Further, crucial thoughts on Morneau's CCA proposals

There will be further commentary about Morneau's fall economic statement this week, but fuzzy  accusations are already being posted about their effectiveness. For instance, Jack Mintz raised the following point in the Financial Post:

"As it stands, about three-fifths of Canadian corporations do not pay corporate taxes, according to the Canada Revenue Agency’s recent corporate tax statistics (a breakdown by sector or size of companies is not available)."

 While he does give an important qualification, he doesn't necessary point out that many corporations required to file returns are automatically exempt from income tax liability, including:

1. Charities and other non-profit corporations
2. Federal and provincial Crown corporations
3. Municipally-owned corporations
4. Bare trustees whose only purpose is to hold property on behalf of another individual or entity
5. Dormant and other inactive corporations

Why the CRA doesn't isolate those entities in its analysis does tend to make us wonder. I would also add the following groups for consideration, based on person observation:

1. Holding companies that act as trustees for trusts whose income flows directly to beneficiaries
2. Management companies whose expenses are offset by management fees charged to related parties

It's up for debate as to whether the underlying arrangements for these companies are legally valid, but that is a topic to be debated another time, especially as to why the CRA is not as aggressive as it should be in questioning them.

The current debate is as to whether the new measures for accelerated capital cost allowance will help to boost the economy. I am skeptical as to whether that will happen, because Canadian businesses have been historically notorious for underpaying and underinvesting:

• For these past decade, the cost of capital has been at historical lows, which would have made borrowing for business investment correspondingly cheap. Coupled with capital cost incentives that were much more attractive than their US equivalents, and given the economists' teaching that any project having a return greater than the cost of capital should be undertaken, we should have seen significant uptakes in investment. That, however, has not been the case.
• Even before that, when the Canadian dollar achieved temporary parity with the US dollar, we should have seen significant imports of capital equipment to upgrade our under-performing manufacturing plants. That did not happen either.
• We witnessed the existence of dead money, where corporations just sat on their cash instead of investing it.
• We have witnessed a massive waste of energy by business lobbies in promoting the concept that lower corporate tax rates will increase productivity, whether through the general rate or the small business rate. That hasn't worked either, because we have seen businesses using their improved cash flow to buy back their shares instead. That may very well be linked to the above point about dead money, but I have heard of no analysis published in that regard.
• As for the small business rate break, the UK abolished its small profits rate in April 2015, because it became quite obvious that it is an incentive to stay small, while Australia introduced a gross revenue test (subject to certain passive income limitations) in July 2017 to bypass the games corporations play to minimize their taxable income to qualify for the break.

In addition, there has always been an over-conservative tradition in Canadian business when it comes to investing. The first employer I worked for after graduation in the 1970s had an effective policy of only approving projects with a payback of less than a year, which really halted a lot of potential investment. I remember a financial analysis supervisor that wrote up a mock appraisal for acquiring an electrical pencil sharpener, and I believe she was able to justify it on the basis of an annualized rate of return of 3,078%! Another employer later on used a hurdle rate of 15% to identify projects that would make the cut for a formal appraisal. As that was an after-tax rate, even at a time when bank rates were around 20%, the tax rate of around 50% would still have made for an after-tax rate of about 10%, and the financial analysts there were wondering why a higher rate was being applied for projects that were essentially risk-free.

The new CCA rules, explained

All the hype over Bill Morneau's fall economic statement yesterday was really overdone, but, once you look into the details, many questions remain. I won't discuss the macroeconomic and political issues, as they are being fully debated elsewhere. I will, though, expand on my initial thoughts about the changes to the capital cost allowance rules, because they are more complex than were originally described.

Recap

As most CMAs will recall from their training, the NPV of capital investment for the regular declining-balance classes in Schedule II of the Income Tax Regulations is determined through two calculations:

Full-year rule

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

Half-year rule

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

The new accelerated investment incentive rules

Morneau's proposals essentially displace the half-year rule for selected groups of assets, but the much advertised touting of these as providing 100% writeoffs for capital investment are not really that simple. We have to look at how the computations are expressed, and they ain't pretty.

First of all, under the current Notice of Ways and Means Motion,

• property acquired after 20 November 2018 (excluding property previously owned by the taxpayer or by another entity with whom the taxpayer does not deal at arm's length, whether by rollover or otherwise) that becomes available for use before 2028 is now identified as "accelerated investment incentive property", and
• the capital cost allowance prescribed rates are now multiplied by the following adjusted acquisition values:

$ ab + cd + ef + gh + 0.5i  $

all of which are described in the table below:

Group	CCA Class	Factor		Description
$ ab  $	not in respect of property included in ITR 1100(1)(v) (ie, a Canadian vessel) or in any of Classes 12, 13, 14, 15, 43.1, 43.2 and 53	$ a  $		0.5, in respect of property that becomes available for use before 2024, and 0, in respect of property that becomes available for use after 2023
		$ b = j - k  $	$ j  $	the total of all amounts that become available for use within the year
			$ k  $	the amount, if any, by which the amount determined for $ s  $ exceeds the amount determined for $ r  $ in the description of $ i  $
$ cd  $	Class 43.1 (ie, clean energy processing)	$ c  $		2 1/3, in respect of property that becomes available for use before 2024, 1 1/2, in respect of property that becomes available for use in 2024 or 2025, and  5/6, in respect of property that becomes available for use after 2025
		$ d = l - m  $	$ l  $	the total of all amounts that become available for use within the year
			$ m  $	same calculation as for $ k  $
$ ef  $	Class 43.2 (ie, certain clean energy processing equipment acquired before 2025 that would otherwise fall under Class 43.1)	$ e  $		1, in respect of property that becomes available for use before 2024, and 0.5, in respect of property that becomes available for use in 2024
		$ f = n - o  $	$ n  $	the total of all amounts that become available for use within the year
			$ o  $	same calculation as for $ k  $
$ gh  $	Manufacturing and processing equipment in Class 53 (if acquired before 2026) or Class 43 (if acquired after 2025)	$ g  $		1, in respect of property that becomes available for use before 2024,  1/2, in respect of property that becomes available for use in 2024 or 2025, and   5/6, in respect of property that becomes available for use after 2025
		$ h = p - q  $	$ p  $	the total of all amounts that become available for use within the year
			$ q  $	same calculation as for $ k  $
$ i  $	property subject to the half-year rule	$ i = r - s  $	$ r  $	the total of all amounts that become available for use within the year
			$ s  $	amounts received as proceeds of disposition for property

While the last factor is effectively the classic half-year rule computation, the other factors are essentially the top-up amount that will be added. They effectively lead to the following composite results:

1. Unless otherwise provided elsewhere, the CCA first-year claim is calculated at 1.5 times the standard rate for assets becoming available for use before 2024, after which the full-year rule will apply for assets becoming so before 2028, and then reverting back to the half-year rule thereafter.
2. For Class 43.1, the CCA first-year rate becomes 100% for assets available for use before 2024, 75% for those becoming so in 2024 or 2025, and 55% for those becoming so after 2025.
3. For Class 43.2, the CCA first-year rate becomes 100% for assets available for use before 2024, and then 75% for those assets becoming in 2024.
4. For Class 53 and Class 43 assets (depending upon the date they come into use),  the CCA rate becomes 100% for assets available for use before 2024, 75% for those becoming so in 2024 or 2025, and 55% for those becoming so after 2025.
5. The half-year rule continues to apply for those assets that do not qualify as "accelerated investment incentive property".

Therefore, the formula I was posting yesterday for calculating the effective tax shields on the new accelerated rates, being:

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

can be used as appropriate, after taking into account the appropriate top-up factors outlined above.

Thoughts on the federal 2018 fall economic statement

Bill Morneau was up to his usual stuff today, but there are some practical consequences on what he pulled out of the hat for accelerated capital cost allowances. This will accordingly affect some calculations I had presented five years back on how to compute the effective tax shield on what can be claimed.

The new first-year allowance

This calculation is dead simple, as the tax shield is the full amount of corporate tax relief on the investment in question, and so the net present value of the investment is:

$ I \left (1-t \right ) $

The bonus depreciation scheme, aka the "accelerated investment incentive"

The revised tax shield available for capital costs other than those eligible for the new first year allowances in the next five years, will now result in a NPV on the investment of:

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

where I is the investment cost, t is the applicable corporate tax rate, d is the normal CCA rate for the property concerned, and b is the bonus factor for multiplying into the first-year CCA claim (in Morneau's proposal, it's 1.5).


I will work out some graphs shortly on what the impact of these measures will be. Stay tuned.

The ever-expanding scope of the corporate profile

I suppose I've been rather old-fashioned in my approach to setting up corporate and ownership structures, as I've always believed in the efficacy of Occam's Razor being applied:

• every component entity should have genuine economic substance
• the simplest solution is the best
• oftentimes it is also the cheapest to administer

That's why I'm often bemused when I see owners devising a web of relationships when setting up their affairs, such as this one that was filed in a 2009 CCAA proceeding:





The owners' identities here (anonymized in the court filings here as AR, MF and PB) can be easily determined through a standard Internet search, but their beneficial ownership in these companies (upon analyzing the investment flows) comes out to 12.5%, 12.5% and 75% respectively in the destination company of White Birch Paper Company, being an unlimited liability corporation incorporated in Nova Scotia. The choice of intermediaries was most likely driven by US tax law, as Canadian ULCs, limited partnerships, S corporations and limited liability companies (the latter two being uniquely American in nature) are regarded as flow-through entities for income tax purposes there. The fact that the three principals gained their primary wealth from real estate development may also explain their preference for such ornate ring-fencing of assets.

White Birch, in turn, was the parent company for all the group companies shown below:

The problem with ornate structures

Setups like this are especially problematic when organizations are working to secure financing, as it's only logical to assume that investors need to know with whom they are placing their money. Knowing who the principals are, and their previous experience (whether notorious or benign) is only common sense, but the stories concerning securities scandals, phoenix activities, money laundering and terrorism financing that pop up in the business papers only too frequently remind us that this is a matter that should never be taken for granted. Canada, unfortunately, has been relatively naïve in guarding against this, resulting in what has been called "snow washing", and our financial institutions and professional advisers still need to get up to snuff with the rest of the world.

The current controls

The Financial Transactions and Reports Analysis Centre of Canada (FINTRAC)currently governs what financial institutions and other money handlers must do to deal with the risks of money laundering and terrorism financing in the Canadian financial system. In that regard, there are specific guidelines dealing with:

• "know your client" requirements, including those for
• properly identifying individuals and entities
• identifying their business relationships
• determining significant beneficial ownership interests in entities
• identifying any third parties that may have effective control over entities
• identifying any politically exposed persons and those connected with them
• ongoing monitoring of such information
• reporting any suspicious transactions or suspected terrorist property concerning such persons to FINTRAC

Much of this is self-explanatory, but some expansion is required to explain what is covered by the concept of "politically exposed persons". The following table will help to identify who is included:

Class of persons	Description
Foreign PEP	head of state or head of government;   member of the executive council of government or member of a legislature;  deputy minister or equivalent rank;   ambassador, or attaché or counsellor of an ambassador;  military officer with a rank of general or above;  president of a state-owned company or a state-owned bank;  head of a government agency;  judge of a supreme court, constitutional court or other court of last resort; or  leader or president of a political party represented in a legislature.
Domestic PEP	Governor General, lieutenant governor or head of government;  member of the Senate or House of Commons or member of a legislature;  deputy minister or equivalent rank;  ambassador, or attaché or counsellor of an ambassador;  military officer with a rank of general or above;  president of a corporation that is wholly owned directly by Her Majesty in right of Canada or a province;  head of a government agency; judge of an appellate court in a province, the Federal Court of Appeal or the Supreme Court of Canada;  leader or president of a political party represented in a legislature; or  mayor or other head of a municipal council
Head of an international organization (HIO)	the head of an international organization established by the governments of states; or  the head of an institution established by an international organization.
Family member of a PEP or a HIO	their spouse or common-law partner;  their child;  their mother or father;  the mother or father of their spouse or common-law partner; and  a child of their mother or father (sibling) Note: in this case, a child does not include a step-child
Close associate of a PEP or a HIO	business partners with, or who beneficially owns or controls a business with, a PEP or HIO;  in a romantic relationship with a PEP or HIO, such as a boyfriend, girlfriend or mistress;  involved in financial transactions with a PEP or a HIO;  a prominent member of the same political party or union as a PEP or HIO;  serving as a member of the same board as a PEP or HIO; or   closely carrying out charitable works with a PEP or HIO.  Note: the above list is not exhaustive

One might think that such controls might already be comprehensive enough, but the Canadian rules have a lot of holes built into them, as has been noted by Transparency International here. We still have a long way to go to comply with the principles adopted by the G20 in 2014 concerning the disclosure of beneficial ownership in entities.

Identifying who controls an entity

Trusts that earn income and/or make distributions are required to file form T3APP, together with a copy of the instrument creating the trust, in order to obtain a trust account number for reporting purposes.

As of July 2017, Canada adopted the Parts XVIII and XIX of the Income Tax Act, which respectively implemented the mandatory identification of US persons subject to IRS reporting obligations, as well as the Common Reporting Standard which mandates the disclosure of a passive non-financial entity's controlling persons. Disclosure is by way of filing form RC519 (or one with equivalent information) with the entity's financial institution.

The next steps underway

In December 2017, Canada's ministers of finance issued an Agreement to Strengthen Beneficial Ownership Transparency, which stated that all jurisdictions had agreed in principle to ban the use of bearer shares by Canadian corporations, and to compel them to maintain registers of beneficial ownership to show who really are the significant investors in them.

Bearer shares

While shares are ordinarily subject to entry on a register to record who owns them, bearer instruments do not require registration at all in the company records, and they can be controlled merely by whoever holds possession of them. Their abolition is definitely a no-brainer for establishing another formal link in tracing their real owners.

Canada chose to implement this in 2018 as part of Bill C-25, which was advertised as being primarily a measure promoting gender equity on boards. It received Royal Assent on 1 May 2018, whereby the Canada Business Corporations Act had the following new section inserted:

29.‍1 (1) Despite section 29, a corporation shall not issue, in bearer form, a certificate, warrant or other evidence of a conversion privilege, option or right to acquire a share of the corporation.

(2) A corporation shall, on the request of a holder of a certificate, warrant or other evidence of a conversion privilege, option or right to acquire a share of the corporation that is in bearer form and that was issued before the coming into force of this section, issue in exchange to that holder, in registered form, a certificate, warrant or other evidence, as the case may be.

One problem immediately comes to mind on reading this, in that there is no requirement for existing bearer shares to be converted into registered form by a specific date. That appears to preserve existing arrangements that may now be in effect, and it suggests that Canada will still be offside on the world stage in this matter.

Beneficial ownership

While financial institutions and others handling money have been obliged to maintain records on beneficial ownership of their corporate clients for some time, corporations have not had the same duty to maintain such records internally. It had essentially been a guessing game on the outside, where arrangements had been seen to be opaque. I can also easily see that bureaucratic inertia or wilful blindness could impede upon the due diligence that would be necessary to make these controls effective.

Bill C-25 turned the screws partially on this as well, by amending another provision of the CBCA to read as follows:

153 (1) Shares of a corporation that are registered in the name of an intermediary or their nominee and not beneficially owned by the intermediary must not be voted unless the intermediary, without delay after receipt of the prescribed documents, sends a copy of those documents to the beneficial owner and, except when the intermediary has received written voting instructions from the beneficial owner, a written request for such instructions.

That should bring some of these arrangements out into the open. However, we still need more complete information as to who those beneficial owners may be at any given time, and not just at shareholder meetings.

It's coming as Part 4, Division 6, in Bill C-86 that was introduced in the House of Commons on 30 October 2018. The latest of the increasingly weighty omnibus finance bills, to become known as the Budget Implementation Act, 2018, No. 2, that particular portion within it will amend the Canada Business Corporations Act to provide "for a corporation that meets certain criteria to keep a register of individuals with significant control and requirements respecting the information to be recorded in it." It's very notable that no press release has been issued for this particular matter, so we should pay special attention to it as a result.

This builds upon s. 11.1 of the Proceeds of Crime (Money Laundering) and Terrorist Financing Regulations (SOR/2002-184), which requires financial institutions and others handling money to keep records of this matter, and specifically with respect to:

(a) in the case of a corporation, the names of all directors of the corporation and the names and addresses of all persons who own or control, directly or indirectly, 25 per cent or more of the shares of the corporation;
(b) in the case of a trust, the names and addresses of all trustees and all known beneficiaries and settlors of the trust;
(c) in the case of an entity other than a corporation or trust, the names and addresses of all persons who own or control, directly or indirectly, 25 per cent or more of the entity; and
(d) in all cases, information establishing the ownership, control and structure of the entity.

It's only logical that the corporations themselves will now have a positive duty to maintain and regularly update this information. It's not unique, as similar requirements are being instituted around the world, and the UK adopted its particular scheme in April 2016 under Part 21A of the Companies Act 2006 and the connected The Register of People with Significant Control Regulations 2016 (2016 No. 339).


The current federal Bill will provide, effective six months after Royal Assent, for any corporation constituted under the CBCA to maintain a register, updated annually, that would include:

• the names, the dates of birth and the latest known address of each individual with significant control;
• the jurisdiction of residence for tax purposes of each individual with significant control;
• the day on which each individual became or ceased to be an individual with significant control, as the case may be;
• a description of how each individual is an individual with significant control over the corporation, including, as applicable, a description of their interests and rights in respect of shares of the corporation;
• any other prescribed information; and
• a description of each step taken annually to ensure that the above information is accurate and up to date.

And who is an "individual with significant control"?

• A holder of a significant number of shares, whether as a registered holder, beneficial owner, or someone with "direct or indirect control or direction over them".
• Each of two or more individuals that hold an interest or rights in a significant number of shares, or where a right is subject to any agreement or arrangement by which such a right is to be exercised jointly or in concert by such individuals.
• In each of the above cases, a "significant number of shares" is any number of shares that constitute 25% of either the voting rights or market value.
• Someone "who has any direct or indirect influence that, if exercised, would result in control in fact of the corporation".
• Any other individual "to whom prescribed circumstances apply."

"Influence" and "control in fact" are not defined, but similar guidance in the UK suggests that:

• "control" is where a person can direct the activities of a company
• "significant influence" is where a person can ensure that a company adopts activities that are desired by him/her
• possessing an absolute veto over activities (other than for protecting minority interests), or over appointing a majority of the board of directors, will definitely suggest such power
• neither factor has to be exercised with a view to gaining economic benefits from the policies or activities of the company
• control can also occur where someone directs or influences a significant section of the board, or where the board regularly consults with, and is therefore influenced by, that person; this also extends to similar influence over a majority of the shareholders' votes

Any corporation that is a "reporting issuer" under any provincial securities act, a member of a "designated stock exchange" under the Income Tax Act,  or a member of a prescribed class, will be exempt from maintaining such a register. That effectively restricts the régime to private companies.

What are we not yet doing?

There are still some significant matters being addressed elsewhere that Canada has not yet touched:

• identifying the ultimate beneficial owner of an entity
• disclosing the controlling persons of active non-financial entities
• identifying the settlors, trustees, beneficiaries and controlling persons of trusts and similar arrangements (but that is scheduled to change in 2021)
• greater duties placed on nominee shareholders and directors in disclosing who they represent (as in this guidance from Guernsey)
• more stringent requirements for entities to possess a genuine economic substance, as opposed to being just a mere shell or conduit (as is currently being discussed in Jersey)
• more formal obligations on individuals and entities (such as what this bank is requesting in the Isle of Man) to disclose their rationale for being in business and operating an account at a financial institution, as well as more basic information such as their actual residential address (as opposed to an address for service of documents)

I know some managers at these institutions are more diligent than others in gathering this data, but there are many clients (and professional advisers) out there that are somewhat less than forthcoming in giving it. I regard that last attitude as being more wasteful in time than being upfront would otherwise be. I've operated with the latter attitude in my affairs, and it really does work.

The ever-shrinking scope of a deed (in Ontario)

I was checking on required paperwork for executing  power of attorney recently, and was fascinated by the variety of forms in effect in Canadian jurisdictions. While Quebec's form is based on the civil law and its concept of a mandate, the default form in the common-law provinces (other than Ontario and BC) calls for execution in the form of a deed. The latter two provinces don't require that to be done. That begs the question as to when the rules diverged, and what else happened along the way. This has proved to be a messy bit of legal history here in Ontario.

What a deed could cover (Blackstone, 1765)

The default position in this Province is that we adopted the English law as it existed at 15 October 1792, as noted in the Property and Civil Rights Act. This means that we need to see what the legal commentaries were saying about what the jurisprudence stated at the time. Halsbury's Laws of England, while an excellent source, only goes back to the early 1900s, but Blackstone's Commentaries on the Laws of England goes back much further, and I think the 1765 version is probably the closest to the starting point we need.

We can immediately draw upon the following observations:

• "a deed is a writing sealed and delivered by the parties"
• "it is the most solemn and authentic act that a man can possibly perform ... and therefore a man shall always be estopped by his own deed, or not permitted to aver or prove anything in contradiction to what he has once so solemnly and deliberately avowed"

And the requisites of a deed?

1. Persons able to contract and be contracted with, together with a thing or subject matter to be contracted for, all of which must be sufficiently identified.
2. Be founded on good and sufficient consideration, which may be good (ie, founded on generosity, prudence or natural duty) or valuable (such as money, marriage, or the like, and therefore founded in motives of justice). Those founded on good consideration are considered voluntary, and are more likely to be set aside in favour of creditors and bona fide purchasers.
3. It must be written on paper or parchment.
4. There must be words sufficient to specify the agreement and bind the parties.
5. It must be read by (or out to) any party that desires it, in order not to be declared void.
6. Each party must seal it, and preferably sign it as well.
7. It must be attested by witnesses, in order to preserve the evidence. They did not need to sign themselves, but their presence at the reading had to be recorded.

Deeds are further grouped as follows:

• Primary conveyances, where a benefit or estate first arises, being  feoffments, gifts, grants, leases, exchanges and partitions.
• Secondary conveyances, where a benefit or estate is enlarged, restrained, transferred or extinguished, being releases, confirmations, surrenders, assignments and defeazances.
• Uses and trusts (including charitable trusts).
• Charges and discharges, such as obligations or bonds (ie, to pay a certain sum of money to another on an appointed day), recognizances (ie, to do a specified act) and defeazances (conditions when, once performed, serve to defeat or undo an obligation or recognizance).

There was a general limitation period of 20 years with respect to commencing a civil action.

Further English jurisprudence expanded on these premises, as Halsbury explains further:

•  "A deed is necessary for every transaction which the common law requires to be evidenced by writing." (at 652)
• "A deed is also required for any power of attorney which authorizes the attorney to execute a deed or to deliver seisin on the principal's behalf." (at 655)
• "... a corporation can only bind itself by deed under its corporate seal."
• "Gifts or gratuitous assignments of ... tangible goods, must, if not accompanied by delivery of possession, be made by deed."
• "... all gratuitous promises must be made by deed to become legally enforceable."
• "The appointment by the father or the mother of a guardian by statute of his or her child must, if not made by will, be made by deed." (at 657)
• the alienation of any contingent, executory or future interests in real property, as well as any right of entry thereon, must be made by deed. (at 664)
• equity does provide that "a deed is not necessary to effect the gratuitous assurance of any equitable estate, interest or right, provided that the intention of actual and immediate assignment (as opposed to a mere promise of future assignment or gift) be clearly expressed and that the assurance be put in writing and signed by the assuror." (at 677)
• A deed can be either a deed poll (ie, made by one party only) or an indenture (made by two or more parties, but it has to expressed as being between them). (at 680). It should be noted that a deed poll used to be the method by which a person could formally change his name.

There are numerous, and very specific requirements, that must be followed to ensure that the form of the deed will truly be valid, but the above serves to outline the general concepts that were imported to Upper Canada's law, and hence later to Ontario's.

Later modifications

There were surprisingly few modifications to the common law during the 19th and early 20th centuries:

• in 1837, the 20-year limitation period was restricted to actions commenced with respect to deeds, as opposed to a 6-year period for other matters
• in 1865, certain reforms introduced into English law by the Law of Property Amendment Act 1859 were imported to Upper Canada:
• deeds henceforth required attestation by two or more witnesses (s. 11)
• a power of attorney executed by a married woman was valid, in the same manner as for deeds and conveyances that could be executed by her (s. 22)
• a power of attorney is not extinguished by the decease of the grantor, and any acts done thereafter are valid as long as they were done in good faith (ss. 23-24)
• the provision in relation to married women was quietly repealed in 1877
• the other provisions relating to power of attorney were reenacted as a separate statute in 1910, and amended in 1911 to import  s. 23 of the English Trustee Act 1893.
• the requirement for two witnesses to attest was reenacted in 1911 as part of the The Conveyancing and Law of Property Act

 

Subsequent reforms

The Legislature of Ontario has since passed several important pieces of legislation that have served to restrict the availability of deeds:

Subject	Act	Effect
Deeds of guardianship	An Act respecting the Guardianship of Minors, SO 1887, c. 21	Deeds available only to mothers of children. (s. 3)
	Children's Law Reform Amendment Act, 1982, SO 1982, c. 20	Guardianship of the person (ie, custody and access) and guardianship of the child's property are now governed by separate applications to the court
Change of name	The Change of Name Act, 1939, SO 1939, c. 6	Available only through an application to a judge of a county or district court (ss. 3, 13), except for changes arising from marriage or adoption (s. 13)
Corporate capacity to execute contracts	The Business Corporations Act, 1970, SO 1970, c. 25	A contract "may be entered into on behalf of a corporation in writing signed by any person acting under its authority, expressed or implied."  (s. 18(2-3)) This appears to be the source for the statement found in most corporate documents here, being "I have authority to bind the Corporation."
	Canada Business Corporations Act, SC 1974-75-76, c. 33	An instrument or agreement executed on behalf of a corporation "is not invalid merely because a corporate seal has not been affixed thereto." (s. 23)
Power of attorney	The Powers of Attorney Act, 1979, SO 1979, c. 107	A power of attorney is available only in the specified form. (s. 2)
	Substitute Decisions Act, 1992, SO 1992, c. 30	Powers of attorney are subdivided into those relating to property (Part I), and those relating to personal care (Part II). Separate guardianship proceedings in both matters provided for those adults subject to the Mental Health Act.
Land registration	Land Registration Reform Act, 1984, SO 1984, c. 32	Any document recording a change of interest in land "need not be executed under seal by any person". (s. 13)
Limitations of actions	Limitations Act, 2002, S.O. 2002, c. 24, Sched. B	From 2004, in all matters other than for real property, actions may not be commenced more than two years after when the claim was discovered (s. 4), and no more than fifteen years after the act or omission had taken place (s. 15)

The remaining field

What scope remains? After the registration of real property being removed from being evidenced by deed, the benefit of longer limitation periods having been removed, and the gradual removal of more personal acts, there appears to be very little left, but there are some useful matters that remain:

• Deeds of trust (including those creating charitable trusts) are very much alive
• They are still necessary in order to enforce gratuitous promises
• Any contracts that could be attacked for lack of consideration would be protected when executed by deed
• Where "actual and immediate assignment" is not contemplated in a transaction, a deed is still useful to protect a party's interest

This serves as merely a thumbnail sketch of the topic, and I'm sure that legal scholars would be able to flesh it out more comprehensively, but it should suffice for general purposes in this province.

Does your employee really exist?

I'm being quite serious with this question, because I have seen many instances where that was not the case:

• One person's Social Insurance Number was rejected when input into the payroll system, and he was asked to bring in his card. He left and never returned to work.
• There was another instance where one person used another's SIN, and came into the payroll office later to say that he had finally gotten his own card. (He was fired on the spot.)

This is in addition to the other stories we've heard about false credentials, fake IDs and falsified references. Quite plainly, Canadian employers have been quite lax in who they've hired over the years. Even now, pre-screening in the hiring process is error-prone to the point of producing false positives and negatives, and human rights legislation prevents vetting at the point of application.

How then should we ensure that our prospective employees are who they say they, have the requisite qualification for the position, and are of good character as well? The best recommendation is to make all job offers contingent upon satisfying specific verification requirements before their start date. The following checklist is certainly a good start.

The basics

To start, we require:

• proof of Social Insurance Number (required for any reporting to the CRA)
• proof of name (duh!)

For the SIN, providing the card (if issued before 31 March 2014) or verification letter (if issued afterwards) will be sufficient, and a copy should be made for the employee file. For the name, I would prefer seeing an original voided cheque from a Canadian financial institution that has the person's name preprinted thereon. The latter will be useful for setting up direct deposit for the employee, which should be standard practice for all employers.

Proving identity and eligibility to work

While the basics are necessary, they are not sufficient in themselves to prove what is essential:

• identity
• address
• eligibility to work in Canada

Proof of identity

Put quite simply, having a name does not mean it belongs to the person in question without further proof. We will need ID that bears the person's photo, date of birth and signature as well. A basic list would include:

• a current driver's licence or photo ID card issued by a government agency
• a current passport
• a current secure Certificate of Indian Status card

Amazingly, this is a very short list, as not many other documents in Canada consistently carry all four elements. The Canadian Permanent Resident Card, for example, stopped showing the signature on cards issued from 4 February 2012.

Proof of address

If a person does not have a driver's licence or photo ID as noted above, an original mailed account statement from a Canadian financial institution (issued within the previous three months), or a recent notice of assessment from the CRA, should be sufficient to prove one's address. Failing those, other acceptable documents would be those listed for an Ontario Health Card application.

Eligibility to work

None of the above documents (with the exception of a Canadian passport) proves that a person is eligible to work in Canada. For that, we must consult the list of documents acceptable for applying for a Social Insurance Number. The essential documents are:

Canadian citizens  Certificate of birth or birth certificate issued by a province or territory  Certificate of Canadian Citizenship  Certificate of Registration of Birth Abroad issued before 1977

Permanent residents   Permanent resident card  Confirmation of Permanent Residence (only acceptable if used within one year of the date of becoming a permanent resident)  Record of Landing issued before June 28, 2002.

Temporary residents   Work permi  Study permit, indicating authorization to work in Canada  Visitor record, indicating authorization to work in Canada  Diplomatic identity card and a work authorization issued by Global Affairs Canada.

Proof of credentials

We also need to verify an employee`s education and (where required) professional credentials.

For Canadian schools, this can be a very fragmented process, as transcripts are only provided directly to the people that were in the courses. If you just want a verification that a degree, diploma or certificate had been obtained, this has been simplified in recent years:

• Many universities and colleges have gotten together to provide this confirmation via AuraData
• Some provide a separate service, such as the University of Toronto

For foreign schools, the candidates will have to provide original documents, with translations where required. There are services available that can be useful for verifying such credentials. They are worth checking, because it's stupid to insist only on Canadian experience where there are many examples of more superior sources available internationally. Even the management guru Peter Drucker has said so.

The information available from professional bodies will vary from one organization to another. For example, in the accounting profession in this province CPA Ontario will not provide information directly to employers, but will send to members on request:

• a letter of good standing (to student members only)
• a history of practical work experience (where available)
• education records

There is no membership card issued these days to prove that a member is in good standing, but a copy of their account profile can be obtained online and printed. Because of the CA/CGA/CMA merger (effectively in 2014, but legally sanctioned only in 2017), I would not ask for the original certificates such legacy members obtained, as that could constitute prima facie age discrimination. For example, I originally qualified as a Registered Industrial Accountant (RIA) in 1984, a year before it was reconstituted as Certified Management Accountant (CMA). Even the dumbest HR staff can do the math on that, so why give them the chance to back out of the offer (albeit on other bogus grounds)?

Proof of character

Beyond the question of proving documentation, there are other fundamental questions relating to a candidate's character:

• Is there a criminal record showing convictions, not otherwise pardoned, suspended or expunged, that would raise concerns relating to past behaviour that would be abhorrent to an employer? Quebec has a checklist of offences relating to dishonesty and corruption under Schedule I of the Anti-Corruption Act; the CRA has more general provisions relating to individuals who are potentially ineligible to hold a senior position in a charity; and the provincial securities commissions have a very comprehensive list for any director or officer of a public company, as shown in Schedule A of National Instrument 41-101. The checklist an employer will use has to be necessarily proportionate to its requirements (eg, a candidate for the Finance function will most likely need to have a clean record as far as offences for financial dishonesty are concerned).
• Would a candidate's financial prudence be relevant in assessing acceptability for a position? If so, a credit report may be required to look for potential red flags.
• Are there factors or concerns in a candidate's employment history that have never made it to the public record? That is why references must always be sought and checked out. They must also provide real information: a reference available only from HR that provides just bare details such as hire and exit dates may very well cover up an adverse background. For an appropriate process, the Government of Canada has an excellent page on structured reference checks.
• Are there other factors or concerns about the candidate's personal character that may be relevant to future performance? Social media checks are happening now, and Google may reveal some rather positive - or awkward - information.

How far back do you need to go? It depends on how crucial or senior the position is, but five years is probably a safe span of time, unless something pops up that may justify going back further.

Other crucial needs?

The potential requirements an employer has may extend beyond the minimum noted above:

• If a position is situated on a First Nations reserve and the candidate asserts that he/she is Indigenous, they will need to show a Certificate of Indian Status card to prove the claim. That is necessary in order to prove the right to earn pay tax-free for working on the reserve.
• Specialist certifications, such as those for bus and truck drivers, pilots and seamen, will need to be provided if the position calls for them.
• Eligibility to obtain security clearances for access to sensitive areas will be relevant for the positions that call for it, and may well be a prerequisite before an offer is actually presented.

Does this need to be done again later?

Sadly, a person's position and circumstances will change over time. If a person obtains new educational or professional qualifications, they should have an obligation to inform the employer about such changes, through the processes outlined above, and frequent voluntary updates will only make it easier to administer.

If someone is initially hired for a low-level position and is subsequently promoted to one with more responsibility, more stringent requirements may apply with respect to character and that part of the verification process may have to be repeated before the new position is offered.

There can certainly be more requirements an employer has and, subject to the restrictions imposed under human rights legislation, appropriate steps will need to be added. This is not an easy task, so good luck!

California dreamin’…

It was surprising to note on my recent trip to California that I only once encountered anyone smoking up on cannabis, and that was in a car parked at a lookout on the Sunset Cliffs in San Diego. The only other evidence of the legalized business was a billboard in North Hollywood announcing that a business had received permission to deliver the product to your home if you lived in LA. Rather low key, compared to the hype occurring now during the great ganja gold rush leading up to its legalization in the Great White North this coming 17 October.

That has prompted me to look into what California is doing to govern this field, and how it compares and contrasts to the approach we are taking. Note that this focuses on the recreational use of it, and the rules governing medical use are totally separate.

California

The California Department of Tax and Fee Administration has a very useful guide explaining the various requirements. The State also has a centralized web portal that covers all aspects of the business and how it's regulated there.

The State requires the holding of various tax permits and commercial licences that depend on the activity being undertaken:

Activity	Seller’s permit	Cannabis tax permit	Type of licence	Issuing agency
Collective/cooperative	Yes (Refer to Collectives and Cooperatives Fact Sheet for further details)
Cultivator	Yes		Cultivator	California Department of Food and Agriculture
Distributor	Yes	Yes	Distributor	Bureau of Cannabis Control, California Department of Consumer Affairs
Manufacturer	Yes		Manufacturer	California Department of Public Health
Microbusiness (ie, a combined business that is engaged in cultivation, manufacturing, distribution and retail sales)	Yes	Yes	Microbusiness	BCC/CDCA
Nursery	Yes		Cultivator	CDFA
Processor	Yes		Cultivator	CDFA
Retailer/dispensary	Yes		Retail	BCC/CDCA
Testing facility	Maybe (Although not allowed to sell cannabis or cannabis products, they must hold a permit if they wish to sell any other types of tangible personal property, such as testing kits)		Testing laboratory	BCC/CDCA

However, a seller's permit is not required if no tangible personal property is sold in California, but the commercial licensing rules require that a certification letter must be issued by the CDTFA to the relevant licensing agency to confirm that that is truly the case.

In addition, the tax structure consists of an excise tax and a cultivation tax.

• The excise tax is on retail purchasers of cannabis and cannabis products, and is 15%, based on the average retail price being realized. In an arm's-length transaction, that is the price charged at the cash register. in a non-arm's-length transaction, a markup would be applied to arrive at what would otherwise be the retail price. California sales and use tax is charged on the selling price including excise tax.
• The cultivation tax is imposed on the category and weight of cannabis that is sold or transferred to a manufacturer or distributor:

Category	USD/oz	USD/g	Equivalent CAD/g
Cannabis flowers (including dry cannabis plant)	9.25	0.326284	0.429322
Cannabis leaves	2.75	0.097003	0.127636
Fresh cannabis plant (weighed within two hours of harvesting)	1.29	0.045503	0.059873

I've presumed an exchange of CAD 1.00 = USD 0.76 in the above calculations.

Canada

Health Canada has established classes of licences for the following:

Licence	Activity	Allowing for
Standard cultivation	Growing in an area greater than 200 m2	Plants (dried or fresh); seeds
Micro-cultivation	Growing in an area less than 200 m2	Plants (dried or fresh); seeds
Nursery	Growing for starting material (ie, plants and seeds)	In areas up to 50 m2
Standard processing	Making cannabis products on a large scale (ie, greater than 600kg/year of dried cannabis)	Manufacturing
Micro-processing	Making cannabis products on a lesser scale	Manufacturing
Sale for medical purposes	Selling cannabis for medical purposes	Selling to registered clients
Analytical testing	Testing of cannabis	Any type of testing
Research	Research of cannabis	Research and development

In conjunction with this, there will be a Cannabis Licensing and Tracking System in effect, that will track all balances of, and changes to, inventories of licence holders, together with transaction counts and quantities by province and territory. The monthly reporting looks rather daunting, and I hope they will accept flat file transfers for that purpose. Manual entry would be brutal!

In addition, the Canada Revenue Agency has a separate registration framework for collecting the following excise duties:

• a flat-rate duty imposed at the time of packaging
• an ad valorem duty of 2.5% imposed at the time of delivery; and
• an additional duty (expected to be 7.5%) on delivery that will be remitted to participating provinces

The various rates of flat-rate duty are:

Cannabis product	Flat rate duty (CAD)	Flat rate + additional duties (CAD)
Flowering material (flower) included in the cannabis product or used in the production of the cannabis product	0.25/g	1.00/g
Non-flowering material (trim) included in the cannabis product or used in the production of the cannabis product (this includes flowering material that is industrial hemp by-product)	0.075/g	0.30/g
Seed included in the cannabis product or used in the production of the cannabis product	0.25 per viable seed	1.00 per viable seed
Plants included in the cannabis product or used in the production of the cannabis product	0.25 per vegetative cannabis plant	1.00 per vegetative cannabis plant

The actual liability will be the higher of the flat-rate duty or the total of the ad valorem duties. Of course, GST/HST is chargeable on the total selling price including excise duty.

Registration will be required from all commercial producers, and packagers will also have to secure an additional registration in order to receive excise stamps for application to their manufactured product. Particulars of both schemes can be found here and here. It should be noted that the required documentation to support the producer registration is quite extensive, incorporating detailed background of all directors, officers, other key personnel and the various facilities connected to the operation. The Health Canada applications also require this, as well as security clearances of all personnel concerned.

Summary

It appears that California has found more tax room to exploit in this field, compared to what current Canadian initiatives have gone towards, and there appears to have been little controversy as a result. Could this mean that we have underpriced the market here, or does this mean that producers will be getting profits that are unduly high? This merits further study, given the frenzy that venture capitalists have been in this year to get into the field. Stay tuned.

Welcome changes to the refundable dividend tax rules

I promised in my last post that I would visit the changes proposed in the 2018 federal budget with respect to the account for refundable dividend tax on hand (RDTOH), and here is the result. There are some very provisions coming into effect that will really bring some needed integration and antiabuse provisions in this field for Canadian-controlled private corporations (CCPCs).

The changes will affect certain key forms that need to be filed:

• T2 Schedule 3, which reconciles dividends received, taxable dividends paid, and Part IV tax calculations;
• T2 Schedule 53, which reconciles the flows within the Generate Rate Income Pool (GRIP) that determine what can be paid as eligible dividends reported on the T5 return;
• T2 Schedule 54, which reconciles the flows within the Low Rate Income Pool (LRIP) that determine what can be paid as non-eligible dividends similarly reported; and
• page 7 of the T2 return, concerning the determination of RDTOH and dividend refunds for the year.

This is important, as eligible dividends paid from GRIP, because of the "gross-up and credit" system of reporting taxable dividends, are more or less accounted for on the individual T1 returns with minimal impact on the overall tax collected when you add the effects of personal and corporate taxes together. Non-eligible dividends paid from LRIP will result in being effectively marginally taxed at the personal level. Until now, if there were balances in both pools there was no rule governing which pool had to be drawn upon first for paying dividends to shareholders.

The changes

Beginning with the first taxation year after 2018, the RDTOH will be divided into two accounts:

1. The current account will be designated as "non-eligible RDTOH".
2. A new account, to be known as "eligible RDTOH", will be created.
3. Where a corporation is a CCPC throughout that first year, an opening balance will be created for eligible RDTOH equal to the lesser of a) its RDTOH at the end of the previous year, and b) 38⅓% of its GRIP at the same date. An anti-avoidance provision will be in effect to prevent any manipulation concerning the opening balance.
4. Otherwise, additions to eligible RDTOH will arise from Part IV tax on "eligible portfolio dividends", which are dividends received from a) corporations with which the corporation is not connected under ITA s. 186(4), and b) connected corporations paying dividends from their own eligible RDTOH accounts.

Why is that necessary? It is because of the rules that will also come into force with respect to obtaining dividend refunds relating to Part IV tax and the refundable portion of Part I tax paid in previous years that had already flowed into the RDTOH:

1. If a corporation pays an eligible dividend, it will not be able to obtain a dividend refund unless it has a positive balance for eligible RDTOH.
2. If it pays a non-eligible dividend, it will obtain a dividend refund as long as there is a positive balance in either RDTOH account.
3. The non-eligible RDTOH account must be depleted before a dividend refund can be obtained with respect to its eligible RDTOH account.

 Why does this matter?

This is related to Ottawa's efforts to ensure that passive income within corporations is properly taxed when it flows back to individual shareholders. The current régime which provided for a single RDTOH pool was inconsistent with that goal, so it had to be dividend to ensure that taxation was occurring properly with respect to each source of investment income occurring for the corporation. This change was both necessary and desirable.

Penalties will still exist for eligible dividends paid that are in excess of available GRIP for the year, reported as Part III.1 tax on T2 Schedule 55. Therefore, several different sets of forecast and other calculation scenarios will be necessary before directors decide to declare any relevant dividends. Another reason to have a very good CFO at your side.

None of these changes affect the existing rules concerning the capital dividend account, out of which tax-free capital dividends can be paid, but it is still necessary to maintain up-to-date calculations as to what the eligible balance is. The relevant forms for this exercise are T2 Schedule 89 and T2054, mailed together to the office stated in the instructions, on or before the date the dividend is first paid or payable.. The corporation's auditors should have already compiled the necessary information, if it is not already available internally.

The passive income controversy (cont'd)

Bill Morneau finally brought down his budget last Tuesday. While the flavour du jour is gender-based analysis, you had to dig (as per usual) to find out what Finance is doing to really improve the Income Tax Act, among other laws. They have come up with an interesting resolution to the taxation of passive income in CCPCs that I discussed earlier here and here, as well as doing a needed correction to the handling of refundable dividend taxes on hand. I'll deal with the latter matter in a subsequent post.

The Budget (and the real document)

The public version, which most commentators appear to have focused on, is an interesting PR exercise as usual:




However, to see what is really going on, you always have to read this:

 What they're doing with the Small Business Deduction

Where they start discussing their proposal for limiting the availability of the small business deduction (SBD) to CCPCs (at pp. 17-20 and pp. 53-55), you discover that this is really a multiple-factor calculation. The basic formula is:

 $  ABL = BL - max(A,B)  $

where:

• ABL = adjusted business limit to what can be claimed for the small business deduction
• BL = the business limit otherwise available
• A = limitation with respect to taxable capital employed in Canada (a concept borrowed from the Part I.3 tax on large corporations), which is already in effect as ITA 125(5.1)
• B = limitation with respect to adjusted aggregate investment income (ie, passive income) for the year (being the figure from the T2 Schedule 7 with some adjustments)

The very brief summary of the impact is that:

• if a CCPC's taxable capital is less than CAD 10 million, and its passive income is less than CAD 50,000, it will continue to have full access to its business limit
• if either its taxable capital is greater than CAD 15 million, or its passive income is greater than CAD 150,000, it will have no access to the small business deduction
• there is a transitional phase where the above calculation comes into play; it is effectively a percentage reduction of what the dollar amount would otherwise be

The charts that illustrate the impact (as shown in p. 74 of the Budget and pp. 18-19 of the Tax Measures) are very poorly done, as they fragment the extent of its impact. Some commentators have said that these limitations are straight-line calculations, but they are wrong. Both limitations are curvilinear in nature as shown in the following.

The taxable capital limitation

The limitation with respect to a CCPC's taxable capital employed in Canada is:

$ \left[ \frac{0.00225(C-10,000,000)}{11,250} \right],  10,000,000 \leq C \leq 15,000,000 $

where C is such taxable capital, and the business limit after reduction for this limitation is:

The passive income limitation

The limitation with respect to a CCPC''s passive income for the year is

$ \left[ \frac{BL}{500,000} - 5(E-50,000) \right],  50,000 \leq E \leq 150,000$

where E is the adjusted aggregate investment income for the year.



Further testing proved that these calculations are effectively percentage reductions to what otherwise would be the business limit to which a CCPC would be entitled.

This also begs the question as to what to expect when the two curves intersect - as that could happen - and this is something that the wizards at Finance decided not to try to visualize. I tried to summarize this in a single formula, but that was not a practical solution. Through the tried-and-true "brute force" technique, I compiled a dataset of calculated datapoints and have constructed a chart of my own, which proves to be revealing:


You can see that the curve has a definite peak, either side of which tapers down to eventual ineligibility for the small business deduction. That may be worth investigating further, in order to help out with any necessary tax planning such corporations may need to undertake.

I like this solution, but do object to the way it's being advertised. CPA Canada has described it as being "much simpler than what was originally proposed," but no-one has mentioned its integration with the taxable capital limitation in any detail yet, but it represents a very significant expansion. If this goes through in its proposed form, it will essentially expand this anti-abuse provision, because much of the work that CCPCs and their tax advisers have done over the years in making sure that their taxable income is low enough to fully qualify for the small business deduction will become useless, as it's much more difficult to fudge passive income and capital employed. This is to be welcomed, together with last year's exclusion of personal services business income (as now shown on line 520 of Schedule 7) from the SBD and the new SBD denial rules.

This area is becoming rather exciting now. Let's see what happens next.