. Other trusts are subject to federal tax at a flat rate of 29%, which is the highest federal tax rate for individuals. In the budget, the government announced its intention to consult on measures to eliminate the tax benefits arising from the taxing of grandfathered inter-vivos trusts, trusts created by will, and estates at graduated rates. BUSINESS TAX MEASURES Accelerated CCA Manufacturing and Processing - Machinery and equipment acquired by a taxpayer, after March 18, 2007 and before 2014, primarily for use in Canada for the manufacturing or processing of goods for sale or lease is currently eligible for a temporary accelerated capital cost allowance (CCA) rate of 50% on a straight line basis (subject to the half-year rule ). The budget proposes to extend this temporary incentive for two years to eligible machinery and equipment acquired before 2016. Machinery and equipment acquired by a taxpayer after 2015 primarily for use in Canada for the manufacturing or processing of goods for sale or lease will be eligible for a declining-balance CCA rate of 30%. Clean Energy - Class 43.2 provides an accelerated CCA rate of 50% per year on a declining-balance basis for specified clean energy generation and conservation equipment. Equipment eligibility will be expanded for this class. Specifically, more types of eligible organic waste can be used in qualifying biogas production equipment. As well, the range of cleaning and upgrading equipment used to treat eligible gases from waste will be broadened. These measures will apply in respect of property acquired on or after March 21, 2013 that has not been used or acquired before then. Scientific Research and Experimental Development Program In 2012, the government undertook consultations with stakeholders concerning certain types of preparer fees charged in respect of scientific research and experimental development (SR&ED) claims, and in particular contingency fees. Today s budget introduced measures to allow the CRA to better respond to SR&ED claims where there is a high-risk of non-compliance perceived and eligibility is unlikely. In particular, more detailed information will be required on the SR&ED claim form about SR&ED program tax preparers and billing arrangements, including whether contingency fees were used and the amount of fees payable. If there was no third party assistance provided in the preparation of a claim, the claimant will be required to certify that fact. A penalty of $1,000 will be imposed where information is missing, incomplete or inaccurate. Where a third-party has been engaged, the claimant and tax preparer will be jointly and severally, or solidarily, liable for the penalty. This measure will apply to SR&ED claims filed on or after the later of January 1, 2014 and the day of Royal Assent to the enacting legislation.
FEDERAL BUDGET REPORT 6 Mining Expenses Changes were proposed to better align mining sector deductions with those allowed in the oil and gas sector by phasing out tax preferences for capital expenditures in the mining sector. Preproduction mine development expenses, currently treated as Canadian exploration expense will be treated as Canadian development expense (CDE). The transition to CDE will be phased in beginning in 2015, with full implementation in 2017. The additional allowance that provides accelerated CCA for certain mining assets will be phased out over the 2017 to 2020 calendar years. This does not apply for bituminous sands and oil shale, for which the phase out will be complete in 2015. These measures will generally apply to expenses incurred on or after March 21, 2013, with certain transition rules. Reserve for Future Services Reclamation Obligations The tax treatment of amounts set aside to meet future reclamation obligations was clarified today. Specifically, the reserve for future services provided for under paragraph 20(1)(m) of the Income Tax Act cannot be used by taxpayers with respect to amounts received for the purpose of funding future reclamation obligations. This change will apply to amounts received on or after March 21, 2013, with transition rules for certain amounts received under a written agreement entered into before that date. Additional Deduction for Credit Unions The budget proposes to phase out the additional deduction for credit unions to improve the neutrality and fairness of the tax system, in particular when considering the preferential tax rate available to CCPCs. The phase out will take place over five calendar years, beginning in 2013 by allowing a declining percentage of the deduction as follows: 80% for 2013, 60% for 2014, 40% for 2015, 20% for 2016 and eliminated in 2017. The measure will apply to taxation years that end on or after March 21, 2013 and will be prorated to apply only to the portion of the year after that date. As well, the changes will be prorated for taxation years that straddle the effective dates. Leveraged Life Insurance Arrangements Measures are proposed to eliminate multiple and unintended tax benefits relating to two leveraged life insurance arrangements which are commonly referred to as leveraged insured annuities (LIAs) and 10/8 arrangements. Both changes are effective for taxation years that end on or after March 21, 2013, except for certain grandfathered arrangements. Under the proposals, the following rules with respect to the taxation of LIAs will be implemented: income accruing in an LIA policy will be subject to annual accrual-based taxation, no deduction will be allowed for any portion of a premium paid on the policy, and the capital dividend account of a private corporation will not be increased by the death benefit received in respect of the policy. In addition, for the purposes of a deemed disposition on death, the fair market value of an annuity contract assigned to the lender in connection with an LIA policy will be deemed to be equal to the total of the premiums paid under the contract. The government has also proposed rules to deny the following benefits after 2013 from existing and future 10/8 arrangements: the deduction of interest on the borrowing, the deduction of a premium under the policy, and the increase in the capital dividend account by the amount of the death benefit that becomes payable after 2013 and that is associated with the borrowing. The budget proposals will facilitate the termination of existing 10/8 arrangements before 2014 by alleviating the income tax consequences on a withdrawal from a policy made to repay a borrowing under the arrangement.
FEDERAL BUDGET REPORT 7 Restricted Farm Losses The restricted farm loss rules apply to limit farm losses when a taxpayer s chief source of income for a taxation year is neither farming, nor a combination of farming and some other source of income. A 2012 Supreme Court of Canada decision (the Craig case) overruled a precedent set in a much earlier court case decision (the Moldowan case). Based on the 2012 decision, a full deduction of farming losses would be permitted where a taxpayer places significant emphasis on both farming and non-farming sources of income, even if farming is subordinate to the other source of income. In response to the decision and to restore the intended policy behind the rules, an amendment is proposed to clarify that a taxpayer s other sources of income must be subordinate to farming in order for farming losses to be fully deductible against income from those other sources. The government has also proposed to increase the limit of annual deductible farm losses under the rules to $17,500. These measures will apply to taxation years that end on or after March 21, 2013. Corporate Loss Trading In support of the existing loss restriction rules that apply on the acquisition of control of a corporation, an anti-avoidance rule is proposed to deem an acquisition of control to have taken place to prevent the inappropriate trading of loss pools. An acquisition of control of a corporation will be deemed to have taken place where a person (or group of persons) acquires shares of the corporation that have more than 75% of the fair market value of all the shares of the corporation (without otherwise acquiring control), if it is reasonable to conclude that one of the main reasons for not acquiring control was to avoid the restrictions imposed on the use of loss pools. This measure will apply to a corporation the shares of the capital stock of which are acquired on or after March 21, 2013, with transition rules for certain shares acquired as part of a transaction under a written agreement entered into before that date. Taxation of Corporate Groups In the 2010 and 2012 budgets, the government discussed their interest in exploring the possibility of introducing new rules for the taxation of corporate groups. Extensive public consultations were undertaken and the examination of this matter is now complete. Based on the consultations, businesses are primarily interested in a system of group taxation that would allow them to easily transfer losses, tax credits and other tax attributes between members of the corporate group. However, the provinces and territories were concerned about the potential reduction of their revenues under a new system. As the consultations did not result in a consensus regarding how the government should move forward on this matter, it will no longer be considered a priority. Temporary Hiring Credit for Small Businesses The temporary hiring credit has been extended for one year to allow a credit of up to $1,000 against a small employer s increase in its 2013 Employment Insurance (EI) premiums over those paid in 2012. This temporary credit would be available to employers whose total EI premiums were at or below $15,000 in 2012.
FEDERAL BUDGET REPORT 8 INTERNATIONAL TAX MEASURES International Tax Evasion and Aggressive Tax Avoidance In an effort to strengthen the capacity of the CRA to combat international tax evasion and to address international tax avoidance, the budget proposes a number of measures including: Amending the Income Tax Act and the Excise Tax Acts to require that certain financial intermediaries (including banks, credit unions, caisses populaires, trust and loan companies, money services businesses and casinos) report international electronic fund transfers of $10,000 or more to the CRA, beginning in 2015. Launching the Stop International Tax Evasion Program under which the CRA will pay rewards of up to 15% of the tax collected to individuals with knowledge of major international tax noncompliance when they provide information to the CRA that results in additional (re)assessments exceeding $100,000 of federal tax. All rewards will be based on federal tax collected and will be subject to income tax. Further details on this program will be announced in the coming months. Changes to Form T1135 A Canadian-resident individual, corporation or trust that, at any time during a year, owns specified foreign property (including most types of income-earning property held outside of Canada, other than personal property and property used in carrying on an active business) costing in total more than $100,000 must file a Foreign Income Verification Statement (Form T1135) with the CRA. The budget proposes the following changes to Form T1135: Extending the normal reassessment period of the tax return if certain conditions are met. Revising Form T1135 by requiring taxpayers to provide more detailed information regarding each specified foreign property. Improving the form filing process by reminding taxpayers, on their Notice of Assessment, of the obligation to file Form T1135, and by clarifying the filing instructions. Allowing Form T1135 to be electronically filed. Thin Capitalization Rules The thin capitalization rules limit the deductibility of interest expense of a Canadian-resident corporation in circumstances where the amount of debt owing to specified non-residents exceeds a 1.5-to-1 debt-to-equity ratio. Last year s budget extended the thin capitalization rules to apply to partnerships of which a Canadian-resident corporation is a member. Today s budget proposes to extend the scope of their application to Canadian-resident trusts, and non-resident corporations and trusts that operate in Canada. The thin capitalization proposals also build on last year s partnership changes and will now apply where a Canadian-resident trust or a non-resident corporation or trust is a member of a partnership. These measures will apply to taxation years that begin after 2013 and will apply with respect to existing as well as new borrowings. Treaty Shopping The government announced its intention to consult on possible measures that would protect the integrity of Canada s tax treaties by limiting treaty shopping while still preserving a business tax environment that is conducive to foreign investment. A consultation paper will be publicly released to provide stakeholders with an opportunity to comment on possible measures.
FEDERAL BUDGET REPORT 9 SALES, EXCISE, CUSTOMS AND OTHER TAX MEASURES GST/HST and Health Care Services Today s budget proposes to improve the application of the GST/HST to health-related assistive home care services to reflect the evolving nature of the health care sector by expanding the exemption for homemaker services and to clarify the application of the GST/HST to reports, examinations and other services performed for non-health care purposes. These measures will apply to supplies made after March 21, 2013. GST/HST Pension Plan Rules Today s budget proposes to simplify compliance by permitting an employer that participates in a registered pension plan to jointly elect with a pension entity of that pension plan to treat an actual taxable supply by the employer to the pension entity as being for no consideration where the employer accounts for and remits tax on the deemed taxable supply. This measure will apply to supplies made after March 21, 2013. Today s budget also proposes that an employer participating in a registered pension plan be permitted to be fully or partially relieved from accounting for tax on deemed taxable supplies where the employer s pension plan related activities fall below certain thresholds. This measure will apply in respect of any fiscal year of an employer that begins after March 21, 2013. Additional Measures The Minister of National Revenue will be given the authority to withhold GST/HST refunds claimed by a business until such time as all the prescribed business identification information is provided. This measure will apply on Royal Assent to the enacting legislation. Two measures to clarify that certain special exempting provisions for Public Service Bodies do not apply to supplies of paid parking. An increase in the rate of excise duty on manufactured tobacco to $5.3125 per 50 grams or a fraction thereof effective after March 21, 2013. New administrative monetary penalties and criminal offences under the Excise Tax Act and the Income Tax Act will apply to certain types of tax evasion. Permanently eliminate all tariffs on baby clothes and sports and athletic equipment (excluding bicycles). Changes to Canada s General Preferential Tariff (GPT) regime under the Customs Tariff to ensure that this form of development assistance is appropriately aligned with the global economic landscape. The information in this publication is current as of March 21, 2013. This publication has been carefully prepared, but it has been written in general terms and should be seen as broad guidance only. The publication cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon the information contained therein without obtaining specific professional advice. Please contact BDO Canada LLP to discuss these matters in the context of your particular circumstances. BDO Canada LLP, its partners, employees and agents do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information in this publication or for any decision based on it. BDO Canada LLP, a Canadian limited liability partnership, is a member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.