Tax Tip[] Attribution

Attribution Rules – Spousal Loans

“Attribution can be avoided on spousal loans in certain situations.”

When an individual loans funds to a spouse, any income earned on those fundswould normally be attributed back to the individual. If, however, the spouse has paid interest at the prescribed rate at the time the loan was given before January 30 of the following year, there is no attribution.

Attribution will also not apply to income or gains or losses attributable to a period:

  1. Following the death of the transferor or transferee;

  2. Throughout which the transferor is not resident in Canada; or

  3. After the transferee ceases to be the transferor’s spouse or common-law partner.

Where there has been a marital breakdown but there is not yet a divorce, the separated couple can jointly elect not to have the attribution rules apply. Without this election, the attribution rules continue to apply. Once the election has been made, a separate election does not have to be made each subsequent year while the situation remains the same.

In those situations when an individual has transferred property to a spouse and an election was made to have the transfer occur at fair market value, there is no attribution on the assets received by the spouse. However, this would not apply when the asset transferred is cash.

When there is a change of marital status, all loans and transfers should be reviewed to analyze the attribution implications.


TAX TIP OF THE WEEK is provided as a free service to clients and friends of the Tax Specialist Group member firms. The Tax Specialist Group is a national affiliation of firms who specialize in providing tax consulting services to other professionals, businesses and high net worth individuals on Canadian and international tax matters and tax disputes.

The material provided in Tax Tip of the Week is believed to be accurate and reliable as of the date it is written. Tax laws are complex and are subject to frequent change. Professional advice should always be sought before implementing any tax planning arrangements. Neither the Tax Specialist Group nor any member firm can accept any liability for the tax consequences that may result from acting based on the contents hereof.

GAAR – Using Attribution to the Taxpayer’s Benefit

“Using attribution to your benefit is not GAAR.”

In the recent case of Overs (2006 TCC 26), the taxpayer’s deductions for carrying charges and interest expense were denied by CRA pursuant to the GAAR rules in section 245 of the Income Tax Act.

The taxpayer’s loan from his company had to be repaid to avoid the income inclusion rules of subsection 15(2). In order to repay the loan, the following transactions occurred:

  1. The taxpayer’s wife borrowed $2.3 million from the Bank of Montreal.
  2. The taxpayer’s company provided a guarantee to the bank for the loan and a pledge of cash collateral in the amount of $2.3 million.
  3. The taxpayer’s wife purchased shares of the taxpayer’s company from the taxpayer for an amount approximately equal to the loan outstanding.
  4. The taxpayer used the proceeds from the sale of the shares to repay the shareholder loan.

When the taxpayer filed his tax return, he did not elect out of provisions of subsection 73(1),so that the transaction between the taxpayer and his wife took place at cost, and not at fair market value. The taxpayer took the position that he could deduct the interest expense paid by his wife, pursuant to subsection 74.1(1). This subsection provides that any transfers to a spouse that are not at fair market value will result in the attribution of any income or loss from the property that was transferred. The net result was that the taxpayer did not have an income inclusion in respect of the shareholder loan and he could deduct the interest that his wife paid on the funds ultimately used to repay the shareholder loan.

The CRA did not challenge the fact that all of the provisions noted above had been properly applied. They did, however, attempt to apply the GAAR rules. The Tax Court followed the guidance given in the Canada Trustco case by the Supreme Court of Canada, wherein the Court first looked at whether there was a tax benefit, then whether there was an avoidance transaction and finally whether the avoidance transaction was abusive. The Court concluded that there clearly was a tax benefit, since the taxpayer deducted an amount that reduced his taxes. The Court concluded that there were no avoidance transactions, since each of the sections involved were properly applied, so there could not be avoidance transactions when the rules in subsections 15(2), 73(1) and 74.1(1) were properly followed. The Court then considered whether there was abusive tax avoidance. The Court concluded that there was no abusive tax avoidance, even if a higher Court were to determine that there was an avoidance transaction.

This decision offers the possibility of interesting tax planning, when a client has to repay a shareholder loan. The client’s spouhse can borrow, and use the funds to purchase shares of the client’s company. The client can then use the proceeds of the share sale to repay the shareholder loan.


TAX TIP OF THE WEEK is provided as a free service to clients and friends of the Tax Specialist Group member firms. The Tax Specialist Group is a national affiliation of firms who specialize in providing tax consulting services to other professionals, businesses and high net worth individuals on Canadian and international tax matters and tax disputes.

The material provided in Tax Tip of the Week is believed to be accurate and reliable as of the date it is written. Tax laws are complex and are subject to frequent change. Professional advice should always be sought before implementing any tax planning arrangements. Neither the Tax Specialist Group nor any member firm can accept any liability for the tax consequences that may result from acting based on the contents hereof.

Attribution That Works

“Low Prescribed Rates Allow for Income Splitting.”

The third quarter of prescribed rate has been set at 2%. This is the lowest prescribed rate in a long period of time. It may now be a good time to consider income splitting using loans since the rate is so low. We discussed this in our March 26, 2002 Tax Tip. However, it is worth discussing again due to very low prescribed rates.

When one spouse (Spouse #1) lends funds to another spouse (Spouse #2), any income earned by Spouse #2 would generally be attributed back to Spouse #1. If, however, the prescribed rate of interest is charged on any funds lent from Spouse #1 to Spouse #2, then attribution does not occur. As long as Spouse #2 can earn at least 2% on his/her funds, the lending of funds would make sense.

One of the key points in order for this plan to work is that the interest must be paid 30 days after each year. It is important to stress that it is not at the end of the first month but, instead, 30 days after year-end. The best way to evidence that the amount has been paid is by writing a cheque from Spouse #2 to Spouse #1. Spouse #1 will have to bring into income the interest paid to him/her. Again,however, if Spouse #1 makes more than 2%, then there is income splitting with the lower income spouse.

For those clients that have a loan receivable from a company, there is the added possibility to reducing the income of the company while income splitting at the same time. The company can repay the shareholder loan to the client, the client can then lend the funds at the prescribed rate to his/her spouse and the spouse can lend those funds back to the company at a reasonable rate of interest. Given that corporate borrowings have a higher risk and therefore interest rate, it is possible for the lower income spouse to earn significantly higher interest rate than the 2% prescribed rate that the spouse will have to pay to the initial client.

The prescribed rate will only be a 2% until the end of September. At this point, we are unsure of what the last quarter prescribed rate will be, so now is the time to take advantage of this.


TAX TIP OF THE WEEK is provided as a free service to clients and friends of the Tax Specialist Group member firms. The Tax Specialist Group is a national affiliation of firms who specialize in providing tax consulting services to other professionals, businesses and high net worth individuals on Canadian and international tax matters and tax disputes.

The material provided in Tax Tip of the Week is believed to be accurate and reliable as of the date it is written. Tax laws are complex and are subject to frequent change. Professional advice should always be sought before implementing any tax planning arrangements. Neither the Tax Specialist Group nor any member firm can accept any liability for the tax consequences that may result from acting based on the contents hereof.