In order to prevent corporations from avoiding tax on
inter-provincial asset transfers, Ontario is changing the way its income tax
legislation adopts the elective income tax rollover provisions of section 85 of
the federal Income Tax Act (ITA).
Inter-Provincial Avoidance Transactions
Under certain circumstances, corporations have entered
into inter-provincial asset transfers to avoid provincial taxes on the sale of
assets. This is done by first transferring the asset to a non-arm's length
corporation located in another province, and then selling the asset to the
These avoidance transactions are accomplished by using the
elective provisions of section 85 of the ITA, which are adopted for Ontario
Corporations Tax Act (CTA) purposes. Under these elective provisions,
corporations can transfer assets on a tax deferred basis from one province to
another without necessarily making provincial elections in both provinces.
Additionally, when corporations do elect to transfer assets for federal and
provincial purposes, they can choose different provincial elected amounts in
The Ontario CTA tie-in provisions to ITA section 85 have
permitted the above flexibility to ensure that corporate reorganizations are
not impeded by provincial income tax considerations. In the avoidance
transactions, however, these flexible rules have been inappropriately used to
eliminate rather than defer provincial taxes.
Rules to Prevent the Avoidance
Ontario will adopt rules to specifically prevent the
reduction or elimination of provincial taxes through the manipulation of the
ITA section 85 rollover provisions. These new anti-avoidance rules will prevent
corporations from increasing the cost of an asset when transferring it to a
non-arm's length corporation located in another province on a tax deferred
basis. In such cases, either the corporation's proceeds of disposition will be
adjusted or the cost to the non-arm's length corporation will be adjusted to
eliminate any loss of provincial income taxes.
This measure will apply to any transactions or series of
transactions which commenced on or after December 19, 1996, and to any
transactions or series of transactions which commenced prior to December 19,
1996 and are completed after this date.
Further Changes to How ITA Section 85 Applies for Ontario
Ontario will also enact technical changes to the Ontario
CTA which will adopt the elective rules under ITA section 85 in a more rigid
fashion. For instance, where a corporation transfers an asset and makes an
election under ITA section 85 for federal purposes, Ontario will deem the
election to have been made for Ontario purposes, and when a corporation
transfers assets but does not make an election for federal purposes, it will
not be allowed to make an election for Ontario purposes. In addition, the
choice of elected amounts in certain circumstances will be restricted.
Further details of these changes will be released at a
future date. These new rules will not apply until the details are released,
except to the extent that they are applicable for purposes of the
anti-avoidance rules discussed above.
Ontario will continue to work with other Canadian
jurisdictions to develop rollover rules which prevent provincial tax avoidance
but continue to permit corporations to freely restructure their operations in
order to meet their business needs.
General Anti-Avoidance Rule
Section 5 of the CTA contains a general anti-avoidance
rule (GAAR) which parallels ITA section 245. Ontario will be working with other
Canadian jurisdictions in reviewing asset rollover transactions completed prior
to December 19, 1996 where provincial tax was avoided. The GAAR provisions will
be applied to these transactions where appropriate.
Corporations voluntarily disclosing that they have
previously avoided provincial taxes on asset transfers to a non-arm's length
corporation in another province can do so without incurring any interest or
penalties on the taxes avoided for periods prior to December 19, 1996. The
voluntary disclosure must be made prior to June 30, 1997, and must be made
before any audit activities have been initiated with respect to the particular
asset transfer transaction.
Ontario Reporting Requirements on Section 85
Effective for taxation years ending on or after December
19, 1996, all corporations electing under ITA section 85 to transfer assets to
or from a non-arm's length corporation with a permanent establishment in a
Canadian jurisdiction other than Ontario will be required to provide the
following information with their CT23 returns in order to make a corresponding
- a copy of the federal form T2057;
- amounts elected for Ontario purposes;
- the name of the non-arm's length corporation to or
from which the asset was transferred, a list of all provinces in which the
non-arm's length corporation has a permanent establishment, and the allocation
ratio to those provinces for the year; and
- the non-arm's length corporation's cost of the assets
for tax purposes in the other provinces.