For Ease of Use This Module is Duplicated Within the The Home Office Tax Deduction Detector Software

Scenario Based Tips and Insider Best Practices

In this section you will likely find business scenarios or personal situations that are relevant to your business. Here we have gone into more depth and include detailed explanations that may be crucial to not only finding more tax deductions but to understanding your position and how it relates to compliance, ownership, legal precedents and so on. We strongly recommend you read the sections that apply to you.

TABLE OF CONTENTS

Choose your TIP if it applies to you.

TIP #Scenario
1 You Do Not Own or Lease Your Own Home
2 You Do Not Pay the Home Expenses Yourself
3 Your Business is a Corporation That Operates from Your Personal Residence
4 You Have More Than One Self Employed Business
5 You are Unsure if Your Business Qualifies for Business-Use-of-Home-Expenses
6 You Reside in Quebec
7 You Have Home Insurance Coverage
8 Your Business is a Start Up
9 You Want to Know the Shortcomings in Canada’s Self Assessing Tax System
10 You Want to Know About Home Office Expense Tax Court Case Outcomes
11 What You Need to Know About CRA Audits
12 Your (Self Employed) Business Has Not Fulfilled Some Regulatory Items
13 You Have a Vehicle Used for Business Expenses
14 You Want to Confirm That Your Home Office Qualifies for Tax Deductions

Note: Please refer to the Bonus report “How to Establish and Support a Deductible Expense” available in the Home Office Tax Saving Centre membership site particularly for Tips 5 and 8.

 

 TIP # 1 
You Do Not Own or Lease Your Home

For those self-employed business owners that are using a self-contained domestic establishment (the 'home') for their business - but the home is not owned outright by them or not leased in their personal name alone, there are technical tax compliance problems in claiming business-use-of-home expenses. If your business is a Corporation that operates out of your home, refer to TIP # 3.

Alternative filing positions are provided below.

Alternative One. Ignore the fact that you, as the self employed business owner, do not own (partly or otherwise) the home. Rely on the following tax case. Less effort and less complicated than Alternative 2 except that compliance with the many complexities of the tax law are not as certain. At least you have a tax court case outcome to support your position.

The tax court case TCC 99 DTC 3514 included the judge’s comments (paraphrased) that ‘it matters not whether she owned the residence because the court interpreted the Act to include reasonable expenses for office space’.

Alternative Two
Problem

Material provided by CRA and the courts do not seem to address this problem, which is, the business owner is presumably paying home expenses for someone else (spouse, common-law partner, co-owner or other legal tenant) that actually owns or leases the home. There are many reasons why homes (single family, townhouse, condo, rented apartments) would not necessarily be in the business owner's name. Also, the premises may be owned or leased in joint names. Since these situations do not seem to be formally addressed by the powers that be, it may be that it doesn't really matter who actually leases or owns the home and you may take that position (Alternative One) - after receiving professional advice.

However, from a technical point of view, we feel CRA could deny these business-use-of-home expenses because, by default, CRA always discusses a self-contained domestic establishment based on the assumption that the business owner also owns or leases this establishment (home). If the business owner is paying expenses for a property that someone else owns or leases, then payment of the home expenses are really on behalf of someone else. Also, would CRA allow you to deduct other business expenses you paid that were not really your own businesses expenses?

Without going too overboard on this problem - we suggest that if the home is owned or leased in joint personal names where one of the names is the self-employed business owner, then it is probably not a problem. It would simply be a fact that most leases and ownership in joint names means joint and several (not tenants in common) i.e. each named owner or tenant enjoys the rights of ownership and obligations attached to the home. Therefore, each owner or tenant, on behalf of all owners or tenants, has an obligation and would naturally pay expenses that have their name attached to the bill.

Solution

The problem is you may be paying expenses for premises that are not in your name at all. Let us assume you are paying most of the expenses for the home anyway. Then these home expenses you are paying can really be assumed to be rent payments to the legal owner or tenant. If you are not paying all of the home expenses - see TIP # 2.

There are precedents from tax court cases that agree with this assumption. So the payments, by the business owner for expenses of the home not owned or leased by the business owner, can be totalled (HST/GST included) and inserted as rent on Line 24 of the Calculator. The recipient of these payments (the actual home owner or actual tenant) would declare these amounts received as rental income but would also deduct the expenses paid on their behalf (by the business owner) as expenses on the rental income schedule T776. It all depends on what expenses the business owner is paying (e.g. mortgage payments?) as to whether or not this materially affects the business-use-of-home expenses claimed. Of course the 'rent' payments can be actually changed each month to either increase or decrease these 'rent' expenses for your business and resulting net rental income for the recipient. Please note the recipient cannot claim a rental loss against other income.

Top

 

 TIP # 2

You Do Not Pay the Home Expenses Yourself

Problem

As mentioned in TIP # 1, if you own the home with joint title or the lease is held jointly in your name with someone else, then it is reasonable to assume that even though you do not pay all of the home expenses yourself - you actually share the payment of home expenses with the other owner - all the expenses paid for the home by both joint owners or joint tenants (including you) should be included in the Calculator. This is particularly supportable if the expenses are paid from joint personal bank accounts where you are both contributing funds to the bank account for home expenses. The problem is when you are personally not named on the lease or hold title to the home and someone else pays the home expenses. This is common when taxpayers have instituted asset protection by having the property in their spouses (common law as well) name and your spouse pays the home expenses. In this instance, CRA would have justification in denying your claims for any business-use-of-home expenses.

Solution

If it is feasible, rearrange your financial affairs so that you, as the business owner, pay the expenses for the home, then these expenses would be characterized as rent and could be claimed as rent on Line 24 of the Calculator. Please refer to TIP # 1. Please obtain professional advice.

Top

 

TIP # 3

Your Business is a Corporation That Operates from Your Personal Residence

Problem

Since your business is a Corporation, you do not qualify as self- employed and therefore you do not even complete a self-employed T2125 for your personal tax return - so no business-use-of-home expenses for you. Alas, all is not lost.

Solution

Circumstance - Your business is a Corporation that operates from your home, and the Corporation pays your home expenses, but charges all of these home expenses to your shareholder's account (you owe this money to your business Corporation, so you are really paying the home expenses yourself). These regular payments by the Corporation should be reallocated on the Corporation's books as regular office rent expenses of the Corporation - but only for the portion of space used by the Corporation. You can use the Calculator to determine how much would be a reasonable portion of the home expenses for business use. But - you can adjust the rent because 1) the Corporation has no restrictions on the amount of reasonable rent it can deduct and 2) you (or, if not you, then the other owners or tenants of the home) may want to claim rental income personally.

You personally (or, if applicable, others that own or rent the premises to whom or for whom the home expenses have been paid) would then declare these home expense payments (payments received by cash or by year-end Journal entries credited to the shareholders account) as rental income on the T776. The rental income is offset by claiming the expenses that were charged for or paid personally by you or the Corporation.

Circumstance - Your business is a Corporation that operates from your home, and you pay your home expenses. You should formally charge the Corporation office rent for these amounts (by cash or journal entry to the shareholder's acct.), but only for the portion of space used by the Corporation. Then the rental income and expenses are reported personally as outlined immediately above.

Corporate tax rates are relatively much lower than personal tax rates. The tax saved by the Corporation regarding the rental amounts will be modest. You may want to keep the rental payments similar to the rental expenses claimed personally. If the owner of the premises is a spouse (or common-law), there is some income splitting opportunity here. Professional advice should be obtained.

Please note that there are severe tax problems if the Corporation actually owns the premises where you live, including recreational property.

Top

 

 TIP # 4

You Have More Than One Self Employed Business

The income and expenses must be reported on separate T2125's for each business. This applies even if the multiple businesses are owned by the same person or partnership. This is a bookkeeping extravaganza because you have to separate all the income and expenses for each calendar year for each separate business. Even the business-use-of-home expenses have to be separated between the multiple businesses because of the loss restriction rules that apply to each business.

Keep records of your calculations and allocations of income and expenses for each business. The reasonableness factor is your best choice of splitting expenses between the multiple businesses.

Top

 

 TIP # 5

You are Unsure Whether or Not Your Business Qualifies for Business-Use-of-Home-Expenses

Any activity that is performed by self-employed individuals for profit is a business. The following is a list of businesses that are quite common to indicate whether or not business use-of-home-expenses should be claimed.

Type of BusinessSpecial CharacteristicsComments
Authors, self publishers, software developers, musicians, media producers, web based wholesalers resellers and affiliates, other creative activities. Long term effort to create a marketable product. Usually have to wait for sales proceeds - depending on type of arrangement or contract signed with prospective buyers or whether or not product is waiting to be launched to the public. Your business intent to make a profit is the key. Not a lot of tax court cases exist re: home office expenses for start ups or businesses with future oriented and/or intermittent income - but taxpayer outcomes were positive in tax court. Document your intent, engage with buyers, track activities and expenses, use the T2125 every year to claim expenses including home office (which will create loss carry forwards for future use), declare all income - treat it like a business. If your activity typically takes years to arrive at a marketable state - like writing a series of cook books - claim reasonable (including business use of home) expenses. CRA demands all gross income be reported - taxpayers should demand all business expenses be allowed. See TIP # 8 regarding Start Ups and the special Report - How to Establish and Support a Deductible Expense.
Distributors, including MLM (e.g. health and wellness products); care giving for money. Not a hobby - real attempt and activity as main or supplemental source of income. These activities usually take awhile to start producing real income, but when they do, income is usually sustained. Just so happens you have sustained business expenses (at the beginning) as well - claim the expenses.

Home based craft manufacturing; specialty items; food products (for retail buyers at various stores or markets).
Creates inventory of products for sale at multiple marketing venues (e.g. farmer's markets). Cottage industries are real businesses. Frequent claims for business losses with no real income coming in for some time is not appropriate - get some income and document your serious attempts and efforts (with more expenses than you realized) to justify claiming business expenses, including use of home.

Top

 

 TIP # 6

You Reside in Quebec

Quebec Disallows 50% of the business-use-of-home expenses. This 50% disallowance is not applied to hydro and heat utility costs which are allocated to the portion that is the work space. Also, this 50% disallowance does not apply to the operation of a licensed tourist home, bed-and-breakfast, and hospitality village accommodation or for expenses related to the portion of a residence used for the business of private receptions. Reference Québec tax act 175.5 – 175.6 and the Quebec Business and Professional Income Guide I-155-V.

Quebec follows the federal government in regard to the restriction of business-use-of-home expenses that create or increase a business loss. These restricted expenses can be carried forward for Quebec tax purposes as well.

Top

 

 TIP # 7

You Have Home Insurance Coverage

Please consult your insurance broker regarding any required special insurance coverage of your premises if it is used for business purposes or if you are charging rent to anyone (including a Corporation operating your business) using your home. You should definitely let your broker know and receive an acknowledgment in writing regarding the home use as a business operation. Any extra premium charged would be 100% deductible and this extra cost is a small amount to pay to ensure there are no problems regarding any claims related to the property. You may wish to consider additional liability insurance, inventory and business records, business interruption and whatever other coverage is recommended by your insurance broker.

It is not an important determinant to CRA whether or not you have business use insurance coverage in regard to your eligibility for deducting expenses.

Top

 

 TIP # 8

Your Business is a Start Up

NOT TO BE CONSIDERED PROFESSIONAL ADVICE

START-UPS - TAX CONSIDERATIONS AND STRATEGIES

For the Benefit of:

Any taxpayer contemplating a new business venture.

Any employed taxpayer contemplating a business venture.

An existing business person contemplating a new venture.

Any taxpayer currently engaged in a hobby that may be converted to a commercial operation.

Any taxpayer or businessperson contemplating a change of occupation/business to a new or supplemental occupation or business.

If you consider yourself a business or profession and act accordingly, start using the T2125 Statement of Business or Professional Activities form when you complete your tax return. Business-use-of-home expenses are part of the T2125. Take advantage of the start up tax losses that can be deducted from other income. Develop a presence and history of documented business transactions. You are creating something of value. The more formal the set up, especially completing a business plan, the more benefits that will be realized later on.

GOOD NEWS:

Allowable start-up periods vary according to factors such as the type of industry (i.e. writing), and potential economic uncertainty (i.e. high interest rates).

Period allowed for start-ups is on a case by case basis.

Taxpayers are able to maintain current employment during a start-up period, and if they so choose, deduct the start-up costs from employment income.

It is not up to CRA to second guess business judgement of the taxpayer. So say tax court judges. CRA has the advantage of hindsight to assess the viability of a commercial venture and this should be taken into account by the courts.

BAD NEWS:

Subsection 3.1(1) provides that a taxpayer has a loss for a taxation year from a business or property “only if, in the year, it is reasonable to expect that the taxpayer will realize a cumulative profit from that business or property” over the entire period that the taxpayer can “reasonably be expected” to carry on the business or hold the property. Subsection 3.1(2) specifically excludes capital gains and capital losses from the determination of cumulative profit for this purpose

Section 3.1 does not distinguish between commercial businesses/investments and those with a personal or hobby element. Thus, section 3.1 resurrects the spectre of CRA auditors second-guessing legitimate business or investment decisions where a taxpayer realizes losses over several years. Requires subjective testing both by CRA and taxpayer.

Notwithstanding this legislation, CRA has lost, on occasion, when they arbitrarily deny business losses that they deem have too much of a personal element to it - that is - CRA lost on Reasonable Expectation of Profits, so now they are auditing your expenses that make up your losses!

(1) TIMING:

At what period did your business commence or change (i.e. from a hobby to a commercial venture)?

The date your business commences is not declared or bound by regulations in the Income Tax Act. Rather, the Minister takes the position that a business has commenced once it engages in a specific act or purpose to earn income. It is not enough that you incur expenses to evaluate different alternatives for a business activity and use these expenses as a deductible expense. The deductible expenses of a start-up occur once you begin due diligence with respect to the business idea that actually becomes a business of some sort.

Market studies, business plans, and supplier contacts all would constitute expenses that are consistent with the start of a business activity. Therefore, it is critical to document your activity once you pursue a business activity.

Conclusion - There exists no rule in the Income Tax Act that stipulates when a business commences - hence - it is up to the taxpayer to determine and be able to document the commencement of a business operation and therefore claiming of business expenses.

(2) EXPENSE CLASSIFICATION:

What is the general treatment of claiming expenses?

Expenses may be either personal (not allowed) or business (allowed), and be either on account of capital or on account of income. Expenses that are personal in nature are not deductible and more damaging than that-the venture may be viewed as a personal venture, not a commercial operation.

Capital expenses are amortized over the expected life of the asset while income expenses are current and deducted in the year incurred. Expenses incurred in the nature of trade are fully deductible.

See Special Bonus Report - How to Establish and Support a Deductible Expense

Conclusion - The prevailing factors to counter a challenge from CRA regarding eligible expenses are that facts, reasonableness and documentation must support your claim that expenses are for business purposes. Courts employ the "principal" purpose test: if the principal (primary) purpose of an expenditure was business, the expense is deductible. If the principal purpose was personal, do not deduct the expense unless you can severe the business use portion of the disbursement. Document the facts and business purpose (e.g. a business trip). We like to suggest that if the expense would not have been paid had it not been for the business, then consider deducting the business portion of that expense.

(3) OWNERSHIP OF ASSETS:

What is the best business structure?

Determined by the owner(s) of the business and can be changed (changes may have tax consequences).

Choices of: proprietorship; corporations; general, limited, limited liability partnerships and joint ventures. Each choice has a different tax consequence and structures other than proprietorships can be owned by multiple owners with different types of structures themselves. Need to fit structure with taxpayer to maximize benefits that are both non-tax (i.e. creditor proofing, liability issues), and tax driven (tax reduction, income splitting, tax deferral, deductions against employment income).

Structures need not be everlasting. For example, for the business that has initial losses and the taxpayer experiences other sources of income, it may be better to keep the business as a sole proprietorship so that the business losses can be deducted against other income. However, proprietorships or general partnerships do not experience the benefits of better asset protection or privacy that corporations enjoy.

Conclusion - Choosing the most appropriate structure is absolutely crucial for the reasons illustrated above - and books have been written on this subject alone. We favour corporations that are well designed (share structure, by-laws, shareholder agreements, use of holding companies or LLP's). Every business of substance should be a Corporation. Visit your accountant, lawyer or our affiliated website www.corptaxpro.ca for plenty of informative comments on the benefits of incorporation.

(4) EXPECTATION OF PROFIT:

Why is Expectation of Profit so Important?

CRA attacks loss claims if self-employed taxpayers do not have an expectation of profit as an underlying motive for their enterprise. Truth is that four out of five businesses fail. Businesses do not start out to fail and failure does not mean it was not a business. It is the expectation of profit that must be demonstrated. Big businesses lose money and are reorganized all the time. Governments would fail if we did not pay taxes. So do not let anyone tell you do not have a business - unless you do not. Ha. You are the one that knows how you are thinking. Expectation of profit should be complemented with acts of prudence - did the taxpayer act prudently (businesslike) while operating his commercial venture?

"Profit" has many definitions--should it be "gross", or "net"?

Motive (intent) and business acumen of taxpayer are subjective characteristics.

The above report is a much abridged version of a tax research report produced courtesy of TaxWatch Canada Publishing Limited.

Top

 

 TIP # 9

You Want to Know the Shortcomings in Canada’s Self Assessing Tax System

“The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.”

Colbert, Jean Baptiste, French Economist and Minister of Finance under King Louis X1V of France, 1619-1683. (http://thinkexist.com/quotes/jean_baptiste_colbert)

Report of the Auditor General of Canada - Shortcomings of Canada's Self Assessing Tax System

Comments on the report of the Auditor General of Canada from 2009, which is still being followed up by the AG. One objective was to “determine whether Canada Revenue Agency has well-managed processes in place to help taxpayers comply with the Income Tax Act, by providing timely guidance to clarify the interpretation and application of the legislation" It found some significant shortcomings in how CRA, as Canada’s tax administrator, has been discharging this mandate. We did not have to read the report. We already know that taxpayers almost never have all the information they need. However, we still did and here are some highlights that you may be interested to learn about;

  • At least 250 technical amendments to correct clearly identified deficiencies in the income tax act have not been drafted or released for comment. Each year, more deficiencies are identified, contributing to this backlog;
  • Taxpayers are not always aware that some Income Tax Interpretation Bulletins posted on the CRA website are obsolete. Interpretation Bulletins or “bulletins” for short are CRA’s interpretation of the law and are generally relied upon to reflect how current legislation is interpreted by CRA. Many taxpayers, tax auditors and tax practitioners, the Auditor discovered, continue to depend on bulletins for their source of guidance and research, and to support their filing positions. The CRA has stated that the production and revision of bulletins is not a priority due to financial constraints, and is even considering cancelling its entire inventory of bulletins. Editors comment - Archived Bulletins are now deleted (2012) and the current Bulletins are being phased out and replaced with Tax Folios over the next no. of years. Even less guidance and information from CRA.
  • The Auditor pointed out that Canada’s tax system relies on taxpayers to self-assess and pay the income taxes they owe. According to CRA’s own opinion, most taxpayers will meet their obligations if given the proper tools and information. The Auditor stated that “the taxpayers’ ability to comply with the tax legislation depends on their understanding of how the rules apply to their own circumstances. If the information posted by CRA is incomplete or obsolete the intention of the legislation is not clearly conveyed. Taxpayers, therefore, may find it difficult to self-assess the income tax they owe”. This uncertainty about how the law should be applied will add to the time taken and costs incurred by tax audits and tax administration. It will significantly increase the taxpayers’ costs of compliance when subsequently, filing positions are challenged, and tax returns are reassessed and contested.

Top

 

 TIP # 10

You Want to Know About Home Office Expense Tax Court Case Outcomes

Introduction

CRA assessing policy does not always coincide with tax court case outcomes - at least not the ones in the taxpayer's favour. It is best that you are adamant that you be allowed a reasonable deduction if you do work from home and you have any separate place of your residence for the office use alone (subject to the conditions of having established, in your home, a Principal Place of Business or exclusive place of business where you regularly see business customers. Make use of the content in this software and your own due diligence - with professional advice of course. Try to obtain your best possible outcome at the audit stage. You want to: 1st) have CRA agreeing that you are eligible to some reasonable deduction and 2nd) negotiate what reasonable % of home expenses you will be allowed to deduct.

This software, if followed, is designed to provide a trail of your filing position and calculations to make this process much easier. The following cases are abridged versions and actual content of the proceedings can be lengthy. All manner of argument may be presented by CRA. You should have plenty of ammunition as well - especially from this software. If you get into the court cases too deeply, you have probably been reassessed and CRA has been unresponsive. However, you are not going to court yet and as long as you become familiar with some of the situations below, you should be able to console CRA if they have any misgivings about your business-use-of-home expenses. This is not an all-inclusive list of tax cases and research may be required if technical arguments by CRA become an issue.

Her Majesty the Queen (Appellant) v. Justin A. Cork
90 DTC 6358
Federal Court of Appeal
May 16, 1990
(Court File No. A-1185-84.)
Deductions — Automobile and home office expenses incurred by self-employed draftsman performing assignments for clients at various locations — Income Tax Act,
The Crown's appeal to the Federal Court–Trial Division was dismissed (84 DTC 6515). The Crown appealed further to the Federal Court of Appeal.
Held: The Crown's appeal was dismissed. The taxpayer's home was the base of his business operations.

The expenses incurred travelling to and from it to his clients, were, therefore, deductible, as were the proportionate amounts of rental and insurance expenses referable to the office in his home.

David Burris (Appellant) v. Her Majesty the Queen (Respondent)
95 DTC 555
Tax Court of Canada
February 2, 1995
(Court File No. 94-2020(IT)I.)
Whether taxpayer permitted certain deductions similar to those available to persons carrying on a business — Income Tax Act, R.S.C. 1985 (5th Supp.), ss. 8(1) and 8(13).

The taxpayer's part-time activities involved receiving large skids of advertising material at his home each week, breaking these down and arranging through a part-time crew of delivery persons to have the material delivered to individual homes throughout the neighbourhood. In computing his income from these part-time activities for his 1989, 1990 and 1991 taxation years, the taxpayer sought to deduct a number of expenses, many of which the Minister disallowed. The taxpayer appealed to the Tax Court of Canada.

Held: The taxpayer's appeal was allowed in part. The taxpayer's part-time activities, although technically constituting employment, were something like a small business, from which he was able to derive significant gross revenues ($7,300 in 1989, $9,500 in 1990 and $14,900 in 1991).

He was, therefore, entitled to some professional advice concerning his financial planning and the filing of his tax returns. Accordingly, one-half of the expenses incurred for such advice was deductible. Similarly, he was entitled to a reasonable deduction for delivery expenses (incurred to pay carriers), automobile expenses and home office expenses.

Marie Nissim (Appellant) v. Her Majesty the Queen (Respondent)
98 DTC 3446
Tax Court of Canada (Informal Procedure)
August 5, 1998
(Court File No. 97-2560(IT)I.)
Deductions—Business expenses and legal expenses—Taxpayer self-employed

In allowing taxpayer's appeal, TCC allowing considerably larger expense deductions for 1991 and 1992 than those conceded by Minister—such additional deductions having to do with such items as advertising, automobile, depreciation, office expenses, and office overhead.

E. F. Anthony Merchant (Appellant) v. The Minister of National Revenue (Respondent)
82 DTC 1764
Tax Review Board
April 20, 1982

Deductions — Expenses — Lawyer's office in home — Office used for meeting clients doing dictation and telephone calls — Expenses for purposes of gaining or producing income from the practice of law — Deduction allowed — Income Tax Act, S.C. 1970-71-72, c. 63, ss. 18(1)(a). The taxpayer lawyer specialized in litigation and, for the purposes of meeting clients, doing dictation and telephone calls as well as other aspects of his practice that could not be carried on during normal office hours, maintained an office at home. The taxpayer did not use the office for domestic purposes or for his political activities. The taxpayer deducted the expenses of the home office and, when the Minister disallowed the deduction, appealed to the Tax Review Board.

Held: The taxpayer's appeal was allowed in part.

The Board found that the taxpayer's practice required that he use his home office and that the office was in fact used for legitimate business purposes. Therefore, the home office expenses were incurred for the purposes of gaining or producing income from a business and the deductions were proper.

Edward J. Halrecht (Appellant) v. Her Majesty the Queen (Respondent)
2000 DTC 3592
Tax Court of Canada (Informal Procedure)
February 23, 2000
(Court File No. 1999-1831(IT)I.)

Deductions in computing income from employment—Taxpayer a part-time lecturer at a university—Taxpayer having no office at the university but maintaining an office at home—In assessing taxpayer for 1993 and 1994, Minister disallowing his claim for the deduction of a portion of certain expenses incurred in respect of his automobile, his meals, entertainment, and parking, his supplies, and his office at home—In allowing taxpayer's appeal in part, TCC concluding: (a) that taxpayer clearly having spent a great deal more time in preparation than in lecturing, so that his home office the place where he had principally performed the duties of his employment with the university; (b) that, although paragraph 8(1)(i) using the term “office rent”, Minister's administrative practice permitting, in respect of a home office, the deduction of such things as utilities (which is what taxpayer was claiming); (c) that Minister's interpretation of paragraph 8(1)(i) a sensible one, so that taxpayer entitled to the home office expense deductions in excess of those allowed by Minister

—Minister ordered to reassess accordingly—I.T.A. ss. 8(1)(i), 8(1)(l) and 8(13).

Thomas Vanka (Appellant) v. Her Majesty the Queen (Respondent)
2002 DTC 3815
Tax Court of Canada. (Informal Procedure)
September 27, 2000
(Court File No. 2000-4176(IT)I.)

Deductions in computing income from business—Work Space in home—Minister assessing taxpayer (a physician) for 1994 and 1995 on the basis that the workspace in his residence not being used exclusively for the purpose of earning income from his medical practice—On appeal, taxpayer alleging that his home office an extension of his downtown office, and that used for administrative purposes as well as for the storing of patients' files—In allowing taxpayer's appeal, TCC concluding, inter alia: (a) that the receiving of an average of seven phone calls an evening from patients, and the seeing of one patient per week could be considered a "regular and continuous use" of a home workspace; (b) that such phone calls could not be taken without the use of the home workspace, since the patients' files having to be reviewed and completed in taxpayer's computer system; and (c) that the consultations made by phone constituting medical acts, and hence billable, according to taxpayer—In light of all of the foregoing, taxpayer entitled to the deductions claimed—Minister ordered to reassess accordingly—I.T.A. s. 18(12).

Myron Rudiak (Appellant) v. Her Majesty the Queen (Respondent)
2002 DTC 3901
Tax Court of Canada (Informal Procedure)
April 25, 2002
(Court File No. 2001-3489(IT)I.)

Deductions — Business losses — Whether the home office restrictions in subsection 18(12) applicable — Taxpayer operating a bed and breakfast business in a portion of a stately old residence which he and his wife having repaired, renovated, and redecorated — In assessing taxpayer for 1997, 1998, and 1999, Minister applying the subsection 18(12) restrictions on the basis that taxpayer and his wife allegedly using their home for business purposes to the extent of 50% — In allowing taxpayer's appeal, TCC concluding: (a) that the issue was whether or not the bed and breakfast area being used by the taxpayer exclusively for business purposes was “any part of” a self-contained domestic establishment in which the taxpayer also residing; (b) that the bed and breakfast guest premises and the taxpayer's own living area were physically separate, so that the taxpayer not operating a business in his home, which was a separate addition constructed at the rear of the property in issue; and (c) that subsection 18(12) of the Act therefore not applying; — Minister ordered to reassess accordingly — I.T.A. ss. 9(1), 18(1)(a), 18(12) and 248(1).

Paul Zolis (Appellant) v. The Minister of National Revenue (Respondent)
87 DTC 183
Tax Court of Canada
February 20, 1987
(Court File No. 85-381.)

Deductions — Home office — Mathematics teacher writing textbook — Profits from writing eventually realized — Whether there was reasonable expectation of profit — Whether expenses incurred to earn income — Whether expenses reasonable — Income Tax Act, S.C. 1970-71-72, c.63, ss. 18(1)(a) and 67.

The taxpayer was a high school mathematics teacher. In 1979, he commenced writing a mathematics textbook in collaboration with three colleagues. For that purpose he equipped a room in his house as an office at a cost of some $6,000. The book was published by one publisher in 1980 and by another in 1981. The book was marketed and the taxpayer received royalties. Eventually, he realized a profit from his writing activities. The taxpayer deducted a portion of the expenses of maintaining his residence and capital cost allowance in his 1980 and 1981 taxation years. The Minister disallowed the deductions and the taxpayer appealed to the Tax Court of Canada. At the hearing, the taxpayer reduced the amount of expenses that he was claiming.

Held: The taxpayer's appeal was allowed in accordance with the taxpayer's revised amounts. The Court found that the taxpayer had a reasonable expectation of profit from his writing activities, that the amounts claimed as expenses were attributable to those activities and that the amounts claimed were not unreasonable.

Richard Felton (Appellant) v. The Minister of National Revenue (Respondent)
89 DTC 233
Tax Court of Canada
March 20, 1989
(Court File No. 88-405(IT).)

Deductions — Home office maintenance expenses — Whether deductible from employment income — Income Tax Act, S.C. 1970-71-72, c. 63, s. 8(1)(i)(ii).

The taxpayer was required, by his contract of employment, to maintain an office in his home exclusively for purposes of his employment. This he did. In computing his income from employment for his 1985 taxation year, the taxpayer sought to deduct one-sixth of the expenses incurred in maintaining his home, including mortgage interest, property taxes, insurance premiums, and the cost of utilities. The Minister disallowed all of these deductions, alleging that they did not constitute "office rent" within the meaning of s. 8(1)(i)(ii) of the Act. The taxpayer appealed to the Tax Court of Canada.

Held: The taxpayer's appeal was dismissed. At common law, the word "rent" connotes only a payment arising out of a landlord and tenant relationship, so that all of the maintenance expenses incurred by the taxpayer in maintaining his owner-occupied home could not be considered as "rent" in the present case. Accordingly, they were simply not deductible by him from his employment income under the rigorously narrow provisions of s. 8(1)(i)(ii) of the Act. This result was manifestly unfair to the taxpayer, however, since the same amounts would have been deductible had he been earning income from a business through the use of an office in his home. It was, therefore, a proper case for a remission of tax under the provisions of the Financial Administration Act, particularly since the Department's assessing practices described in paragraph 4 of Interpretation Bulletin IT-352, dated November 22, 1976, beyond the rigours of s. 8(1)(i)(ii), permit homeowners to deduct from employment income such expenses as the costs of utilities and minor repairs.

Michel Boily (Appellant) v. The Minister of National Revenue (Respondent)
88 DTC 1605
Tax Court of Canada
February 10, 1988
(Court File No. 85-1218(IT).)

Office expenses — Real estate agent maintaining his own office — Whether office expenses deductible — Income Tax Act, S.C. 1970-71-72, c. 63, s. 8(1)(f).

The taxpayer was a real estate agent for all relevant times covered by this matter. He deducted $6,000 and $609.67, respectively, as office expenses in the calculation of his income for 1982 and 1983. He claimed expenses of $609.67, or 20% of the expenses in relation to his domicile, since he moved his office during 1983 to a house owned by his spouse, and his office there took up 20% of the house. The Minister disallowed the deduction on the basis that it was not within the taxpayer's employment contract to maintain an office, and on the basis that his spouse made the expenditures which he sought to deduct. The taxpayer appealed both the 1982 and 1983 assessments to the Tax Court of Canada.

Held: The taxpayer's appeals were allowed for the 1982 and 1983 taxation years. The Court found that it was reasonable for the taxpayer to maintain an office for his work, and the employment contract specified that such expenses were to be borne by the taxpayer. The fact that in 1982 the taxpayer's office was not a home office was irrelevant. The agent who could not fulfill this obligation at his residence had to make his own arrangements elsewhere to facilitate meeting and servicing his clients. The office expenses were deductible, regardless. The Court held that the office expense was the responsibility of the agent and the expenditure was made with a view to earning income within the meaning of s. 8(1)(f)(iv) of the Act. Concerning 1983, the fact that the taxpayer's spouse owned the house was of no consequence since he paid the utilities, amounting to $3,048.37. The taxpayer, considering that his office occupied 20% of the house, claimed 20% of these expenses, of $609.67. The Court held that 20% of the house was used as an office for the purpose of earning income within the meaning of s. 8(1)(f)(iv) of the Act, and therefore the deduction of $609.67 for 1983 was allowed.

Top

 

TIP # 11

What You Need to Know About CRA Audits

Here are some pointers that you may want to consider if you are questioned (audited) by CRA.

CRA is absolutely wonderful at processing tax returns, payments and all other routine compliance activities. They are also becoming quite adept at being doubtful. After all, the tax law is a reverse onus - you are guilty until you prove yourself innocent. Never forget that you have been informally judged by CRA as guilty before you even breach the womb. Here are some thought to ponder.

  • CRA likes to ask questions. They have standard template questionnaires they will send you as part of a desk review or audit process. They are the template kings and fishing is their favourite sport. If the issues are material, this is the time to seek professional advice. Rarely is it the best posture to engage with CRA by yourself. All answers you provide could be used against you.
  • Many of the questions asked by CRA have relevance to important multiple sections of the Income Tax Act (ITA) . Unfortunately, CRA does not reference the ITA in its questionnaires. It is likely you are unaware of precisely which sections of the ITA apply to your original tax filing position, let alone how CRA can justify changes to your initial assessments. We are all mostly clueless about the outcomes of other taxpayers in similar situations, except for our own clients and tax court cases. As in most battles, gathering intelligence about the adversary is important.
  • You do not know what information CRA has already gathered about you. Many would argue CRA has no authority to demand answers (outside of court proceedings) and they only have access to books and records. The point is – be careful what responses you provide to their questions. Study the questions carefully. Request reasons for the questions so you can provide the most relevant information. This is always the fun part - to hear their replies. Keep your responses short and simple. If you don’t have the answers or the information requested seems too voluminous and onerous to provide (perhaps not that relevant anyway) - discuss it with the auditor. If your answers seem incriminating, seek professional advice. The ITA may be written in black and white but most issues are fact based and there are way more than 50 shades of grey when it comes to the tax law. Stay honest. Use legal privilege where possible.
  • Be careful - CRA could send you a Requirement for information - different than a Request. If they do - you could be could be charged criminally if you do not provide the information.
  • CRA does not encourage taxpayers to seek professional help. They expect taxpayers to provide quick answers and commitments.CRA is not required to read you your rights (there is a Taxpayer's Bill of Rights).
  • Typically, you are given 30 days to reply. Take your time to gather and present your responses. Ask for time extensions and get the time extension in writing. Ask the auditor to confirm they will not take any action until you provide your response. Don’t make commitments you know you can’t keep just to please CRA.
  • CRA may seem intimidating – not on purpose – but they know the audit process makes taxpayers nervous, so the taxpayers act nervous which gets CRA suspicious and then the taxpayer seems even more uneasy. A vicious circle if ever there was one. Never let CRA think they are intimidating you.
  • CRA personnel record details of your responses. We all hear what we want to hear. Make your own notes about the conversation when talking to CRA.
  • Clarify all facts provided to CRA. Gather as much proof to document your information as possible and decide documents should be provided to CRA. Most tax problems are caused by CRA interpreting the facts to fit you into a tax corner. Use the words ‘Additional Submissions May be Provided and are Expected to be Allowed' on all correspondence and answers to items on questionnaires. Your facts can be supplemented or clarified based on new information or interpretations.
  • Please, please coordinate your responses with, and consider the tax consequences for, other taxpayers who are involved or mentioned (e.g. common law issues) in your tax audit.
  • CRA commonly does not provide a lot of detail as to why they disagree with you unless you insist on a response from them, in writing. For Appeal procedures (Notices of Objection filed), CRA has to complete a Report on Objection for each taxpayer. You never know if they have actually competed that Report. Ask for 1) the Report on Objection - with precise references to the sections of the Income Tax Act they are relying on and 2) insist on you being able to respond to the information in the Report before a final determination is proclaimed by CRA. You want to check their facts - right?

We could write volumes on tax audit issues, but your professional advisor (who may have assisted with completion your tax return) is the best resource you can muster to provide the best tax audit outcome. There is always next year.

Top

 

 TIP # 12

Your (Self Employed) Business Has Not Fulfilled Some Regulatory Items

Your business may not be:

  • licensed with local municipal authorities.
  • zoned for business use
  • registered with worker's compensation
  • insured (regarding your premises) for business use

As far as the tax courts have determined, the lack of formal registrations are not determining factors regarding whether or not you are in business or you are eligible to deduct business-use-of-home expenses.

Top

 

 TIP # 13

You Have a Vehicle Used for Business Expenses

Condition - Your home office is a Principal Place of Business or is used exclusively for business purposes and for consistent visits from customers/clients. See TIP # 14.

Vehicle expense deduction - If the above condition applies, then the use of your vehicles for business trips to and from your business destinations is deductible. This deductibility is allowed because you start and end your business trips (visiting customers, procuring supplies, airport trips etc.) from your business office, which also just happens to be your home.

Details - keep a mileage log and summary of all your vehicle expenses. CRA prefers a calculation of the % of km. driven for business use/total km. driven = % of vehicle expense amounts you can claim on the T2125. However, many taxpayers just take the business kilometres driven times the mileage allowance per kilometer. For 2012, this mileage allowance is 53¢ per kilometre for the first 5,000 kilometres driven; and 47¢ per kilometre driven after that.

Visit the CRA web site and use 'mileage' or 'vehicle' as a search term for an extensive display of vehicle expense related topics.

Top

 

 TIP # 14

You Want to Confirm That Your Home Office Qualifies for Tax Deductions

This software and related information is for those that are self-employed only.

Income Tax Act s.18 (12) applies to those who are self-employed.

Your home space qualifies for business-use-of home expenses if you meet either one of two conditions, namely:

1) the work space is your Principal Place of Business [for this condition, you can still use the space partly for personal use] or

2) the work space is used exclusively for the purpose of earning income from business and used on a regular and continuous basis for meeting clients, customers or patients of the individual in respect of the business. [For this condition the space must be exclusive, meaning no personal use, and must be used to meet customers].

The word "Principal" is not defined in the Income Tax act, but it means "main" or "predominant". Generally, the work space is used 50% of the time for business.

You can only have one Principal Place of Business for the business office. If you have another commercial location for the same business, you can deduct the expenses for the commercial location. If you want to use the home location as well for home office expenses, the office activity for the business has to definitely be predominantly the home office location.

Use your best judgement and let the facts speak for themselves.

Actual wording of s.18(12) of the Income Tax Act:

Notwithstanding any other provision of this Act, in computing an individual's income from a business for a taxation year,

(a) no amount shall be deducted in respect of an otherwise deductible amount for any part (in this subsection referred to as the “work space”) of a self-contained domestic establishment in which the individual resides, except to the extent that the work space is either
(i) the individual's principal place of business, or
(ii) used exclusively for the purpose of earning income from business and used on a regular and continuous basis for meeting clients, customers or patients of the individual in respect of the business;
(b) where the conditions set out in subparagraph (a)(i) or (ii) are met, the amount for the work space that is deductible in computing the individual's income for the year from the business shall not exceed the individual's income for the year from the business, computed without reference to the amount and sections 34.1 and 34.2; and
(c) any amount not deductible by reason only of paragraph (b) in computing the individual's income from the business for the immediately preceding taxation year shall be deemed to be an amount otherwise deductible that, subject to paragraphs (a) and (b), may be deducted for the year for the work space in respect of the business.

Top