The Honourable James Flaherty, Minister of Finance Canada, tabled the Conservative government's 2011 federal budget (Budget 2011) on March 22, 2011 (Budget Day). Budget 2011 is intended to keep the government on track to return to balanced budgets in the medium term, while securing the recovery and improving the well-being of Canadians over the long term. To achieve those objectives, the government has chosen to focus Budget 2011 on initiatives designed to support job creation, support families and communities, invest in innovation, education and training, and preserve Canada's fiscal advantage.
Budget 2011, labelled by the Conservatives as "A Low-Tax Plan for Jobs and Growth", is clearly designed to stay the course set over the past few years. In his budget speech, the Finance Minister compares Canada favourably to other nations. Canada's economy is improving, the deficit is going down, employment is going up and taxes are decreasing. The political message is "now is not the time to change governments". Budget 2011 is a mix of a few substantive policies and a few political goodies focused on particular voting blocks. It will offend very few. Notwithstanding the general moderation of Budget 2011, the opposition, now unanimous and unrelenting in allegations of corruption, has indicated that it will defeat the budget, thus triggering an election.
KEY TAX MEASURES
As corporate tax practitioners, a number of tax measures proposed in Budget 2011 caught our attention:
1. The anti-avoidance rules around registered retirement savings plans (RRSPs) and registered retirement income funds (RRIFs) are generally being conformed to those around tax-free savings accounts (TFSAs). The TFSA concepts of a tax on "advantages" (including the addition of the specific inclusion of benefits from newly defined "RRSP strip transactions"), tax on investments in, and income from, "prohibited investments" and the TFSA approach to "non-qualified investments"
are all adopted. The special tax on the holding of prohibited investments will not apply to investments in place on Budget Day and disposed of before 2013; however, the other special tax related to income derived from prohibited investments will apply after Budget Day.
2. The current tax on "split income" (kiddie tax) is extended to apply to capital gains of a minor arising from a disposition of shares of a corporation on or after Budget Day to a non-arm's length person if dividends on the shares would have been subject to kiddie tax. Moreover, such capital gains of the minor will be deemed to be a taxable dividend (other than an eligible dividend) received by the minor (although the corporation will be deemed not to have paid the dividend). As a result, the capital gains of the minor in these circumstances will lose their character as capital gains and will also be ineligible for the lifetime capital gains exemption. Before the Budget 2011 proposal, it was possible to minimize the kiddie tax by having the corporation pay a high-low stock dividend to minors or to a trust whose beneficiaries included the minor. The stock dividend shares would then be sold to a non-arm's length person, creating capital gains in the hands of the minor which would be taxed less heavily than if the minor had received a regular dividend on shares of the corporation.
3. The mineral exploration tax credit of 15% of specified mineral exploration expenses incurred in Canada and renounced to flow-through share investors is extended for another year.
4. An intention to reform the rules around employee profit sharing plans (and to curb abuses) was announced, although no specifics have been revealed. The government intends to consult with stakeholders prior to proceeding with any proposals for technical amendments to the rules.
5. New rules will limit the tax deferral of individual pension plans (IPPs). The rules generally target defined benefit registered pension plans (RPPs) with three or fewer members, if at least one member is "related" to an employer that participates in such a plan (i.e., if a member owns a controlling interest in the employer company). The first new rule requires that an annual minimum amount be withdrawn from an IPP once a plan member attains 72 years of age and takes effect beginning in the 2012 taxation year. The purpose of this rule is to place IPPs on a similar footing to RRIFs. The second new rule effectively limits IPP contributions relating to past employment which have not been first funded out of a plan member's RRSP assets or accounted for by a reduction of the member's accumulated RRSP contribution room. This rule applies to such contributions in respect of past service made after Budget Day, unless previously credited to a member under an IPP that submitted for registration on or before that day. The object of this rule is to integrate the IPP rules with the RPP and RRSP rules, and to prevent certain tax deferral opportunities that may otherwise exist.
6. The accelerated 50% capital cost allowance (CCA) for machinery and equipment used in Canada is extended for two years to include equipment acquired before 2014. In addition, the categories of specified clean energy equipment eligible for an accelerated 50% CCA are expanded to include a broader range of equipment that generates electricity using waste heat. This measure applies to eligible assets acquired on or after Budget Day that have not been used or acquired for use before that date.
7. The concept of "qualifying environmental trust" (which allows the pre-funding of reclamation costs) will be modified to accommodate National Energy Board-mandated funding of future pipeline reclamation costs. In addition, the types of eligible investments for such trusts will be expanded to include, generally, public entity debt, listed securities and investment grade debt, but will be restricted by the prohibited investment rules. The prohibited investment rules exclude, generally, securities and debts issued by contributors to and beneficiaries of the trust and persons or partnerships related to, affiliated with or otherwise interested in them. These changes will apply to the 2012 and subsequent taxation years for trusts created after 2011.
8. The cost of oil sands leases and other oil sands properties will now be Canadian oil and gas property expense (COGPE), which is depreciable on a 10% declining balance basis, where previously it would have been Canadian development expense (CDE), which is depreciable on a 30% declining balance basis. The new treatment will be effective for acquisitions made on or after Budget Day.
In addition, the cost of bringing new oil sands mines into production will be CDE instead of Canadian exploration expense (CEE) which is fully deductible in the year incurred. The new treatment for pre-production costs will be phased in for costs incurred in 2013 through 2016: in 2013, 20% CDE and 80% CEE; in 2014, 40% CDE and 60% CEE; in 2015, 70% CDE and 30% CEE; and in 2016, 100% CDE. In addition, for new mines on which major construction began before Budget Day, all costs incurred before 2015 will be subject to the existing CEE treatment. These changes will also apply to costs and expenses in respect of oil shale properties.
9. The application of certain stop-loss rules in the Income Tax Act has been extended to certain inter-corporate share dispositions. Specifically, any deemed dividend arising as a result of a redemption, acquisition or cancellation of a share held by a corporation (directly or indirectly through a partnership or trust) must now be included in computing the restriction of a loss (i.e., by applying certain "stop-loss" rules in the Income Tax Act) realized in respect of the share. This rule does not apply to deemed dividends arising upon the redemption, acquisition or cancellation of shares of a private corporation which are held, directly or indirectly, by another private corporation other than a financial institution. This measure applies to a share redemption, acquisition or cancellation occurring on or after Budget Day.
10. The ability of a corporation that holds a significant interest in a partnership to access a deferral of tax on income earned through that partnership is being eliminated. This measure is being implemented through a series of complex rules that effectively require the corporate partner to include in its income an accrual of the partnership income for the portion of the partnership's taxation year that is within the corporate partner's taxation year. Subject to transitional relief, this could result in a "catch-up" payment for the corporate partner on its initial 2011 stub period income in order to eliminate the deferral. However, a five year transitional period may apply for existing partnerships, which would generally allow the initial 2011 stub period income to be reported from 2012 through 2016 (15%/20%/20%/20%/25%). To make the rules work, multiple tiered partnerships are forced to adopt a common taxation year, with the default (in the absence of an election) being a calendar year.
11. The capital gains exemption available when publicly listed securities are donated to charities and other qualified donees will be limited in respect of donations of flow-through shares. The exemption will be allowed only to the extent that cumulative capital gains from dispositions of shares of that class exceed the original cost of the flow-through shares. When the shares are donated, this will result in the taxation as a capital gain of flow-through share proceeds up to the amount of the original cost. This represents a partial recovery of the tax benefit (i.e., the ability to deduct against other income the Canadian exploration expense renounced by the issuer) associated with flow-through shares. This measure applies where a taxpayer acquires shares pursuant to a flow-through share agreement entered into on or after Budget Day.
In addition to these tax measures, Budget 2011 introduces several tax changes affecting the charity sector, as well as a number of personal tax measures.
BUDGET MEASURES AFFECTING THE CHARITY SECTOR
Budget 2011 proposes changes to both the regulatory regime for certain qualified donees, and the charitable donation rules. The regulatory regime changes will take effect on the later of January 1, 2012 and the day on which the enacting legislation receives Royal Assent. Changes affecting the donation rules take effect on Budget Day.
Aspects of the regulatory regime currently applicable to registered charities will be extended to other organizations that are qualified donees. These other organizations include registered Canadian amateur athletic associations (RCAAAs), municipalities, corporations providing low-cost housing for the aged and certain foreign universities and foreign charitable organizations. All such organizations will be identified publicly on a Canada Revenue Agency (CRA) list, and will be required to maintain proper books and records and make these available to the CRA. Furthermore, the statutory donation receipt requirements are extended to all qualifying donees. In the event of non-compliance, the Minister of National Revenue may suspend receipting privileges or revoke qualified donee status.
In addition, RCAAAs will be required to have the promotion of amateur athletics in Canada on a nation-wide basis as their exclusive purpose and exclusive function (rather than just their primary purpose and primary function), but will be permitted to carry on related business and non-partisan political activities. Certain RCAAA information returns and documents will be publicly available and the undue benefit rules applicable to registered charities will be extended to RCAAAs.
Budget 2011 also proposes that the Minister of National Revenue may refuse or revoke the registration of a registered charity or RCAAA, or suspend its authority to issue official donation receipts, if a member of its board of directors, a trustee, officer or equivalent official, or any individual who otherwise controls or manages the operation of the organization has been found guilty of an offence in certain circumstances or was involved in certain capacities with a registered charity or a RCAAA whose registration has been revoked within the past five years. The proposed measures do not require a registered charity or RCAAA to obtain background checks, but once the organization is made aware of concerns, it may face adverse consequences if it fails to take remedial action.
Budget 2011 proposes that where a qualified donee has returned all or part of a previously receipted gift to the donor, the gift will be deemed not to have been made. Further, the donee is required to issue a revised receipt to the donor and, where the difference in value is greater than $50, file a copy of that revised receipt with the CRA. The Minister of National Revenue then has the authority to reassess the donor's return of income to the extent that the reassessment relates to the return of property.
Where a donor has granted an option to a qualified donee to acquire property of the donor, Budget 2011 proposes to clarify that no charitable donation tax credit or deduction will be available to the donor until such time as the option is exercised. Further, the amount of the credit or deduction will be based on the amount by which the fair market value of the property received by the donee exceeds the exercise price, provided that if the exercise price is 80% or more of such fair market value, no donation credit or deduction will be available.
Prior to Budget 2011, where a person donated a non-qualifying security (NQS) – generally a security issued by the donor or a person not at arm's length with the donor – a deduction or credit was only available when the donee disposed of the NQS or it ceased to be a NQS, provided such event occurred within five years of the date of the gift. These rules will be extended to cover situations where the donee has disposed of the NQS for consideration that is a NQS to any person. Further, Budget 2011 introduces anti-avoidance rules aimed at donations made as part of a series of transactions. Where a donee receives a NQS as part of a series, whether that NQS was issued by the donor or any other person, the NQS will be deemed to be that of the donor and the rules that apply to NQS donations apply accordingly.
PERSONAL TAX MEASURES
Budget 2011 proposes several new personal tax credits. A new 15% non-refundable Children's Arts Tax Credit allows parents to claim up to $500 per child of eligible expenses paid in a year that are associated with children's artistic, cultural, recreational and development activities. A new 15% non-refundable Family Caregiver Tax Credit provides tax relief based on an amount of $2,000 to caregivers of mentally or physically infirm dependent relatives including spouses, common-law partners and minor children. A new 15% Volunteer Firefighters Tax Credit benefits volunteer firefighters who perform at least 200 hours of volunteer firefighting services in a year based on an amount of $3,000.
Budget 2011 also expands several existing personal tax credits. The Medical Expense Tax Credit is amended to remove the $10,000 limit on eligible expenses that can be claimed in respect of a dependent relative. The Child Tax Credit is no longer limited to one claim per domestic establishment to ensure that sharing a home with other families does not prevent otherwise eligible parents from claiming the credit. The Tuition Tax Credit is expanded to recognize fees paid to certain institutions to take an examination required to obtain a professional status recognized by federal or provincial statute, or to be licensed or certified in order to practice a profession or trade in Canada. As well, the new Education Tax Measures mean that the minimum course-duration requirement that a Canadian student at a foreign university must meet in order to claim the Tuition, Education and Textbook Tax Credits is reduced from 13 to three consecutive weeks These personal tax measures take effect for the 2011 and subsequent taxation years, except for the expansion of the Tuition Tax Credit, which applies to amounts paid for eligible examinations taken after 2010, and the Education Tax Measures, which take effect with respect to tuition fees paid for the 2011 and subsequent taxation years.
PREVIOUSLY ANNOUNCED TAX MEASURES
Budget 2011 confirms the government's intention to proceed with several previously announced tax measures (as they may be modified to take into account consultations since their release), including: legislation relating to the 2010 Budget measures and related legislative proposals released on August 27, 2010; legislative proposals released on July 16, 2010 and November 5, 2010 relating to income tax technical amendments; legislative proposals released on December 16, 2010 relating to the real estate investment trust rules; outstanding draft legislative proposals relating to foreign affiliates; proposed changes to certain GST/HST rules relating to financial institutions released on January 28, 2011; and draft legislative proposals released on March 16, 2011 relating to the deductibility of contingent amounts, withholding tax on interest paid to certain non-residents, and the tax treatment of certain life insurance corporation reserves.
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