Archived - Annex 9
Tax Measures: Supplementary Information and Notice of Ways and Means Motion
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Table of Contents
Notices of Ways and Means Motions.
Notice of Ways and Means Motion to Amend the Income Tax Act.
Notice of Ways and Means Motion to Amend the Excise Tax Act.
Notice of Ways and Means Motion to Amend the Customs Tariff, the Excise Tax Act and the Excise Act, 2001.
Tax Measures: Supplementary Information
This annex provides detailed information on each of the tax measures proposed in this budget. Table A9.1 lists those measures that are proposed to be legislated pursuant to the 2003 budget and provides estimates of their budgetary impact. This annex also provides a listing of measures that have been introduced since 1994 that support economic and social objectives, enhance tax fairness and improve the tax structure.
Finally, this annex provides Notices of Ways and Means Motions to amend the Income Tax Act, the Excise Tax Act, the Excise Act, 2001 as well as the Customs Tariff.
Federal Revenue Impact of Proposed Tax Measures
(millions of dollars)
|Income Tax Measures|
|National Child Benefit supplement||–||200||300|
|Child Disability Benefit||–||40||50|
|RRSP/RRIF rollovers for an infirm child||–||10||10|
|Eligibility criteria for the disability tax credit||–||–||–|
|Tax measures for persons with disabilities1||–||25||80|
|Medical expense tax credit||–||20||20|
|Retirement savings measures||25||105||165|
|Capital gains rollover for small business investors||–||10||10|
|Qualified limited partnerships||–||–||–|
|Automobile benefit and expense provisions||–||20||20|
|Small business deduction||–||60||110|
|Federal capital tax||–||60||395|
|Proposal to improve resource taxation2||10||55||100|
|Mineral exploration tax credit||–||–||25|
|Capital cost allowance class 43.1||–||5||5|
|Tax shelter definition||–||–||–|
|Film or video production services tax credit||–||25||25|
|Excise Tax Measures|
|Excise tax exemption for bio-diesel and e-diesel fuel||–||–||–|
|Fuel excise tax refund claims||–||–||–|
|Public sector body rebates||–||–||–|
|Health care rebate3||–||30||55|
|Harmonization of administrative provisions||–||–||–|
|– Small, non-existent or prevents revenue loss.
1 Amount set aside to improve assistance for persons with disabilities, drawing on the evaluation of the disability tax credit and advice of technical advisory committee (see Chapter 4).
2 Proposed changes to the tax structure for the resource sector to be set out in a technical paper to be released by the Department of Finance shortly following the budget (see Chapter 5).
3 Measure to be elaborated following consultations (see Chapter 3).
National Child Benefit Supplement
The Canada Child Tax Benefit (CCTB) is the main federal instrument for the provision of financial assistance to families with children. The CCTB has two components: the CCTB base benefit, which is targeted to low- and middle-income families, and the National Child Benefit (NCB) supplement, which provides additional assistance to low-income families.
The budget proposes to increase the annual NCB supplement through increases of $150 per child in July 2003, $185 in July 2005 and $185 in July 2006. With these increases and annual indexation, the maximum CCTB benefit for the first child will reach $2,632 in July 2003, and a projected $3,243 in July 2007. As a result of these enhancements, investment in the NCB supplement will be increased by $965 million per year for the 2007 CCTB program year, bringing total CCTB benefits to over $10 billion annually.
Components of the Canada Child Tax Benefit
|July 2002||July 2003||July 2004||July 2005||July 2006||July 2007|
|Basic amount per child||1,151||1,169||1,196||1,221||1,246||1,271|
|Additional benefit for third child and subsequent children||80||82||83||85||87||89|
|Additional benefit for children under 7 years of age||228||232||237||242||247||252|
|Third child and subsequent children||1,009||1,1762||1,203||1,4133||1,6264||1,660|
|Total CCTB benefit —
Child 7 years of age and over
|Third child and subsequent children||2,240||2,4272||2,482||2,7193||2,9594||3,020|
|Total CCTB benefit —
Child under 7 years
|Third child and subsequent children||2,468||2,6592||2,719||2,9613||3,2064||3,272|
|1 Amounts for July 2004–July 2007 are projections based on an average annual indexation factor of about 2 per cent.
2 Including $150 increase to the NCB supplement in July 2003.
3 Including $185 increase to the NCB supplement in July 2005 and indexation adjustments.
4 Including $185 increase to the NCB supplement in July 2006 and indexation adjustments.
To target the increase in the NCB supplement to lower-income families, the income threshold at which the NCB supplement begins to be phased out will be adjusted, keeping the reduction rate for the first child constant at its July 2003 level.
Corresponding increases in benefits will be proposed for the Children’s Special Allowance, which provides benefits parallel to the CCTB to provincial agencies for children in the care of the province.
Going forward, building on the NCB initiative, the federal government and the provinces will need to ensure that low- and modest-income families with children have enhanced incentives to work and earn income. This will include examining the reduction or "claw-back" rates for the CCTB as well as other elements of the tax and benefit structure that may affect incentives to work and earn income for low- and modest-income families.
Changes to the Income Thresholds of the Canada Child Tax Benefit1
|July 2002||July 2003||July 2004||July 2005||July 2006||July 2007|
|1 Projections for July 2004–July 2007 are based on an average annual indexation factor of about 2 per cent.|
In recognition of the special needs of low- and modest-income families with a disabled child, the budget proposes to introduce a $1,600 Child Disability Benefit (CDB). The CDB will be a supplement of the CCTB, and will be paid for children who meet the eligibility criteria for the disability tax credit (DTC).
The full $1,600 CDB will be provided for each eligible child to families having a net income below the amount at which the National Child Benefit (NCB) supplement is fully phased out (that is, $33,487 in July 2003 for families having three or fewer children). Beyond that income level, benefits will be reduced by 12.2 per cent for one disabled child, 22.7 per cent for two disabled children, and 32.6 per cent for three or more disabled children. Accordingly, the CDB will be reduced to zero as net family income reaches $46,602 for a family caring for one disabled child, $47,584 for a family caring for two disabled children, and $48,211 for a family caring for three disabled children. The CDB amount and income thresholds will be indexed to inflation.
The CDB will be effective in July 2003 but will become payable and be included with the CCTB payment starting in March 2004. Accordingly, in March 2004 eligible families will receive a retroactive payment for the July 2003 to March 2004 period.
This measure is estimated to benefit 40,000 families and to cost $50 million per year.
Families will continue to be able to claim the DTC and the DTC supplement for disabled children.
RRSP/RRIF Rollovers for an Infirm Child
When the annuitant under a registered retirement savings plan (RRSP) or registered retirement income fund (RRIF) dies, the existing income tax rules generally provide that the value of the RRSP or RRIF is included in computing the deceased’s income for the year of death. However, preferential tax treatment is provided on RRSP or RRIF distributions made after death to the deceased’s surviving spouse or common-law partner, or to children or grandchildren who were financially dependent on the deceased annuitant. In the case of a child or grandchild who was financially dependent on the deceased annuitant, the RRSP or RRIF proceeds are included in the income of the child rather than in the deceased’s income. If the child or grandchild was also dependent on the deceased annuitant by reason of physical or mental infirmity, the RRSP or RRIF proceeds may be transferred without tax to the RRSP of the child or may be used to purchase an immediate life annuity.
Currently, a child or grandchild is considered to be financially dependent if the child’s income for the year preceding the year of death was below the basic personal amount for that year. A child with income above this amount may also be considered to be financially dependent, but only if the dependency can be demonstrated based on the particular facts of the situation. In recognition of the need to provide ongoing care for dependent infirm children and to provide supporting parents and grandparents with greater certainty in their estate planning, the budget proposes to increase the level of income used to determine the financial dependence of an infirm child or grandchild from $7,634 to $13,814 (indexed after 2003). The measure will apply for the 2003 and subsequent taxation years.
Eligibility Criteria for the Disability Tax Credit
The disability tax credit (DTC) provides tax relief to individuals who, due to the effects of a severe and prolonged impairment, require extensive therapy to sustain a vital function or are blind or otherwise markedly restricted in their ability to perform a basic activity of daily living. The basic activities of daily living for determining eligibility for the DTC are: perceiving, thinking and remembering; feeding and dressing oneself; speaking; hearing; eliminating bodily waste; and walking.
In March 2002, the Federal Court of Appeal rendered a decision that has been interpreted as expanding eligibility for the DTC to individuals who, because of food allergies or other similar conditions, must spend an inordinate amount of time to shop for and prepare suitable food. Such an expansion of eligibility goes far beyond the intent of the DTC and could increase the fiscal cost significantly.
Draft amendments to clarify the DTC eligibility criteria were released on August 30, 2002. On November 29, 2002, the Minister of Finance announced that the Department of Finance would consult further to develop revised proposals to deal with the issues arising from the court decision. The budget proposes the following three measures relating to the DTC.
The first measure ensures that individuals markedly restricted in either feeding or dressing themselves will continue to qualify for the DTC. This measure was originally put forward in the proposed changes released last August, and follows from a recommendation of the Standing Committee on Human Resources Development and the Status of Persons with Disabilities.
The second measure specifies that the activity of "feeding oneself" does not include any of the activities of identifying, finding, shopping for or otherwise procuring food, or the activity of preparing food to the extent that the time associated with that activity would not have been necessary in the absence of a dietary restriction or regime. Accordingly, individuals who are markedly restricted in their ability to prepare a meal for reasons other than a dietary restriction (such as severe arthritis) will continue to be eligible for the DTC.
The third measure specifies that the activity of "dressing oneself" does not include the activities of finding, shopping for and otherwise procuring clothes.
These measures contribute to ensuring that the DTC continues to be provided to those most in need. These amendments are proposed to apply to the 2003 and subsequent taxation years.
As further follow-up to the consultations announced in the November 29, 2002, press release, the budget proposes, as set out below, that the list of expenses eligible for the medical expense tax credit be expanded to include the incremental cost associated with the purchase of gluten-free food products for individuals with celiac disease who require a gluten-free diet.
Eligible Expenses for the Medical Expense Tax Credit
The medical expense tax credit (METC) recognizes the effect of above-average medical expenses on an individual’s ability to pay tax. For 2003, the credit equals 16 per cent of qualifying medical expenses in excess of the lesser of $1,755 or 3 per cent of net income. The list of eligible medical expenses is regularly reviewed in light of new technologies and other disability-specific or medically related developments.
This budget proposes to expand the list of eligible medical expenses to include:
- the cost of real-time captioning, paid to persons engaged in the business of providing such services, on behalf of individuals with a speech or hearing impairment;
- the cost of note-taking services used by individuals with mental or physical impairments and paid to persons engaged in the business of providing such services, and the cost of voice recognition software used by individuals with a physical impairment—the need for these services or the software must be certified by a medical practitioner; and
- the incremental cost associated with the purchase of gluten-free food products for individuals with celiac disease who require a gluten-free diet.
These additions will apply to the 2003 and subsequent taxation years.
Retirement Savings Measures
The budget proposes several measures relating to registered pension plans (RPPs), registered retirement savings plans (RRSPs) and deferred profit sharing plans (DPSPs). The proposed measures will support savings and help better meet the retirement savings needs of Canadians.
RPP and RRSP Limits
In 1996, the contribution limits for money purchase RPPs and RRSPs were frozen at $13,500, after having been reduced from their 1995 levels of $15,500 and $14,500 respectively. The $1,722 maximum pension limit for defined benefit RPPs has been effectively frozen since 1976.
Setting appropriate limits on tax-assisted retirement savings in RPPs, RRSPs and DPSPs is an important means of encouraging savings, assisting Canadians to plan and fund their retirement, and allowing employers in Canada to provide competitive compensation packages to attract and retain highly skilled personnel. Accordingly, the budget proposes the following increases in the limits:
- The money purchase RPP limit will be increased to $15,500 for 2003, $16,500 for 2004 and $18,000 for 2005. Corresponding increases will be made to the maximum pension limit of $1,722 per year of service for defined benefit RPPs, thus raising the limit to $1,833 for 2004 and $2,000 for 2005. The DPSP limit will remain at one-half of the money purchase RPP limit.
- The RRSP limit will be increased to $14,500 for 2003, $15,500 for 2004, $16,500 for 2005 and $18,000 for 2006.
- The RPP and DPSP limits will be indexed to average wage growth starting in 2006, and the RRSP limit will be indexed starting in 2007.
The existing and proposed limits are shown in the table below:
Existing and Proposed RPP/RRSP Limits
|Money purchase RPPs|
|Annual contribution limit|
|Defined benefit RPPs|
|Maximum pension benefit (per year of service)|
|Annual contribution limit|
The rules for calculating past service pension adjustments under defined benefit RPPs will be modified to provide an exclusion for benefit increases arising directly as a result of increases to the maximum pension limit.
RRIF-Type Payouts From Money Purchase RPPs
Members of money purchase RPPs generally have two options on retirement. They can purchase a life annuity with their money purchase account or they can transfer the account to an RRSP or a registered retirement income fund (RRIF).
To provide increased flexibility on retirement, the budget proposes to allow money purchase RPPs to pay pension benefits in the form of the same income stream currently permitted under a RRIF. This measure will allow money purchase plan members to choose to benefit from the flexibility a RRIF offers without having to assume greater responsibility for investment decisions or to pay the higher investment fees typically charged on individual plans.
A member will be required to withdraw from their money purchase account a minimum amount each year beginning no later than the year in which they attain age 70. The minimum amount will be determined in accordance with the existing rules that apply to RRIFs.
This measure will also permit the transfer of funds back into a pension plan by former members who had previously transferred their money purchase account to an RRSP or RRIF, subject to the new RRIF-type payout requirement.
The proposed changes will apply after 2003.
Maximum Pension Accrual Rate for Fire Fighters
On May 2, 2002, the House of Commons passed a motion recommending that the Government increase the pension accrual rate for fire fighters. The maximum pension accrual rate in paragraph 8503(3)(g) of the Income Tax Regulations is currently set at 2 per cent of earnings. The budget proposes to increase this rate to 2.33 per cent for fire fighters who are members of defined benefit RPPs that are integrated with the Canada or Quebec Pension Plan. This will allow the pension benefits for fire fighters to be enhanced within an integrated plan structure.
The measure will not increase the tax assistance limit on pension benefits available to fire fighters — the current maximum pension limit of 2 per cent per year of service of best average earnings will continue to apply to benefits provided to all defined benefit RPP members, including fire fighters. The measure will apply for the 2003 and subsequent taxation years.
Capital Gains Rollover for Small Business Investors
A number of recent tax initiatives, including successive reductions in capital gains inclusion rates, the introduction of a tax deferral or "rollover" on the sale of small business corporation shares, and improvements in the regime for venture capital investment by pension funds and non-resident investors, respond to submissions made by the venture capital industry. The budget proposes two further changes relating to the small business rollover and to the rules applying to "qualified limited partnerships" that are designed to support venture capital investment in Canada.
The small business capital gains rollover measure was introduced in 2000 to provide small businesses, especially start-up companies, greater access to risk capital.
Currently, an individual is allowed to defer the taxation of capital gains realized on the disposition of common shares issued to the individual by an eligible small business corporation. This deferral is available with respect to an individual’s investment of up to $2 million in such shares, and only to the extent that the proceeds are reinvested in common shares of other eligible small business corporations. There are no limits on the total amount of the gain eligible for deferral, provided that the amount reinvested in shares of a particular corporation or related group does not exceed $2 million. To qualify for a deferral, the reinvestment must take place no later than 120 days after the original shares were disposed of and not more than 60 days after the end of the year of disposition.
To encourage greater access to risk capital, the capital gains rollover measure will be expanded by:
- eliminating the $2-million limit on the amount of the original investment on which the deferral is allowed;
- eliminating the $2-million limit on the amount that can be reinvested in shares of eligible small business corporations; and
- allowing a reinvestment to be made at any time in the year of disposition or within 120 days after the end of that year.
These changes will apply to dispositions that occur after February 18, 2003.
Limited partnerships have a number of potential advantages as an investment vehicle: they facilitate the pooling of investment funds; they limit investors’ liability; and, for income tax purposes, they allow any income or loss of the partnership to be flowed through to investors. For these and other reasons, limited partnerships are often chosen for venture capital investments.
However, an interest in a limited partnership is generally treated as "foreign property" for the purposes of the income tax rules that limit the amount of foreign property that a deferred income plan may hold. This can reduce the attractiveness of limited partnership investments for Canadian pension funds, which represent a significant potential source of venture capital.
The characterization of limited partnership investments as foreign property does not apply to a qualified limited partnership (QLP). Accordingly, a QLP can be an effective vehicle for pension funds wishing to make venture capital investments.
The Income Tax Regulations set out several conditions that must be met for qualification as a QLP. One of these conditions was relaxed in the 2001 budget, following industry consultations. Since then, other technical aspects of the QLP rules have been identified as restricting the ability of a typical Canadian venture capital fund to structure itself as a QLP. In response to these concerns, the budget proposes the following changes to the QLP rules:
- The requirement that QLP units be identical will be relaxed to accommodate differences in units that do not impact on the share or nature of the partnership’s income or loss allocated among limited partners. With this change, matters such as variations in voting rights, the right to participate in investment advisory committees, and co-investment rights will not be taken into account in determining whether the units of a QLP are identical.
- The manner in which the foreign property limit is applied to QLPs will be changed to more closely reflect the manner in which the limit is applied to mutual fund trusts. This means that a QLP unit will generally not be treated as foreign property during a calendar year, provided the QLP satisfied the foreign property limit throughout the previous calendar year. This change will prevent a QLP from permanently losing its status as a QLP solely because its foreign property holdings had exceeded the 30% limit at some point in the past.
- The QLP rules will be modified to provide that a partnership does not lose its QLP status solely because of a temporary fluctuation in the general partner’s share of the partnership’s income as a result of the limited partners having priority in the ordering of distributions.
- The investment limitations on a QLP will be relaxed to allow a QLP to invest, as a limited partner, in units of other QLPs. However, for the purpose of applying the foreign property limit to the investing QLP, the units of the other QLP will be treated as foreign property of the investing QLP in the same proportion as the foreign property held by the other QLP.
These measures will apply for the 2003 and subsequent taxation years.
Automobile Benefit and Expense Provisions
There are a number of income tax provisions that restrict the deductibility of automobile expenses, generally in order to recognize the existence of an element of personal consumption benefit. These restrictions include limits on the capital cost of an automobile that can be depreciated for income tax purposes as well as limits on the deduction of automobile lease payments, interest paid on automobile loans, and tax-exempt allowances paid to employees. There are also specific provisions to determine the amount of a taxable benefit for the personal use of an employer-provided automobile.
These provisions generally apply to automobiles, which are defined to include any motor vehicle designed to carry individuals on highways and streets and seating a driver and up to 8 passengers. However, certain vehicles are specifically excluded from the definition of automobiles for this purpose, including ambulances, taxis, buses and, in certain circumstances, vans or pick-up trucks.
There are instances where the current limits on the deduction of automobile expenses may be too restrictive or the taxable benefit may be excessive. As a result, the budget proposes three changes to improve the fairness of the application of the automobile provisions.
Standby Charge When Personal Use is Limited or Restricted
The automobile standby charge reflects the benefit of having an employer-provided vehicle available for personal use. The regular standby charge is set at 2 per cent per month of the original cost of the vehicle (or two-thirds of the lease payment).
This charge can be reduced to the extent that personal driving is less than 12,000 kilometres per year, but only if all or substantially all — generally 90 per cent — of the driving is for business purposes. However, the amount of the taxable benefit may be excessive in certain circumstances. For example, although employers may often restrict the non-business use of employer-provided vehicles to commuting to and from work, the full standby charge would still apply where commuting exceeds the 12,000-kilometre annual threshold or represents more than 10 per cent of total driving.
To improve the application of the standby charge, the budget proposes to allow the reduced standby charge to apply to the extent annual personal driving does not exceed 20,000 kilometres, and the automobile is used primarily — that is, more than 50 per cent — for business purposes. For example, where a vehicle is driven 25,000 kilometres a year for business and 15,000 kilometres a year for commuting and other personal driving, the standby charge will be 75 per cent (15,000 divided by 20,000) of the regular standby charge.
This measure will apply to the 2003 and subsequent taxation years.
Extended Cab Pick-up Trucks
Pick-up trucks and vans having a seating capacity for not more than a driver and two passengers are excluded from the definition of automobile (and thereby the restrictions on expense deductibility) if they are used primarily for the transportation of goods or equipment in the course of gaining or producing income. Such vehicles having a seating capacity for more than a driver and two passengers are also excluded from the automobile definition, but only if all or substantially all of the driving is for the transportation of goods, equipment or passengers in the course of gaining or producing income.
"Extended cab" pick-ups, and similar trucks, having seating for more than the driver and 2 passengers are often used at remote work locations to transport workers and to evacuate workers in an emergency. In many instances, however, the use of such vehicles does not substantially relate to the transportation of goods, equipment or passengers in the course of gaining or producing income, with the result that the vehicle is subject to the restrictions on the deduction of expenses that apply to automobiles. This result may not be appropriate where there is a need for a larger passenger-carrying capability such as for the transportation of work crews.
Therefore, the budget proposes to introduce a new exclusion from the automobile definition for extended cab pick-up trucks used primarily for the transportation of goods, equipment or passengers in the course of earning or producing income at a work site at least 30 kilometres from any community having a population of at least 40,000. Excluding such trucks used in these circumstances will permit the full deduction of reasonable allowances paid to employees for the use of employees’ vehicles and permit the full deduction of capital cost allowance, interest and lease costs related to these vehicles. This proposal will also exclude these vehicles from the provisions requiring the inclusion of a standby charge and operating expense benefit in the employee’s income.
This amended definition will apply for taxation years that begin after 2002.
Emergency Fire and Police Vehicles
Many fire and police emergency-response vehicles are considered to be automobiles and are therefore subject to the standby charge provisions. However, in many instances, fire and police officers are often required to have immediate access to their vehicles in order to respond as quickly as possible to an emergency. In addition, it is often the case that use of the vehicle for personal driving, other than for commuting to and from work and when on call, is prohibited.
The budget proposes to introduce a new exclusion from the automobile definition for clearly marked police and fire emergency-response vehicles. This change will exclude these vehicles from the provisions requiring the inclusion of a standby charge and operating expense benefit in the employee’s income.
This measure will apply to the 2003 and subsequent taxation years.
Small Business Deduction
The Government recognizes the important role that small businesses play in the Canadian economy. The Government also recognizes that many small businesses have difficulty in obtaining adequate financing. As a result, the federal income tax system provides considerable tax support to small businesses, most significantly through a reduced income tax rate provided under the "small business deduction".
The small business deduction reduces the basic federal corporate income tax rate to 12 per cent for the first $200,000 of active business income of a Canadian-controlled private corporation (CCPC). This provision helps small CCPCs retain more of their earnings for reinvestment and expansion. In addition, CCPCs have, since 2001, benefited from a 21-per-cent corporate tax rate on active business income between $200,000 and $300,000, a rate that will be fully phased in for larger corporations in 2004.
In order to provide additional support to small business, the budget proposes that the annual amount of active business income eligible for the reduced 12-per-cent tax rate — generally referred to as the "small business limit" — be increased by $100,000, to $300,000, as follows:
for 2003, to $225,000,
for 2004, to $250,000,
for 2005, to $275,000, and
after 2005, to $300,000.
Once fully implemented in 2006, this measure will reduce the federal corporate income tax payable by a CCPC on its active business income by up to $9,000 annually.
These small business limits will be pro-rated where the taxation year of the corporation does not coincide with the calendar year. In addition, there will continue to be a requirement to allocate these limits among associated corporations, and the limits will continue to be reduced on a straight-line basis for CCPCs having between $10 million and $15 million of taxable capital employed in Canada.
For taxation years that begin before 2004, eligible CCPCs will continue to have advance access to the reduced 21-per-cent general corporate income tax rate on active business income exceeding the small business limit, as determined above, up to $300,000.
CCPCs are eligible to earn investment tax credits at an enhanced rate of 35 per cent on up to $2 million of scientific research and experimental development expenditures annually. This $2-million expenditure limit is phased out as taxable income in the previous year increases from $200,000 to $400,000 and taxable capital of the previous year increases from $10 million to $15 million. For these smaller CCPCs, all tax credits earned at the higher 35-per-cent rate on current expenditures are fully refundable, and tax credits earned at the higher rate on capital expenditures are 40-per-cent refundable.
As a consequence of the proposal to increase the small business limit, the budget also proposes that the $2-million expenditure limit be phased out where taxable income in the previous year is between $300,000 and $500,000. This change will apply where the previous taxation year ends after 2002. The phase-out based upon taxable capital will not be changed.
CCPCs that claim a small business deduction are permitted to pay any balance of corporate income tax owing at the end of the third month after the end of their taxation year, one month later than other corporations, provided their taxable income in the previous year is less than the small business limit for that year. As a consequence of increasing the small business limit, some CCPCs with taxable income above $200,000, but below the proposed new limits, will now have one more month in which to pay any balance of tax owing.
Federal Capital Tax
Unlike income taxes, which are paid when a corporation has taxable income, capital taxes must be paid even where a corporation has not been profitable. Capital taxes have been identified as a significant impediment to investment in Canada.
The federal capital tax was introduced in 1989 as Part I.3 of the Income Tax Act. This tax is levied annually at a rate of 0.225 per cent of a corporation’s taxable capital employed in Canada in excess of a $10-million capital deduction. A corporation’s taxable capital is generally described as the total of its shareholders’ equity, surpluses and reserves, as well as loans and advances to the corporation, less certain types of investments in other corporations. A corporation’s federal income surtax (1.12 per cent of taxable income) is deductible against the corporation’s capital tax liability.
In order to promote investment, the budget proposes to eliminate this federal capital tax over five years, starting January 1, 2004. This proposal will be implemented by increasing the threshold for application of the tax from $10 million to $50 million of capital, for taxation years ending after 2003, and by reducing the rate of tax over the period 2004 to 2008.
Federal capital tax liability will be eliminated for almost 5,000 medium-size corporations in 2004. The federal capital tax will be fully eliminated in 2008.
The following table summarizes the proposed changes to the federal capital tax rates and threshold for application:
|Capital deduction threshold
Rates will be pro-rated for taxation years that do not coincide with the calendar year. The increased $50-million capital deduction will apply to all taxation years ending after 2003, and will not be pro-rated. However, this deduction will continue to be allocated among corporations within a related group.
Currently, federal corporate surtax in excess of a corporation’s federal capital tax liability for a taxation year may be applied against the corporation’s capital tax liability for the three preceding and seven subsequent taxation years. After 2003, such excess corporate surtax (referred to as "unused surtax credits") will continue to be calculated as if the federal capital tax rate had remained at 0.225%, and the capital deduction had remained at $10 million. This will limit the ability of corporations to carry back and carry forward unused surtax credits that arise solely because of the phased elimination of the federal capital tax.
The federal capital tax rules are relevant in determining the application of a number of other provisions that impose special requirements or limitations on larger corporations. To ensure that those provisions continue to operate appropriately, the reduction under subsection 125(5.1) of the Act of the "business limit" of larger Canadian-controlled private corporations, and the definition "large corporation" in subsection 225.1(8), will continue to apply as if there were no change to the current federal capital tax rate and capital deduction. The federal capital tax levied on large financial institutions under Part VI of the Income Tax Act will continue to apply with no change.
Proposal to Improve Resource Taxation
Building on the Five-Year Tax Reduction Plan that lowered the general federal corporate income tax rate from 28 per cent in 2000 to 21 per cent in 2004, the Government proposes to improve the taxation of resource income by phasing in, over a period of five years:
- a reduction of the federal statutory corporate income tax rate on income from resource activities from 28 per cent to 21 per cent;
- a deduction for actual provincial and other Crown royalties and mining taxes paid and the elimination of the existing 25-per-cent resource allowance; and
- a new tax credit for qualifying mineral exploration expenditures.
Transitional arrangements will be proposed in particular relating to the Alberta Royalty Tax Credit.
The proposal is discussed in Chapter 5 of the Budget Plan. A technical paper to be released by the Department of Finance shortly following the budget will set out the proposed changes to the resource tax structure in greater detail.
Mineral Exploration Tax Credit
In October 2000, the Government introduced a tax credit for mineral exploration as a temporary measure to moderate the impact of the global downturn in exploration activity on mining communities across Canada. This credit applies at the rate of 15 per cent of specified surface "grass roots" mineral exploration expenses incurred in Canada by a corporation before 2004 and renounced to an individual pursuant to a flow-through share agreement.
A number of key mineral-producing provinces have also introduced similar tax credits for mineral exploration. The operation of both the federal and provincial mineral exploration tax credits has been reviewed by an inter-governmental working group on the mineral industry, which recommended that the credit be extended by at least one year and that the credit apply to eligible expenses which are deemed to have been incurred in the final year of the credit program under the existing "look-back" rule. The look-back rule allows a corporation which incurs expenses in a given calendar year to renounce those expenses to a flow-through share investor effective as of the last day of the preceding year.
The budget proposes to extend the scheduled expiry date for the mineral exploration tax credit from December 31, 2003 to December 31, 2004, and that the credit apply to eligible expenses incurred by a corporation in 2005 that are deemed to have been incurred by a flow-through share investor on December 31, 2004, under the "look-back" rule.
Capital Cost Allowance Class 43.1
(Renewable and Alternative Energy)
Under the capital cost allowance (CCA) regime in the income tax system, Class 43.1 provides tax incentives in defined circumstances to encourage a more efficient use of fossil fuels and the use of renewable and alternative energy sources. Eligible assets qualify for an accelerated CCA rate of 30 per cent. Since the introduction of Class 43.1 in the 1994 budget, the Government has expanded eligibility for this class.
The 2001 budget announced consultations with industry to determine whether additional improvements were required for Class 43.1. As a result of the consultations and submissions received, this budget proposes to further broaden eligibility for Class 43.1. These changes will apply to property acquired after February 18, 2003.
Fuel cells use hydrogen to generate electricity, or electricity and heat. This budget proposes that certain fixed-location fuel cells and ancillary fuel reformation and electrolysis equipment will now be eligible for Class 43.1 treatment. In order to qualify:
- the fuel cells must have a peak capacity of not less than 3 kilowatts of electrical output;
- the fuel cells must be part of a system that includes fuel reformation equipment or electrolysis equipment;
- where the fuel cells use hydrogen generated from ancillary fuel reformation equipment that uses fossil fuel, the fuel cell system will be required to satisfy the existing 6000-BTU-per-Kwh heat rate calculation; and
- where the fuel cells of a taxpayer use hydrogen generated by ancillary electrolysis equipment, the electrolysis equipment must use solar energy, wind energy conversion or hydroelectric energy equipment of the taxpayer.
This change will help make fuel cells more cost-competitive with both conventional power sources and other new technologies already in Class 43.1.
This budget also proposes changes to provide incentives for the use of bio-oil. Bio-oil is created through a thermo-chemical conversion process that uses biomass that is wood waste or other plant residues. Equipment of a taxpayer that is used in a system to convert biomass into bio-oil will now be eligible for Class 43.1 if this bio-oil is used by the taxpayer (or a lessee) primarily to generate electricity or electricity and heat. Bio-oil is considered to be a neutral energy source with respect to greenhouse gases. This change will provide other environmental benefits and further encourage the efficient use of forestry and agricultural residues.
The budget also proposes changes to extend eligibility for Class 43.1 to certain equipment used primarily to generate heat energy for use in a taxpayer’s greenhouse operation. Qualifying equipment will include active solar heating equipment and equipment used to generate heat energy from the consumption of wood waste, municipal waste, landfill gas or digester gas. This measure will help promote the use of renewable and alternative energy in the Canadian greenhouse industry.
Tax Shelter Definition
Generally, a tax shelter is any property in respect of which it is represented that a potential purchaser will be able to claim, within four years, deductions from income or taxable income which equal or exceed the net cost of the property to the purchaser (that is, net of certain prescribed benefits such as limited-recourse debt).
Promoters of tax shelter properties are not permitted to sell a tax shelter without first obtaining an identification number from the Canada Customs and Revenue Agency ("CCRA"). This identification number does not constitute confirmation by the CCRA of entitlement to any tax benefits that may have been described to potential purchasers; rather, the CCRA uses the number for administrative purposes such as identifying tax shelters for audit.
If an identification number is not obtained in advance, no person may claim any deduction in respect of the tax shelter until the number is obtained.
While the existing definition of "tax shelter" in the Income Tax Act applies to arrangements promoted as providing deductions in computing income or taxable income, it may not currently apply to those that are promoted as providing only the deduction of tax credits. The budget proposes to eliminate this technical distinction so that promoters will be required to register a property as a tax shelter if representations are made that a potential purchaser will be able to claim, within four years, any combination of deductions in computing income or taxable income and federal tax credits which in total equal or exceed the purchaser’s net cost of the property. The definition of tax shelter will also be amended to clarify its application to property acquired under an arrangement in respect of which it is represented that a donation or contribution of the property would generate tax credits or deductions (such as charitable donations tax credits or deductions) equal to or exceeding the net cost to the donor of the property.
In order to avoid a double counting of tax credits in the formula used to determine if a property or an arrangement is a tax shelter, it is proposed that the definition of "prescribed benefits" in paragraph 231(6)(b) of the Income Tax Regulations be amended to exclude any federal tax credit already taken into account in determining whether tax credits and deductions exceed net cost. Provincial tax credits would continue to be considered prescribed benefits.
Further, the budget proposes to treat as a tax shelter any arrangement that involves a transfer of property in respect of which it is represented that a donation or contribution of the property would generate tax credits or deductions, if it may reasonably be considered that a person will incur limited-recourse debt in connection with the arrangement. If the transfer otherwise qualifies for a tax credit or deduction, the amount of the donation or contribution will be reduced for the purposes of calculating the amount of the credit or deduction to the extent of the associated limited-recourse debt. A repayment of the limited-recourse debt will be treated as a donation or contribution in the year it is repaid.
These amendments will generally apply in respect of property acquired, and gifts, contributions and representations made, after February 18, 2003.
Film or Video Production Services Tax Credit
In 1997, the government announced a new program in support of film and video production in Canada. The Film or Video Production Services Tax Credit provides a refundable tax credit equal to 11 per cent of qualified Canadian labour expenditures. Eligible claimants are corporations that carry on business in Canada and that either own an "accredited production" or have contracted directly with a non-resident owner of the production to provide production services.
The budget proposes to increase the existing 11-per-cent credit rate to 16 per cent of qualified Canadian labour expenditures, applicable to expenditures incurred after February 18, 2003.
Canadian film or video productions benefit from a refundable tax credit of 25 per cent of labour costs under the Canadian Film or Video Production Tax Credit (CFVPTC). In keeping with plans announced in Budget 2000, the Government has been consulting with the Canadian film industry to develop criteria for a streamlined mechanism for delivering the CFVPTC. These consultations will continue with a view to ensuring that the structure and operation of the CFVPTC are appropriate to achieve intended support for Canadian film and video productions.
Income Taxation — Other Matters
Tax Measures for Persons With Disabilities
The Government will be conducting an evaluation of the disability tax credit (DTC) as data from the 2001 Participation and Activity Limitations Survey becomes available. The objective of the evaluation will be to determine whether the DTC is achieving its policy purpose.
In addition, this budget announces the establishment of a technical advisory committee on tax measures for persons with disabilities, to advise the Ministers of Finance and National Revenue over a mandate of 18 months.
As described more fully in Chapter 4, this budget sets aside $25 million in 2003–04 and $80 million per year starting in 2004–05 to improve assistance for persons with disabilities, drawing on the evaluation of the DTC and the advice of the technical advisory committee.
Tax Pre-Paid Savings Plans
This budget contains proposals to increase registered pension plan and registered retirement savings plan limits to support saving by Canadians. It is important that the tax system continue to provide and improve upon mechanisms to support saving. The Government has received numerous representations from individuals, researchers and businesses that Canada’s tax system should be more conducive to saving. In particular, some of these have proposed the creation of tax pre-paid savings plans (TPSPs).
TPSPs are savings vehicles that, like RRSPs, increase the after-tax return to saving compared to saving in unregistered plans. TPSPs, however, are structured differently than RRSPs. In a TPSP, no deduction is provided on contributions (in this sense, the income tax on contributions is "pre-paid") but the investment income in the plan and withdrawals are not subject to income tax. A number of other countries provide for availability to taxpayers of a combination of RRSP-type and TPSP-type vehicles that improve the tax treatment of savings.
There are a number of important issues that would have to be considered in examining any proposal to introduce TPSPs, for example: their effect on savings behaviour, impact on government revenues, and whether such plans could be effectively administered.
The Government intends to review and consult with respect to these issues in order to assess whether TPSPs could be a useful and appropriate mechanism to provide additional savings opportunities for Canadians.
Deductibility of Interest and Other Expenses
Recent court decisions have raised uncertainties as to how taxpayers are to treat expenses, in particular interest, in computing income from a business or property for purposes of the Income Tax Act. Most notably, these decisions could lead to inappropriate tax results where a taxpayer derives a tax loss by deducting interest expenses, even if under any objective standard there is no reasonable expectation that the taxpayer would earn any income (as opposed to capital gains), or where the presence or the prospect of revenue (as opposed to income net of expenses) is enough to conclude that an expenditure was incurred "for the purpose of earning income".
Neither of these results is consistent with appropriate tax policy, nor would they have been generally expected under prior law and practice. Therefore legislative amendments to the Income Tax Act will be considered in order to provide continuity in this important area of the law. Before finalizing any proposals, however, the Department of Finance will release them for public consultation, with a general goal of ensuring that they restore continuity with the expected consequences before these recent court decisions.
Cross-Border Share-For-Share Exchanges
Under the Income Tax Act, certain share-for-share exchanges can be undertaken on a tax-deferred basis where the corporations involved are all resident in Canada or are all non-residents. These rules do not apply, however, to a Canadian resident shareholder who exchanges shares of a domestic corporation for shares of a foreign corporation. While there may be other indirect means of accomplishing such an exchange on a tax-deferred basis, the resulting transactions can be complex and costly.
In the October 2000 Economic Statement and Budget Update, the Government undertook to consult with interested parties on a tax deferral provision that specifically address tax-deferred cross-border share-for-share exchanges. At the same time, the Government noted that a basic requirement for such a mechanism is that it protect Canada’s tax base.
A draft of legislative proposals, designed to balance these objectives, will be released in the near future for public review and comment.