At the Canadian Tax Foundation’s annual conference held in late October, the Canada Revenue Agency provided a bit of good news when responding to a couple of questions posed to them during their annual roundtable session. The first dealt with the reimbursement of computer and office equipment by employers and the second concerned refinancing a prescribed-rate loan. Let’s take a look at what the CRA said about each issue.
You may recall that back in April, the CRA issued a technical interpretation dealing with employee taxable benefits that employees may have received as a result of having to now work from home due to COVID-19. The CRA was asked whether an allowance paid by an employer to an employee for the purpose of acquiring equipment to enable them to work from home would be considered a taxable benefit to the employee. The CRA was also asked whether its response would be different if the amount paid by the employer is conditional on a proof of purchase being submitted by the employee.
The CRA indicated that a general allowance paid to an employee would be considered a taxable benefit but that, in the context of the COVID-19 pandemic, the CRA would be “willing to accept that the reimbursement of an amount not exceeding $500 for the purchase of personal computer equipment will not be taxable if it is mainly for the benefit of the employer.”
At the CTF roundtable session, the CRA was first asked whether the $500 reimbursement amount would be increased. The CRA stated that there are no current plans to increase the $500 reimbursement amount, but that it would “continue to carefully monitor all developments relating to the COVID-19 pandemic and will take further action as necessary.”
The CRA was then asked whether its position on the amount reimbursed for the purchase of personal computer equipment would be expanded to include the purchase of home office furniture, such as desks, chairs and so forth. At the roundtable, the CRA announced that it was extending its administrative position to employer reimbursements for home office equipment purchased by employees.
It also clarified that the $500 reimbursement amount is the maximum for each employee, rather than for each piece of computer or office equipment that an employee may purchase. For example, if an employee purchases a large-screen monitor for $400 and an office chair for $250, the employer can reimburse the employee up to $500 without the employee receiving a taxable benefit under the CRA’s new administrative position. If, however, the employer chooses to reimburse the employee for the full $650, the amount over $500 (that is, $150) would have to be included in the employee’s income.
Since July 1, the CRA’s prescribed rate has been one per cent, opening up a potentially lucrative opportunity for some Canadians to execute an income splitting strategy.
The prescribed rate is set by the CRA quarterly and is tied directly to the yield on Government of Canada three-month Treasury Bills. Given historically low recent T-Bill rates, the prescribed rate dropped to one per cent on July 1, 2020 and will remain at one per cent through at least March 31, 2021.
The drop in the prescribed rate may provide some Canadians with a significant opportunity to split income with a spouse or common-law partner, (grand)children or other family members. Income splitting is the transferring of income from a high-income family member to a lower-income family member. Since our tax system has graduated, progressive tax rates, by having the income taxed in the lower-income earner’s hands, the overall tax paid by the family may be reduced.
The “attribution rules” in the Income Tax Act prevent some types of income splitting by generally attributing income or gains earned on money transferred or gifted to a family member back to the original transferor. There is an exception to this rule if funds are loaned, rather than gifted, provided the rate on the loan is set (as a minimum) at the prescribed rate in effect at the time the loan was originated and the interest on the loan is paid annually by Jan. 30 of the following year.
So, if the loan is made at the prescribed rate of one per cent, the net effect will generally be to have any investment return generated above one per cent taxed in the hands of the lower-income family member. Note that even though the prescribed rate varies by quarter and may ultimately rise, one need only use the prescribed rate in effect at the time the loan was originally extended. In other words, if the loan is extended between now and the end of March 2021, the lower one per cent rate would be locked in for the duration of the loan without being affected by any future rate increases.
But, let’s say you entered into a prescribed-rate loan with a family member when the rate was two per cent (or higher) and you want to refinance the loan at one per cent. The CRA has stated that simply repaying a higher prescribed rate loan with a lower rate loan could trigger the attribution rules on the investment income.
Instead, the lower-income family member should sell the investments (which could trigger capital gains tax, depending on the market value of the investments compared to their tax cost), and repay the loan. They can then enter into a completely new loan agreement using the new one per cent prescribed rate. But do they need to sell all the investments or just enough to pay off the loan? The CRA addressed this question at the Roundtable session.
Let’s say Lisa, a high-income earner, loaned her husband, Harvey, who is in a lower tax bracket, $100,000 (“Loan 1”) back when the prescribed rate was two per cent. The borrowed money was used to purchase securities for $100,000. Those securities now have a value of $200,000. The couple wants to refinance the loan at one per cent. Harvey would sell half the securities and use the proceeds to repay Loan 1. Harvey would then borrow $100,000 from Lisa at the current lower prescribed rate of one per cent (“Loan 2”). The proceeds of Loan 2 would then be used to purchase new securities for $100,000.
At the roundtable, the CRA confirmed that the attribution rules will not apply to the securities that are still owned and were purchased with Loan 1 and, furthermore, that the attribution rules will not apply to the investments purchased with Loan 2. This allows Lisa and Harvey to take advantage of the new, lower prescribed rate for years to come by only triggering half the accrued gains on the portfolio.
Jamie Golombek, CPA, CA, CFP, CLU, TEP is the Managing Director, Tax & Estate Planning with CIBC Private Wealth Management in Toronto.