Principal Issues: If a tugboat operator did not claim a 20(1)(o) reserve in the calculation of its income in any of the three taxation years prior to a quadrennial survey , would the tugboat operator be able to claim a full deduction in the fourth taxation year.
Position: Yes if the conditions in paragraph 18(1)(a), 18(1)(b) and 18(1)(h) are met.
Reasons: The deduction for quadrennial reserves in subsection 20(1)(o) of the Act is a discretionary deduction, and as such the taxpayer need not claim the maximum amount
XXXXXXXXXX 2011-039527 S. D'Angelo March 14, 2011
Dear XXXXXXXXXX :
Re: Reserve for Quadrennial Surveys under Paragraph 20(1)(o)
This is in response to your correspondence of February 8, 2011 regarding the reserve for quadrennial surveys under paragraph 20(1)(o) of the Income Tax Act ( the "Act").
You have provided the following hypothetical situation:
A tugboat operator incurred $100,000 of expenditures related to a quadrennial survey in its 2011 taxation year and the tugboat operator did not claim a reserve for quadrennial survey pursuant to paragraph 20(1)(o) of the Act in its 2008, 2009 or 2010 taxation years.
You are enquiring whether the tugboat operator would be able to deduct the full $100,000 amount related to the quadrennial survey in the calculation of its income for its 2011 taxation year.
Our Comments
The situation outlined in your letter appears to relate to a factual one, involving a specific taxpayer. It is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an advanced income tax ruling. For more information about how to obtain a ruling, please refer to Information Circular 70-6R5, "Advanced Income Tax Rulings, dated May 17, 2002. This Information Circular and other Canada Revenue Agency (CRA) publications can be accessed on the internet at http://www.cra-arc.gc.ca. Notwithstanding the above, we are prepared to provide the following comments which may be of assistance.
Section 20 of the Act contains a detailed list of specific items that may be deducted in computing net business income. Subsection 20(1) reads as follows:
"Deductions permitted in computing income from business or property - Notwithstanding paragraphs 18(1)(a) , (b) and (h), in computing a taxpayer's income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:"
Paragraph 20(1)(o) of the Act, which permits a taxpayer to claim a reserve for quadrennial survey, reads as follows:
"..... such amount as may be prescribed as a reserve for expenses to be incurred by the taxpayer by reason of quadrennial or other special surveys required under the Canada Shipping Act ......"
Subsection 3600(1) of the Income Tax Regulation (the "Regulations") contains the rules for the prescribed reserve amount referred to in paragraph 20(1)(o) of the Act. Pursuant to paragraph 12(1)(h) of the Act, a taxpayer must include in computing income for a taxation year the amount of the previous year's reserve claimed under paragraph 20(1)(o) and may deduct a new amount as a reserve under paragraph 20(1)(o) within the limitations imposed by subsection 3600(1) of the Regulations.
Essentially the rules in subsection 3600(1) of the Regulations allow for the reserve to be calculated in a way that effectively spreads the deduction for estimate of the expenses of survey over four years, beginning three years before the taxation year when the survey is due to take place.
The reserve for quadrennial surveys under paragraph 20(1)(o) of the Act is a discretionary deduction and as such the a taxpayer need not claim the maximum amount of that reserve in any particular taxation year, but may claim such amount up to the maximum as the taxpayer wishes.
An expenditure amount will generally be deductible if it is made for the purpose of gaining or producing income (paragraph 18(1)(a)), if it is not on account of capital (paragraph 18(1)(b)), if it is not a personal expense (paragraph 18(1)(h)) and if it is reasonable in the circumstances (section 67).
Therefore, the expenditures made or incurred by the tugboat operator in its 2011 taxation year may be deductible in computing income for the 2011 taxation year if the expenditures otherwise meet the above criteria.
We trust our comments will be of assistance.
Yours truly
S. Parnanzone
Manager
For Director
Business and Partnership Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch