Updated: June 21, 2024
Taxpayers should be aware of significant changes to Canada’s general anti-avoidance rule (GAAR)—a measure intended to prevent Canadian taxpayers (such as corporations, trusts, or individuals) from receiving tax benefits as a result of abusive tax planning. These changes to the Income Tax Act (the Act) were enacted as part of Bill C-59 on June 20, 2024.
The amendments to the GAAR are a part of the federal government’s initiative to clarify and broaden the GAAR’s scope. An analysis of whether the GAAR applies now relies more on legislation, whereas previously, decisions were based on tests set out by the Supreme Court of Canada. This change will make it easier for the CRA to successfully deny tax benefits under this rule.
The expanded GAAR applies retroactively to transactions occurring on or after January 1, 2024, except for the new preamble and the new GAAR penalty which are effective June 20, 2024.
What are the expanded rules?
The federal government made the following amendments to expand the GAAR. These changes are notable because any tax benefit that arises a transaction where GAAR applies is denied.
A preamble to help interpret the GAAR
The new preamble addresses existing interpretative issues to help ensure the GAAR applies as intended. Specifically, the preamble aims to clarify the GAAR’s intention to:
- Deny a tax benefit resulting from an avoidance transaction that misuses or abuses provisions of the Act, while still allowing taxpayers to obtain legitimate tax benefits.
- Strike a balance between a taxpayer’s need for certainty in planning their affairs, and the government’s responsibility to protect the tax base and ensure tax fairness.
A lower threshold for the avoidance transaction purpose test
Under the new rules, if a taxpayer undertakes a transaction and it can reasonably be considered that “one of the main purposes” of the transaction is to obtain a tax benefit (directly or indirectly), it would be considered an avoidance transaction. In other words, even a transaction that’s undertaken primarily for bona fide purposes could still be considered an avoidance transaction if one of its main purposes is to obtain a tax benefit.
This broadens the scope of the GAAR compared to the previous rule, which stated that a transaction is not considered an avoidance transaction if it was undertaken “primarily” for bona fide purposes, even if it results directly or indirectly in a tax benefit. As a result, the new GAAR could apply to more transactions and fewer taxpayers will be able to contest GAAR assessments.
An economic substance rule
Under the new rules, a transaction or a series of transactions that is “significantly lacking economic substance” is an important consideration that tends to indicate that the transaction meets the “misuse or abuse” test. The new rules outline factors that may establish that a transaction lacks economic substance, such as:
- All or substantially all of the opportunity for gain or profit and risk of loss of the taxpayer remains unchanged
- It’s reasonable to conclude that the expected value of the tax benefit exceeded the expected non-tax economic return
- It’s reasonable to conclude that the entire, or almost entire, purpose for undertaking the transaction was to obtain the tax benefit
This change significantly expands the scope of the GAAR and is intended to ensure that the courts consider economic substance when determining whether the GAAR should apply. Taxpayers will need to carefully assess the impact of the economic substance test when engaging in tax planning.
A penalty for GAAR reassessments
To discourage taxpayers from engaging in abusive tax planning, Finance has introduced a new penalty equal to 25% of the increase in taxes payable resulting from the application of the GAAR. If a taxpayer is also subject to gross negligence penalties on the same transaction, this penalty would be subtracted from the GAAR penalties to avoid duplicative fines. Previously, a taxpayer was only denied the tax benefit plus interest on any overdue tax, where GAAR applied.
The new rules state that the penalty wouldn’t apply to:
- Transactions previously disclosed to the CRA under the new mandatory disclosure rules on Form RC312 Reportable Transaction and Notifiable Transaction Information Return.
- Transactions (not subject to the new mandatory disclosure rules) previously disclosed to the CRA voluntarily on Form RC312, provided this form is filed by the taxpayer’s tax return filing deadline for the taxation year in which the transaction occurred (or up to a year late, which would extend the normal reassessment period by one year).
- Transactions where it’s reasonable to conclude that the GAAR didn’t apply based on case law or CRA administrative guidance on “identical or almost identical” transactions (with Finance noting in the explanatory notes that the threshold to meet this test is high).
An extended reassessment period
The expanded GAAR extends the normal reassessment period for GAAR assessments by three years unless the transaction was previously disclosed to the CRA. The extended reassessment period is intended to grant the CRA more time to identify transactions subject to the GAAR, given their complexity.
Takeaway
Taxpayers will need to consider these substantial changes—including the new GAAR reassessment penalty—before they carry out transactions that result in tax benefits. Contact your advisor or reach out to us here to learn more about these changes and for help planning your business transactions.
Disclaimer
The information contained herein is general in nature and is based on proposals that are subject to change. It is not, and should not be construed as, accounting, legal or tax advice or an opinion provided by Grant Thornton LLP to the reader. This material may not be applicable to, or suitable for, specific circumstances or needs and may require consideration of other factors not described herein.
