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Restrictive Cov...

Restrictive Covenants


On June 26, 2013 Bill C-48 received Royal Assent entacting the proposed legislation related to the taxation of Restrictive Covenants (RCs). This legislation is retroactive to years as far back as 2003, although it is uncertain whether CRA could reopen a return past the normal reassessment period for legislation passed long after the return was filed.


Subsection 56.4(2) provides that any amount received or receivable for a RC will be treated as ordinary income for tax purposes. Obviously when dealing with the sale of a business by means of shares sale the difference is declaring the income as a capital gains and ordinary income (or 50% inclusion and 100% inclusion). A RC is an agreement between parties, or an undertaking or waiver of an advantageous right that affects, or is intended to affect, in any way, the acquisition of property or services. This agreement need not be legally enforceable.


Some Exceptions to the General Inclusion

There are three narrow exceptions (56.4(3)) to the general income inclusion rule provided that the vendor and purchaser deal at arm’s length, as follows:


1)      Employment income – if the amount is required to included in employment income or would be so if the amount had been received in the year.

2)      Eligible capital property – if the amount would be included in in the tax payer’s cumulative eligible capital in respect of the business carried on in Canada by the taxpayer.

3)      Shares and partnership interests – if the amount is the disposition of an eligible interest


Reallocation of Proceeds

Due to the preferential tax treatment of capital gains, as compared to the full income inclusion for the proceeds related to the RC, CRA retains the rights to challenge and reallocate the proceeds under Section 68 which generally allows CRA to challenge unreasonable allocations of proceeds. There are some very specific cases, certain employee relationships (subsection 56.4(6) and arm’s length and non-arm’s length transfer of goodwill and certain property subsection 56.4(7)) where CRA cannot reallocate the proceeds.


Election Required

To fall within the exception 2 or 3 above, the vendor and thebuyer must jointly elect in a prescribed form. As the prescribed form is not yet available, the seller and buyer must file a jointly-signed letter to make the election. SEE BELOW FOR CRA RULES FOR THE ELECTION


            Election for restrictive covenants

Since we have not published a prescribed form for the elections contained in section 56.4 of the Income Tax Act, the seller (grantor) and buyer (payor) have to file a jointly-signed letter to make the election.

This letter must include the following information concerning the grantor:

  • Full name
  • Social insurance number or business number
  • Address, and mailing address if applicable
  • The taxation year of the grantor in which they sold the restrictive covenant

This letter must include the following information concerning the payor:

  • Full name
  • Social insurance number or business number
  • Address, and mailing address if applicable
  • The taxation year of the payor in which they bought the restrictive covenant

This letter must include the following information concerning the covenant:

  • A description of the covenant
  • The full name of the taxpayer granting the covenant
  • The full name of the taxpayer receiving the consideration for the covenant
  • An indication that these parties deal at arm's length
  • Under which provision of section 56.4 is the election being made by the parties

The election is deemed to be filed on time if it is filed on or before the day that is 180 days after Royal Assent, That is December 23, 2013. Otherwise, the prescribed form (or letter) must be filed on or before the person’s filing due date for the taxation year that includes the date the RC was granted for persons resident in Canada. For non-residents, the deadline is 6 months after the day the RC was granted.

Note that the basic requirements for exception 3 to the general rule include that the RC must be a non compete. As such various other RC’s such as non-solicitation and non-disclosure (or confidentiality agreements) may not qualify for the exception.
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The Undergrou...

The Underground Economy


Early in 2015 a CRA Newswire announced that on April 29, 2015 Statistics Canada released the new underground economy estimates for Canada for the period from 1992 to 2012. Some figures included:

- from 2007 to 2012 underground economy activity increased 14% compared to a 17% increase in GDP; and,

- four sectors accounted for 66% of the total estimated underground activities - residential construction (28%); finance, insurance, real estate, rental, leasing and holding companies (14%); retail trade (12%); and accommodation and food and services (12%).

CRA noted that they will analyze the results of this study to develop targeting strategies. Further, the 2015 budget proposes to provide an additional $118 million over 5 years to enhance CRA's underground economy audit efforts.
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                                                             GIFTS AND AWARDS

Gifts, awards, and long-service awards
A gift or award that you give an employee is a taxable benefit from employment, whether it is cash, near-cash, or non-cash. However, we have an administrative policy that exempts non-cash gifts and awards in some cases.
Cash and near-cash gifts or awards are always a taxable benefit for the employee. A near-cash item is one that functions as cash, such as a gift certificate or gift card, or an item that can be easily converted to cash, such as gold nuggets, securities, or stocks. For more information, see “Rules for gifts and awards” and “Policy for non-cash gifts and awards,” on this page.
Example of a near-cash gift or award
You give your employee a $100 gift card or gift certificate to a department store. The employee can use this to purchase whatever merchandise or service the store offers. We consider the gift card or gift certificate to be an additional remuneration that is a taxable benefit for the employee because it functions in the same way as cash.
Example of a non-cash gift or award
You give your employee tickets to an event on a specific date and time. This may not be a taxable benefit for the employee since there is no element of choice, if the other rules for gifts and awards are met.
 Rules for gifts and awards
A gift has to be for a special occasion such as a religious holiday, a birthday, a wedding, or the birth of a child. An award has to be for an employment-related accomplishment such as outstanding service, or employees’ suggestions. It is recognition of an employee’s overall contribution to the workplace, not recognition of job performance. Generally, a valid, non-taxable award has clearly defined criteria, a nomination and evaluation process, and a limited number of recipients. An award given to your employees for performance-related reasons (such as performing well in the job he or she were hired to do, exceeding production standards, completing a project ahead of schedule or under budget, putting in extra time to finish a project, covering for a sick manager/colleague) is considered a reward and is a taxable benefit for the employee. If you give your employee a non-cash gift or award for any other reason, this policy does not apply and you have to include the fair market value of the gift or award in the employee’s income. The gifts and awards policy does not apply to cash and near-cash items or to gifts or awards given to non-arm’s length employees, such as your relatives, shareholders, or people related to them. For more information on gifts and awards outside our policy go to and click on “Gifts and awards outside our policy.”
Use the fair market value (FMV) of each gift to calculate the total value of gifts and awards given in the year, not its cost to you. You have to include the value of the GST/HST. Policy for non-cash gifts and awards  You may give an employee an unlimited number of non-cash gifts and awards with a combined total value of $500 or less annually. If the FMV of the gifts and awards you give your employee is greater than $500, the amount over $500 must be included in the employee’s income. For example, if you give gifts and awards with a total value of $650, there is a taxable benefit of $150 ($650 – $500). Items of small or trivial value do not have to be included when calculating the total value of gifts and awards given in the year for the purpose of the exemption. Examples of items of small or trivial value include:
coffee or tea;
  T-shirts with employer’s logos;
  mugs; or
plaques or trophies.
 Long-service awards
As well as the gifts and awards in the policy stated above, you can, once every five years, give your employee a non-cash long-service or anniversary award valued at $500 or less, tax free. The award must be for a minimum of five years’ service, and it has to be at least five years since you gave the employee the last long-service or anniversary award. Any amount over the $500 is a taxable benefit. If it has not been at least five years since the employee’s last long-service or anniversary award, then the award is a taxable benefit. For example, if the 15 year award was given at 17 years of service, and then the next award is given at 20 years of service, the 20 year award will be a taxable benefit, since five years will not have passed since the previous award. The $500 exemption for long-service awards does not affect the $500 exemption for other gifts and awards in the year you give them. For example, you can give an employee a non-cash long-service award worth $500 in the same year you give him or her other non-cash gifts and awards worth $500. In this case, there is no taxable benefit for the employee.
If the value of the long-service award is less than $500, you cannot add the shortfall to the annual $500 exemption for non-cash gifts and awards.
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