Pierre Alary, Mariam Al-Shikarchy, Malya Amghar, Michael Bussmann, Paul Carenza, Andrew Coates, Brian Cohen, Laura Gheorghiu, Ash Gupta, Carl Hinzmann, Brent Kerr, Lesley Kim, Daniel Lacelle, Yasmine Mekallach, John Sorensen, Anita Yuk
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Federal Budget 2022 (Budget 2022) is a budget of optimism after two years of recession, pandemic, and now geopolitical instability. It speaks of the recovery of all jobs lost during the recession, the rebound of real GDP in Canada to a level higher than before the pandemic, and a booming economy.
In Budget 2022, the Minister of Finance hit all the hot topics on social media, from affordable housing to the environment and even the current conflict in Ukraine, weaving them into an unexpectedly prudent fiscal narrative.
By picking the pockets of Canada's banks and life insurers with additional taxes, Budget 2022 gives the government a massive source of new revenue which in turn helps the government to forecast substantially lower deficits over the next several years. Indeed, the government forecasts that Canada will have one of the lowest deficits as a percentage of GDP among the G7 countries through to 2023.
However, Budget 2022 isn't just about taxing Canada's largest financial institutions. There are a number of fiscal measures proposed in Budget 2022 which will impact businesses, large and small, as well as homeowners, charities, consumers, and working Canadians. Several of these measures create new tax incentives while others impose new taxes or shut down popular tax planning strategies such as flipping residential properties. One of the measures aimed at stopping the use of tax planning strategies by private corporations is estimated to raise more revenue than the special one time tax proposed in the budget on all the Canadian banks and insurance companies.
Budget 2022 addresses most of the items from the Liberal party's 2021 election platform, including incentives for clean technologies and home ownership, that the government hadn't previously implemented. However, there will be more to come. For example, the election platform included a new 15 per cent minimum tax on wealthy Canadians that was not proposed in Budget 2022. Instead, the government has promised to release details of that new tax in its fall economic and fiscal update. As well, it is conceivable that more changes will come as a result of the recent power-sharing deal with the New Democratic Party.
This is a budget with something for everyone. Our article contains a summary of the tax measures we thought would be of most interest.
Table of contents
- Investment tax credit for carbon capture, utilization and storage
- Clean technology tax incentives: Air-source heat pumps
- Critical mineral exploration tax credit
- Flow-through shares for oil, gas and coal activities
- Digital economy
- International tax reform
- Interest coupon stripping
- Application of the general anti-avoidance rule to tax attributes
- The substantive CCPC
- Taxable capital business limit for small businesses increases
- Department of Finance looking to close the door to surplus stripping (again)
- Minimum tax for high earners
- Personal income tax measures affecting home owners
- Financial institutions
- Relaxation of defined benefit pension plans borrowing restrictions
- Registered charities
- Excise duties
Learn more about Gowling WLG's Tax Group
1. Investment tax credit for carbon capture, utilization and storage
Budget 2022 proposes to introduce a new refundable investment tax credit (CCUS Tax Credit) for carbon capture, utilization, and storage (CCUS) technologies.
Eligible expenses, equipment, CCUS projects and CO₂ uses
Acquisition and installation costs incurred after 2021 and before 2041 for equipment that will be used in Canada solely for the capture, transport, storage or use of CO₂ in an eligible CCUS project would qualify for the CCUS Tax Credit. The CCUS Investment Credit may be claimed the year eligible expenses are incurred, regardless of when the equipment becomes available for use.
Eligible CCUS equipment would be included in two new capital cost allowance (CCA) classes of depreciable property: the first at a rate of 8 per cent on a declining-balance basis, and the second at a rate of 20 per cent on a declining-balance basis. The new classes will be eligible for enhanced first year depreciation.
Eligible CCUS projects are new projects that capture CO₂ that would otherwise be released into the atmosphere or capture CO₂ from the ambient air, prepare captured CO₂ for compression, compress and transport the captured CO₂, and store or use captured CO₂ for an eligible use.
Eligible uses for CO₂ include dedicated geological storage and storage in concrete. Storage requirements must be approved by Environment and Climate Change Canada.
CCUS Tax Credit rate
The CCUS Tax Credit for eligible expenses incurred after 2021 through 2030 would be claimed based on the following rates:
- 60 per cent for eligible capture equipment used in a direct air capture project;
- 50 per cent for all other eligible capture equipment; and
- 37.5 per cent for eligible transportation, storage, and use equipment
The following lower rates would apply for eligible expenses incurred after 2030 through 2040:
- 30 per cent for eligible capture equipment used in a direct air capture project;
- 25 per cent for all other eligible capture equipment; and
- 18.75 per cent for eligible transportation, storage, and use equipment.
Recovery of CCUS Tax Credit
As projects become operational, taxpayers must track and account for the amount of CO₂ being captured and the portions being used for eligible and ineligible uses. Projects will be assessed every five years, to a maximum of 20 years. Where the portion of CO₂ going to ineligible uses exceeds 5 per cent of that described in the initial project plans, a recovery of CCUS Tax Credits will be calculated. Details of the recovery structure will be released at a later date.
Validation and verification
An initial project tax assessment to identify eligible expenses and applicable CCUS Tax Credit rate would be required for projects anticipated to have eligible expenses of $100 million or more over the life of the project. Natural Resources Canada must verify eligible expenses before a CCUS Tax Credit can be claimed. Verification would be processed at the end of a taxpayer's taxation year but before the taxpayer files its tax return the year so that the refund could be processed upon filing.
Financial disclosure report and knowledge sharing
Taxpayers would be required to prepare a climate-related financial disclosure report that highlights how their corporate-governance, strategies, policies and practices will contribute to the management of climate-related risks and opportunities and to the achievement of Canada's commitments under the Paris Agreement and net zero goal by 2050.
Public knowledge sharing in Canada would be required for CCUS projects expecting to have eligible expenses of $250 million or more over the life of the project.
Details on the financial disclosure report and knowledge sharing requirements will be provided at a later date.
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2. Clean technology tax incentives: Air-source heat pumps
CCA for clean energy equipment
Depreciable property included in CCA Classes 43.1 and 43.2 benefit from accelerated depreciation rates of 30 per cent and 50 per cent, respectively. Moreover, where the majority of tangible property in a project is included in Classes 43.1 or 43.2, certain intangible start-up expenses are treated as Canadian Renewable and Conservation Expenses (CRCE), which are fully deductible in the year they are incurred and may be carried forward indefinitely. CRCE may also be renounced to subscribers of flow-through shares who may then deduct the full amount of the CRCE renounced in the year.
Budget 2022 proposes to include air-source heat pumps, primarily used for space or water heating, under Classes 43.1 and 43.2. Property that is acquired and becomes available for use on or after April 7, 2022 would generally be eligible for inclusion in Classes 43.1 and 43.2.
Rate reduction for zero-emission technology manufacturers
Reduced corporate tax rates (7.5 per cent for income otherwise subject to the general corporate tax rate and 4.5 per cent for income otherwise subject to the small business tax rate) were proposed in Budget 2021 for qualifying zero-emission technology manufacturers on eligible zero-emission technology manufacturing and processing income.
Budget 2022 proposes the inclusion of the manufacturing of air-source heat pumps used for space or water heating as an eligible zero-emission technology manufacturing or processing activity for purposes of the reduced corporate tax rate.
The reduced corporate tax rates would apply for taxation years that begin after 2021 and would be phased out starting in taxation years beginning in 2029 and fully phased out for taxation years beginning after 2031.
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3. Critical mineral exploration tax credit
Mining corporations are able to renounce certain grassroots exploration expenses as Canadian exploration expenses (CEE) to subscribers of flow-through shares who may then deduct 100 per cent of such expenses for the taxation year in which such expenses are renounced. Subscribers who are individuals may also claim the mineral exploration tax credit (METC) equal to 15 per cent of such expenses incurred in Canada. The ability to renounce eligible expenditures to investors and the METC allows mining corporations to attract equity investors at a premium.
A new 30 per cent critical mineral exploration tax credit (CMETC) is proposed in Budget 2022 for specified minerals that are used in the production of batteries and permanent magnets, which are used in zero-emission vehicles, or are necessary in the production and processing of advanced materials, clean technology, or semi-conductors.
A qualified person (as defined under National Instrument 43-101 published by the Canadian Securities Administrators as of April 7, 2022) must certify that expenditures that will be renounced will be incurred as part of an exploration project targeting the specified minerals.
The CMETC would apply to expenditures renounced under eligible flow-through share agreements entered into after April 7, 2022 and on or before March 31, 2027.
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4. Flow-through shares for oil, gas and coal activities
CEE and Canadian development expenses (CDE) incurred in the course of carrying out oil, gas and coal activities may also be renounced to subscribers of flow-through shares. Such subscribers may then deduct 100 per cent of such CEE and 30 per cent of such CDE, on a declining basis in calculating their taxable income
In order to support "Canada's international commitments to phase out or rationalize inefficient fossil fuel subsidies," Budget 2022 proposes to eliminate the flow-through share regime for oil, gas, and coal activities effective for flow-through share agreements entered into after March 31, 2023.
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5. Digital economy
Budget 2022 proposes to require "reporting platform operators," that provide support to "reportable sellers" for relevant activities, to determine the jurisdiction of residence of their reportable sellers and to report certain information on them. The basis for the proposed rules is a need to track revenues earned by taxpayers through online platforms, to ensure that their income does not escape taxation.
Reporting platform operators are entities engaged in the following activities:
- contracting directly or indirectly with sellers to make the software that runs a platform available for the sellers to be connected to other users; or
- collecting compensation for the relevant activities facilitated through the platform.
The measures will generally apply to platform operators that are resident in Canada for tax purposes. However, they will also apply to platform operators that are not resident in Canada or a partner jurisdiction and that facilitate relevant activities by sellers resident in Canada or with respect to rental of immovable property located in Canada. A partner jurisdiction would be a jurisdiction that has implemented similar reporting requirements on platform operators and that has agreed to exchange information with the Canada Revenue Agency (CRA) on reportable platform sellers.
The measures will not apply to platform operators that demonstrate to the CRA that their business model does not allow sellers to profit from compensation received or that the platform does not have any reportable sellers nor to platform operators that facilitate the provision of relevant activities for which the total compensation over the previous year is less than €1 million, and that elect to be excluded from reporting.
Relevant activities of the reporting platform operators will include relevant services and sales of goods. Relevant services will include:
- personal services (i.e., services involving time- or task-based work performed by one or more individuals at the request of a user, unless such work is purely ancillary to an overall transaction or it is provided by a seller pursuant to an employment relationship with the platform operator or a related entity of the platform operator), for example, transportation and delivery services, manual labour, tutoring, data manipulation and clerical, legal or accounting tasks;
- rental of immovable property (residential or commercial property, as well as parking spaces); and
- rental of means of transportation.
A reportable seller will be an active user who is registered on a platform to provide relevant services or sell goods. However, sellers that represent a limited compliance risk will not be considered reportable sellers. These are:
- governmental entities;
- entities the stock of which is regularly traded on an established securities market;
- large providers of hotel accommodation that provide accommodation at a high frequency (i.e., more than 2,000 per year in respect of a property listing on an online platform); and
- with respect to the sales of goods, sellers who make less than 30 sales a year for a total of not more than €2,000.
Reporting platform operators will need to complete due diligence procedures to identify reportable sellers and their jurisdiction of residence. For platform operators that become reporting platform operators for the first time, the due diligence procedures will be required to be completed by December 31 of the second calendar year in which the platform operator is subject to the reporting rules.
These measures would apply to calendar years beginning after 2023, which would allow for the first declaration and information sharing for calendar year 2024 to occur in early 2025.
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6. International tax reform
Budget 2022 reaffirmed the Government of Canada's intention to join the two-pillar plan for international tax reform agreed to on October 8, 2021 by the 137 members of the Organisation for Economic Co-operation and Development (OECD) and Group of 20 (G20) Inclusive Framework on Base Erosion and Profit Shifting (Inclusive Framework).
The overarching goal of Pillar One is to ensure that the largest and most profitable multinational enterprises (MNEs) pay a fair share of tax in the countries where their customers are located (market countries). Pillar Two introduces a minimum effective tax rate (ETR) of 15 per cent on the profits of large MNEs, regardless of where they are earned.
It is anticipated that MNEs with global revenues above €20 billion and a profit margin above 10 per cent will be subject to Pillar One. For such MNEs, 25 per cent of residual profits (i.e., profits in excess of 10 per cent of revenue) will be allocated to market countries using a revenue-based allocation key. As the reallocation of profits to market countries will result in cases of double taxation (referred to as Amount A), the Government of Canada is working with its international partners to establish a new multilateral tax framework where double taxation relief will be provided for Amount A by the countries where residual profit is taxed under traditional rules.
The draft legislative proposals released in December 2021 for a Digital Services Tax (DST) will serve as a back-up plan that could be imposed as of January 1, 2024, if the multilateral convention implementing the Amount A tax framework has not come into force.
The ETR of 15 per cent introduced by Pillar Two will apply to MNEs with annual revenues of €750 million or more. The ETR will apply in every jurisdiction in which such MNEs operate. Pillar Two is intended to be implemented through changes to domestic laws. To ensure a coordinated implementation, the Inclusive Network approved model rules and commentary which countries are required to follow when implementing Pillar Two.
Under Pillar Two, if an MNE's ETR for a particular jurisdiction is below 15 per cent, a "top-up tax" will be charged to the MNE to ensure the profits in this jurisdiction are tax at the 15 per cent rate. There are two core charging rules for the top-up tax: the Income Inclusion Rule (IIR) and the Undertaxed Profits Rule (UTPR).
The primary rule is the IIR, which allows the country where the parent entity of an MNE is located to impose a top-up tax on the ultimate parent with respect to income from the MNE's operations in any jurisdictions where it is taxed at less than 15 per cent. If the ultimate parent's jurisdiction has not implemented the IIR, the secondary right to charge the top-up tax lies with the jurisdiction of the highest-tier intermediate parent entity within the MNE that has adopted the IIR.
Where neither the jurisdiction of the ultimate parent or any intermediate parent of an MNE has implemented the IIR, the UTPR will apply as a "backstop" rule. In such case, jurisdictions in which the MNE operates that have implemented the UTPR would impose the top-up tax on the group entities located in their jurisdiction.
Budget 2022 proposes to implement Pillar Two and a domestic minimum top-up tax. The Government of Canada anticipates the public release of draft implementing legislation for consultation along with the IIR and domestic minimum top-up tax in 2023. The UTPR would come into effect no earlier than 2024.
Budget 2022 also launched a public consultation to allow for the implementation of Pillar Two, where interested parties are invited to send written representations by July 7, 2022 to the Department of Finance's Tax Policy Branch.
Of the two measures, Pillar Two is expected to have a more important impact on MNEs, effectively taxing in Canada the income of foreign affiliates that was subject to a less than 15 per cent income tax in its home jurisdiction.
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7. Interest coupon stripping
Interest paid or credited by a Canadian resident borrower (Canco Borrower) to a non-arm's length non-resident lender (NR Lender) is subject to a 25 per cent withholding tax pursuant to Part XIII of the Income Tax Act ( ITA), subject to a potential rate reduction by application of a tax treaty. Tax treaties will generally reduce the withholding rate to 10 or 15 per cent, while the Canada-U.S. tax treaty reduces it to nil. In an effort to avoid Part XIII withholding tax, certain taxpayers have entered into arrangements commonly referred to as interest coupon stripping arrangements. Generally, such arrangements involve an NR Lender selling its right to receive future interest payments (interest coupons) in respect of a loan made to a non-arm's length Canco Borrower to a party that is not subject to withholding tax.
An interest coupon arrangement generally exists if two conditions are met. First, the Canco Borrower pays or credits an amount to a person or partnership (interest coupon holder) as interest on a debt owed to the non-arm's length NR Lender. Second, the Part XIII tax payable with respect to the payment of this particular amount to the interest coupon holder is less than the Part XIII tax that would otherwise be payable on the payment of such particular amount to the NR Lender.
Budget 2022 seeks to address two variations of such arrangements. The first involves a NR Lender, not resident in the U.S., selling the interest coupons in respect of a loan made to a non-arm's length Canco Borrower to another person who is resident in the U.S. and eligible for benefits under the Canada-U.S. tax treaty. Such an arrangement would reduce the withholding tax from 25 per cent to nil. The second variation is similar to the first but the interest coupons are sold to a person resident in Canada.
Budget 2022 introduces an amendment to the interest withholding tax rules to ensure that the withholding tax paid under an interest coupon stripping arrangement is the same as if the arrangement was not entered into and the interest was paid to the NR Lender. In such case, the Canco Borrower will be deemed to pay an amount of interest to the NR Lender so that the Part XIII tax on the deemed interest equals the Part XIII tax otherwise avoided.
This new measure will apply to interest paid or payable that has accrued on or after April 7, 2022. However, where the debt is incurred and the arrangement is entered into before April 7, 2022, and the interest payments are made to an interest coupon holder that deals at arm's length with the NR Lender, the new measure will apply to interest accrued one year after April 7, 2022.
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8. Application of the general anti-avoidance rule to tax attributes
The Department of Finance proposed a public consultation on the general anti-avoidance rule (GAAR) in November 2020, and again referenced it in Budget 2021. However, but for a Canadian Tax Foundation symposium in July 2021, there has been little public discussion about reforming the GAAR. That said, the most obvious area for reform was well-known, namely, that the definition of "tax benefit" does not apply to accrued but unrealized tax attributes. This gap was revealed by recent case law.
In 1245989 Alberta Ltd. v R, 2018 FCA 114 (Wild), the Federal Court of Appeal considered whether subsection 89(1) of the ITA had been misused to increase paid-up capital (PUC) in order to create a result that section 84.1 of the ITA was intended to prevent. Despite the PUC increase, there was no distribution of retained earnings – merely a potential for a future tax-free distribution rather than an actual distribution. The Court of Appeal stated that just as "pre-packaging of tax losses in [the prior case of] OSFC did not result in a tax benefit, the transactions that resulted in the increased PUC . . . did not result in a tax benefit." This conclusion was rooted in the text of the definition of "tax benefit" in subsection 245(1) of the ITA, which requires that there must have been a reduction, avoidance, or deferral of tax or other amount payable, or an increase in a refund of tax or other amount under the ITA. The latter part of the definition may be regarded as ambiguous: does it mean (1) an increase in a refund of tax or [an increase in] [an]other amount, or (2) an increase in a refund of tax or [a refund of] [an]other amount? While the Crown advocated for the former interpretation (which would arguably have captured an increased but unrealized tax attribute), the Court of Appeal concluded that the phrase meant "an increase in a refund of tax or a refund of another amount." Thus, an increased tax attribute that is not realized upon is not a tax benefit and, in the absence of a tax benefit, the GAAR is inapplicable.
The conclusion in Wild was affirmed by the Tax Court in Rogers Enterprises (2015) Inc. v R, 2020 TCC 92, a case that, among other things, concerned capital dividend account increases. The Tax Court again noted the ambiguity in the tax benefit definition and held that the words meant a refund of tax or a refund of another amount under the Act, confirming that the tax benefit definition as it read at the time did not apply to an increased but unrealized tax attribute.
Budget 2022 proposes to amend the GAAR to "apply to transactions that affect tax attributes that have not yet become relevant to the computation of tax." The amendments would apply to notices of determination issued on or after the date of the Budget. The amended tax benefit definition will segregate portions of the definition into paragraphs, and capture "a reduction, increase or preservation of an amount that could at a subsequent time (i) be relevant for the purpose of computing an amount referred to [elsewhere in the definition], and (ii) result in any of the effects described [elsewhere in the definition]." Consequential amendments will be made to the notification provision in subsection 152(1.11) of the ITA and the definition of "tax consequences" within the GAAR.
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9. The substantive CCPC
Legislative response to avoidance of CCPC investment income tax rates
Budget 2022 introduces the concept of a "substantive CCPC," with the purpose of subjecting certain private corporations that are not otherwise Canadian-controlled private corporations (CCPCs) to the same taxation as CCPCs on their investment income. This is a legislative response to so-called "non-CCPC" planning that has been around for a number of years, but appears to have become more prevalent following the increase in personal and CCPC investment income tax rates announced on December 7, 2015, shortly after the 2015 Federal Election. The planning is common enough to have been the subject of an April 3, 2022 op-ed in the Globe and Mail.
More specifically, while most non-CCPCs pay a federal tax rate of 15 per cent (plus provincial rates of 8 per cent to 16 per cent, depending on the province), CCPCs benefit from a lower effective federal tax rate of 9 per cent on active business income to the extent they can claim the small business deduction, while paying approximately 38.7 per cent federal tax on investment income (i.e., passive income such as rents, interest, etc.). While most of the tax on CCPC investment income is refundable when taxable dividends are declared, the refundable tax mechanism is intended to eliminate a possible tax deferral on investment income earned through a corporation by Canadian resident individuals. In other words, the stated purpose of the increased but refundable tax imposed on CCPC investment income is based on the concept of corporate tax integration, with the intention of making individuals tax-indifferent between earning investment income personally or through a corporation.
While there are various forms, the common purpose of non-CCPC planning is to change the corporation's status from a CCPC to a corporation other than a CCPC, while retaining its Canadian residency, to obtain access to the lower rate of tax on investment income. For example, this might be achieved by forming or continuing the corporation under the laws of another country with which Canada does not have a tax treaty, usually "tax haven" type countries, while maintaining the corporation's Canadian residency status by keeping its mind and management in Canada. When used in connection with the sale of significant assets with substantial accrued gains, such planning can result in significant tax deferral if the proceeds are left in the corporation for reinvestment.
Our understanding is that the CRA had already begun to challenge non-CCPC planning using existing rules under an ongoing audit project, and the Department of Finance appears to be trying to mitigate the effect of the proposed legislative amendment on the existing CRA challenges, particularly under the GAAR, by noting that:
Although the manipulation of CCPC status can be challenged by the Government based on existing rules in the Income Tax Act, these challenges can be both time-consuming and costly. As a result, the Government is proposing a specific legislative measure.
While the Department of Finance states the new rules are intended to subject the substantive CCPCs to the same anti-deferral and integration mechanisms that CCPCs are subject to, the counter argument is that it just changes the line of where the increased investment tax rates apply. For instance, in many cases a Canadian resident individual could still co-invest up to 49.9 per cent through a private corporation with a non-resident or a public corporation and the corporation would be subject to the lower tax rate on investment income.
Under the new rules, a substantive CCPC will include: (i) a private corporation other than a CCPC that at any time in a taxation year is controlled, directly or indirectly in any manner whatever, by one or more Canadian resident individuals, and (ii) a private corporation other than a CCPC that at any time would, if each share of a corporation that is owned by a Canadian resident individual were owned by a particular individual, be controlled by that particular individual. In addition, a specific anti-avoidance rule is also proposed that would deem any private corporation (other than a CCPC) to be a substantive CCPC if it is reasonable to conclude that one of the purposes of any transaction (as defined for purposes of the GAAR in subsection 245(1) of the ITA), or series of transactions, was to cause the corporation not to qualify as a substantive CCPC. These measures would generally apply to taxation years that end on or after April 7, 2022.
Changes to FAPI rules for CCPCs and substantive CCPCs
Budget 2022 also proposes amendments to the foreign accrual property income (FAPI) regime intended to eliminate potential tax deferral advantages of CCPCs and substantive CCPCs earning investment income through foreign affiliates, by applying the same relevant tax factor to CCPCs and substantive CCPCs as to individuals, resulting in a reduced deduction for foreign taxes. Additional amendments are also proposed to address the integration of FAPI as it is repatriated to Canada and distributed by CCPCs, which includes adjustments to the general rate income pool of CCPCs and the capital dividend account of CCPCs and substantive CCPCs. Draft legislation for these FAPI related measures has not been released.
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10. Taxable capital business limit for small businesses increases from $15 million to $50 million
For Small Business Week 2021, the Prime Minister issued a statement recognizing the impact that the pandemic has had on small businesses and the importance of small businesses to the recovery of the Canadian economy. So it is not surprising that Budget 2022 contains a measure to enhance the small business deduction, a policy aimed at facilitating small business growth.
The small business deduction reduces the amount of corporate tax payable by qualifying CCPCs on qualifying active business income up to $500,000 (the business limit). Under the current small business deduction rules, the business limit is gradually reduced when:
- the combined taxable capital employed in Canada of the CCPC and its associated corporations is between $10 million and $15 million (the taxable capital limit); or
- the combined "adjusted aggregate investment income" of the CCPC and its associated corporations is between $50,000 and $150,000 (the investment income limit).
If either the combined taxable capital employed in Canada exceeds the taxable capital limit or the combined "adjusted aggregate investment income" exceeds the investment income limit, no small business deduction is available to the CCPC and its associated corporations.
Taxable capital is generally the total of a company's share capital, retained earnings, indebtedness of, and loans to, the company (including dividends declared but unpaid by the company), less the amount of loans made by the company, indebtedness of others to the company (including dividends receivable), and the company's share equity in other companies.
Budget 2022 proposes to increase the taxable capital limit to $50 million. As a result, not only are more CCPCs likely to qualify for the small business deduction, but the reduction to the business limit will be more gradual as the range over which the business limit is reduced increases to $10 million and $50 million.
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11. Department of Finance looking to close the door to surplus stripping (again)
Because of differences in the rates of tax payable on dividends (higher) and capital gains (lower), there is an incentive for taxpayers to try and extract excess cash from their operating companies in the form of the latter. This practice, known as "surplus stripping", often involves the incorporation of a new company, the sale of shares of the operating company to the new company, and taking advantage of the fact that inter-corporate dividends are generally tax-free, to flow funds from the operating company to the new company in order to pay the purchase price to the taxpayer. What would have been dividend income had the cash in the operating company been paid directly to the taxpayer becomes proceeds of disposition from the sale of the operating company shares to the new company.
The ITA has long contained anti-surplus stripping rules, which generally work by deeming such proceeds of disposition to be taxable as dividends if certain conditions are met.
In June 2021, a Private Member's bill intended to facilitate succession planning and intergenerational share transfers, received royal assent. Almost immediately, Bill C-208 appeared to create a loophole in the anti-surplus stripping rules, and the Department of Finance attempted to delay the effective date of the amendments but soon conceded that Bill C‑208 was law.
Under Bill C-208, if a taxpayer sells shares of a qualified small business corporation (QSBC) or shares of a family farm or fishing corporation to another corporation controlled by the taxpayer's adult children or grandchildren, the anti-surplus stripping rules under the ITA will not apply as long as the transferee corporation does not dispose of the transferred shares for at least 60 months. Under the provisions of Bill C-208, only voting control is relevant. This opens the door for creative tax planning, where a taxpayer could sell their shares of QSBC to a new company in which their child has voting control, recognize a capital gain on the sale, claim the lifetime capital gains exemption on the sale, and still retain factual control of the QSBC and the new company.
The Department of Finance previously announced its intention to review the language of Bill C‑208 to balance continuing to facilitate "genuine" intergenerational share transfers with protecting the integrity of the tax system. Budget 2022 indicates the consultation process is ongoing and includes a call for comments from stakeholders. Until further amendments are made, it appears the door to surplus stripping remains cracked open.
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12. Minimum tax for high earners
The alternative minimum tax (AMT) has been in place since 1986 and aims to prevent high-income earners from paying less tax than lower income earners through the use of preferential tax deductions and other tax breaks.
The AMT generally applies to high-income earners who claim capital gains deductions or use tax credits such as the investment tax credit or the federal dividend tax credit to reduce their total income tax payable. However, Budget 2022 states that there are thousands of wealthy Canadians who still pay little or no personal income tax.
As a result, Budget 2022 announces the Government of Canada's commitment to examine a new minimum tax regime with a goal of ensuring that all wealthy Canadians pay their fair share of tax. More details are expected to be released on the proposed approach in the 2022 fall economic and fiscal update.
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13. Personal income tax measures affecting home owners
Budget 2022 introduced the following five personal income tax measures, and one GST/HST measure, in an effort to make housing more affordable for both first-time buyers and existing home owners. To that end, Budget 2022 also announced the government's intention to propose future restrictions on foreign commercial enterprises and non-Canadian residents or permanent residents from acquiring non-recreational, residential property in Canada for a period of two years.
Tax-free first home savings account
Budget 2022 proposes to create the Tax-Free First Home Savings Account (FHSA), to help individuals save for their first home. Individuals over the age of 18 would be able to make tax-deductible contributions to one or more FHSAs up to a lifetime limit of $40,000, with annual contributions not to exceed $8,000 (and no carry-over provisions to subsequent years). Income earned in the FHSA and the amounts withdrawn to make a qualifying first home purchase would not be subject to tax.
In the event the balance of an individual's FHSA was not withdrawn for a qualifying home purchase within 15 years of the account opening date, the FHSA would be required to be closed. At that time, the funds in the FHSA could be transferred to the individuals RRSP or RRIF, or would otherwise be withdrawn on a taxable basis. Individuals would have the option for a tax-free transfer of their FHSA, at any time including at the 15-year deadline, to the individuals' RRSP or RRIF, regardless of the contribution room in that registered vehicle. Such transfers would not replenish the original FHSA contribution limits. Similarly, individuals would be permitted to make tax-free transfers from an RRSP to an FHSA, subject to the $8,000 and $40,000 limits, but this would not replenish an individuals RRSP contribution room.
Interestingly, the FHSA and existing Home Buyer's Plan (HBP), which allows individuals to withdraw up to $35,000 from their RRSP to purchase or build a home (subject to repayment to the RRSP), cannot be used in conjunction. Budget 2022 proposes that individuals would be able to open an FHSA in 2023.
First-time home buyer's tax credit
Budget 2022 proposes to double the First-Time Home Buyer's Tax Credit (HBTC) amount from $5,000 to $10,000, which would provide, at current rates, up to $1,500 in relief to eligible home buyers which could be split between spouses or common-law partners. The increased limit would apply to qualifying homes purchased on or after January 1, 2022.
Multigenerational home renovation tax credit
Budget 2022 proposes to introduce a new non-refundable tax credit up to a maximum of $7,500, applicable to renovations that create a secondary dwelling unit (defined as a self-contained unit with private entrance, kitchen, bathroom facilities, and sleeping area, including construction on adjacent land) for individuals 65 years of age or older, or individuals 18 years of age or older with a disability and who are eligible for the Disability Tax Credit. The secondary dwelling unit must house a family member (parent, grandparent, child, grandchild, sibling, aunt, uncle, niece or nephew, including spouses or common-law partners of family members) of the eligible claimant.
The value of the credit, which can only be claimed once per lifetime, would be 15 per cent of the lesser of eligible renovation expenses and $50,000. Eligible renovation expenses include cost of labour and professional services, building materials, fixtures, equipment rentals, and permits. The credit would be applicable to expenses from the date an application for a building permit is submitted until the qualifying renovation passes a final inspection, or legal proof of completion. The credit would be claimed in the taxation year that includes the end of the renovation period.
Home accessibility tax credit
Budget 2022 proposes to double the home accessibility tax credit annual expense limit from $10,000 to $20,000. The home accessibility tax credit is a non-refundable tax credit applicable to home renovation or alteration expenses for an individual who is eligible to claim the disability tax credit or an individual 65 years of age or older. The value of the credit is calculated by applying the lowest personal income tax rate (15 per cent in 2022) to an amount that is the lesser of eligible expenses and $20,000. The increased limit applies to expenses incurred in 2022 and subsequent taxation years.
Residential property flipping rule
Budget 2022 proposes to introduce a new deeming rule to ensure profits from purchasing residential real estate with the intention of reselling the property in a short period ("flipping") are always subject to full taxation. Profits arising from dispositions of residential property (including rental property) that was owned for less than 12 months would be deemed to be business income and not eligible for the 50 per cent capital gains inclusion rate or the principal residence exemption.
However, the new deeming rule would not apply if the disposition of property is in relation to a specific life event, including: death, household addition, separation, personal safety, disability or illness, employment change, insolvency, or involuntary disposition. Whether a life event qualifies would be a question of fact. The new flipping rule applies to residential properties sold on or after January 1, 2023. Presumably a taxpayer that owns a property for more than 12 months could still be found to be a so-called "flipper" if a court were to conclude that they were engaged in an adventure in the nature of trade or a business. In other words, the deemed "flipper" rule is likely a bright-line test for short term ownership and not a complete code for whether a person was speculating on housing.
GST/HST on assignment sales by individuals
Finally, there is a proposed amendment to have the GST/HST apply to all assignments by an individual of an agreement of purchase and sale for a new home, or a substantially renovated home. The GST/HST treatment currently varies, depending on whether the individual entered into the agreement of purchase sale for the primary purpose of resale. The GST/HST will apply to the amount paid for the assignment, but not for any amount that reimburses the assignor for the deposit amount paid to the builder, which is taxed on closing with the builder. The proposed measure will apply in respect of any assignment agreement entered into on or after one month from April 7, 2022.
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14. Financial institutions
Financial institutions are being targeted in Budget 2022 with a number of new taxes and reporting requirements.
New taxes on financial institutions
As widely anticipated, Budget 2022 proposes two measures which will impose significant additional taxes on financial institutions.
First, Budget 2022 proposes a one-time tax in the guise of the Canada Recovery Dividend (CRD). This tax will be 15 per cent of the taxable income of bank and life insurer groups in excess of $1 billion. For this purpose, a group includes a bank, life insurer, and any other financial institution that is related to the bank or life insurance company, and a financial institution will include a trust company and other deposit-taking institutions. The CRD will only apply to the taxable income for taxation years ending in 2021. The $1 billion exemption may be allocated amongst the members of the particular group. Although the tax is based on 2021 income, the tax liability will be imposed on the group for the 2022 taxation year and will be payable in equal installments over five years. Budget 2022 anticipates this measure will generate over $4 billion in additional tax revenue.
Second, Budget 2022 proposes an additional, permanent tax on the taxable income of members of these bank and life insurer groups. This tax will be 1.5 per cent of the taxable income in excess of $100 million. The $100 million exemption may be allocated amongst members of a group. This new tax will apply to taxation years that end after April 7, 2022. Budget 2022 anticipates this measure will generate over $400 million of additional tax revenue annually once fully phased in.
Budget 2022 did not include draft legislation relating to either the CRD or the new permanent tax, so more details are expected.
Insurance contracts and addressing potential tax deferral
Budget 2022 proposes measures to address the introduction on January 1, 2023 of the International Financial Reporting Standards 17 (IFRS 17), the new accounting standards for insurance contracts. IFRS 17 will change financial reporting for all Canadian insurers by the introduction of a new reserve, known as the contract service margin (CSM), generally applicable to insurance contracts with a term greater than one year. Under the CSM, a portion of the profits earned on underwritten insurance contracts would be deferred and gradually recognized as income over the estimated life of the insurance contracts. To the extent the CSM would be deductible for income tax purposes, the CSM could lead to an income tax deferral. Budget 2022 proposes to ensure that such income is generally recognized for income for tax purposes when the key economic activities occur.
The measures proposed by Budget 2022 impact insurers differently depending on the type of insurance contract. For life insurers generally, Budget 2022 proposes that 10 per cent of the CSM would be deductible for income tax purposes. In respect of segregated funds, the CSM would be fully deductible in light of the fact that the resulting income arises as the relevant economic activities occur. The non-deductible portion of the CSM would be included in the tax base for the capital tax currently imposed on large financial institutions. For mortgage and title insurers, Budget 2022 proposes that 10 per cent of the CSM would be deductible for income tax purposes. For property and casualty insurers, the current rules would continue to apply, in recognition of the fact that most such insurance contracts are short term. Budget 2022 also generally proposes a five-year transition period for most of these measures, which are intended to apply as of January 1, 2023.
Budget 2022 did not include draft legislation relating to these measures, thus additional details will be forthcoming.
Hedging and short selling by financial institutions
Budget 2022 proposes to introduce measures intended to prevent financial institution groups from benefitting from a deduction in respect of inter-corporate dividends while also benefitting from a deduction under the rules relating to securities lending arrangements. Generally, where one corporation holds shares in another and receives a dividend on those shares, the dividend is not included in the recipient corporation's income, as the corporate level of tax has already been imposed on the earnings of the dividend paying corporation. In addition, under the securities lending arrangement rules, registered securities dealers are permitted to claim a deduction of 2/3 of a dividend compensation payment made to the lender of the securities. Budget 2022 expresses the concern that financial institution groups may be obtaining these benefits in some situations without the economic exposure typically associated with an investment in corporate shares. Accordingly, Budget 2022 proposes rules to deny the so-called double deduction. These rules will apply to dividends received or compensation payments made after April 7, 2022 unless the relevant arrangements were in place beforehand, in which case the rules would apply after September, 2022.
Reporting requirements for RRSPs and RRIFs
Budget 2022 proposes to increase the level of reporting that financial institutions must provide to the CRA in respect of RRSP and RRIF accounts. Currently, financial institutions must report contributions to, and withdrawals from, such accounts. In contrast, the reporting in respect of TFSAs includes the fair market value of property held in a TFSA at the end of each year. Budget 2022 proposes to change the level of reporting in respect of RRSPs and RRIFs to mirror that required for TFSAs.
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15. Relaxation of defined benefit pension plans borrowing restrictions
Budget 2022 proposes to provide more borrowing flexibility for defined benefit registered pension plans (DB-RPP). The Regulations currently restrict a registered pension plan from borrowing money, except in limited circumstances. First, borrowing is allowed for the acquisition of income-producing real property where the borrowed amount does not exceed the cost of the real property and only the real property is used as security for the loan. Second, borrowing is permitted where the term of the loan does not exceed 90 days and the property of the plan is not pledged as security for the loan.
Budget 2022 provides flexibility to defined benefit registered pension plans (other than individual pension plans) with respect to their ability to borrow money by maintaining the borrowing rule for real property acquisitions and replacing the 90-day term limit with a new limit on the total amount of additional borrowed money, equal to the lesser of 20 per cent of the value of the plan's assets and the amount, if any, by which 125 per cent of the plan's actuarial liabilities exceeds the value of the plan's assets, both net of unpaid borrowed amounts. The new borrowing limit would be redetermined on the first day of each fiscal year of the plan. The new borrowing limit is proposed to be effective for amounts borrowed by defined benefit registered pension plans on or after April 7, 2022.
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16. Registered charities
Changes to the annual disbursement quota
To ensure that a charity uses the funds in its possession in a timely manner, registered charities are required to distribute a minimum amount every year in furtherance of their charitable activities and purposes. The amount to be disbursed, called the disbursement quota, is calculated by reference to the registered charity's property not used directly in its charitable activities or administration. Currently the disbursement quota is set at 3.5 per cent of that amount. Budget 2022 proposes to increase this to 5 per cent for the portion of property not used by a charity in its charitable activities or administration that exceeds $1,000,000. Connected with this change, Budget 2022 proposes that administration and management expenditures will not qualify as expenditures towards satisfaction of the disbursement quota.
Budget 2022 also proposes to remove the accumulation of property rules as these rules became unnecessary when the disbursement quota rules were simplified some years ago. This change will not affect approvals for property accumulations that are submitted prior to January 1, 2023, notwithstanding the timing of the coming into force of this provision.
The increase to the disbursement quota will be reviewed after five years. The CRA will also be looking to improve the collection of information from charities during this period, both with respect to charities meeting their disbursement quotas and information related to investments and donor-advised funds held by charities.
Relief where disbursement quota not met
Where a registered charity fails or is unable to meet its disbursement quota, it can seek relief by way of application to the CRA. If relief is granted, the charity is deemed to have made a charitable expenditure in that year. Budget 2022 proposes to amend this rule so that if relief is granted, the charity's obligation in the relevant year will be reduced rather than deeming the charity to have made an expenditure. Where the CRA grants an application for relief, Budget 2022 further provides that the CRA will be permitted to publicly disclose information relating to that decision.
The foregoing changes are to come into effect for fiscal periods beginning on or after January 1, 2023.
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17. Excise duties
There were several proposed measures to address the taxation of cannabis under the Excise Act, 2001 (Canada).
The most significant proposal would allow the CRA to approve certain contract-for-service arrangements between licensed cannabis producers. The CRA may permit two licensed producers to transfer between themselves excise duty stamps, as well as packaged but unstamped products. In addition, such approved licensed producers could stamp and enter cannabis products into the retail market that have been packaged by the other producer, as well as pay excise duty on cannabis products that were stamped by the other producer. This proposal would come into force on royal assent of the enabling legislation.
It is also proposed that cannabis licensees that have remitted less $1 million in excise duties in the prior four fiscal quarters be entitled to remit excise duties on a quarterly rather than a monthly basis. The proposed amendment is to apply starting from the quarter that began on April 1, 2022.
It is further proposed that holders of a Research Licence or Cannabis Drug License be exempted from the requirement to be excise duty licensed. The proposed amendment would come into force on royal assent.
As originally announced in Budget 2021, there will be new excise duty framework for vaping products. In Budget 2022, it was announced that the new framework will be legislated under the Excise Act, 2001 (Canada), which already taxes tobacco, wine, spirits and cannabis. The federal excise duty rate will be $1.00 per 2 ml (or equivalent 1 g of solid) of vaping substance, up to 10 ml, and $1.00 per 10 ml thereafter. These duty rates will double in provinces that elect to participate in a coordinated vaping taxation regime. The new regime will require an excise duty stamp, presumably similar to that applied to tobacco and cannabis.
The proposed federal excise duty framework for vaping products is proposed to come into force on October 1, 2022. Retailers will be permitted to continue to sell their unstamped vapour products held in inventory on coming into force until January 1, 2023.
Wine and beer
The Excise Act, 2001 (Canada) is to be amended to remove the exemption from federal excise duty for wine that is produced in Canada wholly from agricultural or plant product grown in Canada, i.e., 100 per cent Canadian wine. The proposed amendment is to come into force on June 30, 2022.
The Excise Act (Canada) is to be amended to remove the low levels of federal excise duty on beer with alcohol by volume of less than 0.5 per cent. This exemption from excise duty for beer will be consistent with a long-standing exemption for similarly low-alcohol wine and spirits. The proposed amendment is to come into force on July 1, 2022.
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This analysis was prepared by the following members of the Gowling WLG Tax Group:
The Gowling WLG Tax Group delivers expert and innovative advice to our clients. Our team of tax professionals have leading practices in income tax, international tax planning, transfer pricing, Indigenous tax, executive compensation, indirect tax and customs, and tax dispute resolution.