Principal Issues: 1) When will the prescribed form for the election provided in section 56.4 be available?
2) What will happen to taxpayers who, in their contractual agreement, made the election of subsection 56.4(7) without sending the letter to the CRA?
Position: None.
Reasons: General information provided.
FEDERAL TAX ROUNDTABLE, NOVEMBER 2, 2023
APFF CONFERENCE 2023
14. Section 56.4 I.T.A. - Restrictive covenants
Paragraph 56.4(7)(g) renders it possible to avoid the application of section 68 by filing a "joint election".
However, there is still no form for making this joint election.
In the meantime, should the documents of the transactions simply be retained where the parties make this election in their contractual agreement, or should we report this election in some way (even if not in a form published by the CRA)?
The CRA has published a webpage entitled "Election for restrictive covenants" (footnote 1) (the "Webpage") which indicates that, since the CRA has not yet published a prescribed form for making elections under section 56.4, the seller (“grantor”) and the buyer (“payor”) must file a jointly-signed letter to make the election under section 56.4. The letter also sets out the information that the letter must contain about the grantor, the payor and the restrictive covenant in question.
Questions to the CRA
(a) Does the CRA have any idea when the prescribed form for this election will be available?
(b) What will happen to parties who have made an election under subsection 56.4(7) in their contractual agreement without knowing that they were required to give notice by letter until a prescribed form is available?
CRA Response
Subject to certain exceptions, subsection 56.4(2) provides that in computing a taxpayer's income for a taxation year there shall be included the total of all amounts each of which is in respect of a restrictive covenant of the taxpayer and is received or receivable in the year by the taxpayer or by a taxpayer with whom the taxpayer does not deal at arm's length.
In addition, section 68 provides special rules for the allocation of mixed consideration, i.e., an amount received or receivable from a person where it is reasonable to consider that this amount represents in part the consideration for:
(i) the disposition of property of a taxpayer,
(ii) the provision of services by a taxpayer, or
(iii) a restrictive covenant granted by a taxpayer.
Briefly, this allocation is based on the part of the amount that can reasonably be regarded as being the consideration for the disposition, consideration for the provision of services or consideration for the restrictive covenant, irrespective of the form or legal effect of the contract or agreement.
However, by virtue of subsection 56.4(5), section 68 does not apply to a restrictive covenant granted by a taxpayer if the consideration is deemed to be received or receivable by a taxpayer for the restrictive covenant in a situation where subsection 56.4 applies, in particular where the conditions set out in subsection 56.4(7) are all satisfied.
One of the conditions set out in subsection 56.4(7), more specifically paragraph 56.4(7)(g), is that a joint election be made on the prescribed form. This form must be filed in accordance with the requirements of subsection 56.4(13) In particular, if the person who granted the restrictive covenant was resident in Canada at the time the restrictive covenant was granted, subsection 56.4(13) provides that the election must be filed by the person with the Minister on or before the person's filing-due date for the taxation year that includes the day on which the restrictive covenant was granted.
As indicated on the Webpage, the CRA has not yet published the prescribed form for making the elections provided for in section 56.4 ITA and does not expect to publish it in the near future.
Where a provision of the Income Tax Act provides that a taxpayer may make an election on a prescribed form, but the CRA has not published the prescribed form in question, the taxpayer is generally still required to notify the CRA of the taxpayer’s election within the time allowed for making the election.
In order to allow taxpayers to make the elections provided for in section 56.4 within the time limit set out in subsection 56.4(13), the CRA has published on the Webpage that those taxpayers must, in the absence of a prescribed form, submit a signed letter to make the election. The Webpage indicates all the information that this letter must contain.
If a taxpayer has not submitted that letter within the time limit set out in subsection 56.4(13), there is the potential for the taxpayer to make the election after the due date pursuant to subsection 220(3.2) Under that subsection, the Minister effectively has the discretionary power to extend the prescribed time for filing an election under a provision referred to in section 600 I.T.R. Subsection 56.4(13) is a provision covered by section 600 I.T.R.
This discretionary power is exercised in light of the guidelines set out in Information Circular IC 07-1, Taxpayer Relief Provisions (footnote 2).
Rachel Jacques-Mignault
November 2, 2023
2023-098295
FOOTNOTES
Due to the requirements of our systems, the footnotes contained in the original document are reproduced below:
1 Extract from the Government of Canada website: CANADA REVENUE AGENCY (online: https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/changes-your-business/selling-a-business/restrictive-covenant/election-restrictive-covenants.html)
2 CANADA REVENUE AGENCY, Information Circular 07-1R1, "Taxpayer Relief Provisions", August 18, 2017, n :1.