Principal Issues: Does income of a corporation earned from rental of real estate qualify as income from an « active business »?
Position: None. General explanation.
Reasons: Question of fact.
FEDERAL TAX ROUNDTABLE 5 OCTOBER 2018
2018 APFF CONFERENCE
Question 17
Real estate rental income and "active business carried on”
Realtyco is a CCPC holding in Canada six rental buildings (its only activity). Each building has 50 units leased for residential purposes. The sole services provided to tenants are general maintenance of common areas and snow removal. The maintenance of each building is carried out by a full-time caretaker working throughout the year (six employees).
The term "active business carried on” refers to a "business". If Realtyco's activities constitute a "business", then it must be determined whether these activities constitute a "specified investment business" (subsection 125(7)); this definition also uses the term "business". The exception relating to the number of full-time employees does not concern the term "business" but rather the term "specified investment business". As a result, the number of employees would not be relevant to the qualification as a "business".
In the case of Realtyco's activities (whose main purpose is to derive rental income from the rental of real estate), it is first necessary to determine whether these constitute the carrying on of a "business" based on the specific facts applicable to Realtyco.
If there is not a "business", then Realtyco’s activities cannot qualify as an "active business carried on". In that case, the definition of "specified investment business" would be of no assistance.
If there is a "business", then it would be necessary to determine whether there is a "specified investment business" - and since Realtyco employs six full-time employees, there would not be a "specified investment business". As a result, the activities of Realtyco could be an "active business carried on", and this would be so even if Realtyco employs more than five full-time employees.
Question to the CRA:
Does the income of the corporation from the leasing of the six properties qualify as income from an "active business carried on" in Canada (paragraph 125(1)(a) and subsections 125(7) and 248(1))?
CRA Response
The term "active business carried on by a corporation" is defined in subsection 125(7) as any business carried on by the corporation other than a “specified investment business” or a “personal services business” and includes an adventure or concern in the nature of trade.
In order to determine whether a corporation has an "active business carried on by a corporation" within the meaning of subsection 125(7), the first step is to determine whether its activities constitute a "business".
The concept of "business" is accorded an expanded meaning by subsection 248(1) by being defined in particular as including an undertaking of any kind whatever:
"Business" includes a profession, calling, trade, manufacture or undertaking of any kind whatever and, except for the purposes of paragraph 18(2)(c), section 54.2, subsection 95(1) and paragraph 110.6(14)(f), an adventure or concern in the nature of trade but does not include an office or employment;
The question of whether the activities of a taxpayer constitute a "business", however, remains a question of fact that can only be resolved after a review of all relevant facts.
If the activities of a taxpayer constitute a "business", the second step is to determine whether that business is "carried on". In that regard, the Federal Court of Appeal commented on the term "carrying on a business" in Timmins v The Queen (footnote 1) as follows:
[9] The expressions “carry on business,” “carrying on business” or “carried on business, while undefined must, when regard is had to the ordinary meaning of the words refer to the ongoing conduct or carriage of a business. It would seem to follow that where one “carries on” a business in the ordinary sense or by pursuing one or more of the included activities under ss. 248(1) over time, one is “carrying on business” under the Act.
The question of whether a business is carried on, however, remains a question of fact that can only be resolved after a review of all relevant facts.
If the activities of a taxpayer constitute a "business carried on", then it must be determined whether the business is a "specified investment business" or a "personal services business", as those terms are defined in paragraph 125(7).
A "specified investment business" is essentially a business, including a business of leasing real or immovable property, the principal purpose of which is to derive income from property, including rents. As stated in paragraph 12 of Interpretation Bulletin IT 73R6 (footnote 2), the term "principal purpose" is not a defined term in the Act for the purposes of the definition of "specified investment business" in subsection 125(7), but it is considered to be the main or chief objective for which the business is carried on. In order to identify the "main objective", therefore, an analysis of all factors related to the process needed to earn income is required.
Where the principal purpose of a taxpayer's business is to earn income from property, paragraphs (a) and (b) of the definition of "specified investment business" in subsection 125(7) provide for exceptions. In particular, paragraph (a) provides that a corporation employing more than five full-time employees in the business in the year is not a specified investment business.
A "personal services business" generally means a business of providing services where an individual who performs services on behalf of the corporation is a specified shareholder of the corporation and that individual would reasonably be regarded as an officer or employee of the person or partnership to whom or to which the services were provided. Paragraphs (c) and (d) of the definition of "personal services business" in subsection 125(7) provide for exceptions. Specifically, paragraph (c) provides that a corporation is not a personal services business if it employs more than five full-time employees throughout the year.
Isabelle Landry
(514) 496-9634
5 October 2018
2018-076888
FOOTNOTES
Due to our system requirements, footnotes contained in the original document are reproduced below:
1 Timmins v The Queen, [1999] 2 FC 563 (FCA)
2 CANADA REVENUE AGENCY, Interpretation Bulletin IT-73R6, ARCHIVED – The Small Business Deduction, 18 June 2002.