Ernst &Young >Services>TaxMatters@EY - April 2010 - Ernst & Young - Canada

• Clip 1: How does the medical expenses credit work?
• Clip 2: How can I maximize my charitable donations tax credit?
• Clip 3: What do I do if I find old receipts that should have been filed in previous years?
• Clip 4: What are the rules for claiming capital losses?
• Clip 5: How do I take advantage of pension income splitting?
• Clip 6: Are the rules for claiming moving expenses pretty clear?
• Clip 7: Should my child file a tax return?
• Clip 8: Any advice for business owners?
• Clip 9: How do I determine if I have any unused carryforward balances?
• Clip 10: Is tax preparation software helpful?
• Clip 11: Any final tips for filing my personal tax return?

Medical expenses: The claim for medical expenses is limited by an income threshold. In other words, the lower your net income, the more you can claim in eligible medical expenses.

Because one spouse or common-law partner can claim medical expenses on behalf of the entire family, claim all expenses in the lower-income spouse’s return. But remember, this is a non-refundable credit, so the individual who makes the claim should have sufficient income to absorb the entire credit.

In addition, you might be able to claim the medical expenses of other dependent relatives such as elderly parents or grandparents.

Charitable donations: The federal tax credit for donations is available in two stages — a low-rate credit on the first $200 of donations and a high-rate credit on the remainder. To benefit from the high-rate credit and save some tax, only one spouse or partner should claim all of the family donations.

If your family’s annual donation amount is not high, consider accumulating donations over a few years and claim them all in one year to increase your benefit from the high-rate credit. The donation credit is available for donations made within the five preceding years.

And remember that if you donated publicly listed stocks, bonds or mutual funds to a charity or private foundation, none of the related accrued capital gain is included in your income.

Old receipts: In gathering your information, you may stumble across older receipts that still have value in your 2009 return. Specifically, charitable donations can be carried forward and used in any of the five years after the year the gift is made. You can claim medical expenses for any 12-month period that ends in that year if they have not been claimed previously. In addition, under the fairness provisions, the Canada Revenue Agency (CRA) has the discretion to make adjustments to previously filed returns (10 years back) in relation to certain errors or omissions, on request from a taxpayer.

Capital losses: If, like many investors, you realized capital losses in 2009, remember that they can only be applied against capital gains. Your net capital losses for the year can be carried back three years and applied to net gains in 2006, 2007 and 2008, to the extent those gains have not been offset with losses of other years. Simply file a form T1A to carry the loss back to those years and recover the related tax. Losses that can’t be carried back can be carried forward indefinitely.

And if you have capital losses from certain shares or debt of a small business corporation (a business investment loss), you have the added benefit that they may be claimed against any income in the year, not just capital gains.

Pension income-splitting: If you received pension income in 2009 that is eligible for the pension income credit, remember that up to half of this income can be reported in your spouse’s or common-law partner’s tax return. You’ll reap the greatest benefits when one member of the couple earns significant pension income while the other has little or no income. However, benefits may be available in less obvious circumstances. In some cases, transferring income from a lower-income pension recipient to a higher-income spouse can result in a tax benefit.

Moving: If you moved during 2009 to start a new job or a new business, or go to university or college, you may be able to claim expenses relating to the move (provided your new residence is at least 40 km closer to your new place of work or school).

In addition to the actual cost of moving your personal effects, you can claim travel costs, including meals and lodging while en route. Lease-cancellation costs, as well as various expenses associated with the sale of your former residence, are also deductible, including up to $5,000 in costs associated with maintaining a former residence that was not sold before the move.

The expenses are only deductible to the extent of income from the new work or business location. If this income is insufficient to claim all the moving expenses in the year of the move, the remaining expenses may be carried forward and deducted in the next year.

Filing returns for children: Although often unnecessary, in many cases there are benefits to filing tax returns for children. If your children had part-time jobs during the year or have been paid for various small jobs, such as babysitting, snow removal or lawn care, by filing a tax return they report earned income and thus establish contribution room for purposes of making RRSP contributions, which they can make in any future year.

Another advantage in filing a return for teenagers is the availability of refundable tax credits. Several provinces offer such credits to low- or no-income individuals. When there is no provincial tax to be reduced, the credit is paid out to the taxpayer. There is also a GST credit available for low- or no-income individuals over age 18.

Business owners: If you’re self-employed, you can claim a number of business-related expenses. Ensure that you take advantage of all available deductions, including automobile expenses, parking, business association fees, home-office expenses (if you qualify), entertainment, convention expenses (a maximum of two per year), cell phone, depreciation on your computer, and salaries paid to assistants, including family members.

Remember that in most cases, you can deduct private health-care premiums as a business expense instead of a medical expense And one-half of Canada Pension Plan paid in respect of self-employed earnings is deductible instead of creditable.

A word of caution: if you claim home-office expenses, you’re likely better off not to claim the depreciation on the home-office portion of your home. Although this will give you a deduction in the current year, you will lose some of the capital gains protection available from the principal-residence exemption.

Carryforward amounts: You should review your prior-year return and notice of assessment to determine if you have any carryforward balances that may be used as deductions or credits in your 2009 return. Such carryforward amounts could include unused RRSP contributions, unused tuition education and textbook amounts, interest on student loans, capital losses or other losses of prior years, resource pool balances and investment tax credits.

Conversely, if your notice of assessment includes “refund interest,” the interest must be included in your taxable income in the year received.

Use tax-preparation software: Using income-tax software to prepare your tax return has many benefits. Return preparation is generally quicker, easier and less prone to mechanical error. In addition, the programs often allow you to optimize credit or deduction claims between spouses or common-law partners and include helpful tax-filing hints based on the information you input.

Using software may also give you the option to file your return electronically. The processing time of electronically filed returns is substantially shorter than that associated with paper returns. If you are getting a tax refund, you can expect it within two weeks (as opposed to six to eight weeks for a paper return).

Electronic filing options include Netfile, Efile and Telefile. In order to Netfile, you will have to use approved tax-return software. Alternatively, you can have your return filed electronically by using an approved Efile agent, who will charge a fee for this service. Telefile is available for simple returns.

But even if you file electronically, keep your receipts. The CRA routinely asks taxpayers to provide support for various deductions or credits claimed on their tax returns.

Home renovations: If you undertook any home renovations, remember the one-time home renovation tax credit. If you spent $10,000 or more on home renovations after 27 January 2009 and before February 2010, you’ll get a credit of $1,350 against your 2009 income taxes. A smaller claim will be available if your costs exceeded $1,000, but were less than $10,000.

Note that if you use your residence to earn income (e.g., renting out a basement suite or using a portion as a business office), the renovation costs must be allocated between the personal and income-use portions — but only the personal portion is eligible for credit.

In general, items that become a permanent part of the home qualify. This would include renovations to a kitchen, bathroom or basement, new flooring or carpeting, painting, adding a deck, fence or garage, adding a permanent swimming pool or hot tub, permanent landscaping and permanent fixtures such as blinds, lights and ceiling fans.

First-time home buyers: If you acquired a new home after 27 January 2009, and you are a first-time homebuyer, you are entitled to a federal tax credit worth $750. To be eligible, neither you nor your spouse or common-law partner can have owned and lived in another home in the year of purchase, or in any of the four preceding years (2005 through 2008 for a 2009 home purchase).

If you are a person with a disability or are buying a house for a related person with a disability, this requirement is waived, provided the home is acquired to enable the person with a disability to live in a more accessible dwelling or in an environment better suited to their personal needs.

Claim all your credits: Remember to take advantage of the various family-related tax credits that might apply to you. These include the following:

• Child tax credit for children under 18
• Child fitness credit
• Public transit credit (for you, your spouse/partner or minor children)
• Adoption expense credit
• Tuition and education credits transferred from a child

And a few tips to start saving tax for 2010

Tax-free savings account: All Canadians age 18 and older can contribute $5,000 annually. Earnings in these accounts are completely tax free, and you can make withdrawals at any time for any purpose. If you made your maximum $5,000 contribution in 2009, you can add another $5,000 contribution for 2010.

RRSP contributions: Although your RRSP contributions for 2010 can be made as late as 1 March 2011, consider an earlier contribution to start earning tax-deferred investment income sooner rather than later.

Investments: If you have investments in registered accounts like RRSPs and tax-free savings accounts as well as non-registered accounts, the types of investment in each account can impact your overall tax costs. In general, it is preferable to hold investments generating dividends and capital gains, which are taxed lower than other forms of income, in your non-registered portfolio, and to hold your interest-earning investments in your registered accounts.

For more helpful tax-planning tips, consult Managing your personal taxes 2009–10: a Canadian perspective, or Ernst & Young’s Guide to Preparing 2009 Personal Tax Returns.

The requirements will apply to all registrants (other than charities) whose annual taxable supplies in Canada in the previous taxation year exceeded $1.5 million. This includes zero-rated supplies as well as supplies by all associated corporations. However, it excludes zero-rated exports, zero-rated financial services, taxable sales of real estate, and goodwill sales.

Registrants with revenues below the $1.5-million threshold must still file electronically if they are required to recapture input tax credits related to the provincial portion of the HST paid in Ontario or BC, or if they are builders affected by transitional housing measures related to the conversion to HST in Ontario or BC.

For filing periods ending on or after 1 July 2010, registrants filing GST/HST returns in an incorrect format may be subject to penalties, although the CRA has not yet provided any details.

The CRA notes that Netfile, Telefile, Electronic Data Interchange and a new service, GST Internet File Transfer, or “GIFT,” will allow use of third-party CRA-approved accounting software to file electronic returns.

These new requirements will be significant for many GST/HST registrants. Unlike T4 slips, which are often prepared by a payroll service, and corporate tax returns, which are commonly prepared by external advisors, GST/HST returns are often prepared and filed in house.

As the implementation period is relatively brief, and considering that registrants with $1.5 million in revenues will be required to file at least quarterly (if not monthly), registrants will need to take action quickly to ensure they are able to meet the new requirements.

Although Justice Judith Woods agreed with the taxpayer’s counsel that section 84.1 is a "trap for the unwary" and appeared to have some sympathy for the taxpayer’s position, she nevertheless felt bound to apply the clear wording of the provision.

The facts were as follows:

• In July 2001, the taxpayer and Mr. Xuening Chen held 20 and 55 common shares, respectively, of Sona Computer Inc. Between them, they owned all of the company’s shares.
• In July 2001, the taxpayer, Chen and Sam Damm held 24, 25 and 51 common shares, respectively, of Foxwise Technologies Inc. This represented all of the shares of Foxwise.
• 1514488 Ontario Inc. (Ontario Inc.) was incorporated in June 2002. At all material times, the taxpayer and Chen held five and 95 common shares of Ontario Inc., respectively, which represented all of the common shares of Ontario Inc.;
• On 3 September 2002, the taxpayer and Chen disposed of their shares of Sona and Foxwise to Ontario Inc. The taxpayer received $400,000 as consideration. Chen received as consideration 1,100 special shares of Ontario Inc. by way of "rollover" pursuant to section 85 of the ITA.
• The taxpayer’s adjusted cost base of her shares of Sona and Foxwise was $2,000 and $24, respectively. Of the $400,000 proceeds that the taxpayer received, only a nominal amount was attributable to the Foxwise shares.

The taxpayer claimed the capital gains exemption in respect of the gain realized by her on the sale of the Sona shares, but the Minister reassessed her on the basis that section 84.1 applied, resulting in deemed dividend treatment.

Section 84.1 applies where an individual disposes of shares of a Canadian-resident corporation (the subject corporation) to another corporation (the purchaser corporation) with which the transferor does not deal at arm’s length, and immediately after the disposition, the subject corporation is connected with the purchaser corporation. The policy of section 84.1 is well understood: it is designed to prevent the tax-free removal of taxable corporate surplus through a non-arm’s-length transfer of shares by an individual to a corporation.

In this case, the only issue was whether the taxpayer and the purchaser corporation, Ontario Inc., were not dealing at arm’s length, since all of the other conditions for the application of section 84.1 were satisfied. The court held that this condition was also satisfied: the taxpayer was not dealing at arm’s length with Ontario Inc., even though she held only 5% of its common shares. This resulted from the combined application of the deeming provisions¹ in section 84.1 that deem an individual not to deal at arm’s length with the purchaser corporation if:

• Immediately before the sale, the taxpayer was one of a group of fewer than six persons that controlled the subject corporation (in this case, Sona); and
• Immediately after the sale, the taxpayer was one of a group of fewer than six persons who controlled the purchaser corporation (in this case, Ontario Inc.), each member of which was a member of the group that controlled the subject corporation.

Were it not for the other deeming rules, discussed below, neither of the above requirements would have been met, since the taxpayer did not act in concert with Chen, and therefore could not be part of a group that controlled either Sona or Ontario Inc. (see Silicon Graphics Ltd. v the Queen, 2002 FCA 260), and Chen controlled each of these corporations on his own. However, the deeming provisions in section 84.1 extend the meaning of a "group" as follows:

• A group is any two or more persons who own shares of a particular corporation.
• A corporation that is controlled by one or more members of a group is considered to be controlled by the group.
• A corporation may be controlled by a person or group notwithstanding that it is also controlled or deemed to be controlled by another person or group.

As a result, the taxpayer and Chen were considered to be a group that controlled Sona before the sale, and that controlled Ontario Inc. after the sale, and the taxpayer was deemed not to deal at arm’s length with Ontario Inc. This is a harsh result, given that the taxpayer only owned 5% of the shares of Ontario Inc. (and could have avoided the application of section 84.1 had she sold these shares to Chen prior to the sale of the Sona and Foxwise shares to Ontario Inc.).

As Justice Woods pointed out, it is in accordance with the plain meaning of section 84.1. Counsel for the taxpayer submitted that this plain meaning was contrary to the purpose of section 84.1. However, Justice Woods indicated that section 84.1 could "overreach" its anti-avoidance objective in certain cases, and that this result was clearly intended by Parliament.

Tax Alerts

 Ottawa proposes changes to the taxation of employee stock options – 2010 Issue No. 8
Employee stock options are an important part of total compensation for many Canadian employees. The 2010 federal budget proposed changes relating to the taxation of such options, including some relief for employees who have seen the value of their shares acquired by way of stock option decline to a value below the deferred tax liability associated with such shares. 

 UK tax tribunal holds a Delaware LLC to be fiscally transparent – 2010 Issue No. 9
In a landmark decision that could potentially have serious implications for Canadian taxpayers, a UK tribunal has held that a UK-resident individual who was a member of a Delaware limited liability company (LLC) was entitled to credits in the UK, under the UK/US Double Taxation Convention and certain unilateral reliefs, for US taxes paid on the LLC’s business profits, on the basis of the tribunal’s conclusion that the LLC was fiscally transparent for UK tax purposes with respect to its profits. 

 Manitoba budget 2010 – 2010 Issue No. 10
Manitoba Finance Minister Rosann Wowchuk tabled the province’s fiscal 2010 budget on 23 March. 

 Saskatchewan budget 2010 – 2010 Issue No. 11
Saskatchewan Finance Minister Rod Gantefoer tabled the province’s fiscal 2010 budget on 24 March. 

 Ontario budget 2010 – 2010 Issue No. 12
Ontario Finance Minister Dwight Duncan tabled the province’s 2010 budget on 25 March. 

 Newfoundland and Labrador budget 2010 – 2010 Issue No. 13
Newfoundland and Labrador Finance Minister Tom Marshall tabled the province’s fiscal 2010 budget on 29 March. 

 Quebec budget 2010 – 2010 Issue No. 14
Quebec Finance Minister Raymond Bachand tabled the province’s fiscal 2010 budget on 30 March. 

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