Another reason not to behave badly

It never ceases to amaze me that some people think they can shirk their responsibilities when dealing with the CRA. For example, I've heard of several instances where certain taxpayers filed Notices of Objection just to hold off that agency's collection activity for months or even years, without raising legitimate issues. I hasten to add that I was not working for any of them!

That is not a good idea, especially if you have a history of risky behaviour. CRA always has the option to secure a jeopardy order from the court in order to initiate collection activity during that standstill period, if they believe you are in the process of wasting, liquidating or transferring property in order to make it unavailable to satisfy your tax liability. The following factors may provide support for the application for the order where a taxpayer has:

• acted fraudulently or has been involved in illegal activities;
• engaged in the liquidation or transfer of his or her assets so  as to put the assets out of the Minister’s reach;
• engaged in unorthodox behaviour that raises a reasonable apprehension that funds may no longer be available to satisfy the tax debt (ie, keeping large amounts of cash in one’s residence or safety deposit box, or investing in significantly risky ventures);
• engaged in tax evasion tactics, such as the failure to report income to the Canada Revenue Agency accurately;
• a significant amount of debt in comparison with his or her income; or
• assets that could potentially decline in value, deteriorate, or perish over the ordinary course of time.

There is a very good summary of the topic that can be seen here. Needless to say, I'm not in favour of any of the above tactics, not least because undertaking them really does take a significant amount of time and effort. Compliance is always cheaper and a more efficient use of your time.

Cases where things have gone right

Another year is close to an end, and another birthday has come and gone. This time, there were some interesting observations about how smoothly some technological innovations have been implemented.

Reservations

My wife decided to treat me to a birthday lunch at the CN Tower. It was originally intended to be a supper on the night before, but I wondered whether we could just walk in and get a table. On investigation (and Google does make that easy to do), we discovered that the restaurant, which is now known as 360, has set up automated reservations via Opentable.com. We were able to confirm that all tables were booked for that Saturday night, as well as for Sunday noon, but slots were still available for 11:30, 11:45, 12:15 and 12:30.

We opted for the 11:45 booking, and instantly received a confirmation with a reference number, which was also sent out by e-mail. Upon arrival, we walked straight over to the restaurant's reception desk and showed our confirmation, which allowed us to bypass the regular queue and go straight to a dedicated elevator to go up to the restaurant. I must also note that the food and the service were excellent.

Several days later, an e-mail arrived from Open Table, asking for a review and giving an option for the restaurant to reply back.

I liked how the entire process worked, and the Open Table site appears to make it easy for other restaurants to sign on. Of course, this calls for integration of their software into a restaurant's table management system, and in this instance it was very smoothly implemented.

Cross-border reverse logistics

On the other hand, I must confess that, two weeks before, I had gone down to visit family in Stratford, and took the Nikon digital camera with me. There was a fresh snowfall the night I arrived, and there were many stunning pictures as a result. The following day, I had the misfortune of dropping the camera, and the aperture and zoom controls were damaged.

The one saving grace was that this occurred just prior to the warranty's expiry. There was one slight complication, however: the camera was purchased in the US during last year's Black Friday sales in the Boston area.

During the following week, I did some investigation to see how Nikon handles their warranty claims. In summary, Nikon's policy is that repairs are handled in the country where the camera is purchased. It doesn't matter whether it is under warranty or not, and Nikon Canada is one of the most stringent enforcers of the policy.

Fortunately, their procedure for initiating and processing cross-border returns is quite well thought out, and following it eliminated any hassles with US Customs and Border Protection:

1. Register the claim with Nikon US on their website (and make sure you input the correct model and serial numbers), and print out the resulting forms package.
2. Place the claim sheet, together with a copy of the warranty (which contains the serial number) and proof of purchase, inside the box with the camera.
3. Pack that box inside a shipping box, and attach the shipping label generated in the forms package on the shipping box.
4. Take it to the nearest UPS shipping outlet. This is important, as Nikon has worked out an arrangement with UPS for handling these shipments, and the shipping label is designed to accommodate it. For shipping, you must fully describe what you are sending (ie, "Nikon digital camera, Model X, Serial #, Warranty repair"), and you have to agree to pick up the freight and inbound customs clearance to the US. That part is crucial, as Nikon will otherwise refuse to accept delivery.
5. As I discovered later, for clearance purposes Nikon supplies UPS with confirming data from the original claim you filed, in order to have it cleared as an item that will be undergoing repair. That is necessary in order to prevent it from being rejected at the border, and to have it cleared duty-free.
6. From shipment to arrival at Nikon in Los Angeles took exactly one week. This is amazing, considering I sent it out on Cyber Monday, which would have meant it would be caught in the onslaught of the other traffic happening at that time.

The complete documentation will allow the camera to return duty-free as well, and Nikon will pick up the freight on the return leg. I am currently awaiting for that to occur, and will discuss that process in a forthcoming post.

In insolvency, trigger clauses have their limits

I have observed many situations where very large corporations have dropped the ball in drafting their contracts.  Employment contracts contain many dumb errors, which I should expand upon in a later post. In this one, I want to talk about how Bell Mobility discovered how a clause in their contracts that aimed to limit its liability could be easily set aside by the courts. McCarthy Tétrault discussed it recently (as seen here), concerning the case of Aircell Communications Inc. v. Bell Mobility Cellular Inc. (2013 ONCA 95 (CanLII)).

Aircell, a dealer of Bell's products and services, was experiencing financial difficulties. Its agreement with Bell provided that:

• upon its expiry, or 
• if Bell terminates the Agreement as a result of Aircell’s failure to remedy a default in payment within 30 days after notice of default, or 
• otherwise in accordance with the Agreement, 

 all of Bell’s obligations to pay commissions “shall cease immediately”.

At the time in question, Aircell was holding CAD 64,000 of Bell's product, and Bell owed Aircell CAD 188,981 in commissions. Aircell held a meeting, at which a Bell representative was present, to explore restructuring options, and Bell gave notice at the end of that meeting that it would terminate the agreement within 30 days if payment had not been made in full. Unbeknownst to Bell, Aircell had already filed a Notice of Intention to make a proposal under the Bankruptcy and Insolvency Act. It was deemed to be bankrupt before the end of the 30-day notice period.

The bankruptcy trustee for Aircell successfully sued Bell Mobility for the difference between the value of the inventory held  and the amount of commissions owing, and the ruling was upheld by the Ontario Court of Appeal last February.

The ruling was based on the common-law principle of "fraud against the bankruptcy law", which was imported into Canadian bankruptcy law in the case of CIBC v. Bramalea Inc. (1995 CanLII 7420 (ON SC)). In that case, a clause in a partnership agreement provided that, in the event of default by an insolvent partner, a non-insolvent partner would have the right to purchase the other's partnership interest at the lower of net book value and fair market value. The Supreme Court of Ontario held that such a clause was void as being contrary to "the public policy of equitable and fair distribution amongst unsecured creditors in insolvency situations."

CIBC dealt with this principle in the case of the direct consequence of insolvency. Aircell has extended it to indirect cases as well. All businesses should be aware of the impact this may have on business arrangements they have entered into, or are contemplating to undertake. At the very least, trigger clauses may need to be framed to occur only in cases that fall outside the Canadian definition of insolvency.

Another reason to keep your affairs in order

The Globe and Mail recently published an article relating to the long-arm powers available to the Canada Revenue Agency to collect its debts. In this case, it concerns the transfer of property in non-arm's-length transactions where the transferor has outstanding tax liability, which, under s. 160 of the Income Tax Act, will attract liability in the hands of the recipient.

S. 160's reach is quite broad:

• it captures the transfer of property, either directly or indirectly, by means of a trust or by any other means whatever, to
• a person's spouse or common-law partner, anyone under the age of 18, or anyone not being dealt with at arm's length,
• resulting (before taking into account the effect of the income attribution rules in the Act) in both the transferor and transferee being jointly and severally liable for the amount (in excess of the fair market value of any consideration given) in order to satisfy the outstanding tax liability in question.

What constitutes a "transfer of property?" It can be:

• a gift or bequest,
• a deposit into the transferee's bank account,
• releasing an interest in a joint bank account or a joint tenancy to the other titleholder,
• making payments on another person's mortgage,
• a tax-debtor corporation issuing dividends to related shareholders who are in a position to control the corporation, or
• a series of transactions from one non-arm's-length person to another (in which case the joint and several liability applies to all parties!)

but it does not include payments made under a court order or separation agreement (by virtue of s. 160(4)).

Two recent cases at the Federal Court of Appeal help to explain s. 160's scope:

• Canada v. Livingston, 2008 FCA 89 (CanLII), [2008] 3 CTC 230(which addresses the key criteria for s. 160 assessments)
• Yates v. Canada, 2009 FCA 50, [2010] 1 FCR 436, [2009] 3 CTC 183(which calls for strict interpretation of the section)

There is no limitation period by which such an assessment can become statute-barred, and the effects do not end there:

• s. 325 of the Excise Tax Act provides that, where there is an amount by which such an undervalue transaction exceeds the liability that can be assessed under the ITA, it is available for similar assessments to satisfy any outstanding liability for GST/HST.
• s. 96 of the Bankruptcy and Insolvency Act provides similar recovery powers in the event of certain undervalue transactions occurring prior to bankruptcy (within the previous year, or the previous five years if the transaction was not at arm's length) where the debtor was insolvent at the time of the transfer or was rendered insolvent by it, or the debtor intended to defraud, defeat or delay a creditor.

I have published several posts recently on the need to prove a genuine business case before undertaking transactions that are not at arm's length. This is an addition to what should be kept in mind.

You always need a business case...

Many readers in the business world will know of instances where corporations they were working for, or dealing with, have indulged in oppressive or abusive behaviour. The larger ones are more likely to have internal procedures or protocols to mitigate such effects, but the SMEs have tended to be more reckless.

If you're dealing with an American corporation, the rules will more than likely operate in their favour. If the corporation has been established in Canada, you can fight back through the oppression remedy available under the various corporation laws. This is an innovation that has developed in many countries of the Commonwealth, but it has attained significant breadth of scope here.

What types of behaviour can be addressed under an oppression claim? Basically, it can be potentially used by any stakeholder to deal with any type of unfair conduct by a corporation, and the definition is "wide enough to cover oppression by anyone who is taking part in the conduct of the affairs of the company whether de facto or de jure" (as noted in the English case Re HR Harmer Ltd, [1959] 1 WLR 62 at 75,  by Jenkins LJ). In Canada, stakeholders include:

• a current or former registered security holder,
• a current or former director or officer,
• the Director appointed under the CBCA, or 
• "any other person who, in the discretion of a court, is a proper person to make an application under this Part" (which can cover creditors, debtors or employees)

The types of behaviour that can be addressed, and the scope of the remedies available, are breathtaking:

• Claims can extend to an affiliate not incorporated under the same Act 
• It has been used to enforce unpaid judgments against the corporation's directors, where the corporation had been subject to asset stripping 
• It has also been used in conjunction with other remedies — including the threatened winding up of a company by the court — in order to resolve shareholder disputes in closely held companies. 
• The Crown has employed the oppression remedy in its status as a creditor under the Income Tax Act, in order to set aside dividend payments that rendered a corporation unable to pay its tax liability. 
• Where a company has made excessive salary payments to a controlliing shareholder, a judgment creditor has been permitted to be a complainant in order to recover the excess amounts. 
• A wrongfully dismissed employee can make a claim in order to thwart a corporation from conducting asset stripping in order to make itself judgment proof. 

What can a company do to protect itself against such claims? The Supreme Court of Canada, in BCE Inc. v. 1976 Debentureholders, stated that, where conflicting interests arise, it falls to the directors of the corporation to resolve them in accordance with their fiduciary duty to act in the best interests of the corporation. There are no absolute rules and no principle that one set of interests should prevail over another. Under the business judgment rule, deference should be accorded to the business decisions of directors acting in good faith in performing the functions they were elected to perform.

Therefore, the directors really need to do their job properly in looking after the corporation's interests first, being aware that evasion of liabilities and condoning disputes among shareholders and other key players do not make for good business, and documenting the business case for undertaking any fundamental changes to their corporate and cost structures. Well-written business agreements will also go a long way to address key concerns.

Your presence on the web: what's best for your needs?

While Facebook and Twitter are receiving excellent visibility in the media — as they very well should — there are other options somewhat less ephemeral but nevertheless worth considering in getting your message across.

Personal websites

Options that are available at Google Sites, LinkedIn, VisualCV and the like are somewhat static, but they can help focus your message to specific audiences. I particularly like Google Sites, as you can create multiple pages and filing cabinets in order to individualize your presentation.

Blogs

Both Blogger and Wordpress have impressive options relating to widgets and templates, as well as the ability to incorporate specialized scripts. I particularly like MathJax, which I have put into Blogger in order to properly construct mathematical expressions for some of my articles. You can also arrange to publicize your new posts to Facebook and Twitter as well, in order to spread the word.

I have opted to split my postings into two blogs — Blogger for particularly professional statements, and Wordpress for personal viewpoints and recollections. That is a personal choice, but it seems to fit into the tools that are available for each, and it gives me a chance to experiment with what can be done. Besides, it's fun!

Wikis

I have been doing some editing on Wikipedia, and I am finding that wikis can be very powerful tools, especially in an organizational context:

• as any article can be edited by anyone,  a topic can be quickly created and refined where there is a critical mass of knowledge that can be drawn upon (ie, the wisdom of crowds)
• an article can be promptly updated when updated information becomes available
• it can provide a reasonable replacement for the organization manuals that can otherwise be subject to the obsolescence of the printed word in a fast-changing environment
• all previous versions of the article are still available to be consulted, in order to review for reasonableness and to provide document control (which can be critical for complying with documentation requirements such as those found in ISO 9001)
• footnotes and bibliographies can be easily constructed, together with hyperlinks to related articles and to reliable external sources
• when appropriate policies are instituted relating to the enforcement of reliability and the observance of intellectual property rights, proper administration and supervision of the wiki will result in a reliable body of information that members of the organization will be willing to rely on

MediaWiki, the platform on which Wikipedia is based,  is free to download and to implement. Just make sure you check all the other notes relating to installation requirements and compatibility. There are other wiki platforms as well, so see which one would work best for you.

I still can't believe this

The story that came out several days ago about top Liberal staffers in the Ontario provincial government — including those in the Premier's office — caught deleting e-mails from their systems is wrong on multiple levels:

• it runs contrary to the desire to keep all such communications as part of the historical record
• retention is mandated under the province's Archives and Recordkeeping Act, 2006
• even if the Act's penalties are weak, observance is the honourable thing to do
• there are relatively cheap means that could have been implemented to ensure that deletion could not have taken place (I particularly recommend the solution provided by Mailstore, but there are others)

There have been many spectacular stories in recent years about how this province's government has been mismanaged, but this story serves as a microcosm for the entire affair.

The real reason for Canada's lagging productivity?

Deloitte has been tracking the issue of the low productivity of Canadian businesses relative to those in the US for some time now, and this year's report proved to be a genuine eye-opener. On the other hand, the results were not really that surprising to those who know: as The Globe and Mail summarized it, Canadian companies are delusional:

• 36% of them are chronically underinvesting and not aware of it, while 14% know they are and are comfortable with that choice
• there is too much inclination to view matters internally, without benchmarking to what is happening externally
• firm size accounts for only 2% of the Canada-US productivity gap, and sector composition only 6% — the rest is happening within the sector itself
• all of this is happening despite the huge incentives Canadian tax legislation has in place to encourage capital spending and R&D activity, as well as the relatively cheap cost for improving IT and communications infrastructures

 This is no surprise to those who have had to deal with management on both sides of the border. Perhaps embarrassment is the way to go, to really start things moving...

A reminder: what you need to do to secure your ITCs

The Canada Revenue Agency is tightening their audit routines for determining how much can be allowed for input tax credit claims. Here is a refresher about the rules you must follow when you are registered to collect GST/HST.

What has to appear on invoices

The regulations presume that the basic information must appear on invoices that are supplied for a transaction, and must be captured on the registrant's books and records (essentially your accounting system). The information that must be supplied depends on the value of the invoice:

Information required	Invoice less than CAD 30	Invoice = CAD 30.00 - 149.99	Invoice = CAD 150 or more
Your business or trading name, or your intermediary's name (registrant with whom you have an agreement to help you supply your goods or services)	Y	Y	Y
Invoice date	Y	Y	Y
Total amount paid or payable	Y	Y	Y
An indication of the total amount of GST/HST charged or that the amount paid or payable for each taxable supply (other than zero-rated supplies) includes the GST/HST at the applicable rate	N	Y	Y
When you supply items taxable at the GST rate and the HST rate, an indication of which items are taxed at the GST rate and which are taxed at the HST rate	N	Y	Y
Your business number or your intermediary's business number (registrant with whom you have an agreement to help you supply your goods or services)	N	Y	Y
The buyer's name or trading name or the name of their authorized agent or representative	N	N	Y
A brief description of the goods or services	N	N	Y
Terms of payment	N	N	Y

Most accounting systems will capture the above information on invoices that they generate.

Circumstances where no invoice is supplied 

Certain exceptions are allowed with respect to the invoice requirement in the case of:

• unvouchered cash payments, 
• computerized books and records, 
• contractual arrangements (such as leases), 
• reimbursement of meal and entertainment expenses, 
• meal and entertainment expenses allowances, 
• reimbursement of expenses (other than meal and entertainment expenses), 
• allowances (other than for meal and entertainment expenses), and 
• taxi or limousine fares 

 There are some minor variations of the requirements for each of these categories, but the following apply to all:

• name or trading name of the supplier (or employer with respect to reimbursements and allowances)
• business number of the above
• date or reporting period for the transaction
• amount paid, as well as the amount of GST/HST
• the type of supply

 This area is where many businesses may get tripped up:

• are business numbers of suppliers being recorded on the books and records?
• are they being otherwise supplied on the execution of contractual arrangements?
• are all business numbers supplied being verified through the CRA GST/HST registry (and the QST registry, if you are registered for Quebec Sales Tax)?
• would it be a good idea for the employer to print its business number on expense reimbursement forms?
• do reimbursement claims distinguish between the different provinces with respect to the travel that has occurred (which may impact on any recapture of ITCs)?
• does the same go for any allowances that are paid?
• are the requirements relating to the use of corporate credit cards being properly observed?

The above is just a shortlist of the questions that need to be examined. The CRA website has many other topics that should be taken into account as well.

A hiring action that was really dumb...

The National Post had an interesting article this morning about an Ontario barrister who, having been downsized and was unable to make a go of private practice, decided at the age of 60 to apply for a relatively low-paying legal writer position at CCH. He was awarded CAD 5000 by the Ontario Human Rights Tribunal because an outside consultant at CCH advised him that his application was rejected, as the company was looking at "candidates that are more junior in their experience and salary expectation." The consultant was not the decision maker, but it was held that his communication made the applicant conclude that it was not worth following up. Accordingly, it was considered to be age discrimination that had an adverse affect, and an award was made for injury done to his "dignity, feelings and self-respect."

Reiss v. CCH Canadian Limited (2013 HRTO 764) is a rather interesting case to read. Reiss asked for a lower salary range than the other two, and declined to state the year he was admitted to the Bar, and these were considered to be "red flags". CCH hired one of the other two, who quit within a week, and the second had accepted a position elsewhere. The hiring manager then hired a former employee for the job, who she had bumped into on the subway. Reiss' application was meanwhile placed on hold. He called to follow up, but his behaviour in doing so was considered to be aggressive.

The whole affair was badly handled, but, in this case, only the outside consultant stepped over the line. The decision does make some useful points. It points out (at par. 61) that a prima facie case of discrimination is established by proving the following:

• that the applicant was qualified for the particular employment;
• that the applicant was not hired; and
• that someone no better qualified but lacking the distinguishing feature which is the gravamen of the human rights complaint subsequently obtained the position

It also points out that discrimination is held to exist when it is a factor (not necessarily the sole or major factor). In that regard (at par. 47), a recital of the analysis that is made in cases of circumstantial evidence is as follows:

The relevant principles that apply in cases where an allegation of racial discrimination has been raised have been usefully summarized as follows: 

• The prohibited ground or grounds of discrimination need not be the sole or the major factor leading to the discriminatory conduct; it is sufficient if they are a factor; 
• There is no need to establish an intention or motivation to discriminate; the focus of the enquiry is on the effect of the respondent's actions on the complainant; 
• The prohibited ground or grounds need not be the cause of the respondent's discriminatory conduct; it is sufficient if they are a factor or operative element; 
• There need be no direct evidence of discrimination; discrimination will more often be proven by circumstantial evidence and inference; and 
• Racial stereotyping will usually be the result of subtle unconscious beliefs, biases and prejudices.

This applies to all types of discrimination, and it is something to certainly keep in mind in assessing whether hiring practices are truly focused on getting the best candidate.

What is your cost of capital?

It is a classic rule in economics that, if a proposed investment is expected to have a rate of return that is greater than your cost of capital, you should invest in it. That is a case of marginal benefit over marginal cost. However, there are still too many businesses that do not know what their cost of capital really is — many are probably severely overestimating it.

I am not against adjusting the rate to account for expected risks with respect to particular investment. There are some rules of thumb that have been given in that regard:

• venture capital investors generally expect an annual after-tax rate of return around 40%
• angel investors will generally expect at least 50%

There have been other arbitrary rates that have been employed in the past. One company I worked at in the past (which was a part of the Ford Motor Company) expected a minimum return of 15% for any capital investment proposal. As this was back when corporate tax rates were approaching 50%, that meant that before-tax returns were around 30%, which was extremely conservative even in those days when the prime rate was around 11%.

Most good financial management texts have good discussions on the subject of determining a firm's cost of capital, and they all generally agree on the following key points:

• the emphasis must be on calculating the ideal mix of debt, equity and other financing for the firm
• the rate will be a weighted average of the returns arising from the different financing components
• where the firm is privately owned, proxy rates may be employed using data from the industry and the geographic area concerned
• adjustments for risk may be made for different types of investments, but that is a step subsequent to the initial calculation, and they should reflect the risks faced by the firm in question, as opposed to a blanket adjustment

In these days when many companies have been cutting back on their dividend payouts and capital investments, and interest rates are still around historical lows, "dead money" on corporate balance sheets has been of great concern to many people. The emphasis around such excess liquidity still runs counter to classical economic theory, which holds that excess funds should be paid out as dividends, if there are no alternatives available to earn rates of return in excess of the cost of capital. I would like to see more discussion from corporate executives and analysts as to why that is not the case at this time, or whether this is an extreme case of risk aversion even for Canadian businesses.

A good idea that's been abused

One particular story that has struck a chord this past while has been the use and abuse of the Temporary Foreign Workers visa programme by Canadian employers. It really exploded this past weekend with the revelation that an IT professional with 20 years' experience that is currently receiving employment insurance benefits is unable to obtain interviews. That in spite of high demand for his skills!

It doesn't help that a former manager with one of the companies this person applied to stated that the company policy is not to hire qualified Canadians. The situation is even uglier when a former manager with the government agency concerned declares that it is being run as a "factory" where the objective is to churn out the Labour Market Opinions as quickly as possible in order to have the visas issued, with no due diligence undertaken to verify that employers have undergone a genuine effort to search out and hire qualified applicants who are Canadian citizens or permanent residents.

I must say that this is wrong on multiple levels. Never mind that now fees will be charged for the issue of such opinions that were previously issued at no charge, or that pay for such workers must be at parity with local wages and not at a 15% discount, or that searches should not call for knowledge of languages other than English or French as a job requirement (although the previous rules were both sick and wrong!). I can verify from personal observation that the so-called searches are being undertaken with criteria so stringent that it would be impossible to find anyone in Canada that could qualify. As the CBC story noted above observes, many people coming in under the TFW programme do not have such qualifications anyway, and in many cases the employer did not really need them. That is the real abuse that must be stopped, and the changes that have been announced will not really bring that about.

This is a story that will be definitely continued...

The need to be vigilant

The position that most of us CMAs find ourselves in is the necessity of managing risks and ensuring that operations are properly kept under control (I guess that's why so many are controllers at some point in their career!). There are many instances that have flourished over the last few years about compliance with respect to:

• money laundering and anti-terrorism financing,
•  bribery and anti-corruption laws, and
• economic sanctions as imposed by Canada, the United States, and other jurisdictions

The controls relating to all areas will only become more stringent over time. Financial institutions — who were already under a general duty to know their client — are now legally required to confirm identities of the principal players of the enterprise, be familiar with the nature of the business they are in, and know how funds will normally flow to and from the enterprise. That only makes sense, and any principals that wish to restrict access to such information will only find it more difficult to remain in business. Any unusual movements in funds that may occur without advising financial institutions will also attract unwarranted attention. I always advise executives and others in a controlling position to maintain an excellent working relationship with their bankers and other financial and legal advisers, in order to assure that any required financial transactions will occur without a hitch.

Bribery and anti-corruptions laws are being aggressively enforced in Canada, the US, the UK and other jurisdictions. They all tend to have a "long-arm" component attached, and must be taken into account in any corporate policy.

Economic sanctions are a critical area that all organizations need to be familiar with. I am not talking about controlled goods that are subject to special regulation in Canada and the United States: that is a special topic that affects a small set of business. There are many more that affect destinations and specific clients from which many organizations may receive orders and other contracts. As Canada's requirements are distinct from those imposed by the US, it is necessary for businesses to know what is required by each. It can be a minefield if you don't watch out.

Some companies have published compliance manuals in order to navigate this field, and they are worth checking out. However, any moves that organizations undertake should be vetted by properly qualified legal advisers (as well as other key players familiar with the subject).

Capital investment appraisal: the importance of assessing it right

I did some work over on Wikipedia on this topic with respect to the Canadian context, and thought it might be a good idea to expand upon it here.

Capital investment projects are always assessed on their cash flows. As we know, cash flows are segregated into streams arising from activities in:

• operations
• investment, and
• financing

The initial assessment of a project will match up the expected streams from operations and investments, in order to assess viability. Streams relating to financing will become relevant when assessing the best option for the acquisition of the assets (ie, lease vs buy, debt vs equity, and so on), but that is by definition the second step of the process, after the initial appraisal has been completed.

Let us assume the following factors for use in our calculations or capital cost allowance fhere:

• I = Investment 
• d = CCA rate per year for tax purposes 
• t = rate of taxation 
• n = number of years
• i = cost of capital, after-tax rate of interest, or minimum rate of return (whichever is most relevant)

Full-year rule

When CCA is calculated at the maximum rate, the values claimed by year for a specific class under the full-year rule will be broken out as follows:

$ Id + Id(1-d) + Id(1-d)^2 + \cdots + Id(1-d)^{n-1} $

Therefore, the tax shield in year n = $ Itd(1-d)^{n-1} $, and the present value of the taxation credits will be equal to $ Itd \sum\limits_{n=1}^\infty \frac{(1-d)^{n-1}}{(1+i)^n} $.

As this is an example of a converging series for a geometric progression, this can be simplified further to become:

$ PV = \frac{Itd}{i+d} $

The net present after-tax value of a capital investment then becomes:

$ I  \left (1-\frac{td}{i+d}\right ) $

Half-year rule

For capital investments where CCA is calculated under the half-year rule, the CCA tax shield calculation is modified as follows:

$ \begin{align}
PV & = \frac{1}{2}\left (\frac{Itd}{i+d}\right ) + \frac{1}{2}\left (\frac{Itd}{i+d}\right )\left (\frac{1}{1+i}\right ) \\
& =\frac{Itd}{i+d}\left [\frac{1}{2} + \frac{\frac{1}{2}}{1+i}\right ] \\
& =\frac{Itd}{i+d}\left [\frac{\frac{1}{2}\left (1+i\right ) + \frac{1}{2}}{1+i}\right ] \\
& =\left (\frac{Itd}{i+d}\right )\left (\frac{1+\frac{1}{2}i}{1+i}\right ) \\
\end{align} $

Therefore, the net present after-tax value of a capital investment is determined to be:

$ I \left [ 1-\left (\frac{td}{i+d}\right )\left (\frac{1+\frac{1}{2}i}{1+i}\right ) \right ] $

Specialized calculations

The methods shown above are the default calculations used for standard pools of undepreciated capital cost using the declining-balance method for accounting for CCA. There are certain classes where different calculations will be employed:

• Class 13 (leasehold improvements) - Over the original lease period plus one renewal period (Minimum 5 years and maximum 40 years, but half-year rule applies)
• Class 14 (franchises, concessions, patents and licenses) - Length of life of property (no half-year rule applies)
• Class 29 (effectively recognized over three years, at 25%/50%/25%)

These are instances where standard spreadsheet calculations will still need to be employed. These are quite well presented in most financial management texts.

There are also special rules for companies that are involved with industrial mineral mines or timber limits and cutting rights. In addition, resource companies will need to assess the impact of the resource and processing allowances that are available to them. These rules are beyond the scope of this article.

Assessing a suitable price for real estate income properties

Having once worked for several companies that were involved in real estate acquisition and management, it has always amazed me how many deals are arrived at without a proper financial assessment of cash flows and risks. Fortunately, there are some tools available to help make the analysis more rigorous and dispassionate.

The capitalization rate ("cap rate" for short) is very useful in that regard. In order to calculate it, you must first assess what the net operating income is for the property you are investigating, which is simply the operating profit before amortization and interest expense. You then determine what the NOI will be over the timeline you are assessing.

Assuming that a = NOI and i = cap rate, therefore the price of a property should be equal to

$ \large \sum\limits_{n=1}^\infty  \frac{a}{(1+i)^n}  $

which is the infinite series:

$ \large \frac{a}{(1+i)} \,+\, \frac{a}{(1+i)^2} \,+\, \frac{a}{(1+i)^3} \,+\, \frac{a}{(1+i)^4} \,+\, \cdots $

This is a geometric series with common ratio $ \frac{a}{(1+i)} $. The sum is the first term divided by (one minus the common ratio):

$ \large \frac{a/(1+i)}{1 - 1/(1+i)} \;=\; \frac{a}{i} $

You will then be in a position to compare the cap rate with the financing rates that is being proposed for the debt and equity components of the acquisition, in order to assess the viability of the deal.

What does this mean in practice? According to a recent article in The Globe and Mail, cap rates for Canadian commercial properties are currently in the range of 5.75% - 7.50%. Therefore, the purchase price for such a property should be its NOI divided by its cap rate. Conversely, the NOI of a property divided by its purchase price should equal the cap rate. Of course, if NOI varies by year, you will need to set this out in a spreadsheet to compute the present value of NOI over multiple periods, but that is relatively simple to produce these days.

If, on the other hand, the above calculations show that the cap rate for a property falls outside the acceptable range, it should lead to negotiations for a more appropriate price, or choosing to walk away from the deal.

The B and C teams

Every so often an observation just leaps out at you when you are reading an article off the beaten path. That happened today when I read Margaret Wente's latest column in The Globe and Mail. She was writing about the Hemda Centre for Science Education in Tel Aviv, and there was a very striking comment as to how they identify who should attend:

Canada has nothing like Hemda. That’s too bad, because we could use a lot more of the creativity and innovative mindset that Hemda fosters.

“We recruit for the ability to solve problems,” Tehilla Ben Gai, the school’s director, told me as she showed me around the bright and airy school. Its 1,100 students, who are in Grades 10 to 12, have all been assessed in person to see if they have the right stuff. “B and C students are sometimes smarter than A students,” she says. “We’re looking for students who are creative – and we teach them that science is fun.”

Contrast that philosophy with what is happening these days over here, where absolute perfection seems to be demanded of anyone who is applying for a position anywhere. This organization is really doing its diligence to see who can really succeed, and many times being on the A team will not truly help.

Corporate structure: to simplify or not?

When considering how to structure an operation, I normally prefer the single-entity route - after all, Occam's Razor is a practical method that works. However, there are circumstances that may dictate establishing multiple entities in a group:

• Is it necessary to ring-fence certain assets? This can be as simple as placing an operation in an operating company, and the acquisition of the building it is operating from in a separate company. Of course, there would have to be a valid lease executed between the two companies, with rent and other connected charges being properly paid from one to the other, but it is an excellent strategy for creditor-proofing.
• Does a company have a particularly valuable brand or other intellectual property (ie, patents, trademarks, etc)? These can be vested in separate management companies, with appropriate licensing agreements being executed between companies. All the fast food franchise operations (such as Tim Hortons or McDonald's) practice this.
• Does the head office of a group perform significant services on behalf of its subsidiary operations? There should be a valid intercompany services agreement in place, with services being charged at appropriate rates.

Much of this strategy has arisen from transfer-pricing litigation by the various taxation authorities in cross-border cases, but the logic is the same even when done within the same country, given the provisions in income tax legislation mandating fair market valuation.

The book that inspired my career

One of the (few) positive aspects of moving is that you get to spot things you haven't touched in years. One of them is a Pelican book I picked up back when I first started pursuing my studies in accountancy.¹

There are some great quotes in it that provided both warning and inspiration about the path I would take, and they still hold true today.

First of all, there is a warning as to what an accountant must not be, which was first noted by Elbert Hubbard:

A man past middle age, spare, wrinkled, intelligent, cold, passive, non-committal, with eyes like a codfish; polite in contact but at the same time unresponsive, calm and damnably composed as a concrete post or a plaster of Paris cast; a petrification with a heart of feldspar and without charm of the friendly germ, minus bowels, passion or a sense of humour. Happily they never reproduce and all of them finally go to Hell.

 On the other hand, a more modern description of a management accountant by Joseph R. Dugan has served to be the inspiration for my career:

A highly skilled technician - well educated, complex, confident, intelligent, optimistic - who abhors detailed direction. He expects to be influenced, persuaded and enlightened. He wants to be confronted with choices and alternatives, demanding freedom to structure his work, select his alternatives, present his solutions and speak for himself. He refuses to be considered an automaton who is supposed to respond eagerly to orders, edicts and ultimatums.

Looking back, I would say I have been fulfilling the latter quite well, but I can also confirm that there are still too many people - accountants included - that still stick to the first description (although I would say that middle age has nothing to do with the underlying attitude).

Finally, an observation about the nature of profit is provided from Peter Drucker, who pointed out that it serves three purposes:²

1. It measures the net effectiveness and soundness of a business's effort.
2. It is the premium that covers the costs of staying in business.
3. It ensures the supply of future capital for innovation and expansion - either directly or indirectly.

I have never seen this explained so succinctly anywhere else, and it has certainly given greater focus to the approach I have taken to the work I have performed.

All in all, this was a refreshing reminder of inspirations and aspirations both past and present.

---

1 John Sizer, An Insight into Management Accounting, Penguin Books, London, 1969, ISBN 0-14-021087-3.^↩
2 Peter Drucker, The Practice of Management, Mercury Books, London, 1961, pp. 65-9^↩

Practical applications of the cloud

Although many people still prefer to store files solely on their own hardware (whether workstation, laptop, tablet, and so on), there are useful instances where it is more efficient to use cloud storage:

• collaboration within a group
• resource for web presentations
• practical access for clients
• free storage for small accounts (ie, up to 2Gb)

Box.com is one example, and you can now embed your files from their storage into your own work on the web, such as this:


Another great one can be found at Scribd, and embedded content from their storage will look like this:

Robert. A. Ellerby, CPA, CMA

Let's not forget Google Docs:

There are others, but I find these three to be quite useful.

Thoughts on the 2013 Ontario Budget

The budget that Charles Sousa presented last week is geared more towards ensuring the survival of the present minority government. This is obvious from the goodies that were announced, such as the mandated 15% reduction in auto insurance premiums. The law of unintended consequences dictates that this decrease will be made up elsewhere by the various insurance companies - another example of an initiative by the Province that is not clearly thought out for any reason other than to preserve potential Liberal votes for the next election.

Probably the most crucial issue is that of productivity in the business sector. The budget does acknowledge this, together with the issues of underinvestment in R&D and M&E compared to US-based businesses. Unfortunately, neither the provincial nor federal levels of government can influence this more than they have already done — their incentives are already very generous — other than to introduce sanctions for not doing so, which will be difficult to either conceive or be accepted.

There is little to report about tax changes — other than for tax rates and credits, Ontario automatically parallels federal taxation rules. The only significant item to note is what will happen to the calculation of Employer Health Tax. Beginning in 2014:

• the portion of total Ontario payroll that is EHT-exempt will rise from CAD 400,000 to CAD 450,000
• the exemption will be adjusted for inflation once every five years,  using the Ontario Consumer Price Index
• private-sector employers (other than registered charities) with a total Ontario payroll greater than $5 million will no longer be able to claim the exemption

How does this translate in terms of total headcounts that will be impacted? According to Statistics Canada, average hourly weekly earnings for 2012 in Ontario amounts to CAD 908.00, which translates to an annual amount of CAD 47,216. Therefore:

• the annual exemption in 2014 is equivalent to a headcount of just over 9 (450000/47216 = 9.53)
• the maximum threshhold beyond which the exemption will cease to have effect is equivalent to a headcount of just over 105 (5000000/47216 = 105.90)
• the EHT rate continues to be 1.95%

Considering how risk-averse most Canadian small businesses tend to be, there may be a lot of thought being given as to whether to hire employee #106, as that will mean an immediate increase of CAD 8775 (450000*0.0195 = 8775) in their total EHT liability. That is probably the wrong message to give to employers, and definitely a negative message to those people who are trying to find work after coming through the recent Great Stagnation.

Again, this strikes me as a measure that was not fully thought out. Let's see if this survives the coming budget debate.

Why Finance should know much more than just keeping score

While financial managers must always come into contact with all areas that affect the organization's operations, it's amazing how few become familiar with the laws that may apply. I've even had other professional accountants declare that such knowledge is unnecessary, as the lawyers can be consulted if an issue arises. As you can appreciate, that can be too late.

Take the matter of having a probationary period at the beginning of a person's employment. Many managers have maintained that that means a person can be dismissed without cause before the period is up. They're wrong, as Howard Levitt said in the Financial Post this week:

• an employer has to:
• provide an employee a fair opportunity to demonstrate that they can do the job,
• provide feedback, and
• measure them against reasonable standards
• if an employee is fired without cause or reasonable opportunity to demonstrate their ability to do the job, they will be entitled to damages for wrongful dismissal
• only an express provision in an employment contract — in writing — can declare otherwise
• a probationary period will generally never be longer than three months — and that has to be in writing as well

An excellent summary on an actual case is available from Cassels Brock in their bulletin on Cao v. SBLR LLP. Read it to see how an employment relationship can be so poorly managed:

• The firm's employee manual stated that employees who were experiencing performance issues would be asked to attend meetings to discuss their performance and would be given suggestions for improvement. The employer stated that she was not performing at the level required, but the termination meeting was the only time at which any negative feedback was given.
• She was told verbally that she was expected to attain her CGA designation within a specified time, but such a requirement was not spelt out in the employment contract, and she advised her employer that the course schedule made such a request impossible to achieve.
• The termination letter did not indicate just cause for dismissal, and her Record of Employment indicated that she had been "terminated involuntarily without cause." She was not provided with pay in lieu of notice of termination.

The judge concluded that Cao was terminated without just cause,  and the termination was done in bad faith. Four months' pay was considered to be appropriate under the common law.

How could this have been handled better? As Cassels Brock recommends:

1. Where an employer wants to have the ability to dismiss an employee without just cause during the probationary period, the employment agreement must state specifically that the employee would not be entitled to termination pay, but such a statement must still comply with the requirements of the Employment Standards Act in Ontario (or the equivalent legislation in other jurisdictions).
2. If procedures are specified in the organization's employee manual, they must be followed.
3. If a qualification, skill or professional designation is essential to a particular position, they must be explicitly mentioned in the job posting, and definitely in the offer letter.

It saddens me to note that the employer in this case was an accounting firm. I am passing this on as a warning to others.

The forthcoming move (and other observations)

There is now less than a week to go before we move to Markham, and everything is going relatively smoothly - even with respect to the packing! There are no hitches with any of the paperwork, the mortgage is approved, and we only have to head to the lawyers to sign off the day before.

I noticed two significant changes this time around in the process:

•  The Freezing Assets of Corrupt Foreign Officials Act (S.C. 2011, c. 10), from March 2011, now requires financial institutions to determine if any people they deal with may be associated with "politically exposed foreign persons" within the meaning of the Act. This was noted as part of the questionnaire in the mortgage application.
•  The money-laundering rules relating to suspicious transactions and terrorist property have now tightened up to the degree that financial institutions have to confirm the source of funds used to make a deposit under the real estate agreement of purchase and sale. As my wife was converting some USD funds over for this, she had to present copies of her account statements to prove that the funds were legitimate.

 This is a significant improvement to previous practice, and is to be welcomed. I have always been above-board in documenting how funds flow for key transactions, and have been complimented on the transparency of my reporting. It's nice to know others are catching up.