TaxMatters@EY – June 2020

Many employers who have been significantly impacted by COVID-19 are keeping employees on payroll or calling them back to work thanks to the Canada Emergency Wage Subsidy (CEWS). As more details emerge on the CEWS, there are certain considerations that employers should be mindful of before applying for the program.

The federal government first announced the CEWS on March 27, 2020. Legislation implementing the CEWS was then passed on April 11, 2020.¹ (For more information and insight on this program, see EY Tax Alert 2020-28, Canada Emergency Wage Subsidy – Update, EY Tax Alert 2020-29, Canada Emergency Wage Subsidy – further update, and EY Tax Alert 2020-30, Canada Emergency Wage Subsidy legislation receives Royal Assent.)

Since the program rolled out in early April, there have been many updates and the Canada Revenue Agency (CRA) has published answers to frequently asked questions.

The program was implemented to provide qualifying businesses with a 75% subsidy on remuneration paid to eligible employees. The program was initially available for up to 12 weeks and could be claimed retroactively from March 15, 2020 to June 6, 2020. The government has since announced that the subsidy will be extended beyond June. On May 15, 2020, the government announced an extension of the program to August 29, 2020.²

Who is eligible?

Given that the categories of eligible entities for the CEWS are broad, most companies, regardless of size or sector, are eligible to apply. To qualify, however, the business must have had an open payroll program account with the CRA as of March 15, 2020.

Nonprofit organizations, registered charities, partnerships³, sole proprietors, public companies and foreign-based companies that employ individuals in Canada are also eligible. Tax-exempt corporations and government entities such as schools, school boards, universities, hospitals and municipalities are generally not eligible. On May 15, 2020, however, the Department of Finance retroactively broadened the eligibility for the CEWS to five additional groups and released related draft regulations.⁴

What is the required revenue reduction?

To qualify for the CEWS, eligible entities must have experienced a decline in revenues when compared to either the same month last year or to the average monthly revenue earned in January and February of 2020 (the alternative approach).

At the time of writing, there are three claiming periods:

• March 15, 2020 to April 11, 2020
• April 12, 2020 to May 9, 2020
• May 10, 2020 to June 6, 2020

For the first claiming period, only a 15% decline in revenues is required. For subsequent periods, the required revenue decline is 30%. For example, in the first claiming period (i.e., March 15, 2020 to April 11, 2020), a business must have realized a decline of 15% when comparing March 2020 revenues to March 2019 (or the average monthly revenue earned in January and February 2020). In the second claiming period, a business must have realized a decline of 30% when comparing April 2020 revenues to April 2019 revenues (or the average monthly revenue earned in January and February 2020).

Since businesses can choose between the year-over-year or alternative approach, there is some flexibility in conducting the revenue comparison. However, if the eligible employer was not in business in the same month in 2019, the alternative approach must be used. Before choosing which to use, be mindful that the approach chosen for the first period must be used for the entire program. Therefore, consider forecasting revenues to subsequent periods to determine the more favourable approach. Further, if you select the alternative approach, ensure you maintain documentation to support this election.

How do I calculate revenues?

An employer’s qualifying revenue is generally determined in accordance with its normal accounting practices and includes revenue arising in the course of its ordinary activities in Canada. Qualifying revenue, however, excludes amounts from extraordinary items,⁵ amounts on account of capital and amounts from non-arm’s-length sources.⁶

The CRA recently clarified that investment revenue that arises in the course of the entity’s ordinary activities in Canada can generally be included in an entity’s qualifying revenue to the extent that it is not an extraordinary item, is not on account of capital, and would be included in revenue under normal accounting practices.

There is also some flexibility in calculating revenues, as an eligible employer has the option to use the cash method if its normal accounting practice is the accrual method. This choice should be carefully considered as it would be required to be used for the entire program.

Who is an eligible employee?

An eligible employer cannot claim the CEWS in respect of an employee who has been without remuneration for 14 or more consecutive days in the claim period.⁷ As a result, if an employer has laid off employees and plans on rehiring them, consideration must be taken as to when those employees should be rehired. For example, if an employee was laid off in the previous claim period, and rehired 14 or more days after the start of the following period, the employer is not eligible to claim the CEWS in respect of that employee for that following claim period. See also Laid off employees can be rehired retroactively below.

Is all remuneration covered by the subsidy?

No. Not all pay to employees is covered by the subsidy. Eligible remuneration generally includes salary, wages and other remuneration for which the employer normally makes payroll deductions to be remitted to the CRA. Eligible remuneration also includes commissions and certain tips.⁸ Retiring allowances (such as severance pay), stock option benefits, and dividends paid to an owner-manager should not be included.

What amount can I claim as a subsidy?

For employees who were hired prior to March 15, 2020, the CEWS is generally limited to the lesser of eligible remuneration paid in respect of a week during a claim period or 75% of the employee’s baseline weekly remuneration (subject to a weekly maximum of $847).⁹ If employees were hired on March 15, 2020 or later, the CEWS is limited to 75% of the eligible remuneration paid in respect of the week (subject to a weekly maximum of $847).¹⁰

To calculate an eligible employee’s eligible remuneration in respect of a week, the subsidy amount claimed in the application must represent the actual amount the employer paid in respect of the claim period. Whether an employer’s payroll frequency is biweekly, semi-monthly or monthly is not relevant, as long as the remuneration is paid to the eligible employee prior to the employer submitting the application. Employers will likely have to manually calculate the eligible remuneration paid in respect of a week, as payroll cycles often do not align with the subsidy claim periods.¹¹

Other considerations

Businesses that qualify for a period automatically qualify for the next period. When an employer is eligible for a specific qualifying period, the employer will also qualify for the immediately following period of the program. For example, an eligible business that experiences a revenue decline of 15% in March 2020 when compared to March 2019 would be eligible for the CEWS in respect of both the first and second claim periods, even if the business does not experience a revenue decline of 30% in April 2020. Note that the business would not automatically qualify for the third claim period and would have to re-determine if it were eligible for CEWS for that period.

Laid off employees can be rehired retroactively. The CEWS allows for employees who have been laid off to become eligible retroactively. As long as employees are rehired and receive retroactive pay prior to the application being submitted for the relevant claim period, the employer can claim the CEWS on the retroactive pay (assuming the employees otherwise meet the eligibility criteria).

If the employee has already received a Canada Emergency Response Benefit (CERB) payment in respect of the claim period in which they were rehired, the employee will need to consider whether they are still eligible for the CERB. If the employee is no longer eligible, they must repay the CERB amount.

For example, consider an employee who was laid off on March 15, 2020 and did not receive any remuneration for the entire first claim period. The employee applied for the CERB in respect of the first claim period and already received their payment. Now the employer has decided to rehire the employee retroactively to March 15. In this situation, the employee will likely no longer be eligible for the CERB since they earned more than $1,000 in respect of 14 consecutive days. The employee will therefore need to repay the CERB amount. The CRA has published details on how to repay the CERB.

There are special rules for eligible employers who are members of an “affiliated group.¹²”. When an eligible employer is a member of an “affiliated group” of eligible employers, each member can jointly elect to have their qualifying revenues determined on a consolidated basis. This election must be carefully considered, as all members¹³ of the “affiliated group” would be required to calculate their revenues on a consolidated basis.

Employers can be eligible for both the CEWS and the 10% Temporary Wage Subsidy (TWS). The TWS is generally available to sole proprietors, registered charities, nonprofit organizations and businesses eligible for the small business deduction. If an employer is eligible for both subsidies during a relevant period, the amount the employer claims under the TWS for remuneration paid during that period reduces the amount available to be claimed under the CEWS in that same period. While the TWS is generally equal to 10%, an eligible employer can elect to apply a percentage less than 10%. Employers should therefore consider their eligibility under the TWS and how amounts claimed under the TWS may reduce their claim amount under the CEWS.

Refund for certain payroll contributions. There is a 100% refund for certain employer-paid contributions to Employment Insurance, Canada Pension Plan, Québec Pension Plan and the Québec Parental Insurance Plan. The refund covers the contributions made by employers for each week eligible employees are on leave with pay (where the employer is eligible to claim the CEWS). Certain employers may be eligible for a credit for employer contributions to the Québec Health Services Fund. See: https://www.revenuquebec.ca/en/coronavirus-disease-covid-19/faq-for-businesses/.  This expansion removes the incremental costs to employers for keeping their employees over laying them off.

An employee is considered to be on leave with pay if they receive remuneration from the employer for the week but do not perform work. The refund is not available for employees who are only on leave for part of a week.

Employers are required to withhold and remit employer and employee contributions to the above-noted programs as usual, but may thereafter apply for the refund. The refund is separate from the $847 maximum benefit amount that employers can claim in respect of the CEWS, and there is no overall limit to the refund that an eligible employer may claim.

Practical considerations to the CEWS application

There are three ways to apply for the CEWS. Applications can be made through the CRA’s My Business Account or the Web Forms application. Certain representatives can also apply for qualifying employers through Represent a Client. Applications must be filed before October 1, 2020.

Applications should be made after the end of the relevant claim period and after employees have been paid in respect of each week within that period. For example, an application for the second claim period (April 12 to May 9) should only be made after May 9. However, if an employer’s pay cycle is on May 15 in respect of the first two weeks of May, then the application should be filed on or after May 15, as this pay would cover a portion of the second claim period (May 1 to May 9).

Subsidy payments are expected to be made within 10 business days of filing an application with direct deposit. Employers who are not set up for direct deposit should consider registering, otherwise they will likely experience a delay in receiving their payments via mail.

The CRA will be auditing claims. The CRA has indicated that it will use a combination of automated queries, follow-up phone calls and comprehensive reviews or audits to verify claims. If an employer is found not to meet the eligibility criteria in respect of amounts received, they will be required to repay those amounts. Abuse of the program can result in significant penalties and, in some cases, imprisonment. Employers should therefore carefully review the eligibility criteria and maintain proper books and records to support their claims.

For more information on other COVID-19 measures available to small businesses, see the May 2020 issue of TaxMatters@EY.

by Winnie Szeto, Toronto, and Allison Blackler, Vancouver

In this case, the Tax Court of Canada found that distributions from a father’s life income fund to his two daughters after his death were non-arm’s-length transfers for purposes of subsection 160(1) of the Income Tax Act¹ (Act) and, as a result, the daughters were liable for their father’s outstanding tax liability.

Facts

The facts in this case are straightforward. Mr. A was the annuitant of a life income fund. He had two daughters (the taxpayers), who were beneficiaries under the fund. Mr. A died on June 8, 2011. On July 26, 2011, each of the taxpayers received a distribution of $96,640 in satisfaction of their beneficial interest in the fund. The taxpayers did not provide any consideration in respect of the distributions.

At the time of his death, Mr. A had an outstanding income tax liability in respect of his 2011 taxation year, and by July 3, 2015 it was at least $96,640. On that date, the Canada Revenue Agency (CRA), on behalf of the Minister of National Revenue, assessed each of the taxpayers $96,640 under subsection 160(1) of the Act on the basis that their father had indirectly transferred that money to them, and because they did not deal at arm’s length with their father, they were jointly and severally liable for his 2011 tax debt.

The taxpayers appealed the assessments to the Tax Court of Canada.

Tax Court of Canada decision

Subsection 160(1) is an anti-avoidance provision that is intended to prevent a tax debtor from transferring property to a non-arm’s-length person to avoid the payment of taxes. If this provision applies, the tax debtor and the non-arm’s-length person are jointly and severally liable for the taxes owed by the debtor.

At the outset, the court noted that for subsection 160(1) to apply, four criteria must be satisfied:

1. The transferor must be liable to pay tax at the time of the transfer.
2. There must be a transfer of property, either directly or indirectly, by means of a trust or by any other means.
3. The transferee must either be:
   
   a)  The transferor’s spouse or common-law partner at the time of the transfer or a person who has since become the person’s spouse or common-law partner
   
   b)  A person who was under 18 years of age at the time of the transfer
   
   c)  A person with whom the transferor was not dealing at arm’s length
4. The fair market value of the property transferred must exceed that of the consideration given by the transferee.²

The taxpayers accepted that three of the four criteria had been satisfied such that the only issue at trial was whether Mr. A and the taxpayers were not dealing at arm’s length at the time of the transfer (i.e., criterion #3(c))

According to paragraph 251(1)(a) of the Act, related persons are deemed not to deal with each other at arm’s length. Furthermore, according to paragraph 251(2)(a), individuals connected by blood relationship are related persons. And finally, according to paragraph 251(6)(a), persons are connected by blood relationship if one is the child of the other. Therefore, based on these statutory definitions, Mr. A would be considered not to deal with his two daughters at arm’s length.

However, the taxpayers argued that at the time of the transfer,³ Mr. A was dead and did not exist. Therefore, Mr. A was not in a blood relationship with them under paragraph 251(6)(a), not related to them under paragraph 251(2)(a), and was at arm’s length with them under paragraph 251(1)(a).

The Crown disagreed and argued that Mr. A’s relationship with his daughters was not a contractual one and that the father-daughter relationship cannot simply be taken away by Mr. A’s death. As a result, Mr. A did not deal with his daughters at arm’s length at the time of the transfer.

The court’s view was that Mr. A’s relationship with his two daughters did not end on his death. That is, they continued to be his children after his death. Here, the court distinguished the finding in the Kiperchuk⁴ case that a marital relationship ended on the death of a spouse. The court noted that the relationship of father and child is not a statutory relationship; it was a factual one. Therefore, the court found that Mr. A transferred property to persons with whom he did not deal at arm’s length.

Based on the above, the court found that subsection 160(1) applied in this case and the taxpayers were jointly and severally liable for their father’s 2011 tax debt.

Lessons learned

Although it’s likely that the right decision was reached on the facts, the court’s distinction between a “statutory” relationship, and one that was “factual” is somewhat tricky. Following this logic, a “natural” child would be subject to a section 160 assessment, but an adopted one might not.

We note that the court in Kuchta v The Queen, 2015 TCC 289, avoided this conflict in distinguishing Kiperchuk by concluding that “spouse” in the context of section160 also includes the colloquial, rather than just legal, meaning of that term, such that it also includes transfers to widows and widowers. Indeed, applying this test to the facts in Kiperchuk, the court likely would have reached the same decision, because in that case the spouses had been separated for many years, such that they likely would not have been spouses under either the legal or colloquial meaning on the former husband’s death.

In any event, this case serves to remind us of the existence of subsection 160(1), its implications and potential detrimental effects. Subsection 160(1) gives the CRA broad powers to collect tax debts in situations where a tax debtor transfers property, directly or indirectly, to a spouse, a common-law partner, a person under 18 years old, or a non-arm’s-length person. Application of subsection 160(1) does not require intention; that is, the transferor or transferee does not need to have any intention of avoiding a tax debt or even to have knowledge of a tax debt. Liability is joint and several, so the CRA can pick and choose whom to pursue, and in this case, it pursued both daughters.

Taxpayers are well advised to seek professional tax advice when considering the transfer of property to a loved one or when they receive such property.

Tax Alerts – Canada - May 2020

Tax Alert 2020 No. 33 – Finance Canada provides relief on import of certain medical goods
On 6 May 2020, the Department of Finance Canada announced it will be waiving tariffs on certain medical goods, including personal protective equipment (PPE) such as masks and gloves, significantly reducing the cost of importing PPE into Canada.

Tax Alert 2020 No. 34 – Eligibility for the Canadian Emergency Wage Subsidy Extended
On 15 May 2020, the federal government announced the extension of the Canada Emergency Wage Subsidy (CEWS) to 29 August 2020, the retroactive broadening of the eligibility for the CEWS to additional groups, as well as additional proposed changes.

Tax Alert 2020 No. 35 – CRA issues international tax guidance on issues resulting from COVID‑19 travel restrictions
On 19 May 2020, the Canada Revenue Agency published guidance on various international income tax issues resulting from the COVID‑19 crisis and the related restrictions on travel.

Tax Alert 2020 No. 36 – Update on personal tax return filing deadline
On 22 and 25 May 2020, the Canada Revenue Agency (CRA) released an update on the personal tax return (T1) filing deadline and the application of late-filing penalties. In particular the CRA has announced that late-filing penalties will not apply to any 2019 T1 return filed by 1 September 2020, provided the related tax balance is also paid by 1 September 2020.

Tax Alert 2020 No. 37 – Update on filing deadlines and penalties
On 25 May and 1 June 2020, the Canada Revenue Agency released an update on tax return filing deadlines for corporations, trusts and partnerships. These measures come as welcome relief, especially as we approach the 30 June 2020 filing deadline for many corporations having a 31 December year end.