View
214
Download
1
Category
Preview:
Citation preview
HST Tips and Traps for Lawyers
Carl Irvine
Ontario Bar Association’s Institute 2015
Current Issues in Taxation Law
February 4, 2015
2
Introduction
• Basics of the GST/HST Regime
• Key Concepts
• Other commodity taxes
• Common HST traps for lawyers
o Starting a business/ HST registration
o Addressing HST in commercial agreements
o Failing to provide/obtain “prescribed information”
o Failing to file a Section 167 Election in respect of the Sale
of a business
o Settling, modifying or terminating contracts
o Directions, Nominees and Agents in real property
transactions
3
Basics of GST/HST regime
• HST imposed in “participating provinces” - ON, NS, NB, NFLD
and PEI
o HST imposed at rate equal to 5% federal portion and
relevant provincial portion (i.e., 8% in Ontario)
• GST imposed at 5% rate in “non-participating provinces” - BC,
AB, SASK, MB, QC – and the three territories
• GST/HST is imposed on “taxable supplies”
• no GST/HST is imposed on “exempt supplies” or “zero-rated
supplies”
• Certain otherwise taxable supplies are not subject to GST/HST
o “Indians” and “Indian bands” – s.87 of the Indian Act
o Certain provincial and territorial governments – s.125 of the
Constitution Act, 1867
4
Basics of GST/HST regime
• Appropriate GST/HST rate is determined by “place of supply”
rules in ETA and related regulations
o “place of supply” depends on the nature of the supply
o significant changes to these rules in 2010, particularly for
services
o Draft GST/HST TIB-103, Harmonized Sales Tax – Place of
supply rules for determining whether a supply is made in a
province
5
Key Concepts
• “Taxable supplies” (other than “zero-rated” supplies) are
subject to HST
• “Zero-rated” supplies are taxable supplies, but at a 0% tax
rate (therefore, tax-free) includes:
o basic food and groceries, prescription drugs, certain
medical devices
o many supplies to non-residents of Canada (including,
importantly, many of our legal services)
• “Exempt supplies” are not subject to HST includes:
o most financial services, many health care services and
supplies of used residential real estate.
6
Key Concepts
• “supplier” is the person who makes supplies (i.e., the vendor)
• “recipient”, means:
o where consideration for the supply is payable under an
agreement for the supply, the person who is liable to pay
that consideration
o other rules where no agreement (not discussed here)
o “recipient” for GST/HST purposes is the person who is
liable to pay for the supply, not necessarily the person
who receives it
7
Key Concepts
• “Commercial activity” includes
o a business, or adventure or concern in the nature of trade,
except to the extent it relates to the making of “exempt
supplies”, and
o a taxable supply of real property, including anything done
in the course of or in connection with the making of the
supply
8
Key Concepts
• An HST registrant can generally claim an “input tax credit” (an
“ITC”) to recover HST that it incurs in respect of property or
services to the extent they are used, consumed or
(re)supplied by the registrant in the course of a “commercial
activity”
o if they make taxable supplies, generally can recover HST
on inputs
o if they make exempt supplies, generally can’t claim ITCs
to recover HST on inputs
o an allocation of inputs between exempt and taxable
supplies may be required
• Key distinction between zero-rated and exempt supplies is
that a supplier making zero-rated supplies can generally
claim ITCs
9
Other Commodity Tax regimes
• Lawyers whose firms carry on business/serve clients situated
outside of Ontario need to think about other commodity tax
regimes
• QST is generally similar to HST and is imposed at rate of 9.975%
(combined with GST, 14.975%)
o (almost) fully harmonized with HST
• BC, SASK, and MB also impose PST on sales of goods and
certain services
o legal services are potentially taxable
o collection of PST is a difficult issue for lawyers working at
national firms
o not at all harmonized with HST
Common HST issues/traps for Lawyers
• Starting a business/HST registration
• Addressing the HST in commercial agreements
• Failing to provide/obtain “prescribed information”
• Failing to file a Section 167 Election in respect of the Sale of
a business
• Settling, modifying or terminating contracts
• Who is the recipient of the supply? Directions, Nominees and
Agents in real property transactions
10
Starting a Business – HST Registration
• One of the key questions for clients establishing a new
business will be about GST/HST registration
• Generally, if you’re making a taxable supply in Canada in the
course of a commercial activity, you need to register for
GST/HST purposes
• Three important exceptions:
o “Small supplier”
o Supply of real property outside of course of a business
o Non-resident who does not carry on business in Canada
11
Starting a Business – HST Registration
• Question of whether a non-resident is “carrying on business
in Canada” for GST/HST is a mixed factual and legal
question and can be complicated.
• Generally, CRA requires that a non-resident have a regular
and continuous presence in Canada,
o Not merely transitory or temporary – See CRA Policy
Statement P-051 “Carrying on Business in Canada”
o Long list of factors that CRA will consider in determining
whether a non-resident is carrying on business in Canada
o Some of these factors diverge from the common law legal
principles
• The analysis is complicated (and be careful, the analysis is
different for income tax)
12
Starting a Business – HST Registration
• In many instances, if there is uncertainty about whether or not
a client has to register, the easiest solution is to register
o Allows client to claim ITCs
o Can usually be done over the phone (but not for non-
residents)
o Not a particularly onerous obligation (not always
understood by foreign clients)
• In some cases a person not required to register may choose
to voluntarily register for GST/HST purposes
13
Trap: Failing to Register for HST
• Two main risks around failing to register for GST/HST
• First, liability for uncollected GST/HST
• A person making taxable supplies is required to collect
GST/HST if they are required to register, regardless of
whether they do or no
• Can be assessed for failure to remit GST/HST and
interest
• If assessed, it can be difficult to collect HST from clients
14
Trap: Failing to Register for HST
• Second, unregistered supplier can’t claim ITCs on GST/HST
on own inputs
• In the context of a new business, the supplier is often
incurring significant expenses prior to making taxable
supplies
• If registered, it should generally be entitled to claim ITCs
to recover such expenses
• If not registered, it may not be able to claim ITCs
15
Trap: Failing to Register for HST
• Example
o Bob is opening a new restaurant
o Hires you to review his lease agreement
o He enters into a lease for premises
o Hires a contractor to renovate the premises
o Buys equipment, inventory, etc.
o Registers for HST and opens for business
• What’s the problem?
16
Trap: Failing to Register for HST
• Example
o Bob retains you to assist it in buying a new business
o You incorporate a new company to buy the business
(“Newco”)
o Newco retains professional service providers to assist in
the purchase of the business (including you)
o Immediately prior to closing, you register Newco for
GST/HST purposes
o What’s the problem?
17
Avoiding/Fixing the Trap
• Ideally, you should have clients register as early as practical
o In some cases, this may also require
incorporating/forming the operating business vehicle early
in the process (i.e., not the day before closing)
• CRA will register a taxpayer with retroactive effect up to 30
days prior to the application at the request of the taxpayer
o For newly incorporated/formed entities, be sure to indicate
that the effective date is the date of
incorporation/formation, not the date of application
18
Avoiding/Fixing the Trap
• Because a person is a “registrant” when they are required to
register (i.e., generally when they make their first taxable
supply in Canada), regardless of whether they have actually
registered, the CRA will agree to backdate registration to the
date of that supply
o Typically such a request must be made in writing and
must be supported by proof that the registrant was making
taxable supplies
o However, this approach has limitations for new
businesses
19
Commercial Agreements
• HST should be considered in all commercial agreements
o Purchase and sale agreements
o Supply agreements
o Independent contractor agreements
o Manufacturing agreements
o Management agreements
o License and royalty agreements
o Leases
o Service contracts
o Retainer agreements
20
Commercial Agreements
• Important considerations include:
o Are supplies taxable or exempt? If taxable, zero-rated?
o If not zero-rated, does GST or HST apply?
o What HST rate applies?
o Is the provincial portion of the HST relieved (e.g., books)?
o Is GST/HST included in price, or is price tax-exclusive?
o Does the agreement provide that the recipient will pay any
applicable GST/HST (or other taxes)?
21
Commercial Agreements
• Key point is if the supplier is registered for (or required to
register for) HST, it is generally required to charge and collect
HST on taxable supplies (other than zero-rated supplies)
made in Canada
o Although a tax on the recipient, the supplier is required to
remit it to the CRA periodically (subject to any permitted
deductions, such as ITC claims)
o Supplier is generally required to remit tax regardless of
whether it is actually collected
o If you are acting for the supplier, you want to be certain
that it can collect all applicable HST
22
Trap: Failing to Address Tax
• Silence on liability for taxes creates commercial uncertainty
between the parties as to who bears the cost of HST and
other taxes
o Is purchase price tax inclusive or exclusive?
o Who bears liability if exempt/zero-rated supply turns out to
be taxable?
o Who bears liability if applicable GST/HST rate is higher
than expected?
o What right does the supplier have to collect HST from the
recipient?
• In the absence of tax language, how do you know if the
parties have actually agreed on these points?
23
Trap: Failing to Address Tax
• In the absence of some tax language, the supplier and
recipient may disagree on who is liable for HST
• Generally, if an agreement is silent on HST, the courts have
interpreted the agreement as being tax-exclusive
o But… this is not universally true, and depends on the
interpretation of the particular agreement and the
reasonable understanding of the parties
o Do not assume that agreement is tax-exclusive!
• If the agreement is interpreted as being tax-inclusive, the
supplier bears the economic cost of the HST
24
Trap: Failing to Address Tax
• Under ETA, supplier has a right to sue the recipient of a
supply to collect HST payable
o But… can only sue to recover HST under the ETA after it
has been remitted to CRA
o Arguably better to have a contractual right
• If there’s uncertainty as to the characterization of HST, the
supplier bears the risk
o interest and possibly penalties for late/non-remittance of
HST are imposed on the supplier, not the recipient (or, at
least, not usually)
• As a practical matter, it may be harder to collect HST from the
recipient unless the commercial agreement expressly
provides that they will pay HST
25
Avoiding the Trap
• Agreements should clearly address responsibility for taxes
(including, but not limited to, HST)
• When acting for a supplier, commercial agreements should
have some tax language:
o Basic Example: “X. In consideration for the sale of
goods hereunder, the purchaser shall pay to the vendor
and amount equal to [the contract price] and any
applicable taxes.
• Even if it is expected that the supply will not be subject to
HST (or other taxes), its better to address the issue of taxes
ahead of time in case the law changes or the CRA challenges
the characterization of the supply
26
Avoiding the Trap
• In some case, the recipient may want to shift the
incidence/risk of HST to the supplier, in which case you might
consider a tax-inclusive price provision such as:
o X. In consideration for the sale of goods hereunder, the
purchaser shall pay to the vendor an amount equal to the
[Purchase Price], which amount shall be inclusive of any
applicable taxes.
• This language often arises in context where parties believe
that supply should be zero-rated or exempt, but want to shift
the risk arising from recharacterization or change in law to
the supplier
27
Prescribed Information
• In order to claim ITCs, an HST registrant must obtain
“prescribed information” supporting their ITC claim prior to
filing their HST return for the reporting period in which the
claim is made.
• Contents of the “prescribed Information” is set out in the Input
Tax Credit Information (GST/HST) Regulations
28
Prescribed Information
• Prescribed information includes:
o the supplier’s name or trading name
o the date of invoice or sufficient information to identify
when HST was paid or became payable;
o the total consideration paid or payable for the supply;
o the supplier’s HST registration number;
o the total amount of HST charged on the supply, or, if the
price is tax-inclusive basis, a statement to this effect;
o the recipient’s name, trading name, or the name of his or
her duly authorized agent or representative;
o sufficient information to ascertain the terms of sale (e.g.,
cash, credit); and
o a description sufficient to identify the supply.
29
Trap: Failing to Obtain Prescribed
Information
• If the supplier fails to provide the “prescribed information”,
however, the recipient’s ITC claim may be disallowed
o As a practical matter, the recipient may not realize it’s an
issue until after they’re audited by the CRA
• This problem typically does not arise when dealing with
established suppliers
• But can be a problem for newly established or
unsophisticated suppliers
o Often fail to provide an HST registration number (perhaps
because they’re not registered), while still charging HST
30
Avoiding/Fixing the Trap
• This is a problem which can generally be readily avoided or, if
it is caught in time, fixed
• When dealing with unsophisticated suppliers, you might
include language in the supply agreement similar to the
following:
o X. The vendor shall invoice the client on a monthly basis,
provided however, that no amount shall be payable by the
client unless such invoices contain the prescribed
information in accordance with the Input Tax Credit
Information (GST/HST) Regulations.
• In some cases, it may be possible to embed “prescribed
information” into the agreement itself
31
Avoiding/Fixing the Trap
• If an ITC claim is disallowed due to lack of information, the
claimant re-claim ITC in a subsequent reporting period once
information is obtained
• Need to be alert to relevant limitation period (2 or 4 years,
depending on the circumstances of the supplier ) which may
preclude an ITC claim
32
Section 167 Election
• Generally a sale of a business will engage HST (and other
commodity tax) considerations, as it often involves a supply
of at least some taxable goods and services
• Even when HST is fully recoverable by the purchaser through
ITC claims, having to pay HST on a purchase of a business
can create a significant cash-flow concern for the purchaser
• Usual practice, when selling all of a business, or an
identifiable part of a business (i.e., a division or branch), is for
the parties to make a joint election under section 167 of the
ETA (the “167 Election”) to relieve the sale from HST
33
Section 167 Election
• 167 Election is available when the following conditions are
satisfied:
o The supplier is making a supply of a business or part of a
business (which can include a division or branch)
o The business was established or carried on by the
supplier or another person
o Under the agreement for the supply, the recipient is
acquiring ownership, possession or use of all or
substantially all (i.e., according to the CRA, 90% or more)
of the property that can reasonably be regarded as being
necessary for the recipient to be capable of carrying on
the business or part as a business
34
Section 167 Election
• If the 167 Election is unavailable, consider whether other
HST elections/mechanisms might be available to mitigate
cash-flow costs
• Election form must be executed and, in most instances, filed
with the CRA
• Election form should be filed on or before due date of the
HST return of the purchaser
35
Trap: Failure to file a Section 167 Election
• Unfortunately, this is an election that is often overlooked and
not filed in a timely fashion (if at all)
• Such a failure arises for a number of reasons, including:
o Forgetting to complete the election form
o Uncertainty as to who has carriage for filing the election
form (lawyers vs. accountant, recipient vs. supplier,
responsibility within the recipient)
o Lack of oversight (common in corporate reorganizations)
• Could result in the supplier being accessed for uncollected
HST if assessed by the CRA, having to collect HST from
recipient
36
Avoiding/Fixing the Trap
• Obviously, the best approach is to ensure that 167 Election
form is completed and ready to file at closing
• Fortunately, the CRA has a discretion to accept a late-filed
election on an application by the taxpayer where:
o extenuating circumstances prevented the parties from
filing the election by the required date;
o the parties met the criteria for making the election at the
time of the purchase and sale;
o both parties conducted themselves at all times as if the
election had been made;
o there is no revenue loss to the government.
37
Avoiding/Fixing the Trap
• Since the 167 Election is principally for the benefit of the
recipient, a common practice is for the recipient to indemnify
the vendor for any tax, interest, penalties or costs that may
arise if the 167 Election is disallowed by the CRA
o This also protects the supplier where the 167 Election is
not available.
• This is particularly relevant given that the filing of the election
for is the responsibility of the recipient, even though the costs
of non-filing are borne by the supplier.
38
Settlement, modification or termination of contracts
• GST/HST issues often arise – unexpectedly – in the context
of the termination/modification of a contract or the settlement
of a commercial dispute
• Examples include:
o Lease termination payment
o Payment for agreeing to modify an agreement
o Payment to settle a lawsuit for breach of contract
• Often gives rise to an unexpected trap for the unwary
39
• Subsection 182(1) of the ETA is a deeming rule that, in effect,
deems payment to be inclusive of applicable GST/HST
where:
o An amount is paid or forfeited to a registrant (or a debt or
other obligation is extinguished without payment) (a
“Payment”)
o The Payment arises as a consequence of a breach,
modification or termination of an agreement for the
making of a taxable supply (other than a zero-rated
supply) in Canada by the registrant
• Note that this section only applies to Payments made to the
supplier, not payments made by the supplier to the recipient
• Doesn’t apply to consideration for the supply
40
Settlement, modification or termination of contracts
• Where subsection 182(1) applies, the recipient is deemed to
have paid and the supplier is deemed to have collected an
amount equal to (13/113)*(the Payment) (in Ontario)
o i.e., if termination Payment = 100, that amount is deemed
to include ~$11.50 of HST (100*13/113), which must be
remitted to the CRA by the supplier
o In other words, on a $100 Payment, the supplier nets
$88.50 and the recipient (i.e., the payor) may, if
registered, may be entitled to claim an ITC of $11.50
• If subsection 182(1) isn’t accounted for, supplier may end up
with less than it bargained for
41
Trap: Failing to Take Into Account Section 182
• If you are representing the supplier, you want to make sure
that any Payment is grossed up to reflect that HST liability, so
that the supplier nets what it bargained for
• If you are representing the recipient (i.e., the payor) you want
to make sure that they know they may be able to claim an
ITC for the deemed HST
42
Avoiding/Fixing the Trap
• When drafting agreements, pay particularly close attention to
termination clauses or liquidated damages clauses, since
payment under such clause may be deemed to be inclusive
of HST
• Consider adding specific language to gross-up such
payments :
• X. To the extent that the [Termination Payment] paid to
the [supplier] hereunder is deemed by subsection 182(1)
of the Excise Tax Act (Canada) to include HST, an
amount shall be added to the [Termination Payment]
equal to applicable HST rate multiplied by the
[Termination Payment].
43
Avoiding/Fixing the Trap
Directions, Nominees and Agents in Real
Property Transactions
• Many sales of real property are taxable
• Special rules for dealing with charging and collecting
GST/HST in respect of taxable sale of real property
44
Directions, Nominees and Agents in Real
Property Transactions
• The vendor is not required to collect GST/HST if, inter alia:
o the recipient is registered for GST/HST, unless the
recipient is an individual and the property is a residential
complex or cemetery plot (or similar place of burial, etc.),
collect GST/HST on taxable supplies of real property
• Otherwise, the vendor has to charge and collect GST/HST on
taxable supplies of real property
• Where the supplier is not required to collect GST/HST, the
recipient has to self-assess for its GST/HST tax liability
45
Trap: Who is the “recipient”?
• Where lawyers and there clients get into trouble is in
situations where the “recipient” of the property is confused
with the person acquiring actually property
• Recall that the “recipient” is the person liable to pay the
consideration, not necessarily the person who acquires
the property
• Where title is registered with a person other than the
“recipient” by way of a direction at closing
• Where the “purchaser” is a nominee or agent for the true
“recipient”
46
Trap: Who is the “recipient”?
• Example 1: Lois enters into agreement to buy property, prior
to closing, she directs that title be registered with XYZ Co.,
which is registered for HST. Lois is not. Vendor does not
collect HST
Problem
• XYZ Co. isn’t the “recipient”, Lois is
• Lois isn’t registered for HST, XYZ Co. is
• vendor could be assessed for HST (and interest)
• neither Lois nor XYZ Co. may be entitled to claim ITCs to
recover that that tax
47
Trap: Who is the “recipient”?
• Example 2: Nominee Co. enters into agreement to buy
property as agent/nominee for John. Nominee Co is
registered for HST, John is not. Vendor does not collect HST
Problem
• Nominee Co. isn’t the “recipient”, John is
• John isn’t registered for HST, Nominee Co. is
• vendor could be assessed for HST (and interest)
• neither John nor Nominee Co. may be entitled to claim ITCs
to recover that that tax
48
Avoiding the Trap
• If acting for the vendor, you must confirm:
o the identity of the “recipient”
o that the purchaser is not a nominee or agent for the true
“recipient”
o registration of recipient with CRA (using CRA website)
o typically you’ll obtain a statutory declaration or certification
along with an indemnity from the “recipient”
• If acting for the recipient, you should:
o confirm that the “recipient” is registered for GST/HST
o remind recipient of its self-assessment obligations
49
51
Cautionary Note
The foregoing commentary is summary in nature and does not address
all of the issues and considerations that may be relevant under any
particular set of circumstances.
The statements and material presented herein do not represent legal or
tax advice.
No transactions should be executed on the basis of the foregoing
statements and commentary.
Formal legal, tax, and accounting advice should be obtained prior to
making any investment or executing any transaction.
Recommended