Income From Property: Canadian Tax Principles

Canadian Tax Principles
Chapter 7
Income from Property
Copyright 2013, Clarence Byrd Inc.
Income From Property
The General Concept

Little Or No Effort Required
Some Different Rules
Includes Interest, Rent, Dividends, And Royalties
Does Not Include Capital Gains
Interest As A Deduction
Concepts
All Deductible
None Deductible
Canadian Approach
What Is Interest?
Must Accrue On A Continuous Basis
Must Be Calculated On A Principal Sum
Must Be Compensation For The Use Of That Principal Sum
Interest As A Deduction
Non-Deductible Amounts
On RRSP or TFSA Loans
On Personal Property Loans
On Late Income Tax Payments
Direct Or Indirect Use

The Direct Use Must Be Considered
The Queen vs. Singleton
Direct Use To Invest Capital In Partnership
Indirect Use to Finance Home
Economic Reality Cannot Override Direct Use
Exceptions To Direct Use

Filling The Hole
New Debt Replaces Other Forms Of Capital
Exceptions To Direct Use

Interest-Free Loans
Loans To Subsidiaries To Produce Income
Loans To Employees
Linking To Current Use
The Current Use Of The Borrowed Money

Establishes Deductibility
Disappearing Source Rules
An investment financed with debt is sold for proceeds that are less
than the debt
Insufficient proceeds to pay off all of debt
ITA 20.1 deems the remaining debt to be producing income and

interest is therefore deductible
10
Investments In Common Shares
Dividend income is often less than interest on borrowings
IT-533 CRA will consider most interest on share

borrowings to be deductible
11
Discount and Premium on Debt
Economics
Discount is an addition to interest cost (pay back more than
what you received)
Premium is a reduction in interest cost (pay back less than
what you received)
12
Discount Issuer
Deductible interest based on coupon (stated) rate
Excess of amounts paid to retire bonds over proceeds received

from sale is a fully deductible Business Loss at maturity, if:
Bonds Issued For Not Less Than 97% Of Maturity Value
Effective Yield Not More Than 4/3 Of Stated Rate
13
Premium - Issuer
Deliberate creation of a premium

Interest paid will be reduced to a reasonable amount over
the life of the debt
Money lenders
Premium taken into income immediately
Other taxpayers
Premium is a non-taxable receipt
14
Discount And Premium

Example: Bonds with a maturity value of $1,000,000 are issued at a
price of $980,000. Interest at 10 percent of maturity value is paid
annually and bonds mature in 20 years.
Interest Expense
Bonds Payable Discount
Cash
$101,000
Cash
Bond Investment
Revenue
$100,000
1,000
$ 1,000
100,000
$101,000
Tax Expense And Revenue

15
At Maturity
Investor: The extra $20,000 received is a capital gain (taxable amount
equals $10,000).
Issuer: The extra $20,000 paid is a deduction.
ITA 20(1)(f) - Fully deductible if:
- Issue price not less than 97% of face value, and
- Effective yield does not exceed 4/3 of stated yield.
Otherwise: An allowable capital loss (1/2 deductible)
16
Interest As An Inclusion
Corporations
ITA 12(3) Requires Full Accrual
Generally The Same As GAAP
17
Interest As An Inclusion
Individuals
ITA 12(1)(c) Allows Use Of Cash Basis, Receivable Basis, Or
Full Accrual
Accrual Rules - ITA 12(4)

Interest must be accrued on each anniversary date of debt
18
Accrual Rules Example
Example: Five year, $100,000 bond is issued on January 1,

2011. Pays annual interest of 10 percent only at maturity.
No cash flow until maturity
Would have to record interest on each January 1, regardless
of when bond purchased.
19
Prescribed Debt Obligations
ITR 7000(1)(a) - Zero Coupon Bonds

Use Effective Rate
ITR 7000(1)(b) - Stripped Bonds

Use Effective Rate
ITR 7000(1)(c) - Rate Increases Over Time

Use Effective Rate Based On Maximum
ITR 7000(1)(d) - Contingent Rate

Maximum Payable For The Year
20
Example
Example: Purchase debt obligation for $1,000. At maturity after
five years it pays $1,762 (effective yield = 12 Percent).
Year 1: [(12%)($1,000)] = $120

Year 2: [(12%)($1,120)] = $134
Year 3: [(12%)($1,254)] = $150
Year 4: [(12%)($1,404)] = $169
Year 5: [(12%)($1,573)] = $189 + $1,573 = $1,762
21
Payments Based On
Production Or Use
Rents
Royalties
Can Be Earned Income For RRSP Purposes Only If Writer,
Composer, Inventor, etc.
23
Rental Income
General Rules
Rents Included On An Accrual Basis
Deductions
Interest
Property Taxes
Maintenance
Management Fees
CCA (Restricted)
24
Rental Income Example

An individual acquires a rental property at a cost of $120,000
(ignore land cost). It is rented for $1,200 per month and has a
$90,000, 9 percent mortgage. Condo fees are $150 per month
and property taxes are $3,000 per year.
Rents
Taxes
Interest
Condo Fees
Net Before CCA
CCA [(4%)($120,000)(1/2)]
Net Rental Income
$14,400
($3,000)
( 8,100)
( 1,800) ( 12,900)
$ 1,500
( 2,400)
Nil
25
Special Rules
Separate Class For Each Rental Property With A Cost Greater
Than $50,000
CCA Cannot Be Used To Increase Or Create A Rental Loss
26
Cash Dividends - Integration
I get the same

after tax amount by
either route!!!
Individual With
Income Source
Corporation
27
Gross Up and Credit Procedures
Non-Eligible Dividends
25 percent gross up
Federal credit equals 2/3 of gross up
Same as 13-1/3 percent of taxable dividends
Same as 16-2/3 percent of dividends received
Provincial credits = 5% to 40% of gross up
28
Gross Up and Credit Procedures
Eligible Dividends
2011
Gross up = 41 percent of dividends received
Federal credit = 13/23 of gross up
2012 and subsequent
Gross up = 38 percent of dividends received
Federal credit = 6/11 of gross up
Provincial credits = 23% to 44% of gross up
29
Gross Up Tax Credit Procedures

Non-Eligible Dividends
Corporation Earnings
$10,000
Taxes At 20 Percent
( 2,000)
Available For Dividends
$ 8,000
Dividends Paid
Gross Up (25%)
$ 8,000
2,000
Taxable Dividends
$10,000
Tax At 45 Percent (29% + 16%)
$ 4,500
Dividend Tax Credit [(2/3 + 1/3)($2,000)]
( 2,000)
Total Taxes Payable
$ 2,500
Cash Retained ($8,000 - $2,500)
$ 5,500
Direct Receipt ($10,000)(1 - .45)
$ 5,500
30
Eligible Dividends Defined
Amounts paid to Canadian residents by:

Public corporations resident in Canada that are subject to
general rates
CCPCs out of active business income taxed at general rates
CCPCs out of eligible dividends received
31
Gross Up And Tax Credit Procedures

Eligible Dividends
Corporation Earnings
$10,000
Taxes At 27.54 Percent
( 2,754)
Available For Dividends
$ 7,246
Dividends Paid
Gross Up (38%)
$ 7,246
2,754
Taxable Dividends
$10,000
Tax At 45 Percent (29% + 16%)
$ 4,500
Dividend Tax Credit [(6/11 + 5/11)($2,754)]
( 2,754)
Total Taxes Payable
$ 1,746
Cash Retained ($7,246 - $1,746)
$ 5,500
Direct Receipt ($10,000)(1 - .45)
$ 5,500
32
Investment Returns
For an individual in the maximum bracket of 43%, the tax

rate would be:
Interest = 43.0%
Capital Gains = 21.5%
Non-eligible dividends = 28.8%
Eligible dividends = 27.2%
33
Income Trusts
How do they work?

Distribute 100% of free cash flows
No tax at trust level
Distributions retain character and include amounts that are a
return of capital
34
Income Trusts
Change in 2011 Specified Investment Flow-Through Trusts

There will be tax on distributions
Distributions will be eligible dividends with gross up and credit
Not a big deal for most resident individuals in maximum
bracket
35
Income Trusts
Adjusted Cost Base

Starts with cost
Amounts reinvested are added
Return of capital is deducted
36
Mutual Fund Dividends
Mutual fund distributions retain character

Capital gains
Interest
Dividends eligible and
non-eligible
37
Mutual Fund Dividends
Mutual Funds Distribute Earnings

Subject to tax
Even if reinvested
Reinvestment amount added to ACB
38
Stock Dividends
Treated exactly like cash dividends for tax purposes
Treatment discourages use by public companies
Amount of dividend added to adjusted cost base of shares
39
Capital Dividends
Paid from non-taxable portion of capital gains.

Received Tax Free
Does Not Reduce ACB
Will be covered in Chapter 14
40
Foreign Source Income
Non-Business Income
Include 100 percent in net income
Will receive a credit against tax payable for amounts withheld
Credit maximum is 15 percent for individuals
Excess a deduction
No carry over
41
Foreign Source Income
Business Income
Include 100 Percent In Net Income
Will Receive Credit Against Canadian Tax Payable For
Foreign Taxes Withheld (No Limit)
42
Foreign Source Income (Example)
Earn $1,000, receive $850

$1,000 in income
Taxes @ 40% equal $400

Credit of $150 leaves $250
Total $150 + $250 = $400 (same as if received in Canada)
43
44

Income From Property: Canadian Tax Principles

Transféré par

Informations du document

Titre original

Copyright

Formats disponibles

Partager ce document

Partager ou intégrer le document

Options de partage

Avez-vous trouvé ce document utile ?

Ce contenu est-il inapproprié ?

Droits d'auteur :

Formats disponibles

Income From Property: Canadian Tax Principles

Transféré par

Droits d'auteur :

Formats disponibles

Canadian Tax Principles