Real Estate - Capital Gain

Selling real estate? The CRA is watching

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When you sell property, the transaction must be correctly defined and reported for tax purposes. Failure to do so may result in unwanted audits, potential back taxes, and related interest and penalties. Such negative outcomes occur regularly.

Last spring, the Canada Revenue Agency (CRA) announced updated results of its audits in the real estate sector, which resulted in over $1 billion in additional gross taxes since 2015. During the same period, CRA auditors reviewed over 41,700 files in Ontario and British Columbia (see tables below), resulting in over $100 million in assessed penalties.

Looking specifically at last year, the CRA assessed $171 million more in taxes related to real estate than in the prior year—a 65% increase—and penalties more than doubled to over $57 million.

Clearly, the CRA is concerned about non-compliance in the real estate sector and has taken steps to curb what it deems to be inappropriate behaviour.

Tax on the sale of real estate

From a tax perspective, much of the discussion about real estate transactions focuses on two things. When appreciated property is sold:

1. Is the transaction taxable?
2. If yes, is the net profit taxed as business income or a capital gain?

The answers depend on circumstances. How a sale should be reported for tax purposes depends on a number of factors (see “Factors the CRA considers in an audit” below).

Since 2016, all property sales must be reported to the CRA, including that of a principal residence. The tax characteristics of the sale normally depend on whether the property was bought primarily to:

-live in as a principal residence,
-build or renovate, and sell (often referred to as a “flip”) or
-create rental income.

In the first scenario, you buy a property to live in as their principal residence (or for a spouse, common-law partner or child to live in). When the property is sold, although the sale must be reported to the CRA on your tax return for the year of sale, any resulting capital gain is often fully sheltered from tax because the conditions for claiming the principal residence exemption are satisfied, and the property was designated as such for each year of ownership.

Next, consider the case where you buy a property (or buy vacant land and builds a property), takes possession and does some renovating. After the home is improved, you sell the property, and the gains (or losses) form part of your income. You may have lived in the property while making improvements; however, this doesn’t entitle you to the principal residence exemption if the intention was always to buy, improve and sell for profit. In this case, profits realized on the sale would normally be considered fully taxable business income.

Lastly, consider the case where you buy a property primarily to earn rental income, which you pay tax on as it’s earned. When the property is sold, the profit would normally be taxed as a capital gain, subject to a 50% capital gains inclusion rate. If a property is used primarily as a principal residence but a portion is used to earn rental income, the property can be fully sheltered from tax using the principal residence exemption, provided that:

-the income-producing use is ancillary to the main use as a principal residence,
-there is no structural change to the property, and
-no capital cost allowance is claimed on the property.

Factors the CRA considers in an audit

During an audit, the CRA considers a number of factors to determine whether a property sale was reported correctly. These include:

-the type of property sold,
-how long the property was owned by the seller,
-the seller’s history of selling similar properties,
-whether the seller did any work on the property,
-why the property was sold, and
-the seller’s original intention in buying the property.

Understanding these factors can help you appropriately define the nature of your property sales.

CRA’s ongoing strategy for tax non-compliance

Through experience and the use of third-party data, the CRA has aimed to gain a better understanding of non-compliant behaviour, leading to more audits and compliance actions. To support these efforts, the 2019 federal budget proposed providing the CRA with $50 million over five years and $10 million ongoing to create a Real Estate Task Force focused initially on the Toronto and Vancouver areas. The task force will focus on ensuring that:

-taxpayers report all sales of their principal residences on their tax returns;
-any capital gain derived from a real estate sale, where the principal residence tax exemption doesn’t apply, is identified as taxable;
-money made on real estate flipping is reported as income;
-commissions earned are reported as taxable income; and
-for Goods and Services Tax/Harmonized Sales Tax purposes, builders of new residential properties remit the appropriate amount of tax to the CRA.

According to the Department of Finance, expected revenue from this initiative is projected to be $68 million over five years, starting in 2019-20.

Correcting a previous return

Where you have made a mistake or left out details about income on a tax return, you can request an adjustment using CRA Form T1-ADJ. Alternatively, for more complex scenarios and where significant penalties may be assessed, the Voluntary Disclosures Program may be appropriate.

By: Wilmot George, July 18, 2019, Advisor’s Edge

Visit the CRA’s website for more on the agency’s plan to address non-compliance in the real estate sector.

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CRA takes aim at the wealthy

CRA takes aim at the wealthy

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CRA takes aim at the wealthy

The agency’s HNW audit program is comprehensive and costly for clients, tax practitioners say.

As governments around the world continue to target aggressive tax avoidance and tax evasion, pressure on the wealthy to provide transparency about their finances increases. Canada is no exception: tax practitioners here say that the Canada Revenue Agency’s (CRA) audit program of high net-worth (HNW) individuals requires Canadians to provide extensive details about their tax and financial affairs.

“[The CRA is auditing] partnerships, joint ventures, any foreign affiliate – it’s like a laundry list of information that [the agency] is asking for,” says Deborah Graystone, private client service practice leader in Canada and leader of BDO Americas Private Client Service Practice with BDO Canada LLP in Vancouver.

Says Peter Weissman, partner with Cadesky and Associates LLP in Toronto: “It is a very intrusive and expensive process.”

The CRA’s Related Party Audit Program (RPAP) seeks to address non-compliance among wealthy individuals and families who control them, as well as these taxpayers’ associated entities. “The CRA approach is to audit the entire group vs auditing a single taxpayer,” the CRA stated in an email to Investment Executive in response to questions about the RPAP.

In recent years, the CRA has broadened the reach of the program (which, until April, was known as the Related Party Initiative), including removal of the requirement that an HNW individual have 25 or more related-party entities to fall under the program’s ambit.

The CRA states that there are 600 individual audits currently in progress under the RPAP, and that during the period of April 2014 to September 2019, more than 900 audits had been completed. Furthermore, the CRA has identified more than 1,100 HNW groups qualifying for audit under the RPAP.

Tax practitioners interviewed for this article say that in their experience, several CRA auditors – not just one – will be assigned to an individual RPAP file. After the CRA received additional resources as part of the 2016 federal budget, the agency states, it added 17 RPAP audit teams, for a total of more than 30 teams.

“If the CRA, historically, has always just looked at one auditor at one entity at a time, that would be very difficult to assess compliance overall,” says Curtis Davis, consultant in tax, retirement and estate planning services, retail markets, with Manulife Investment Management in Toronto. “Hence the more team-based or holistic approach that [the CRA] is taking.”

The CRA also is increasingly using data, leveraging internal as well as third-party sources, to identify and analyze RPAP groups, the agency states: “The CRA’s use of advanced data analysis techniques to mine the business intelligence [the CRA] has at its disposal has allowed the CRA to more precisely target non-compliance in a timely manner.”

The roots of the RPAP go back to the mid-aughts, when the CRA launched a pilot project to audit HNW individuals. However, the program became official and picked up momentum only after the global financial crisis of 2008-09 and the publication of a report by the OECD about the risk that tax avoidance and tax evasion posed to government revenue around the globe.

Over the past decade, the scrutiny on HNW individuals in Canada has increased, particularly after events such as the release of the so-called Panama Papers, which contained details of more than 200,000 offshore accounts.

The federal government has signed several agreements and treaties with other countries to exchange financial information about each other’s tax residents. In March 2018, the CRA changed the rules governing the voluntary disclosure program, making the agency much less forgiving if it deems a taxpayer’s non-compliance to be intentional.

“In virtually all of these cases, the CRA can make that claim [that the non-compliance was intentional],” says Robin MacKnight, partner with Wilson Vukelich LLP in Markham, Ont. “Whether it’s true or not, they can certainly make it.”

HNW clients who are the subject of an RPAP audit may well feel overwhelmed, but should seek out tax advice rather than try to deal with the CRA directly.

“My preference is for the CRA to come and interview the [tax] advisor first,” Graystone says. If the client does choose to meet with the CRA, the advisor should be present, she suggests.

Weissman agrees: “When someone is nervous, they talk a lot. They may have nothing to hide, but if they say something in the wrong way, the CRA may start chasing [down a path].”

Both Graystone and Weissman stress the importance of co-operating with the CRA. They recommend asking the agency to provide a list of questions, in writing, related to the audit. These steps may narrow the scope of the audit, reducing costs and hassle for your client.

“See what they’re really looking for, see if we can start with the bigger entities first, and then, if [the CRA] has other questions, we can expand [the client’s responses],” Graystone says.

Depending on circumstances, seeking legal advice for your client’s protection may be necessary, Weissman says: “When I do think something has not been done properly, I will sometimes get a lawyer involved to get solicitor/client privilege.”

In fact, engaging the services of a lawyer can help to make sure that your clients aren’t sending information to the CRA inappropriately, Graystone says: “More complex [financial] transactions are often subject to solicitor/client privilege, and then we definitely want to work with legal counsel to navigate that information request.”

Graystone says that dealing with an RPAP audit can take years, with information and questions going back and forth between the taxpayer and the CRA.

Weissman says that while advice and legal costs can vary depending on the structure of a client’s financial affairs, an RPAP audit could “easily cost between $75,000 and $100,000 before you get through the process, and that is before you need to appeal or go to court.”

However, with governments around the world trying to address the issue of income inequality – during Canada’s recent federal election campaign, several parties’ platforms addressed affordability – sympathy for the plight of HNW Canadians may be hard to find, Weissman says: “There isn’t any, and I get that.”

Weissman does point out to clients – facetiously, he says – that the cost of advisory fees in regard to a CRA audit are tax-deductible.

By: Rudy Mezzetta | Source : Investment Executive | November 1, 2019

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Minority Government

The New Minority Government

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Minority GovernmentWith the Liberal government re-elected, albeit with a minority, it’s time to consider how your taxes could be impacted by election promises.

Keep in mind that, because the Liberals are now managing a minority government, the implementation of potential tax changes is less certain.

Regarding corporations, consider the Liberals’ broad-based proposed changes. These include a promise to crack down on tax loopholes that allow companies to deduct debt from earnings to reduce tax.

We’ll have to wait and see what those changes actually are.

Also note the promise to cut corporate taxes by 50% for clean-tech companies, specifically those that develop and manufacture zero-emissions technology.

For personal taxes, several changes are in the works. What will impact the most Canadians is changes to the basic personal amount — the amount of income that any individual can earn that is not subject to tax.

That amount is currently $12,069 in 2019 and rises annually with inflation. The Liberals have promised to increase it by 15% over four years. According to this timeline, by 2023, it will reach $15,000.

The increase isn’t universal. It will not apply for those individuals who are described as being Canada’s wealthiest 1%. The amount will be reduced for those earning more than $147,667 — those in the second-highest federal tax bracket — and completely eliminated for those in the top bracket, which is $210,371 in 2019. Those in the top bracket will continue to receive the current basic personal amount, which will continue to be adjusted for inflation.

The Liberals also promised to boost Old Age Security (OAS) by 10% for seniors over age 75 who earn less than $77,580, and to raise the Canada Pension Plan (CPP) survivor’s benefits by 25%.

The change to OAS could mean an increase of $729 a year, according to the Liberals’ platform. It is anticipated that this will start in July 2020. With CPP, a spouse or common-law partner currently receives about 60% of what their deceased spouse or common-law partner received in benefits. The promised increase could mean an additional $2,080 per year.

Parents have been promised that their maternity and parental benefits, received through employment insurance, will be tax-exempt at source, starting in 2020. The result would be about $1,800 more annually for someone receiving EI benefits who earns about $45,000 annually. Adoptive parents could also see a change in their EI benefits, with the Liberals proposing a 15-week leave — the same length as for maternity leave.

The tax-free Canada Child Benefit is also slated for an increase for those with kids under one year old. The promise is to boost the benefit by 15%, resulting in an increase of up to $1,000. Starting in July 2020, the base benefit should be $7,750 for these children.

The Liberals proposed to immediately double the tax-free Child Disability Benefit. The benefit applies to families caring for a child with a disability who is under age 18 and eligible for the disability tax credit. The Liberal platform said the increase could result in more than $2,800, to $5,664 annually.

Other tax highlights include a new vacancy tax that would “limit the housing speculation that can drive up home prices,” the Liberal platform said. The residential tax would apply to vacant properties owned by non-resident non-Canadians.

Finally, the Liberals might move forward with two tax credits originally announced in the federal budget. The Canada Training Credit was proposed to start in 2020, to help cover up to half of eligible tuition and fees associated with training. The credit could accumulate a balance up to a lifetime limit of $5,000.

The second is a non-refundable 15% credit for eligible digital news subscriptions. The credit is for a limited time, for amounts paid after 2019 and before 2025, and is a maximum tax credit of $75 annually, to start in 2020.