Introduction To Federal Taxation in Canada

Chapter 1
INTRODUCTION TO FEDERAL
TAXATION IN CANADA
Copyright © 2021 Pearson Education Ltd.
Alternative Tax Bases
• Federal Revenues
– Personal Income (50.3%)
– Corporate Income (13.7%)
– GST (12.0%)

Taxable Entities – Income Tax
• Individuals
• Corporations
• Trusts

Taxable Entities – GST
• Individuals
• Corporations
• Trusts
• Others
– Partnerships
– Unincorporated businesses
– Charities
– See Chapter 21

Federal/Provincial System
• Individual with Taxable Income of $20,000
– Federal Tax - @ 15%
$3,000
– Provincial Tax (Assumed) - @ 7%
1,400
– Total
$4,400

Federal/Provincial System
• Public Corporation With Taxable Income of $100,000
– Federal Tax - @ 15%
$15,000
– Provincial Tax (Assumed) - @ 11%
11,000
– Total
$26,000

Economic Objectives
• Resource Allocation
• Distribution Effects
• Stabilization Effects
• Fiscal Federalism

Taxation And Income Levels
• Progressive Systems
• Regressive Systems

Taxation And Income Levels
• Evaluation
– Progressive Is Viewed As Fair (Ability To Pay)
– Flat Rate (Arguments For)
• Less Complex
• Doesn’t Kill Initiative
• Doesn’t Encourage Evasion
• Fairer If Income Fluctuates
• Fairer To One Income Families
• Less Pressure For Concessions
• Rates May Be Too High – Can Reduce Revenues
– Downside Is That Flat Rates Are Regressive

Tax Incidence
Tax Incidence (Corporate Tax)

Who pays?
Shareholders? Customers?

Tax Expenditures
• Examples (2020 Projections)

– Small Business Deduction - $5.6 Billion
– Accelerated Investment Incentive - $3.0 Billion
– Principal Residence Exemption - $5.9 Billion
– RRSPs - $17.5 Billion
– Basic Personal Credit – $38.4 Billion

Tax Expenditures
• Reasons For Use

– Less Costly To Administer
– More Decisions Left To The Private Sector
– Reduce Visibility
– Reduce Progressivity

Qualitative Characteristics
• Equity of Fairness • Certainty

• Neutrality • Balance between
• Adequacy sectors
• Elasticity • International
competitiveness
• Flexibility
• Simplicity – Ease of
compliance

Evaluation Of Canada
• Equity – High income individuals and corporation paying little tax.

• Balance Between Sectors – Heavy reliance on personal income
tax.
• Complexity – Canada system is very complex and becomes more
so every year.
• Dependability Of Revenues – Too much reliance on the resource
sector.
• International Competitiveness
– Corporations – Was very good. Trump changes in the U.S.
has made Canada less competitive
– Individuals – Top rates at 50+ percent. Not competitive with
U.S.

Income Tax Act
• Parts I Through XIX

– Within Some Parts
• Divisions
– Within Some Divisions
• Subdivisions

Income Tax Act
• Within Parts, Divisions, Or Subdivisions

– Sections
– Subsections
– Paragraphs
– Subparagraphs ITA 84 (1) (a) (i) (I) (A)
– Clauses
– Sub-Clauses

Part I
• Division A - Liability For Tax (Chapter 1)

• Division B - Net Income For Tax Purposes
– Subdivision a – Employment (Chapter 3)
– Subdivision b - Business And Property (Chapters 5, 6, and 7)
– Subdivision c - Taxable Capital Gains/Allowable Capital Losses
(Chapter 8)
– Subdivision d - Other Sources (Chapter 9)
– Subdivision e - Other Deductions (Chapter 9)
• Division C - Taxable Income (Chapters 4 and 11)
• Division E - Tax Payable (Chapters 4 and 11)

Other Income Tax Legislation
• Draft Legislation
• Income Tax Regulations
• International Tax Treaties
• Income Tax Application Rules

Other Sources Of Information
• Electronic library resources

• CRA web site
• CRA Publications
– Interpretation Bulletins (Being Phased Out)
– Income Tax Folios (Replacing Interpretation Bulletins)
– Information Circulars
– Income tax technical news, news releases, and fact sheets
– Guides and pamphlets
– Advance rulings and technical interpretations
• Court Decisions

Basic Charging Provision
ITA 2(1)
Tax payable by persons resident in Canada
An income tax shall be paid, as required by this Act, on the taxable
income for each taxation year of every person resident in Canada at
any time in the year.
Note that in the U.S., individuals are taxed on citizenship, without

regard to residence. In Canada, individuals are taxed on residence,
without regard to citizenship.

• Meaning Of Taxable Income

– Net Income
– Less Specified Deductions (e.g., loss carry overs)

• Taxation Year
– Individuals – Calendar Year
– Corporations – Fiscal Period
– Trusts
• Inter Vivos − Calendar Year
• Testamentary (In General) − Calendar Year
• Graduated Rate Estates (A type of testamentary) – Fiscal Period

• Meaning Of Person
– Individual
– Corporation
– Trust

Residence of Individuals
• The average Canadian individual whose job, family, dwelling

place, and other personal property are all in Canada, would clearly
be a Canadian resident and, as a result, he would be liable for
Canadian taxation on his worldwide income.

S5-F1-C1 Residence Criteria
• Significant Residential Ties

– Dwelling
– Spouse or common-law partner

– Dependants

S5-F1-C1 Residence Criteria
• Other Residential Ties

– Personal Property
– Social Ties
– Economic Ties
– Landed Immigrant status or work permit
– Health Card, Driver’s License
– Vehicle Registration
– Passport
– Membership In Canadian Unions Or Professional Associations

Temporary Absences
• Has residence status been retained

– Intent
– Frequency of visits
– Residential ties outside of Canada

Part Year Residence
• Taxation basis
– Worldwide income
– Pro rata for portion of the year

Part Year Residence
• Entering Canada
– Usual immigration rules
– Other factors may be considered

Part Year Residence
• Departing Canada:
– Latest Of:
• Departure Date
• Departure Of Spouse And Dependants
• Establishment Of New Residence

Deemed Residents – ITA 250(1)
1. Sojourners in Canada for 183 days or more.

2. Members, at any time during the year, of the Canadian armed
forces when stationed outside of Canada.
3. Ambassadors, ministers, high commissioners, officers or servants

of Canada, as well as agents general, officers, or servants of a
province, provided they were Canadian residents immediately prior
to their appointment.

Deemed Residents
4. An individual performing services, at any time in the year, in a

country other than Canada under a prescribed international
development assistance program of the Government of Canada,
provided they were resident in Canada at any time in the 3 month
period preceding the day on which those services commenced.
5. A child of a deemed resident, provided they are also a dependant

whose net income for the year was less than the base for the basic
personal tax credit ($13,229 for 2020).

Deemed Residents
6. An individual who was at any time in the year, under an agreement

or a convention with one or more other countries, entitled to an
exemption from an income tax otherwise payable in any of those
countries, because at that time the person was related to, or a
member of, the family of an individual who was resident in Canada.

Individuals With Dual Residency
• Tax treaties have tie-breaker rules

• U.S./Canada treaty – factors considered
– Permanent home
– Centre of vital interests
– Habitual abode
– Citizenship
• If factors don’t resolve – competent authority procedures

Residence of Corporations
• Incorporated In Canada After April 26, 1965
– Deemed Resident

Residence of Corporations
• Incorporated In Canada Before April 27, 1965

– Deemed Resident If:
• Was Resident At Any Time
• Carried On Business In Canada

Residence of Trusts
• Choices
– Management (Usual Determinate)
– Beneficiaries
– Assets

ITA 2(3) Charging Provision For Non-Residents
• Types Of Income
– Employment In Canada
– Carried On Business In Canada
– Disposition Of Taxable Canadian Property
• Return required if Part I tax payable

• Taxable Income – most deductions are available
• Tax Payable – most credits are not available

• Employment Income
– Income earned by a non-resident while working in Canada
– U.S. Citizen, resident in Detroit, working at an auto plant in
Windsor, Ontario

• Business Income
– Canadian taxes on persons who carry on business in Canada
– See Chapter 20 for discussion of the meaning of “carrying on a
business in Canada”

• Dispositions Of Taxable Canadian Property By Non-Residents

– Taxable Canadian Property
• Real Estate
• Some capital property and inventories of a business carried on in
Canada
• Some listed and unlisted shares
– See Chapter 20 for a more complete discussion

Property Income Of Non-Residents
– In general, taxed under Part XIII of the Income Tax Act

– See Chapter 20 for a more complete discussion of this tax

Concept Of Income
• Economist’s View • CRA View

– Not Very Specific – Employment Income
– Based On Wealth Or – Business Income
Assets – Property Income
• Accountant’s View – Net Taxable Capital
– Recognize Revenue Gains
– Match Expenses – Other Inclusions And
– GAAP Based Deductions

Net Income For Tax Purposes:
Components
• Net Employment Income

– Division B, subdivision a
– Inclusions less deductions
– Only individuals
– Rarely negative

Components
• Business Income
– Division B, subdivision b
– Individuals, corporations, and trusts

Components
• Property income
– Division B, subdivision b

Components
• Capital Gains and Losses (100%)

– Division B, subdivision c
– Taxable Capital Gains (50%)
– Allowable Capital Losses (50%)
– Losses only deductible against gains

Components
• Items That Don’t Fit Basic Categories

– Other sources of income
• Division B, subdivision d
(e.g., pension income or spousal support received)
– Other deductions from income
• Division B, subdivision e
(e.g., RRSP contributions or spousal support paid)

Net Income For Tax Purposes
Calculation Rules - ITA Section 3
ITA 3(a) Positive ITA 3(b) Excess Of Taxable

Sources Of Income Capital Gains
Other than Capital Gains Over Allowable Capital Losses
ITA 3(c) Subtract Subdivision (e) Deductions

From The Sum Of ITA 3(a) And 3(b)
ITA 3(d) Subtract Non-Capital Losses

ITA 3(a)
• Includes positive amounts of:

– Employment income
– Business income
– Property income
– Other positive inclusions
• Does NOT include employment, business, or property losses.

ITA 3(b)
• Includes
– Excess, if any*, of Taxable Capital Gains over Allowable Capital
Losses
– If losses greater than gains in current year, this amount is nil
– Stated alternatively, allowable losses can only be deducted to
the extent of taxable gains.
*The phrase “if any” is used in tax work to indicated that negative
balances are ignored.

ITA 3(c)
• ITA 3(c) is equal to:

– the sum of ITA 3(a) plus ITA 3(b)
– less Division B, Subdivision e deductions
• Moving expenses
• Child care costs
• RRSP contributions
• Spousal support paid
• ITA 3(c) will be positive or nil – It cannot be negative

ITA 3(d)
• ITA 3(d) is equal to:

– The amount, “if any”, by which ITA 3(c) exceeds
– All current year losses including Allowable Capital Losses

Loss Carry Overs
Non-Deductible Carry forward

Carry back 3 years
Current Year various periods to
to claim refund
Losses reduce future taxes

Net Income To Taxable Income
• Net Income For Tax Purposes Less:

– Loss carry overs
– Social assistance and worker’s compensation receipts
– Stock option deduction
– Lifetime capital gains deduction
– Northern residents deduction

Net Income Example
Data for Marianne Nobel
Employment Income $58,000

Business Loss ( 23,000)
Taxable Capital Gains 20,000
Allowable Capital Losses ( 12,000)
Subdivision e Deductions ( 3,000)

Example Solution
ITA 3(a) – Employment Income $58,000

ITA 3(b) – TCG Less ACL 8,000
Subtotal $66,000
Subdivision e Deductions ( 3,000)
ITA 3(c) $63,000
ITA 3(d) – Business Loss ( 23,000)
Net Income For Tax Purposes $40,000

Tax Planning Principles
• Introduction
– Too soon to deal with in detail
– Content here is only a description of general principles

• Tax avoidance or reduction

– Private health care – employer can provide tax free
– Lifetime capital gains deduction ($883,384 For 2020)
– Discounts on employer’s products

• Tax Deferral
– Registered pension plans
– CCA on rental properties
– Various rollover provisions (e.g., provision which allow assets
with accumulated gains to be transferred at their cost without
current tax effects).

Tax Planning
• Income Splitting
– Based on progressive rates
– A given sum allocated to more individuals results in lower
aggregate tax payable
– Generally involves family members.
The 2018 expansion of the applicability of the Tax On Split
Income (TOSI), a high rate tax assessed on certain types of
income received by related individuals, can make income
splitting very difficult in some situations. (See Chapter 11).

Tax Planning
• Income Splitting (20 ignoring credits)

– A. No Splitting
• $857,472 Income Federal Taxes = $261,869
– B. Individual And Spouse
• $428,736 Each Federal Taxes = $240,772
– C. Individual, Spouse, And Two Children
• $214,368 Each Federal Taxes = $198,580
– Saves $63,289 At Federal Level

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Introduction To Federal Taxation in Canada

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Introduction To Federal Taxation in Canada

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Chapter 1

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

• Individual with Taxable Income of $20,000

– Federal Tax - @ 15%

Copyright © 2021 Pearson Education Ltd.

• Public Corporation With Taxable Income of $100,000

– Federal Tax - @ 15%

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

– Downside Is That Flat Rates Are Regressive

Copyright © 2021 Pearson Education Ltd.

Tax Incidence (Corporate Tax)

Copyright © 2021 Pearson Education Ltd.

• Examples (2020 Projections)

Copyright © 2021 Pearson Education Ltd.

• Reasons For Use

Copyright © 2021 Pearson Education Ltd.

• Equity of Fairness • Certainty

Copyright © 2021 Pearson Education Ltd.

• Equity – High income individuals and corporation paying little tax.

Copyright © 2021 Pearson Education Ltd.

• Parts I Through XIX

Copyright © 2021 Pearson Education Ltd.

• Within Parts, Divisions, Or Subdivisions

Copyright © 2021 Pearson Education Ltd.

• Division A - Liability For Tax (Chapter 1)

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

• Electronic library resources

Copyright © 2021 Pearson Education Ltd.

Note that in the U.S., individuals are taxed on citizenship, without

Copyright © 2021 Pearson Education Ltd.

• Meaning Of Taxable Income

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

• The average Canadian individual whose job, family, dwelling

Copyright © 2021 Pearson Education Ltd.

• Significant Residential Ties

– Spouse or common-law partner

Copyright © 2021 Pearson Education Ltd.

• Other Residential Ties

Copyright © 2021 Pearson Education Ltd.

• Has residence status been retained

Copyright © 2021 Pearson Education Ltd.

– Pro rata for portion of the year

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– Usual immigration rules

– Other factors may be considered

Copyright © 2021 Pearson Education Ltd.

Copyright © 2021 Pearson Education Ltd.

1. Sojourners in Canada for 183 days or more.

3. Ambassadors, ministers, high commissioners, officers or servants

Copyright © 2021 Pearson Education Ltd.

4. An individual performing services, at any time in the year, in a

5. A child of a deemed resident, provided they are also a dependant

Copyright © 2021 Pearson Education Ltd.

6. An individual who was at any time in the year, under an agreement

Copyright © 2021 Pearson Education Ltd.

• Tax treaties have tie-breaker rules