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In This IssueYear-End Tax Planning

United States Taxation

1999 Remuneration

Personal Tax

Corporate Tax

Income Tax Myth

General Index of Financial Information

Foreign Reporting Penalties

Employee vs.Independent Contractor

Directors’ Liability

Clearance Certificates

General

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Hilborn Ellis Grant LLPChartered Accountants

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From Hilborn Ellis Grant LLP

Facts & Tax

Review

1. Deductibility and Timing of Expenditures

If individuals make the following expendituresby December 31, 1999, they will be eligible for1999 tax deductions/credits: moving expenses,child care expenses, safety deposit box fees,charitable donations, political contributions,investment counsel fees, accounting fees,professional dues and medical expenses.

2. Registered Retirement SavingsPlans (RRSP)

1999 eligible RRSP contribution amountsare noted on the 1998 personal income taxreturn assessment notices. You have untilFebruary 29, 2000, to make tax deductibleRRSP contributions for the 1999 year.

Consider contributing to a spousal RRSP to achieve income splitting in the future.

The maximum Year 2000 addition todeductible RRSP contribution room is$13,500. Therefore, $75,000 of 1999earned income is needed to reach this maximum.

Persons turning age 69 in 1999 mustconvert their RRSP into cash, an annuity or a Registered Retirement Income Fund by December 31, 1999.

3. Payment of SalariesIf you own a business, consider paying a reasonable salary to family members for services they rendered to the business.

4. Social Security ClawbackAn individual whose 1999 net incomeexceeds $53,215 will lose all, or part,

of their old age security. Senior citizens willbegin to lose their income tax age credit if net income exceeds $25,921.

5. Utilization of Capital CostAllowance (Depreciation)

Consider purchasing assets eligible forcapital cost allowance before the year-end.For example, employees may claim capitalcost allowance on automobiles, aircraft andmusical instruments required to be used intheir employment.

6. Realization of Capital LossesIf you have had taxable capital gains in the year, or any of the preceding threeyears, consider selling capital propertieswith an underlying capital loss prior to theyear-end. This capital loss may be used tooffset capital gains realized in the year, orin the three preceding years. Note that thefinal trading date of a Canadian stock forsettlement in 1999 is December 24, 1999.

7. Payment of Income Througha Trust

If income in an inter vivos trust is to betaxed on a beneficiary's return, the incomemust be paid or payable to the beneficiaryby December 31, 1999.

8. Registered Education SavingsPlan (RESP)

A new Canada Education Savings Grant(CESG) for RESP contributions will be permittedequal to 20% of annual contributions forbeneficiaries up to and including age 17(maximum $400 per child per year).

Year-End Tax Planning

Facts & Tax Review

However, contributions for 16 and 17 yearolds will only qualify for certain previousplans. Therefore, consider establishing a RESPfor a 15 year old before the end of the year.

As there are limits to the amount of CESGcarry forward, ensure that you take advantageof any CESG room by making RESPcontributions before December 31, 1999.

9. Health and Dental Premiums for the Self-Employed

Individuals will be allowed to deduct amountspayable in respect of the year for PrivateHealth Service Plan coverage in computingbusiness income provided they are activelyengaged alone, or as a partner, in theirbusiness, and either self-employment is theirprimary source of income or their incomefrom other sources does not exceed $10,000.

10. Tax on Split IncomeThe 1999 Federal Budget proposes to applythe maximum marginal tax rate to certainpassive income of individuals under the age of 18 commencing in the year 2000.

This includes:

1. Taxable dividends, and other shareholderbenefits, on unlisted shares of Canadianand foreign companies (received directlyor through a trust or partnership); and

2. Income from a partnership or trust wherethe income is derived from providinggoods or services to a business carriedon by a relative of the child or, in whichthe relative participates.

Therefore, consider maximizing this type of income in 1999.

United States TaxationIf you are not a citizen of the United States, and you were present in the United Statesfor at least 31 days in 1999 and a total of 183 or more days in 1999, 1998 and1997, which is determined by counting all days present in 1999, 1/3rd of the numberof days present in 1998 and 1/6th of the number of days present in 1997, you areconsidered to be a U.S. resident under the United States Substantial Presence Test.

If you meet the Substantial Presence Test and are, therefore, deemed to be a resident of the United States, you must file a tax return in the United States reporting yourworldwide income for your period of residency and you will also be subject to variousother United States taxation provisions.

There is a Closer Connection Exception that would deem you not to meet the SubstantialPresence Test if the following three criteria are met (this list cannot be used by GreenCard Holders who are deemed to be residents of the United States):

• you were present in the United States for fewer than 183 days in 1999;

• you establish that during 1999 you had a tax home in a foreign country; and

• you establish that during 1999 you had a closer connection to one foreign country in which you had a tax home other than the United States.

In order to substantiate the Closer Connection Exception, a form must be filed with the Internal Revenue Service by June 15, 2000. Late filing of the form can result in significant penalties being imposed.

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1999 RemunerationSome general guidelines to follow inremunerating the owner of a Canadian-controlled private corporation earning "active business income" include:

1. Bonus down active business earnings in excess of $200,000.

2. Elect to pay out tax-free "capital dividend account" dividends.

3. Consider paying dividends to obtain a refund of "refundable dividend tax on hand".

Some other considerations include:

1. Salary/bonus payments require sourcedeductions to be remitted to CanadaCustoms and Revenue Agency on a timely basis.

2. Individuals that wish to contribute to theCanada Pension Plan or a RegisteredRetirement Savings Plan may require asalary to create "earned income".

3. Salaries paid to family members must be reasonable.

4. Bona fide dividends paid on one class ofshares, to the exclusion of the other, maybe accepted based on the recent SupremeCourt decision in Neuman vs. H.M.Q.

5. Some provinces have "payroll taxes"thereby increasing the costs of payingsalaries versus dividends.

Reasonability of Salary:Canada Customs and Revenue Agency has a long standing practice of not challengingthe reasonableness of salaries or bonusespaid to a principal shareholder who is active

1999 REMUNERATIONin the corporation’s business and thecorporation has either established: I1. a practice of distributing profits to such

employee/shareholder in this manner; or

2. a policy of declaring bonuses toshareholders to remunerate them forprofits that are attributable to specialknow-how or skills of the shareholder.

This position was adopted largely foradministrative ease and because the overalltax effect did not vary significantly whetherthe corporate profits were drawn out assalaries or as dividends.

However, Canada Customs and RevenueAgency clarified that it is not prepared toextend this position to bonuses paid out of a corporation’s investment income or tointer-corporate management fees since thismay lead to inappropriate tax planning.

The position does not extend to remunerationpaid to spouses or other family members ofthe principal shareholder or to principalshareholders who are non-residents. In suchcases, Canada Customs and RevenueAgency reserves the right to require evidencethat the remuneration is reasonable in thecircumstances.

Finally, bonuses should relate to the expertise,skills and services provided to the corporationand should not be determined on the basis ofeach shareholder’s holdings in the company.Where the shareholders/employees do notrender any services to the company, it isCanada Customs and Revenue Agency’s viewthat the deduction would not be allowed.

Personal TaxPrincipal Residence ExemptionCanada Customs and Revenue Agency recently noted that an individual that has land in excess of 1/2 hectare may still beeligible for the principal residence exemption if the excess land is necessary for the "use and enjoyment" of the residence. Thisincludes situations where it was required by law or regulation toacquire land that exceeds 1/2 hectare and throughout the period the property is continuously owned by the taxpayer.

Moving ExpensesCanada Customs and Revenue Agency recently confirmed thatwhere an individual commences employment in another city butthere is, say, a three year delay before moving, he/she would stillbe entitled to deduct moving expenses.

Canada Customs and Revenue Agency noted that where the moveis because of a new employment position, even though the movewas delayed, in this case, because of the individual’s health, thedepressed real estate market, and the difficulty in selling the oldresidence, these circumstances are reasonable. Therefore, themoving expenses are deductible.

Charitable DonationsCanada Customs and Revenue Agency notes that a bequest madein a Will is considered a donation on the terminal return of thedeceased if the charitable organization, and the amount is actuallystated in the Will. However, many Wills are drafted such that the residue of the estate is to be divided among such registeredcharities as the trustees determine. Canada Customs and RevenueAgency takes the position that these donations may not be eligiblefor the terminal return.

Medical ExpensesCanada Customs and Revenue Agency note that an amount paidto a medical doctor normally qualifies as a medical expense.Further, an amount paid to a medical practitioner for surgery ofany kind, whether cosmetic or elective, generally qualifies as it is presumed that such surgery is beneficial to the patient’s health.

Corporate TaxThe Christmas PartyCanada Customs and Revenue Agency recently noted that it is a non-taxable benefit when an employer provides a party or othersocial event which is generally available to all employees if theamount per employee is reasonable. (Canada Customs andRevenue Agency uses a cost of $100 per person as a guideline.)Ancillary costs, such as transportation home, may increase theamount considered reasonable.

Employer-Paid Education CostsCanada Customs and Revenue Agency recently confirmed thatcourses which are taken for maintenance or upgrading of employer-rated skills, when it is reasonable to assume that the employee willresume his/her employment for a reasonable period of time afterthe completion of the courses, will generally be non-taxable. Thisincludes course fees, text books and exam fees reimbursed by the employer.

Canada Customs and Revenue Agency also reviewed threeexamples of employer-paid educational contracts and noted that since the employees are being trained for specific jobs in the employer’s organization, the employer-paid tuition fees andexpenses of training would not be taxable.

They noted that a living allowance paid to the student over thecourse of the five-year study period would not be taxable if it was "a reimbursement of expenses" or "an accountable advance".Also, if the amount is a non-accountable allowance it would not be taxable as long as it is not primarily for the benefit of the employee and meets certain other conditions. For example, an agreement between the employee and the employer that the allowance is to be used for certain types of expenses, or arequirement that the employee confirm that they used the money in the manner intended, may provide support that the allowance is not primarily for the benefit of the employee.

This does not necessarily apply in non-arm’s length employer-employee relationships.

INCOME TAX MYTHCertain groups have been advocating the non-payment of income taxes by claiming that income tax is unconstitutional andunenforceable. The constitutionality of Income Tax was once again confirmed in a May 27, 1999, Federal Court Case,Langlois vs. H.M.Q. In September, 1999, Canada Customs and Revenue Agency officially warned taxpayers against this "myth" and requested taxpayer cooperation with Canada Customs and Revenue Agency employees.

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General Index of Financial Information(GIFI)Canada Customs and Revenue Agency has introduced a new method,GIFI, to collect financial information in a codified format. This newformat will allow Canada Customs and Revenue Agency to moreefficiently process returns, conduct effective screenings of taxpayers for audit, prepare for the electronic filing of tax returns and enableStatistics Canada to improve the collection of national statistics.

The GIFI will come into effect for all corporations having taxationyears ending in or after 2000.

Our firm is prepared for the introduction of GIFI and the reformattingof financial statement information that must be delivered to CanadaCustoms and Revenue Agency with the corporate income tax returns.

Foreign Reporting PenaltiesTaxpayers must disclose to Canada Customs and Revenue Agencyon Form T1135 foreign investments (with a few limited exceptions)having an aggregate cost of over $100,000 Canadian.

The penalties for failure to file Form T1135 include:

1. Basic penalty - $25 per day - minimum $100 and maximum$2,500; plus

2. If the omission is made, "knowingly or under circumstancesamounting to gross negligence" - $500 per month times amaximum of 24 months for a maximum of $12,000 minus the penalty in 1. above; plus

3. Where 2. above applies, after 24 months - 5% times the cost of the asset minus the penalties in items 1. and 2. above.

For example, if an investor had knowingly not reported foreignassets costing $300,000 for, say, three years the penalty is$15,000 (5% of $300,000).

Also, false statements or omissions on a filed T1135 madeknowingly are subject to penalties of the greater of $24,000 and 5% of the omission.

Employee vs. Independent ContractorThe determination of whether a taxpayer is in a contract of service(employee) or is providing a contract for services (independentcontractor) is a question of fact. Canada Customs and RevenueAgency views the following factors as indications of employee status:

• the entity to which the services are provided has the right tocontrol the amount, the nature and the direction of the work to be done and the manner of doing it;

• the payment for work is by the hour, week or month;• payment by the entity of the worker's traveling and other

expenses are incidental to the payer’s business;• a requirement that a worker must work specified hours;• the worker provides services for only one payer; and• the entity to which the services are provided furnishes the

tools, materials and facilities to the worker.

Generally to be considered an independent contractor, thetaxpayer must have agreed to do a specific job with nocommitment for a number of hours. They must also have workedon their own without supervision and issued their own invoicesand received payment for the completed work. In addition, theymust have received no company benefits and operated from homeoffices with their own equipment. Finally, they must have providedservices to more than one company.

In addition to the above factors, the courts have also developedthe following four tests to determine whether a taxpayer is anemployee or independent contractor:

1. Control Test - This test is used to determine if the worker is restricted under a "master-servant" relationship. Generally, an employer has more control over an employee than anindependent contractor.

2. Integration Test - This test decides whether the workperformed by an employee under an employment contract isdone as an integral part of the business. If the worker is undercontract for services, this would be classified as necessary to the business and not an integral part of the business.

3. Specified Result Test - Generally an independent contractor is hired to do a specific job. Once it is completed, the businessrelationship no longer exists. On the other hand, an employeewill be available to the corporation for a variety of tasks in acontinuing relationship.

4. Economic Reality Test - Is the taxpayer working for him orherself or someone else (i.e., an independent contractor canincur losses if specific goals are not attained).

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Facts & Tax Review

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Hilborn Ellis Grant LLPChartered Accountants

Since 1930

Directors’ LiabilityThe Federal Court of Appeal recently overturned a Tax Court decision which had found that directors of a non-profit corporation escaped liability on unremitted sourcedeductions for a number of reasons including a lower standard of care for directors of a non-profit corporation.

The Court found the directors liable and noted that:

1. Persons acting as de facto directors are also liable for unremitted source deductions even though they may not technically have the status of directors;

2. The obligation on directors is to prevent a failure;

3. Volunteer directors are held to the same standard of care as directors in commercial entities.

Because of this broad interpretation of the word "director", persons who are responsible for making source deductions should be aware that they may be potentially liable if the source deductions are not remitted.

Clearance CertificatesCanada Customs and Revenue Agency has the power to assess an executor for theoutstanding tax liability of an estate if assets are distributed without a clearance certificateand the tax remains unpaid. Prior to June 18, 1998 Canada Customs and RevenueAgency could not assess the executor past the three year statute of limitations. However,this has been amended to permit Canada Customs and Revenue Agency to assess an executor at any time.

GeneralOn November 1, 1999, Revenue Canada became the Canada Customs and RevenueAgency. This change has not resulted in any changes (at the time of the writing of thisnewsletter) in office locations or phone numbers.

Over the next year, Shawinigan, Winnipeg, Sudbury and Saint John’s Tax Centres willbegin processing GST returns, in addition to the Summerside and Surrey Tax Centres. The address of the Tax Centre to which you should send your GST returns is printed on the back of the forms received.

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Facts & Tax is published and distributedby the partners and staff of Hilborn Ellis Grant LLP, Chartered Accountants,as information for our clients and otherinterested parties. Readers should consulttheir professional advisors before actingon the basis of material contained in this publication.

1999 2000

Ordinary Income 48.75% 47.87%Capital Gains 36.56% 35.90%Dividends 32.92% 32.32%

TOP PERSONAL TAX RATES - ONTARIO