a. Given the historical records required to prepare safe income calculations, what type of practical approaches and assumptions are accepted by CRA?
b. Could CRA provide copies of previous tax returns and (re)assessments dating back to the incorporation of the entities required to compute safe income?
c. What type of audit practices can taxpayers expect in respect of supporting documentation used to calculate safe income that contributes to the capital gain on a share?
d. Given that the safe-income determination time is no later than the time immediately before the earliest dividend paid as part of a series, how is this applied where a company pays a regular (e.g., quarterly or annual) dividend?
e. Do contingent liabilities and reserves, such as for pensions obligations reduce the safe income that can reasonably be considered to contribute to the capital gain on a share given that Kruco held that safe income should be reduced by cash outflows?
CRA responded:
a. … The onus is on the taxpayer to provide support for the calculation of safe income that can reasonably be viewed as contributing to the capital gain on a share. The CRA expects the supporting documentation to be organized as an accumulation of year-by-year computations. …
…[W]here…the taxpayer offers an alternative proxy such as the accounting retained earnings or adjusted retained earnings balance…the CRA auditor might conclude that retained earnings is a fair proxy for safe income on hand but only after a very stringent validation process.
…[A]n incorrect claim could be subject to the application of subsections 152(4), 163(2) or 239(1), depending on the circumstances.
b. …[W]hen a taxpayer makes a request to the CRA to obtain a copy of income tax returns and/or notices of assessment, the CRA will attempt, in regards to available resources, to provide the requested documentation. However…it is not in a position to provide assurances that these requests will be actioned in all cases.
c. The audit practices…include…a verification of the portion of the safe income that can reasonably be considered to contribute to the capital gain on each share of the corporation in any given year. This typically involves a validation that a detailed analysis was done using share registers and minute books provided by the taxpayer. The analysis should be carried out for each year and the adjustments should take into consideration any changes in the shareholdings.
d. In a recent ruling, the CRA took the view that regular, recurring annual dividends would not, in the circumstances of the ruling request, be part of a series of transactions. Accordingly, a ruling confirmed that the safe income determination time in respect of the first and second annual dividends will be immediately before each such dividend.
CRA went on to discuss 2016-0633961E5 (respecting recapture of depreciation realized on sale before safe-income determination time being included in safe income.)
e. As discussed in ITTN-37…Kruco requires a second stage inquiry in respect of the calculation of a corporation's safe income to determine whether the income earned or realized was kept on hand (i.e., whether such income can reasonably be viewed as contributing to the capital gain on a share). The decision supports the notion that the safe income should be reduced by actual or potential cash outflows such as non-deductible expenses, contingent liabilities and accounting reserves in the determination of the amount of safe income that can be viewed as contributing to the capital gain on a share.