Canada: Taxing TFSAs that carry on a securities trading business
10 February 2015
Posted by: Authors: Lauchlin MacEachern and Tim Clarke
Authors: Lauchlin MacEachern and Tim Clarke (Moodys Gartner Tax Law LLP, Calgary)
Subsection 146.2(6) provides that if a TFSA "carries on one or more businesses,” then "tax is payable under this Part [part I] by the trust on the amount that would be its taxable income for the taxation year if it had no incomes or losses from sources other than those businesses.” This provision, little noticed until recently, has been the basis for a wave of CRA reassessments and a TI (2014-05382211C6, October 10, 2014) (available only in French). The impact on holders of such TFSAs may be exacerbated by the actions of financial institutions.
In the TI, the CRA confirmed its position that "speculative transactions” (unofficial translation) carried on by an RRSP, RRIF, or TFSA may amount to the operation of a business by the deferred plan, resulting in the income from such business being subject to income tax. The CRA has yet to publish guidelines on what is meant by "carrying on business” in relation to these kinds of plans, but the factors used in recent TFSA audits appear to be the same as those listed in paragraph 11 of Interpretation Bulletin IT-479R ("Transactions in Securities,” February 29, 1984): frequency of transactions, period of ownership, knowledge of securities markets, security transactions forming a part of the taxpayer’s ordinary business, time spent, advertising, and the speculative nature of the securities involved. The CRA’s audit project does not appear to be restricted to TFSAs engaged in day trading.
In Prochuk v. The Queen (2014 TCC 17), the taxpayer supported himself for years on withdrawals from his RRSP, in which he regularly traded with apparent success. In 2007, he realized a significant loss on an investment outside his RRSP. In attempting to deduct his loss on income account, the taxpayer argued that the trading conducted in his RRSP should be considered because it would provide evidence that he was in the business of trading. The CRA argued that trading securities in an RRSP is not carrying on a business, citing Deep v. The Queen (2006 TCC 315). D’Auray J agreed that trading in an RRSP does not amount to carrying on a business and noted at paragraph 52 that the fact that the taxpayer had earned his livelihood by trading securities in his RRSP "is consistent with why Parliament created RRSP[s], namely to assist individuals in saving and earning money for retirement.” This decision runs counter to the CRA’s position in its current audit project on TFSAs. However, as stated in the TI, the CRA appears to be limiting the case to its particular facts.
Will financial institutions suspend withdrawals from TFSAs affected by this CRA action? Financial institutions might see such a strategy as a way to avoid the possibility that they would be liable for any such tax that cannot be paid out of the TFSA’s available funds. A July 3, 2014 letter from the Investment Industry Association of Canada to the Department of Finance and the CRA notes that TI 2011-040553E5 (September 22, 2011) does not provide assurance that TFSA issuers will not be liable for the tax liabilities of TFSAs pursuant to subsection 104(1) and subsections 159(2) and (3). This TI is contrasted with the CRA’s assurance to RRSP issuers in TI 2011-040239I7 that "subsection[s] 159(2) and (3) do not generally apply as against the trustee of an RRSP.”
Interestingly, legislation involving accounts similar to TFSAs in other countries renders income from carrying on a business taxable. In the United States, the analogous account is the Roth individual retirement account, for which income earned from an unrelated business is not exempted (see Code sections 408(e)(1), 511(a)(1), and 511(b)(1) and (2)). In the United Kingdom, the analogous account is the individual savings account, for which income from carrying on a business is not exempted (see section 22 of the Individual Savings Account Regulations 1998). However, we understand that neither the US nor the UK tax authorities have adopted an interpretation similar to the CRA’s position on the taxation of TFSAs trading in securities.
This article first appeared on ctf.ca.