Byrd & Chen Canadian Tax Principles 2020–2021 Study Guide Chapter 1 PDF

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Byrd & Chen Canadian Tax Principles 2020–2021 Study Guide Chapter 1, Learning Objectives, How to Work Through Chapter 1, Solutions to Exercises...

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Chapter 1 Learning Objectives

CHAPTER 1

Chapter 1 Learning Objectives After completing Chapter 1, you should be able to: 1. 2. 3. 4. 5.

List some of the different bases that can be used by the various levels of government to assess taxes (paragraph [P hereafter] 1-1 through 1-6). List all of the types of entities that are subject to paying federal income taxes and GST (P1-7 through 1-12). Explain the relationship between the assessment of taxes at the federal level and the assessment of taxes at the provincial level (P 1-13 through 1-25). List some of the ways that taxation is used to achieve economic objectives (P 1-26). Describe the differences between progressive, regressive, and flat tax systems, including some of the advantages and disadvantages of each system (P 1-27 through 1-34).

6. Discuss the issue of who ultimately pays the cost of various types of taxes (P 1-35 and 1-36). 7. Explain the nature of tax expenditures (P 1-37 through 1-40). 8. Evaluate issues in tax policy on the basis of the qualitative characteristics of tax systems (P1-41 through 1-43). 9. Describe the reference materials that are available on income tax databases (P 1-44 through 1-48). 10. Describe the general structure of the Income Tax Act (P 1-49 through 1-60). 11. List and explain the nature of other sources of income tax legislation (P 1-61 through 1-70). 12. Describe other sources of income tax information (P 1-71 through 1-75). 13. Describe the charging provisions of the Income Tax Act for residents and non-residents (P1-76 through 1-93). 14. Determine the residence of an individual based on an evaluation of primary and secondary residential ties (P 1-94 through 1-101). 15. Evaluate the residency status of an individual who is temporarily absent from Canada or is only resident for part of the year (P 1-102 through 1-108). 16. Identify the types of individuals who will be deemed to be Canadian residents without regard to their actual physical location (P 1-109 through 1-122). 17. Determine the residence of corporations and trusts (P 1-123 through 1-132). 18. Describe, in general terms, the various views of income that are held by economists, accountants, and tax authorities (P 1-133 through 1-141). 19. Calculate Net Income For Tax Purposes by applying the rules found in Section 3 of the Income Tax Act (P 1-142 through 1-167). 20. Explain how Net Income For Tax Purposes is converted to Taxable Income (P 1-168 and 1-169). 21. Explain the principles of tax planning (P 1-170 through 1-173). 22. Explain and provide examples of tax avoidance or reduction and tax deferral (P 1-174 through 1-181). 23. Explain and provide examples of income splitting (P 1-182 through 1-188). Study Guide for Canadian Tax Principles 2020 - 2021

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How to Work Through Chapter 1

How to Work Through Chapter 1 MyLab Accounting for this book can be found at:

http://www.pearsonmylabandmastering.com We suggest you access MyLab before using the text to familiarize yourself with the useful student resources available there. In particular, review the corrections and updates to the textbook and Study Guide that are posted there to save yourself unnecessary frustration. We recommend the following approach in dealing with the material in this chapter: The Canadian Tax System • Read paragraph 1-1 to 1-12 (in the textbook). • Do Exercises One-1 and One-2 (in the textbook) and check the solutions in this Study Guide. All solutions to Exercises and Self Study Problems can be found in this Study Guide and the page numbers all start with the prefix S-. • Read paragraph 1-13 to 1-17. • Do Exercise One-3 and check the solution in this Study Guide. • Read paragraph 1-18 to 1-25. Tax Policy Concepts And Qualitative Characteristics Of Tax Systems • Read paragraph 1-26 to 1-28. • Do Exercise One-4 and check the solution in this Study Guide. • Do Self Study Problem One-1 which is available on MyLab and check the solution in this Study Guide. • Read paragraph 1-29 to 1-34. • Do Self Study Problem One-2 and check the solution in this Study Guide. • Read paragraph 1-35 to 1-43. • Do Self Study Problem One-3 and check the solution in this Study Guide. Income Tax Reference Materials • Read paragraph 1-44 to 1-75. • Do Self Study Problem One-4 and One-5 and check the solution in this Study Guide. Liability For Income Tax • Read paragraph 1-76 to 1-93. • Do Exercise One-5 and check the solution in this Study Guide. Residence Of Individuals, Including Part Year, Sojourner, And Deemed Residents • Read paragraph 1-94 to 1-101. • Do Exercise One-6 and check the solution in this Study Guide. • Read paragraph 1-102 to 1-106. • Do Exercise One-7 and check the solution in this Study Guide. • Read paragraph 1-107 and 1-108. • Do Exercises One-8 and One-9 and check the solutions in this Study Guide. • Read paragraph 1-109 to 1-115. • Do Exercise One-10 and check the solution in this Study Guide. Individuals With Dual Residency • Read paragraph 1-116 to 1-119. • Do Exercise One-11 and check the solution in this Study Guide. • Read paragraph 1-120 to 1-122. • Do Self Study Problems One-6 to One-8 and check the solutions in this Study Guide.

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Study Guide for Canadian Tax Principles 2020 - 2021

Solutions to Chapter 1 Exercises

Residence Of Corporations And Trusts • Read paragraph 1-123 to 1-129. • Do Exercises One-12 to One-14 and check the solutions in this Study Guide. • Do Self Study Problems One-9 and One-10 and check the solutions in this Study Guide. • Read paragraph 1-130 to 1-132. • Do Self Study Problem One-11 and check the solution in this Study Guide. Alternative Concepts Of Income • Read paragraph 1-133 to 1-141. Net Income For Tax Purposes • Read paragraph 1-142 to 1-167. • Do Exercises One-15 to One-17 and check the solutions in this Study Guide. • Do Self Study Problems One-12 to One-14 and check the solutions in this Study Guide. Net Income To Taxable Income • Read paragraph 1-168 and 1-169. • Do Self Study Problem One-15 and check the solution in this Study Guide. Principles Of Tax Planning • Read paragraph 1-170 to 1-188. • Do Exercises One-18 and One-19 and check the solutions in this Study Guide. Abbreviations To Be Used • Read paragraph 1-189. To Complete This Chapter • If you would like more practice in problem solving, do the Supplementary Self Study Problems for the chapter. These problems and solutions are available on MyLab. • Review the Key Terms Used In This Chapter in the textbook at the end of Chapter 1. Consult the Glossary for the meaning of any key terms you do not know. • Test yourself with the Chapter 1 Glossary Flashcards available on MyLab. • Ensure you have achieved the Chapter 1 Learning Objectives listed in this Study Guide. • As a review, we recommend you view the PowerPoint presentation for Chapter 1 that is on MyLab. Practice Examination • Write the Practice Examination for Chapter 1 that is on MyLab. Mark your examination using the Practice Examination Solution that is on MyLab.

Solutions to Chapter 1 Exercises Exercise One - 1 Solution Max Jordan, the Jordan family trust, and Jordan Enterprises Ltd. could be required to file income tax returns. Jordan’s Hardware, Jordan & Jordan, and the Jordan Foundation are not taxable entities for income tax purposes. Exercise One - 2 Solution Under the GST legislation, all of the listed entities could be required to file a GST return. Where only individuals, corporations, and trusts can be required to file an income tax return, the definition of a person (i.e., taxable entity) is much broader for GST purposes. As is explained in detail in Chapter 21, whether an entity is required to file a GST return is dependent on the level of commercial activity. Exercise One - 3 Solution Federal Tax Payable [(15%)($27,000)] Provincial Tax Payable [(7.5%)($27,000)] Total Tax Payable [(15% + 7.5%)($27,000)] Study Guide for Canadian Tax Principles 2020 - 2021

$4,050 2,025 $6,075

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Solutions to Chapter 1 Exercises

Exercise One - 4 Solution Margie’s HST paid totals $22,360 [(13%)($172,000)]. Based on her Taxable Income of $895,000, this would represent an effective rate of 2.5 percent ($22,360 ÷ $895,000). Jane’s HST paid totals $3,575 [(13%)($27,500)]. On her Taxable Income of $18,000, this would be an effective rate of 19.9 percent ($3,575 ÷ $18,000). Exercise One - 5 Solution She is not correct. Under ITA 2(3) she would be subject to Canadian taxes on employment income earned in Canada. Exercise One - 6 Solution While the situation is not completely clear, it is likely that the CRA would conclude that Simon is no longer a Canadian resident. By retaining his residence, he has maintained one of the primary residential ties. However, the fact that he was not able to sell the property, accompanied by the long-term lease to a third party, would probably be sufficient evidence that this is not a significant residential tie. The retention of his membership in the CPA would be viewed as a secondary residential tie. However, S5-F1-C1 indicates that it would be unusual for a single secondary tie to be sufficient for an individual to be considered a Canadian resident. Exercise One - 7 Solution Jane did, in fact, sever most of her residential ties with Canada. This would suggest that she would not be considered a Canadian resident during the 26 months that she worked in Florida. However, the fact that she returned frequently to visit her boyfriend might lead the CRA to assess her on the basis of being a Canadian resident during this period, but it is not clear that such an assessment would be successful. Exercise One - 8 Solution Mark would be taxed on his worldwide income for the part of the year that he was resident in Canada. This would be the period January 1 through June 15, the date that his wife and children fly to the U.S. June 15 would be latest of the date that Mark leaves Canada (February 1), the date that Mark establishes U.S. residency (February 1), and the date that his wife and children depart Canada (June 15). It is unlikely that the fact that his house was not sold until a later date would influence his residence status. Exercise One - 9 Solution Mr. Kirsh will be a part year resident and liable for Canadian taxes on his worldwide income, including any income on the U.S. bank accounts, for the period September 1 through December 31 of the current year. Exercise One - 10 Solution While Ms. Blakey is the child of a Canadian high commissioner, it appears that she is no longer a dependant of this individual. It would also appear that she has income in excess of the base for the basic personal tax credit for 2020 of $12,069. As a consequence, she would not be considered a deemed resident under ITA 250(1). Exercise One - 11 Solution Case 1 As it appears that Dizzy has a permanent home in Los Angeles, the tie-breaker rules would indicate that he is a resident of the United States. As he has been in Canada for more than 183 days in 2020, the sojourner rules might have made him a deemed Canadian resident. However, the tie-breaker rules in the international tax treaty would override this. The boarding rooms and hotels would not be considered a permanent home given that Dizzy never intended to stay for a long period of time.

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Study Guide for Canadian Tax Principles 2020 - 2021

Solutions to Chapter 1 Exercises

Case 2 As Donna was in Canada for more than 183 days in 2020, she is a deemed resident through the application of the sojourner rule, and therefore a dual resident. In applying the tiebreaker rules, the first factor that is considered is in which country the individual has a permanent home. With respect to this criteria, Donna would not be considered to have a permanent home in either country. She gave up her lease on the New York property and, given that she only planned to stay for a short period of time, the Toronto apartment would not be considered a permanent home. In the absence of a permanent home in either country, the next factor to consider would be the location of Donna’s “centre of vital interests”. This would appear to be the U.S. and, given this, the tie-breaker rules would make Donna a resident of the U.S. and a non-resident of Canada. Exercise One - 12 Solution Roswell Ltd. is a U.S. resident because it was incorporated in that country. It is also a Canadian resident under the mind and management test. In such dual residency cases, the tie-breaker rule in the Canada/U.S. tax treaty indicates that the taxes will be assessed in the country of incorporation. That means that Roswell Ltd. would be considered a resident of the U.S. and a non-resident of Canada. Exercise One - 13 Solution As the company was incorporated in Canada after April 26, 1965, it would be deemed to be a Canadian resident under ITA 250(4). While the problem does not provide enough information to determine this, it is possible that the company has dual residency with the country or countries where it does business. This could result in the application of one or more international tax treaties. Note that, in general, where a corporation does business is not relevant to the residency decision. Exercise One - 14 Solution Case 1 Taxco would be considered a deemed resident of Canada by ITA 250(4) since it was incorporated in Canada after April 26, 1965. Taxco would also be considered a factual resident of the U.S. since its mind and management are located there. Article IV(3) of the Canada/U.S. tax treaty, however, breaks the tie in favor of the place of incorporation. Taxco would therefore be considered a resident of Canada and a non-resident of the U.S. Case 2 Junko would be considered a factual resident of Canada since its mind and management are situated in Canada. Junko would also be considered a resident of the U.S. since it was incorporated there. Article IV(3) of the Canada/U.S. tax treaty, however, breaks the tie in favor of the place of incorporation. Junko would therefore be considered a resident of the U.S. for treaty purposes and a non-resident of Canada. Exercise One - 15 Solution Mr. Blanton’s Net Income For Tax Purposes is calculated as follows: Income Under ITA 3(a): Net Employment Income Income Under ITA 3(b): Taxable Capital Gains Allowable Capital Losses

$42,000 $24,000 Nil

24,000

Balance From ITA 3(a) And (b) Subdivision e Deductions Balance Under ITA 3(c) Deduction Under ITA 3(d): Business Loss

$66,000 ( 13,000) $53,000

Net Income For Tax Purposes (Division B Income)

$ 38,000

Study Guide for Canadian Tax Principles 2020 - 2021

( 15,000)

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Solution for Self Study Problem One - 1

Exercise One - 16 Solution Ms. Stodard’s Net Income For Tax Purposes would be calculated as follows: Income Under ITA 3(a): Interest Income Income Under ITA 3(b): Taxable Capital Gains Allowable Capital Losses

$33,240 $24,750 ( 19,500)

Balance From ITA 3(a) And (b) Subdivision e Deductions Balance Under ITA 3(c) Deduction Under ITA 3(d): Rental Loss

5,250 $38,490 Nil $38,490 ( 48,970)

Net Income For Tax Purposes (Division B Income)

Nil

She would have a non-capital loss carry over of $10,480 ($38,490 - $48,970). Exercise One - 17 Solution Mrs. Bergeron’s Net Income For Tax Purposes would be calculated as follows: Income Under ITA 3(a): Net Employment Income Income Under ITA 3(b): Taxable Capital Gains Allowable Capital Losses

$42,680 $27,400 ( 33,280)

Balance From ITA 3(a) And (b) Subdivision e Deductions Balance Under ITA 3(c) Deduction Under ITA 3(d): Business Loss

Nil (

$42,680 8,460) $34,220

( 26,326)

Net Income For Tax Purposes (Division B Income)

$ 7,894

She would have an allowable capital loss carry over of $5,880 ($27,400 - $33,280). Exercise One - 18 Solution Mr. Chung is involved in income splitting, tax deferral, and possibly tax avoidance. He is getting the deduction from taxable income now and his wife will be taxed on the income in the future. All RRSP contributions normally create a tax deferral. The contribution will be deductible and the earnings on the contribution will accumulate on a tax free basis. However, all of these amounts will be taxable when they are withdrawn from the plan. There may also be tax avoidance. This will happen if his spouse is taxed at a lower rate than is currently applicable to Mr. Chung when the funds become taxable to her. Exercise One - 19 Solution As the dental plan is a benefit that can be received by Mr. Green without being taxed (private health care), tax avoidance is illustrated.

Solution for Self Study Problem One - 1 The HST is based on certain specified expenditures, not on the income level of the individual making the expenditure. In most cases, the proportion of an individual’s income that is spent declines as the individual’s level of income increases. This means that when a flat rate of tax is applied to a decreasing portion of the individual’s income, the rate of taxation as a percentage of that income will decline.

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Study Guide for Canadian Tax Principles 2020 - 2021

Solution for Self Study Problem One - 3

For example, a 13 percent HST applied to $150,000 in expenditures made by a person with $250,000 in income would amount to only 7.8 percent of that person’s income ($19,500 ÷ $250,000). In contrast, that same 13 percent HST applied to $25,000 in expenditures made by a person with $20,000 in income would reflect a tax rate of 16.3 percent ($3,250 ÷ $20,000) of that person’s income.

Solution for Self Study Problem One - 2 If tax simplification was the only objective, Mr. Right’s proposal would be appropriate. However, such a system would be in conflict with other possible objectives of tax policy. For example, it would almost certainly be in conflict with the objective of fairness in that it would not provide for treating different types of income (capital gains vs. employment income) or people (the poor vs. the rich) in a suitable manner. His system would also conflict with other objectives such as the goal of equity and after-tax income stability and the need for redistribution of income. In other words, in meeting the objective of simplicity, Mr. Right’s system would ignore other possible objectives of a taxation system.

Solution for Self Study Problem One - 3 Note The descriptions of these tax measures are significantly simplified. The objective of this problem is to present the basic ideas so they can be understood without a detailed knowledge of tax, while still providing a basis for discussion. The following analysis is intended to be no more than suggestive of possible points that could be made. There are, of course, many alternative solutions. Increase In Lifetime Capital Gains Deduction Possible comments here would be as follows: Neutrality The increase in the amount of the deduction for farmers and fishermen is not neutral. It favours farmers and fishermen with no benefits for any other group. Simplicity The determination of what properties are considered to be qualified for this deduction involves some very complex legislation. Home Accessibility Tax Credit Possible comments here would be as follows: Neutrality This provision is not neutral. Its benefits accrue exclusively to seniors, disabled individuals, and their families. Other individuals do not benefit from this provision. Equity Or Fairness Disabled seniors face accessibility challenges that are not present for most other individuals. Given this, it can be argued that helping this particular group involves fairer treatment of these individuals. Increase In Tax Free Savings Account Limits Possible comments here would be as follows: Equity Or Fairness It was clear that this change would not benefit low-income individuals. If an individual is making $20,000 per year, it is highly unlikely that this individual would have the first $5,500, much less an extra $4,500, to contribute. The reversal of the increase in 201...