Écrit par Jared Mackey, Wade Ritchie and Sid Gupta
With the enactment of Bill C-47 on June 22, 2023, Canada's enhanced mandatory disclosure rules are now fully in effect. These rules, which were first announced in the 2021 Canadian federal budget:
- expand the prior rules for "reportable transactions";
- include new reporting requirements for "notifiable transactions" and "uncertain tax treatments"; and
- impose new punitive consequences, including penalties and extended reassessment periods, for failing to comply with the disclosure requirements.
These mandatory disclosure rules are generally aimed at detecting and deterring what the Canada Revenue Agency (CRA) perceives as aggressive tax planning, and are intended to align Canada's reporting policies with recommendations made by the Organisation for Economic Co-operation and Development and the Group of 20 in the Base Erosion and Profit Shifting Project, Action 12: Final Report.
The focus of this blog is the enhanced "reportable transaction" rules in section 237.3 of the Income Tax Act (Canada), which will undoubtedly have the greatest impact on Canadian businesses. Those entering into transactions after royal assent on June 22, 2023 will need to carefully consider whether their transaction requires disclosure to the CRA.
Requirements for a "Reportable Transaction"
Relative to the former law, the enhanced "reportable transaction" rules significantly reduce the threshold for a "reportable transaction" and therefore significantly expand the scope of transactions required to be reported. A transaction is reportable if it meets two requirements.
First, in order for a transaction to be reportable under the regime it must be an "avoidance transaction" or part of a series of transactions that includes an "avoidance transaction". The "avoidance transaction" definition captures not only transactions undertaken "primarily" to obtain tax benefits (the former threshold), but also transactions undertaken for "one of the main purposes" of obtaining tax benefits. As the courts have equated "main" with "important", transactions that are driven primarily by commercial considerations, but that have important tax elements, can be caught. The "avoidance transaction" definition makes no distinction between transactions giving rise to tax benefits that are permissible or encouraged from a policy perspective relative to those that might be considered abusive or aggressive.
If the foregoing threshold is met, the transaction is reportable if any one of the following three generic hallmarks exists in respect of the avoidance transaction:
The contingent fee hallmark exists if an advisor or promoter is entitled to a fee that is (1) based on the amount of tax benefit from the transaction, (2) contingent upon the obtaining of a tax benefit from the transaction, or (3) attributable to the number of persons participating in the transaction. Specifically excluded are fees for the preparation of Scientific Research and Experimental Development claims.
The contractual protection hallmark exists if the promoter or advisor for the transaction obtains "confidential protection" in respect of the transaction, which is defined as anything that prohibits the disclosure of any information regarding the details or structure of a transaction from which a tax benefit results. Specifically excluded are contractual clauses which disclaim or restrict an advisor's liability with respect to the transaction.
The contractual protection hallmark exists if the taxpayer who receives a tax benefit, a person who enters into the transaction for the benefit of the taxpayer, or the promoter or advisor (or certain other specified non-arm's length persons), have or had "contractual protection" in respect of the transaction. "Contractual protection" is defined as including any form of insurance or other protection that protects a person against the failure of the transaction to achieve a tax benefit, or that pays for or reimburses any expenses, fees, tax, interest, penalties, or similar amounts that are incurred by a person in the course of a dispute in respect of the intended tax benefit.
Specifically excluded from the hallmark are: (1) standard professional liability insurance; and (2) a protection that is integral to an arm's length agreement for the purchase and sale of a business where it is reasonable to consider that the protection is intended to ensure that the purchase price paid takes into account any liabilities of the business prior to the sale and is obtained primarily for purposes other than to obtain any tax benefit from the transaction. The latter exclusion is intended to confirm that standard representations, warranties and guarantees between a vendor and purchaser, as well as traditional representation and warranties insurance policies (which protect a purchaser from pre-closing liabilities including tax liabilities), are not expected to give rise to reporting requirements. Importantly, the exception relates to historical liabilities only and does not extend to protections related to an avoidance transaction (i.e., a transaction in which new tax benefits are sought).
The Reporting Requirement
Reportable transactions, including transactions that are a part of a series of transactions that includes an avoidance transaction, are required to be disclosed to the CRA by filing an information return in prescribed form within 90 days of the earlier of: (1) the day a taxpayer becomes contractually obligated to enter into the transaction (for example, the day a binding contract is signed); or (2) the day of the transaction. This represents a significant change from the former law which provided a filing deadline of June 30th of the calendar year following the calendar year in which the transaction became a reportable transaction. Pending clarification from the CRA, the accelerated filing deadline may create filing issues for taxpayers if the relevant avoidance transaction is part of a series of transactions that takes place over a number of months. It appears possible that an avoidance transaction occurring more than 90 days after the first transaction in a series could trigger an ex-post filing obligation for the first transaction.
The reporting obligations apply to: (1) all persons who receive or expect to receive a tax benefit from the transaction or series; (2) persons who enter into a transaction to provide such a tax benefit to another person; and (3) certain advisors and promotors in respect of the transaction or series (generally only those who receive contingent fees or are entitled to contractual protection). Persons with a filing obligation are required to provide, among other items, a detailed description of all the facts and the tax consequences of the transaction. Information subject to solicitor-client privilege does not need to be disclosed, but solicitor-client privilege does not negate a person's filing obligations.
Under the former rules, if any one party with a reporting obligation properly filed the required information return, all applicable parties were deemed to have filed. This joint filing rule has now been repealed such that all specified persons (subject to a limited carve out for persons who solely provide clerical or secretarial services) are required to separately file.
Consequences for Non-Compliance
The consequences for failing to disclose a reportable transaction to the CRA are severe. For persons who receive or are expected to receive a tax benefit, and persons entering into reportable transactions for the benefit of others, the penalty is equal to:
- if the person is a corporation and the carrying value of the corporation's assets is at least $50 million for its last taxation year, $2,000 per week up to a maximum of the greater of $100,000 and 25 percent of the tax benefit; or
- in any other case, $500 per week up to a maximum of the greater of $25,000 and 25 percent of the tax benefit.
The failure-to-file penalty for applicable advisors and promoters is equal to the total of (1) fees charged, plus (2) $10,000, plus (3) $1,000 per day in which the failure continues up to a maximum of $100,000. All penalties are subject to a due diligence defence.
In addition, when a reportable transaction is not timely disclosed, the general anti-avoidance rule (the GAAR) is to be read without reference to the misuse or abuse portion of the GAAR. In many cases this will lead to the GAAR automatically applying to deny any tax benefit of the transaction. This result can be reversed if (1) the person discloses the reportable transaction and all other reportable transactions that are part of the same series of transactions, and (2) all applicable penalties (as described above) and any related interest have been paid.
If a reportable transaction is not timely reported, the CRA has the ability to reassess a taxpayer, without regard to the normal reassessment period, for a three or four-year period (depending on the type of taxpayer) commencing at the time the taxpayer complies with the reporting requirements.
Taxpayers, advisers and promoters are now subject to Canada's enhanced reportable transaction rules. Reflecting submissions received during the consultation periods for prior drafts of the rules, the enacted rules contain focused relieving rules that appear to limit their potential breadth in many cases. In other instances, however, the government has left the scope of the rules broad and, as set out in the Technical Notes accompanying the legislation, will leave it to the CRA to provide administrative guidance. The Technical Notes reiterate that the reportable transaction rules are not intended to apply to normal commercial transactions that do not pose an increased risk of abuse. Nevertheless, pending further guidance, many taxpayers undertaking commercial transactions, with standard and inoffensive tax aspects, may opt to report in order to eliminate their risk of incurring a significant penalty for non-compliance.
If you have a question about whether your transaction is subject to the reportable transaction rules, contact any member of the Bennett Jones Tax group.