Commentary on October 24, 2012 Notice of Ways and Means Motion Relating to Tax Matters - Contingent Interest and Other Expenses

Nov 1, 2012

Proposed section 143.4 of the Notice of Ways and Means Motion (NWMM) is a legislative response to the decision of the Federal Court of Appeal in Collins v. The Queen, [2012] 3 CTC 100 (FCA) (leave to appeal SCC denied 2012 CarswellNat 5845) (“Collins”).  In that decision, accrual-based taxpayers were permitted a deduction for accrued but unpaid interest expense notwithstanding the existence of a right to settle the obligation (including accrued but unpaid interest) through payment of a substantially lesser amount.  The proposals were first introduced in draft legislation dated March 16, 2011 (the “March 16, 2011 Proposals”) (summarized in Osler Budget Briefing March 22, 2011) and remain substantially unchanged in the NWMM despite concerns raised by the CBA-CICA Joint Committee on Taxation (the “Joint Committee”) in a letter dated November 7, 2011 (the “letter”).

Generally, proposed section 143.4 provides that, for taxation years ending after March 15, 2011, the amount of a taxpayer’s expenditure (which includes an expense, expenditure or outlay made or incurred by the taxpayer, or the cost or capital cost of property acquired by the taxpayer) is reduced to the extent that the taxpayer or a non-arm’s length person has a right to reduce or eliminate an amount in respect of the expenditure (less any amount paid by the taxpayer to obtain such right or any limited recourse amount that otherwise reduced the expenditure), including a contingent right if it is reasonable to conclude having regard to all circumstances that the right will become exercisable.  If a taxpayer later pays all or a portion of a contingent amount, then the taxpayer will be considered to have incurred the previously reduced expenditure (to the extent it was paid).  The proposals also address the situation in which expenditure becomes contingent at a later date (including a specific anti-avoidance provision).  The proposals also provide that any necessary assessment, determination or redetermination may be made notwithstanding applicable statutory reassessment periods.

In the letter, the Joint Committee commented that the rules were more expansive than necessary to address the policy concern represented by the decision in Collins and could be construed to apply in respect of a broad range of legitimate commercial arrangements and would introduce significant uncertainty for taxpayers. Notwithstanding these concerns, the rules are substantially unchanged in the NWMM.  The only substantive change is to exclude limited recourse amounts that already reduced an expenditure from the reduction on account of contingent amounts (to avoid double-counting).  As the scope of these proposals extends beyond the circumstances in issue in Collins, taxpayers need to consider the potential application of these rules in any circumstance in which a taxpayer may have a right to reduce any amount in respect of an expenditure (contractually or otherwise) and other relevant circumstances. 

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