Foreign Entity Classification

The CRA will no longer issue technical interpretations on foreign entity classification (CRA technical dated August 04, 2011, 2011-0415141E5) because whether the foreign entity is a trust, corporation or partnership is a “question of fact”. Is this CRA-sponsored FUD (fear, uncertainty, doubt) that is meant to discourage offshore planning?

Purification

In a technical dated August 22, 2011 (2011-0415161E5), the CRA reiterated that the asset tests for the capital gain deduction refer to the gross fair market value of the assets, and so it is not possible to “purify” a corporation by netting liabilities against certain assets or by making journal entries that have the same effect. If a corporation has excess cash, then, to purify it, the cash must be removed via legally-effective transactions (eg the payment of a dividend by resolution).

I have some sympathy for the CRA concern that it will struggle to deal with relief applications where the circumstances giving rise to the application are lost in the mists of time. On the other hand, I found persuasive the Federal Court of Appeal’s example of how the 10-year limitation period, if interpreted in the manner suggested by CRA, could yield arbitrary and unfair results contrary to the purpose and spirit of the relief provisions (see “Scenario B” at ¶¶ 31ff of the decision). Query whether the CRA concern could be addressed by amending the Act to get rid of the arbitrary limitation period and putting the onus on the taxpayer to prove the facts that form the basis of the relief request.

• The initiative was initiated because of the Auditor General’s 2005 report, which recommended that the CRA give more attention to the audit of inter vivos trusts.
• In response to the report, the CRA created a “regional trust team” in the Golden Horseshoe. Garron and Antle had nothing to do with the initiative.
• What are auditors looking for? Apparently, the issues to be addressed include whether the trust was properly constituted (for example, can you find the trust’s gold coin?), the location of the trust’s residence (for example, where are Alberta trusts really resident, especially in light of Garron), whether the trust’s income is being reported properly and whether deductions were properly claimed.
• The CRA confirmed that the use of trusts for aggressive tax planning is a concern as well.
• The CRA stated that the initiative will continue because its activities so far have confirmed that trusts do present a significant compliance risk for the tax system.

Apparently, the CRA has thought better of this change. I was just informed by a CRA voluntary disclosure officer that the CRA has decided not to proceed with a new policy at this time.