When a taxpayer carries on a commercial activity it inevitably incurs the additional expense of GST/HST payable on its supplies. However, because the GST/HST is a consumption tax, in most circumstances only the end user or consumer is ultimately charged. In order to ensure this, the Excise Tax Act (“ETA”), which levies GST/HST, contains provisions that allow businesses to have their GST/HST expenses credited or refunded. These credits and refunds are referred to as “Input Tax Credits” (“ITCs”) and serve to ensure that only end-users are responsible for paying the GST/HST in Canada.
For a whole myriad of reasons, both tax related and non-tax related, businesses in Canada choose to arrange their operations and ownership structures in many different ways. One of the most common corporate organizations suggested by experienced Canadian tax lawyers for private Canadian businesses is for the shareholders to own their shares in an operating company through a holding company. There are various business and tax reasons for this method of structuring such as to protect the business should the operating company run into civil liabilities, lawsuits and government fines. More advanced structures also sometimes include trusts or partnerships.
However, the use of these types of entities created a problem with respect to GST/HST expenses due to the fact that because holding companies and the like incur expenses, they usually cannot be argued to be engaged in a commercial activity as any commercial activity takes place primarily or solely through the subsidiary operating corporation. The rules of the ETA were written originally to require that any registrant attempting to claim ITCs would have to be engaged in a commercial activity to do so, creating obvious issues for businesses that include holding companies, trusts or partnerships.
In order to alleviate this problem, the ETA contains rules that allow a holding company to claim ITCs on property or services it acquires if it can be reasonably considered that the property or services are related to the shares or indebtedness of another corporation related to the holding corporation. These rules also contain a number of conditions precedent that must be met including a requirement that all or substantially all of the property of the other corporation is for consumption use or supply in the course of a commercial activity. If the test is met, a holding company is then deemed to have acquired the property or services in the course of a commercial activity and thus can claim ITCs on the outlays.
In 2018 the Department of Finance released draft legislation related to the GST/HST holding company rules in order to replace the previously simple qualification tests that had been interpreted liberally by the Tax Court of Canada. In essence, the new amendments codified the rules by listing specific activities and situations in which a holding company would be allowed to claim ITCs on its expenses; if the holding corporation incurs costs which are related to an unlisted activity or circumstance, it will not be eligible to claim ITCs.
The new rules allow a holding company to claim ITCs only if they have acquired property or services for at least one of the following purposes:
Additionally, once a holding corporation meets one of these tests, it must also must be related to the operating company in order to claim ITCs. In this case “related” is a term defined under the ETA and is subject to strict rules.
The 2018 amendments, while narrowing the scope for holding corporations also created a problem for corporate structures that include partnerships or trusts. The new rules implicitly excluded trusts and partnerships from eligibility by relying on the “related” test which makes it difficult for a corporation to demonstrate sufficient control over the operating entity to be considered “related”.
Thus, in May 2019 the Department of Finance released further amendments to the ITC regime that was meant to address this problem. The new proposed rules would allow partnerships and trusts at the parent level to claim ITCs on property and services incurred on behalf of a subsidiary corporation if they meet the same test enumerated above. This means that when a trust or partnership owns sufficient shares of an operating corporation it can claim ITCs, but does not solve the reverse problem. To date neither the CRA or the Department of Finance have addressed this uncertainty.
The only other significant change introduced by the Department of Finance in the 2019 amendments was a slight expansion of eligibility for holding corporations to qualify to claim ITCs. Previously, under the 2018 rules, holding companies could only claim ITCs if they owned no other assets besides shares or debt of an operating corporation which otherwise met the eligibility requirements and the GST/HST payble was incurred in relation to that specific holding corporation. Now, so long as the holding company’s assets are primarily used in a commercial activity, they can claim ITCs for expenses related to a subsidiary. This change has done nothing to address the partnership and trust issue and means that business owners need to be especially careful in the planning of their structures if they wish to continue to claim ITCs on commercial transactions undertaken by parent corporations.
The introduction of the new rules means that businesses need to be especially careful and to plan wisely with respect to their corporate structuring in order to be able to continue to be eligible to claim ITCs on expenses incurred by all members of their corporate group.
Our Canadian tax lawyers have the experience and expertise to advise corporate clients with respect to the eligibility to claim ITCs; we can review current structures and advise what changes are necessary to stay onside the rules, or for new businesses we can create a structure that meets your business goals while remaining onside for GST/HST purposes. Being caught off-guard by a CRA tax audit could lead to denied ITCs, tax reassessment and possible tax penalties if your corporate structure does not meet the threshold.
Nathaniel completed his Juris Doctor degree at Osgoode Hall Law School and is our senior associate. He articled with us in 2014 and was called to the bar in 2015. He successfully completed all of the requirements of Osgoode’s Taxation Law Curricular Stream
Kevin earned his Juris Doctor from Osgoode Hall Law School and became an articling student in 2017. He has been with us as a tax lawyer since his call to the bar in 2018.
Ian Thomas joined our Toronto tax law firm as an articling student (student at law) in July 2016 and stayed with us upon becoming a Canadian tax lawyer in June 2017. Ian earned his Juris Doctor from Osgoode Hall Law School and graduated in 2016.
Ildi has joined the law firm of Rotfleisch & Samulovitch PC in June, 2000 and brings over 25 years of legal secretarial experience to the firm. She started as a Legal Secretary and after obtaining Certificates from The Institute of Law Clerks of Ontario
Jason earned his undergraduate degree at Wilfrid Laurier University with a History and Classics Double Major with an English Minor and joined our team as a paralegal in 2018.
Denise is our first responder who cheerfully answers the phones and generally interfaces with clients. She has been with us since 2016.
Paul Zhang was a summer student with us in 2018 and joins us as an articling student in 2019.
Jamin Chen joined our tax law firm as an articling student in September 2016 after earning his Juris Doctor from Allard Hall at the University of British Columbia and continued to practice tax law with us after his call to the bar in 2017.