AFM362 Lecture Notes - Lecture 9: Foreign Tax Credit, Dividend Tax, Property IncomePremium
1 pages69 viewsWinter 2018
SchoolUniversity of Waterloo
DepartmentAccounting & Financial Management
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interest income from savings, deposits, loans, bonds, and debentures
Dividends from shares•
Income based on the production or use of property •
Calculation of income from a property:
The primary method for computing interest on a "debt obligation" is an annual accrual method•
The Act uses words "received" or "receivable" which indicates taxpayer has a choice between cash basis and the
However, when interest is received, it must be included in income to the extent that the interest has not been
included previously by the accrual method
Must include interest income in net income for tax purposes the earlier of ○
The date the interest is paida)
The anniversary date of the contractb)
Individuals are allowed cash method or annual accrual method
Anniversary date = the day that is one year after the day before the date of issue and every successive one year
For corporations, there's only the accrual method. Cash method and annual accrual method not available. •
Interest income inclusion
Stock dividends is treated specially •
A CCPC earns active business income that is taxed at the low corporate rate or CCPC that earns investment
Gross up by 17%, apply the federal + provincial tax rate, find the tax, subtract the tax credit which equals the
gross up to find the tax payable, and use the pre
gross up dividends to minus the tax payable to find after
Dividends other than eligible dividends - type 1•
Dividends from a public corporation resident in Canada taxed at the general corporate rate and a CCPC
resident in Canada distributed from business income taxed at general corporate rate (not low corporate
Eligible dividends - type 2•
Corporations are NOT subject to the dividend gross up and dividend tax credit, only trusts and individuals will
include them. Because dividends received by corporate shareholders are not taxable.
The shareholder still receives the after corporate tax dividends but we just use the pre corporate tax
dividends as the calculation.
The taxpayer always benefit from the gross up and dividend tax credit procedure because although dividend
is gross up to a bigger amount = higher tax calculated from this bigger amount, you get to subtract the full
gross up amount afterwards which more than offset the tax that was calculated on the gross amount. I hope
you can remember this logic future Billy, if not, just look at them examples in the book.
Keep in mind that the purpose of the gross up is to restore the actual dividends received back to the pre-tax
income earned in the corporation.
If there is a tax withheld at source, you add it back and then deduct it as a foreign tax credit later.○
Dividends received by individuals from non
resident corporations are still taxable but the dividend gross up and
tax credit rule do not apply as they are not Canadian
Dividends income inclusion
Income earning test: no outlay or expenses can be deducted unless it was incurred for purpose to earn
Capital test: no deduction of a capital outlay unless specifically listed in the Act
Reserve test: no deduction unless specifically listed
Personal expenses: no deduction
Reasonableness test: all expenses must be reasonable under the circumstances○
To determine the eligibility of the deduction of expenses against property income, start point is to look at section
Then look at section 20 which overrides rules in 18•
Discourages speculation in real estate because they won't have any income from the land to deduct
carrying charges from since they hold the piece of property for capital gains.
Applies to property developers whose business is the sale or development of land, or to land that is held but
not used in a business
Any carrying charges that cannot be deducted will be added to the cost base of the land which reduce
capital gain on the land when sold
Carrying charges (interest and property taxes) on vacant land are only deductible to the extent of the taxpayer's
net income from the land
Land held primarily for income producing purpose (not held for speculation) is exempted from the above
limitation (in excess of net income)
The limit of this deduction is interest computed at the prescribed rate on a loan of $1 million
outstanding throughout the year
Corporation whose principal business is the leasing, rental or sale, and the development for lease, rental or
sale of real property are permitted to deduct carrying charges on vacant land, in excess of net income before
deducting carrying charges.
Exceptions to this rule
Limitation on deduction of carrying charges
Soft costs include interest expense, legal and accounting fees, mortgage fee, insurance and property taxes
incurred during the period of construction, renovation, or alternation of a building are not deductible as current
expenses but add to the cost of the building.
Recall that CCA pool of assets can be negative due to disposition which will trigger a recapture. However, we can
offset the negative balance in a class of assets with purchases of similar assets during the year to reduce or
eliminates the need to pay tax on income from recapture of capital cost allowances on the sale of an asset in the
The Act restricts this ability for certain rental property to avoid the deferral of recapture indefinitely•
Results in recapture when a building is sold for proceeds in excess of the undepreciated capital cost in the
class. (when UCC balance becomes negative)
Each rental property purchased that costs $50,000 or more is a separate CCA class
Taxpayer cannot shelter other sources of income (business or employment income) by offsetting a loss
created by CCA on a rental building or leasing properties.
Losses from rental property
Rental properties limitations related to CCA
The Act allows a taxpayer to deduct interest on money borrowed to earn income from business or property•
Is paid or payable in the year
Arises from a legal obligation
Is payable on borrowed money that is used for the purpose of earning income from a business or property
Is reasonable in amount○
A taxpayer can deduct interest if:
The deduction of interest imposed under the Act is denied
The deduction of interest on funds borrowed to buy vacant land is limited○
Interest that is part of soft costs must be capitalized○
The deduction of interest paid to certain non
residents is limited
Limitation on deduction of interest•
Note that provincial dividend tax credit may vary, but in all the cases so far, it has been the plug to add
to the federal tax credit to make it 1 so it's the same as the gross up amount.
Note if tax on gross up dividend
tax credit = negative, the net tax payable is nil, and the negative
amount is available to deduct from federal tax on other income.
Note when choosing between shares or bond, look at the after
tax return and also remember that there
may be a greater potential for a return from capital gains on the shares compared to the bonds.
CCA is limited to bring net income before CCA to zero but not to a loss.
Chapter 6 Income from property
January 27, 2018 5:43 PM
AFM 362 Page 1
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