Introduction: The Purpose of the Charitable Donation Tax Receipt
David J Rotfleisch, CPA, JD is the founding tax lawyer of Taxpage.com and Rotfleisch & Samulovitch PC, a Toronto-based tax law firm.
In matters of social policy, Parliament recognizes the advantages of philanthropic donations to the community. Thus, taxpayers who have made gifts to qualified donees can claim a charitable tax credit to reduce their tax payable. Qualified donees include registered charities, registered Canadian amateur athletic associations and registered Canadian municipalities, to name a few. Since the charitable donation tax credit reduces the donor’s tax payable, the Canadian Income Tax Act contains provisions to limit the scope of gifts and the type of recipients who can receive gifts in order to avoid the misuse of the tax credit.
Recently, the Tax Court of Canada ruled on the admissibility of a domain for a charitable donation tax credit in respect of the donation of shares of a private corporation by the estate to a non-arm’s length foundation. In Estate of the late Edmond G Odette v Her Majesty the Queen, 2021 TCC 65, the Court held that the consideration used to purchase a non-qualifying security, such as shares of a private corporation, from a foundation (a qualified donee) cannot be satisfied with a promissory note (another type of non-qualifying security). The Court also ruled that the consideration must be received by the foundation at the time of the disposition. Therefore, the court refused the estate to claim a charitable donation tax credit.
The players involved
To understand the decision of the Tax Court, we will analyze the facts of the case. The estate of the late Emond G. Odette was created after the death of Mr. Odette, a philanthropist, on November 17, 2012. Mr. Odette was the sole director, shareholder and president of an Ontario company called Edmette Holdings Ltd. (the company “). After the death of Mr. Odette, the Estate became the sole shareholder of the Company. Two of Mr. Odette’s children and his lawyer became directors of the Company. Before Mr. Odette, the value of her shares in the Company amounted to nearly $ 46 million.
Transfer of shares to the Foundation
On July 2, 2013, the Company converted all of its Class B and Class C shares into common shares. Following this conversion, the estate held Class A shares with paid-up capital of $ 6.5 million and common shares with paid-up capital of $ 103. Note that paid-up capital is a tax term that refers to the amount of money a company receives for issuing its shares to its shareholders.
According to Mr. Odette’s two wills, the assets of his estate were to be turned over to the Foundation, which included all of the issued and outstanding shares of the Company. Therefore, the Estate has obtained advice from its tax lawyer on the best way to transfer the common shares of the Company to the Foundation. To complete the transfer, the following steps were taken:
- On December 20, 2013, the estate transferred shares to the Foundation as a gift.
- On December 23, 2013, the Foundation disposed of the shares by selling them to the Company.
- Payment for the shares by the Company was effected by a promissory note with a principal amount of $ 17,710,000.
- Between April 10, 2014 and August 6, 2014, the Company made three cash payments to the Foundation to honor the promissory note.
- The Foundation then issued a charitable donation receipt dated December 23, 2013 to the estate in the amount of $ 17,710,000, corresponding to the principal amount of the promissory note.
- The estate filed its final T1 return for the 2012 tax year in which it reported in its total charitable and government donations the amount of shares offered to the foundation, which exceeded $ 17 million.
The Canada Revenue Agency (CRA) reassessed the estate’s 2012 tax year and refused the estate to claim the tax credits relating to the transfer of shares to the Foundation.
Issue and applicable law on the donation of shares
Question in Tax Court
The only issue before the Tax Court was whether the estate was entitled to claim the charitable donation tax credit for the transfer of shares to the Foundation. In other words, the question to be answered was whether the donation of the shares to the Foundation constituted consideration within the meaning of paragraph 118.1 (13) (c) of the Income Tax Act.
Applicable law on the donation of shares
Under paragraph 118.1 (13) (a) of the Canadian Act Income Tax Act, a gift of an ineligible security, which is not considered an excluded gift (that is to say a gift of a share made to a donee with whom the donor not at arm’s length), is treated as if the donation had not been made. That being said, if the security is no longer considered an ineligible security within 60 months of the making of the gift or if the recipient of the gift disposes of the gift within this 60-month period, then the donor is deemed, by virtue of the subsection 118.1 (13) (b) and (c) have made the donation and be eligible for a charitable donation tax credit.
To understand the application of the subsection, one must also consider the meaning of a non-qualifying title. Within the meaning of subsection 118.1 (18) of the Income Tax Act, a non-qualifying security means an obligation of an individual or his estate with which the individual or the estate does not deal at arm’s length immediately after that time. It is also a share of a corporation that is not listed on a designated stock exchange with which the individual or the estate does not deal at arm’s length. As can be seen, the key principle behind an ineligible security is the idea that the donor and the recipient are dealing at arm’s length, that is, the donor and the recipient have a personal relationship. or existing business where one party can influence the decision of the other and manipulate the value of transactions.
Position of the Parties Regarding What Constitutes “Any Consideration”
The Tax Court ruling dealt with the meaning of the term âany considerationâ under paragraph 118.1 (13) (c). The position of the estate was that the consideration involved both the promissory note and cash payments. In contrast, the CRA’s position was that consideration under paragraph 118.1 (13) (c) refers to consideration received at the time of the transfer and cannot be a non-qualifying security. Therefore, since the promissory note was the only consideration received at the time of the transfer, the CRA argued that if paragraph 118.1 (13) (c) applied, the fair market value of the offered shares would be zero and no credit. Charitable donation tax could be claimed by the estate.
Decision of the Tax Court
In determining the meaning of “consideration” under this subsection, the Court applied a textual, contextual and reflective approach. Having considered the text, purpose and context of paragraph 118.1 (13) (c) and the other applicable provisions of the Income Tax Act, the Court ruled that this paragraph is a redemptive provision which allows taxpayers who meet a set of strict conditions to be eligible for a tax credit. That said, the court held that the âconsiderationâ under that subsection does not apply to an ineligible title and that the timing is important. Consideration must be received at the time of disposition. In the case of the estate, the promissory note was the only consideration received at the time of disposition. The cash payments were not a consideration since they were made months after the promissory note was issued. In addition, the promissory note was established between parties who were not at arm’s length. Therefore, the promissory note was a non-qualifying security. Since the promissory note was the only consideration received at the time of the transfer, the fair market value of the donation was zero and the estate was not entitled to claim the charitable donation tax credit.
Tax advice: the type of counterparty and when the counterparty is received are important
This case highlights that if shares of a private company are donated to a registered charity, two important elements must be observed under paragraph 118.1 (13) (c) of the Income Tax Act be eligible for a charitable donation tax credit. First, a promissory note is not adequate consideration if the parties involved were dealing at arm’s length. Parliament has authorized tax credits for situations where the donor is impoverished and the recipient (charity) is enriched. Since a promissory note does not create a real intention to pay between non-arm’s length parties who can use the promissory note as a formality but never actually make the payments, a promissory note is not. an adequate consideration. Second, timing is important. Consideration must be received at the time of disposition and that consideration must not be a non-qualifying security, such as a promissory note. If you plan to donate non-qualifying securities to registered charities, this case shows that certain requirements must be met to claim a charitable tax credit.
David J Rotfleisch, CPA, JD is the founding tax lawyer of Taxpage.com and Rotfleisch & Samulovitch PC, a Toronto-based tax law firm. Classes. He appears regularly in print, radio and television, and in many blogs.
With over 30 years of experience as a lawyer and chartered professional accountant, he has assisted start-ups, cryptocurrency traders, resident and non-resident business owners and corporations with their tax planning. , with will and estate planning, voluntary disclosures and taxation. dispute resolution, including tax audit representation and tax litigation. Visit www.taxpage.com and email David at [email protected]
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