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Pending excise tax issues: December 7, 2004.

On December 7, 2004, Tax Executives Institute held its annual liaison meeting with officials of the Canada Revenue Agency on pending excise tax issues. Reprinted below is the agenda for the meeting, which was prepared under the aegis of TEI's Canadian Commodity Tax Committee, whose chair is Sherrie Ann Pollock of the Royal Bank Canada.

Tax Executives Institute, Inc. welcomes the opportunity to present the following comments and questions on pending commodity and excise tax issues, which will be discussed with representatives of the Canada Revenue Agency (CRA) during TEI's December 7, 2004, liaison meeting. If you have any questions in advance of that meeting, please do not hesitate to call either David M. Penney, TEI's Vice President for Canadian Affairs, at 905.644.3122, or Sherrie Ann Pollock, chair of the Institute's Canadian Commodity Tax Committee, at 416.955.7373.

Goods and Services Taxes (GST)

l. Supply & Installation of Equipment

A commercial GST-registered corporation (eligible for input tax credits (ITCs)) acquires two large production machines (e.g., blast furnaces) that will be firmly attached to its manufacturing premises--one located in Ontario and the other one located in Manitoba. The corporation will use both machines to produce goods over the next ten years.

For purposes of the Ontario Retail Sales Tax Act (ORSTA), the installed machine would be considered a fixture when installed.(1) For purposes of Manitoba Retail Sales Tax Act (MRSTA), the installed machine would be considered tangible personal property (TPP).

The corporation hires a GST-registered contractor, resident in both provinces, to supply and install each large production machine. The contractor will purchase the production machines from a third-party supplier and then install them at the manufacturing sites in Ontario and Manitoba.

The total contract price is $12,000,000. Goods and Services Tax (GST) is not included in that price. The payment terms are $1,000,000 per month (GST excluded), beginning January 1, 2005, through December 1, 2005.

Part I--Initial Sale, Delivery & Installation

Assume title to the production machines passes from the contractor to the corporation on delivery to the manufacturing sites. Each machine will be delivered to each site on October 1, 2005, and will be completely installed by December 1, 2005. The contract does not contain any international commerce terms (Incoterms) and does not contain a delivery clause.

One party believes that, for GST purposes, the supply and-install contract is a sale of TPP and thus the contractor should invoice GST of $70,000 on each monthly payment. The other party believes that the contract is the supply of real property and thus the contractor should not be required to invoice, remit, or collect any Division II tax since subsections 221(2) and 228(4) of the Excise Tax Act (ETA) apply. The purchaser would therefore self-assess and recover the tax as an ITC, but is not clear when this should be done--each month or in December 2005.

Questions

(a) Which party is correct? For the purposes of the ETA, is the above supply-and-install contract considered the sale of TPP or real property? If the supply is considered real property, when is the proper time to self-assess and recover the tax as an ITC in accordance with sections 221(2) and 228(4) of the ETA?

(b) Does the differing treatment of the production machines under the respective provincial sales tax acts--Ontario as a fixture (real property) and Manitoba as TPP--affect the treatment for GST purposes?

(c) If the contract had separate selling prices for the supply and installation of each production machine identified within the contract--e.g., sale of machines, $5,000,000 each; installation of machines, $1,000,000 each--would the answer to question (a) be different?

(d) If two contracts with the same party were used, one for the sale and another for the installation, would the answer to question (a) be different?

(e) If title to the production machines passes from the contractor to the corporation on installation rather than delivery, would the answers to questions (a) and (b) be different?

Part II--Subsequent Sale

Three years later, the corporation decides to ease its cash flow needs by selling the two production machines located in Ontario and Manitoba to a non-related leasing company for $10,000,000 (GST not included). The GST-registered leasing company will receive payments of $375,000 (GST not included) per month from the corporation.

Under the negotiated sale-leaseback contract, no physical invoices are issued from the leasing company to the corporation. The leasing company will automatically withdraw the proper amount monthly from the corporation's bank account as provided in the agreement. Both the corporation's and the leasing company's GST registration numbers, full names, payments dates, etc., will be contained in the sale-lease-back contract, i.e., all the standard documentation needed to recover an ITC.

Questions

(f) Will the sale of the installed production machines to the leasing company be considered the sale of TPP for GST purposes (which the corporation should invoice Division II tax to the leasing company) or will the sale be considered the sale of real property, with subsections 221(2) and 228(4) of the ETA applying to the leasing company?

(g) Please confirm whether the leasing company is required to remit Division II tax on the lease payments (which are automatically drawn from the corporation's bank account with no physical invoice being issued) regardless of whether the machines are considered TPP or real property (i.e., $375,000 x 7% = $26,250 in GST).

(h) Assuming the leasing company is required to remit the Division II tax on the monthly lease payment, please confirm that the corporation is eligible to claim back the GST on such payments as an ITC, based on the ITC documentation contained in the sale-leaseback agreement, even though actual invoices are not issued.

2. Emission Credits

At TEI's 2003 liaison meeting, CRA was asked about the application of GST to "emission trading credits" and "emission offset credit instruments" (question no. 6). Please provide an update on whether these "instruments" are a supply of intangible personal property, a commodity, a service, a right in respect of real property, or an exempt supply of a financial instrument.

3. Documentation of Employee Expenses

An employee of a GST-registered, commercial employer takes a business trip and stays overnight at a hotel in Ottawa. The hotel room cost is $100 plus $7 GST plus $5 Ontario Retail Sales Tax ($112 total).

The employee pays for the hotel stay with an employer-provided credit card. The agreement between the employer, the employee, and the credit card company is that the employer and employee are joint and severally liable for the purchases charged to the credit card.

On checking out of the hotel, the employee receives an invoice detailing the total amount owed ($112.00). The employee signs a paper document authorizing the hotel to charge the credit card account and the employee is provided a copy of that document.

The employer uses the so-called 6/106th prescribed factor method described in subparagraph 65(a) of CRA Publication G400-1-2, Documentary Requirements (GST 400-1-2).

The flow of funds is, as follows: The hotel receives payment from the credit card company. The credit card company notifies the employer of the expense. The employer pays the $112. The employee is informed of the credit card charge, and asked to verify it. After the employee has completed the report, the employer's accounting process charges the hotel expense to the correct operational expense account and calculates any applicable GST recovery based on applicable allowed percentages.

Which of the following correctly describes the documentation required to justify the GST recovery by the employer of the ITC on the hotel expense?

(a) No documentation is required, i.e., neither the hotel invoice nor the document authorizing the hotel to charge the credit card account is required since the 6/106th prescribed factor method is used.

(b) The hotel invoice is required even though the 6/106th prescribed factor method is used.

(c) The document authorizing the hotel to charge the credit card account is required even though the 6/106th prescribed factor method is used.

(d) Both the hotel invoice and the document authorizing the hotel to charge the credit card account are required even though the 6/106th prescribed factor method is used.

4. Cross-border Transportation of Goods

A GST-registered company (Company A) sells goods to a GST-registered purchaser (Customer B). Company A obtains the goods from its U.S. parent in Boston, Massachusetts. The U.S. parent is not GST-registered. With regard to title to the goods, U.S. parent sells the goods to Company A, which then sells the same goods to Customer B (who is aware of this relationship).

The international commerce term (Incoterm) used in respect of these supplies between Company A and Customer B is Free Carrier (FCA) Post-Canada-Customs clearance (i.e., post importation into Canada).

Under the existing process, the goods are directly shipped from Boston to Customer B. Company A is the importer of record, pays Division III GST, and subsequently recovers the tax as an ITC. The goods are never physically delivered to Company A. Company A invoices Customer B for the Division II tax (standard ITC documentation being provided).

Only one freight carrier, which is GST-registered, delivers the goods from Boston to Customer B's location in Canada. The freight carrier invoices Customer B without including GST because the freight carrier views the supply as a zero-rated supply on an international transportation service.

Please confirm that:

(a) Based on the Incoterm used (FCA), the supply between Company A and Customer B is considered made in Canada;

(b) Company A is correct in invoicing Division II to Customer B;

(c) Company A is eligible to recover the Division III GST paid at the border as an ITC; and

(d) The freight carrier is correct in not invoicing GST to Customer B because the freight transportation supply is a zero-rated supply.

Alternative Scenario

Assume the freight carrier invoices Company A, rather than Customer B, for delivery of the goods from Boston to Customer B's location in Canada. Company A then pays the freight carrier's invoice and applies the exact freight charge as a separate line-item on its invoice to Customer B.

Questions

(e) Is the freight carrier correct in not invoicing GST to Company A because the freight transportation supply is a zero-rated supply?

(f) Is Company A required to invoice Customer B for the Division II tax on the freight charge, i.e., does the freight transportation supply retain its status as a zero-rated supply or does it become part of the consideration for a taxable supply?

(g) If two freight transportation carriers (FTCs) were used--one carrier (FTC1) to transport the goods from Boston to the FCA point, and another carrier (FTC2) to transport the goods from the FCA point to Customer B's location--and both freight carriers invoice Company A, will Division II tax apply to the charge for (1) the FTC1 amount only, (2) the FTC2 amount only, or (3) both amounts, if Company A includes both freight charges as separate line-items on its invoice to Customer B?

(h) If Company A adds a 10-percent markup to the cost of the freight charge in (f) and the freight charges in (g), do the answers change?

5. Time Limit for Gst Recovery On Bad Debt Write-off

A fully commercial, GST-registered corporation issues invoices to a specific customer (Customer X) for GST-taxable supplies. GST is invoiced separately with all standard documentation requirements. This corporation does not make tax-exempt supplies.

In September 1998, the corporation issued an invoice to Customer X. Contrary to past practice, however, Customer X does not pay the corporation's invoice. The corporation continues to invoice Customer X; the last invoice is dated November 3, 2001.

During 1998-2001, Customer X pays a few of the corporation's invoices (the smaller dollar value ones) and continuously assures the corporation that its financial difficulties are temporary and its financial circumstances will improve. Shortly after November 3, 2001, however, Customer X declares bankruptcy.

The corporation writes off the entire account as a bad debt (assume a valid bad debt for GST purposes)--$1,070,000 in December 2001 ($1,000,000 plus $70,000 GST). The corporation's December 2001 GST return is filed on January 31, 2002.

The GST contained in the bad debt write-off is eligible for GST recovery and the corporation plans to record the GST recovery in December 2001. Because of staff turnover and year-end activity, however, the entry to record the GST recovery of the bad debts is not made.

During an internal audit review in September 2004, it is discovered that GST recovery has not taken place. The earliest written-off invoices are dated September 1998, and the rest are from 1999-2001.

Questions

(a) Assuming the corporation files its GST return monthly, please confirm that the corporation may recover the GST associated with the bad debt write-off invoices in December 2004, since the corporation wrote off-the bad debt in December 2001 and the time period for recovery has not expired.

(b) Please confirm that the latest the corporation can recover the GST associated with the above bad debt write-off is 4 years from the time of the actual write-off, i.e., the December 2005 GST return.

6. Product Testing

Part I--First Scenario

An unregistered, non-resident parent corporation has a product to be tested. The parent corporation has a fully owned subsidiary in Canada. Although the subsidiary does not have the facilities to perform the required tests of the parent's products, the subsidiary contracts with a GST-registered subcontractor to do the testing.

The subsidiary imports the parent's product into Canada and the subsidiary's name is on the import documents. Division III GST applies upon importation and is paid by the subsidiary.

After testing is complete, the product is shipped back to the parent corporation as soon as practicable. The parent corporation owns the product at all times. The subcontractor invoices the subsidiary, which in turn invoices the parent corporation (assume standard documentation requirements are met to claim an ITC).

Please confirm that:

(a) The subsidiary can recover the Division III GST paid on the importation of the parent corporation's products as an ITC under subsection 169(2) of the ETA.

(b) The subcontractor must include Division II GST on its invoice to the subsidiary for the testing service, since this service was performed in Canada.

(c) The subsidiary can recover the Division II GST included on the subcontractor's invoice since the subsidiary is using the testing service in its commercial activity.

(d) The subsidiary can issue an invoice to the parent corporation for the testing service (even though the work is outsourced to a subcontractor), and not include GST under the zero-rated provision of subsection 4(a) of Part V of Schedule VI of the ETA.

Part Ii--Second Scenario

An unregistered, non-resident parent corporation has a product to be tested. The parent corporation contracts directly with a GST-registered subcontractor located in Canada to do the required testing.

The subcontractor imports the parent corporation's product into Canada and the subcontractor's name is on the import documents. Division III GST applies upon importation and is paid by the subcontractor.

After testing is complete, the product is shipped back to the parent corporation as soon as practicable. The parent corporation owns the product at all times. The subcontractor invoices the parent corporation.

Please confirm that:

(e) The subcontractor can recover the Division III GST paid on the importation of the parent corporation's products as an ITC under subsection 169(2) of the ETA.

(f) The subcontractor can issue an invoice to the parent corporation for the testing service, and not include GST under the zero-rated provision of subsection 4(a) of Part V of Schedule VI of the ETA.

Part III--Third Scenario

An unregistered, non-resident parent corporation has a product to be tested. The parent corporation contracts directly with a GST-registered subcontractor located in Canada to do the required testing. The subcontractor does not want to be the importer of record and pay the Division III tax on importation.

The parent corporation hires a broker to import its product into Canada and the parent corporation's name is on the import documents. Division III GST applies upon importation and is paid by the parent corporation via its broker.

After testing is complete, the product is shipped back to the parent corporation as soon as practicable. The parent corporation owns the product at all times. The subcontractor invoices the parent corporation.

Please confirm that:

(g) The parent corporation cannot recover Division III GST because the parent corporation is not GST-registered. The parent corporation, however, can use section 180 of the ETA to pass the cost of Division III GST on to the subcontractor, which in turn can claim an ITC under subsection 169(2) of the ETA (as long as the parent corporation can provide the proper documentation for the amount of GST paid on importation).

(h) The subcontractor can issue an invoice to the parent corporation for the testing service, and not include GST under the zero-rated provision of subsection 4(a) of Part V of Schedule VI of the ETA.

Part IV--Fourth Scenario

An unregistered, non-resident parent corporation has a product to be tested. The parent corporation contracts directly with a GST-registered subcontractor located in Canada to do the required testing. The subcontractor does not want to be the importer of record and pay the Division III tax on importation.

The parent corporation also does not want to be the importer of record and does not want to pay the Division III tax on importation. Therefore, the parent corporation directs its subsidiary to be the importer, even though the subsidiary is uninvolved in the transaction between the parent and the subcontractor. There is no agency agreement between the parent corporation and the subsidiary.

The subsidiary imports the parent's product into Canada and the subsidiary's name is on the import documents. Division III GST applies upon importation and is paid by the subsidiary.

After testing is complete, the product is shipped back to the parent corporation as soon as practicable. The parent corporation owns the product at all times. The subcontractor invoices the parent corporation.

Please confirm that:

(i) The subsidiary cannot recover Division III GST paid on the importation of the parent corporation's products since the subsidiary is not providing any service to the parent corporation and thus is not using those products in the subsidiary's commercial activity.

(j) If the subsidiary invoiced the parent corporation for Division III GST, the parent corporation cannot recover this tax because the parent corporation is not GST-registered.

(k) If the subsidiary invoiced the subcontractor for Division III GST, the subcontractor cannot recover this tax under section 180 of the ETA because the non-registered, non-resident person is not the person invoicing the subcontractor.

(l) The subcontractor can issue an invoice to the parent corporation for the testing service, and not include GST under the zero-rated provision of subsection 4(a) of Part V of Schedule VI of the ETA, despite the possibility of nonrecovery of Division III GST.

7. Drop Shipment Certificates

A GST non-resident, non-registrant (A) instructs its Canadian supplier (B) to ship goods directly to A's customers in Canada. All customers in Canada are GST-registered, and B is not related to any of A's customers.

Normally, B must obtain drop shipment certificates from A's customers to avoid charging A the 7% GST. B does not want to take on this responsibility. May A obtain drop shipment certificates on behalf of B, or on its own behalf to support not being charged GST by B?

8. Moving Allowances

In the Zellers decision (2), the court ruled that moving allowances paid by Zellers to its employees were related to its business activities. The court agreed that the employee did not receive a personal benefit or employee perk--the allowances simply enhanced employee dedication and loyalty and fostered improved employer-employee long-term relationships. As a result, Zellers was entitled to claim ITCs for moving allowances paid to employees.

In P-075R--Allowances and Reimbursements (July 19, 2004), CRA states that the amount of a moving allowance that is required to be included in an individual's income as a taxable benefit is not considered to be an allowance pursuant to section 174 of the ETA. Since this moving allowance is considered to be income of the individual, the payment is not subject to GST/HST and hence it is not eligible for purposes of determining an ITC.

How does CRA reconcile its position with the decision in Zellers?

9. Draft GST/HST Policy Statement P-051R2

In September 2004, CRA released draft GST/HST Policy Statement P-051R2, Carrying on Business in Canada. Its predecessor, issued March 8, 1999, was P-051R1 (the original policy statement was P-051, which was issued March 9, 1992).

We have several questions related to the examples in the draft policy. The example numbers correspond to the respective example numbers in the policy statement. Unless indicated otherwise, assume the facts from each example in the policy statement. Additionally, it is assumed the non-resident is not registered for GST before the specific transaction. The transactions affect whether the existing non-registered, non-resident is carrying on business in Canada. If these transactions do occur, will they cause the non-registered, non-resident to be required to register for GST purposes?

Example #1--Lease of Tangible Personal Property

The conclusion reached in Example #1 is that the nonresident lessor is carrying on business in Canada. When is the non-resident, non-registered person in this example considered carrying on business in Canada--at the time the sale-leaseback agreement is signed, or at the time the first leased amount is owed under the sale-leaseback agreement?

Specifically, assume the registered registrant sells the conveyance to the non-resident lessor (not registered for GST purposes at this time) on January 1, 2005, for $10,000,000 (GST excluded). The terms of the agreement are that lease payments of $325,000 (GST excluded) are payable on the last day of the month beginning January 31, 2005, and every month thereafter for a set period.

Questions

(a) Is the non-resident, non-registered lessor considered to be carrying on business on January 1, 2005?

(b) Is the non-resident, non-registered lessor required to be registered on January 1, 2005? In other words, even if the non-resident lessor had not applied for, and has not received a GST number, is this person required to be registered because of the sale-leaseback arrangement?

(c) Can the provisions of subsection 179(4) of the ETA be used on the supply from the registered registrant to the non-resident lessor on January 1, 2005?

(d) If the non-resident lessor is considered to be carrying on business at the time of the purchase of the conveyance from the registered registrant solely because of this transaction--and is required to be GST registered even if the non-resident has not filed a GST application and received a GST number--please confirm that subsection 179(4) of the ETA is inapplicable (since one of the conditions of that section is that the lessor be a non-resident person who is not registered).

(e) If the terms of the sale-leaseback agreement are that the first monthly lease payment is due on January 1, 2005, i.e., the date of the agreement itself, will the answers to (a) through (d) change?

(f) The previous version of the policy statement (P051R1) contained the following example (Example #2):
 A U.S. aircraft lessor who has no employees in
 Canada, no facilities (either management, sales or
 services) of any kind in Canada, no bank accounts
 in Canada, and is not registered for GST/HST purposes,
 is approached by a Canadian Company who
 wishes to lease an aircraft. The lease is accepted
 by the lessor in the U.S., the aircraft is delivered
 by the lessor in the U.S. and the aircraft is serviced
 in Canada by the lessee at its own expense. In
 such a case, the lessor would not be considered to
 be carrying on business in Canada.


Please confirm the position of CRA has not changed and that the lessor is still not considered to be carrying on business in Canada in this example.

One significant difference between the two examples is that in Example #2 of P-051R1, the delivery point of the leased goods is outside Canada, whereas in Example #1 of P-051R2, the non-resident person has accepted delivery of the goods in Canada. It appears that where the delivery of goods takes place is a very relevant factor in determining if the non-resident lessor is, or is not, carrying on business in Canada (Examples #2 & #3 of P-051R2 also indicate this).

Example #2--Lease of Tangible Personal Property

In Example #2, the lessee's acquiring possession of the equipment outside Canada at the beginning of the lease initially appears to be a key factor in determining that the non-resident is carrying on business in Canada. Example #2 does not state, however, that the leased goods are for use in Canada, even though this may have been intended. If the leased goods will never be imported into Canada, the non-resident's not carrying on business in Canada should be of little significance. Under these circumstances, the lessee will likely intend to import the goods into Canada.

Assume the resident registrant in Example #2 will import the leased goods into Canada after acquiring possession and use these leased goods wholly for its commercial activity in Canada. On importation, assume that Division III GST is payable and the resident registrant is required to pay it.

Please confirm that:

(g) Even though the leased goods will be imported into Canada after the resident registrant acquires possession, this does not change the determination in Example #2 that the non-resident lessor is not carrying on business in Canada.

(h) The resident registrant will be able to claim the Division III GST it paid on importation as an ITC because the resident registrant is using the leased goods in its commercial activity.

Example #8--Supply of Goods By Way of Sale

The determination in Example #8 is that the nonresident is carrying on business in Canada in significant part because "[t]he non-resident maintains an inventory of existing goods for sale at a warehouse in Canada where the non-resident rents space" (fact no. 8).

If the non-resident maintains an inventory of goods for sale at the non-resident's customer's location in Canada, such as critical parts for aircraft or locomotives, rather than a "warehouse in Canada where the non-resident rents space," what is the result? If the non-resident has several customers in Canada, each of whom requires that the nonresident maintain an inventory of these critical parts at the customer's location, what is the result?

Assume the non-resident is the initial supplier (seller) of the aircraft or locomotive, and the customer is responsible for all on-going maintenance. The customer wants the non-resident to have an inventory of parts immediately available at the customer's site so that the customer can readily purchase and use these parts. The customer may or may not invoice the seller for the space occupied by the non-resident's parts inventory.

Please advise with respect to the following:

(i) Assuming a single customer does not charge the non-resident seller for space, will the inventory of seller's parts at this single customer's location in Canada cause the seller to be carrying on business in Canada?

(j) Assuming several customers do not charge the nonresident seller for space, will the inventory of seller's parts at more than one customer location cause the seller to be carrying on business in Canada?

(k) Assuming a single customer does charge the nonresident seller for space, will the inventory of seller's parts at the single customer's location in Canada cause the seller to be carrying on business in Canada?

(l) Assuming several customers do charge the nonresident seller for space, will the inventory of seller's parts at more than one customer location cause the seller to be carrying on business in Canada?

Example #10--Supply of Goods By Way of Sale

Would the determination in Example #10--that the non-resident manufacturer is not carrying on business in Canada--be the same if the product being supplied and installed is software rather than a highly specialized industrial machine?

Example #17--Supply of Services

The determination in Example #17 is that the nonresident is carrying on business in Canada.

This example raises concerns for large multinational corporations that frequently have personnel from their non-Canadian parent come into Canada to perform services similar to those described in the example for their Canadian subsidiary. In addition, the parent may provide other consulting and training services, e.g., relating to global company-wide policies such as integrity and quality programs. These programs may last several days and be repeated at various locations in Canada (over the course of several weeks) for the same legal entity.

Based on the facts in Example #17, it would appear that non-residents in the situation described above could be carrying on business in Canada. Interestingly, the example's rationale indicates the following: "This [service performed in Canada and employees entering Canada to perform service], in addition to the relative significance of the service to the overall business activity of the non-resident is sufficient to conclude that the non-resident has a significance presence in Canada and is therefore carrying on business in Canada." (Emphasis added.)

In the multinational and subsidiary scenario, the "relative significance" clause in the rationale may prove beneficial because most large multinationals have a variety of businesses not related to consulting work. Relying solely on "relative significance" to conclude that a non-resident is not carrying on business in Canada seems risky, however, particularly if the business of the non-resident is significantly related to consulting and training services for software or other services, rather than the above examples related to business productivity.

Additionally, it appears that supplies made only to related parties in Canada by the non-resident (rather than to third-party customers) have no bearing on whether the non-resident is carrying on business in Canada.

Please confirm that:

(m) A related-party relationship between a non-resident and its Canadian customer (i.e., subsidiary), by itself, has no bearing on the determination whether the non-resident is carrying on business in Canada (in this example, the nonresident company will be carrying on business in Canada, subject to the possible exception under the "relative significance" clause, notwithstanding that the service is only provided to its subsidiary).

Example #18--Supply of Services

The determination in Example #18 is that the non-resident is not carrying on business in Canada for GST/HST purposes.

Although the non-resident painting company is not considered to be carrying on business in Canada, GST will be included on the invoice from the subcontractor to the non-resident painting company, and the non-registered nonresident is unable to recover the GST invoiced. As a result, the non-resident will likely factor in GST, in addition to the base cost, from the subcontractor's invoice as its true, total cost and thus the non-resident's selling price to its Canadian customer will reflect a GST-embedded cost.

Please confirm that:

(n) The Canadian painting company is required to include Division II GST on its invoice to the non-resident painting company.

(o) The non-resident painting company cannot obtain a refund of GST since the non-resident is not GST registered.

(p) Even if the non-resident is a non-resident for purposes of subsection 179(2) of the ETA, and the non-resident's customer provides a drop shipment consignee certificate to the Canadian painting company, the consignee's certificate is not valid for purposes of subsection 179(2) because the painting contract relates to real property in Canada.

10. Contract Manufacturing

A non-resident of Canada enters into an agreement with a Canadian contract manufacturer to produce goods on behalf of the non-resident. As part of the contract, the nonresident will send pieces of equipment to the Canadian contract manufacturer that will be used to produce the goods. At the end of the term of the agreement, the equipment is to be returned by the Canadian contract manufacturer to the non-resident.

Questions

(a) Will the presence of the non-resident's equipment on the Canadian contract manufacturer's premises during the term of the contract cause the non-resident to (1) be carrying on business in Canada, or (2) have a permanent establishment in Canada for GST purposes (assume that the goods produced will be exported from Canada, or, if sold by the non-resident in Canada, drop-shipped to the non-resident's Canadian customers)?

(b) If the Canadian contract manufacturer imports the equipment owned by the non-resident, will the importer be able to claim an ITC for Division III GST under any part of section 169 of the ETA (assume the importer will be required to pay Division III GST)?

11. Outsourced Information Technology (IT) Services

Two foreign corporations (Corporations A and B) enter into an outsourcing agreement whereby Corporation A outsources its information technology requirements to Corporation B. Corporation A will eliminate its own IT department (or a portion of it) and provide its application software to Corporation B, which will install it on computer servers that Corporation B owns or leases and use operating system software that it licenses. Corporation B is responsible for maintaining the servers, software, and network connections to ensure that the network is operating and available to Corporation A 99% of the time.

Corporation B plans to subcontract a substantial portion of its obligations under the contract to a Canadian corporation (Canco). Accordingly, Corporation B will send the servers, operating system software, and Corporation A's application software to Canco. Canco will be responsible for operating and maintaining the servers and software at its server farm in Canada. At the end of the contract term, Canco will export all the servers and software back to Corporation B.

Questions

(a) Please confirm that neither Corporation A nor B will be carrying on business in Canada or have a permanent establishment in Canada.

(b) Please confirm that under subsection 179(3) of the ETA, Canco is not required to charge GST on its fees to Corporation B, so long as Canco returns the servers and software to Corporation B outside of Canada at the end of the term of the contract.

(c) If Canco imports the equipment owned by Corporation B, may the importer claim an ITC for Division III GST under any part of section 169 of the ETA (assume the importer will be required to pay Division III GST)?

12. Section 156

The following corporations are wholly commercial operations eligible for full ITCs:

* Corporation ABC owns Corporations DEF, GHI, JKL, and MNO.

* Corporation ABC is owned 51% by Corporation W and 49% by Corporation X.

* Corporation W owns 100% of Corporation 1234.

* Corporation X owns 100% of Corporation TUV.

[ILLUSTRATION OMITTED]

Questions

(a) May Corporation 1234 make a section 156 election with Corporations DEF, GHI, JKL, and MNO?

(b) May Corporation TUV make a section 156 election with Corporations DEF, GHI, JKL, and MNO?

(c) Do the answers to (a) and (b) change if W and X are individuals rather than corporations?

13. Vendor Verification of Purchaser GST Registration

Subsection 221(2) of the ETA provides that the purchaser of real property must be a GST registrant in order for the vendor to be relieved of the requirement to collect and remit GST on the sale. TEI understands that recently a vendor was found liable for GST even though relying on a representation by the purchaser's lawyer that the purchaser was a GST registrant, when in fact the purchaser's GST registration had been cancelled prior to the sale.

Please comment on the consequences for the vendor in following the circumstances:

(a) A GST-registered vendor sold a commercial property to a business. The purchaser provides its GST registration number as part of the closing documents prepared by the lawyer. Relying on the GST number disclosure, and pursuant to paragraph 221(2)(b), the vendor does not collect GST on the sale. It is subsequently discovered that the purchaser's registration is invalid.

(b) A GST-registered vendor sells a commercial property to a business. The purchaser provides its GST registration number as part of the closing documents prepared by the lawyer. The vendor obtains an oral confirmation from a local CRA tax service office that the number is valid. Relying on the oral confirmation, and pursuant to subsection 221(2)(b) of the ETA, the vendor does not collect GST on the sale. It is subsequently discovered that the purchaser was not a GST registrant at the time of the sale. The GST number provided is for a related company of the purchaser who was not a party to the transaction.

Is there any written documentation that a vendor can obtain from CRA to prove the validity of the purchaser's registration?

14. Dissolution of Partnership, Use of Subsection 167(1) Election & ITC Entitlement

Pekoe is an Ontario partnership owned by two corporations, A and B. A and B own 99% and 1% of Pekoe, respectively. A is GST-registered, but B is not. As part of a corporate reorganization, Pekoe is dissolved, resulting in distributions of undivided interests in partnership property to the former partners in proportion to their interests. B subsequently sells its undivided interest in the property to A. A then transfers the property to a new corporate partnership (New Pekoe) in exchange for an increased partnership interest. New Pekoe was previously established by A, C, and D in anticipation of the restructuring; C and D are themselves corporations and are not related to A. New Pekoe will carry on the same type of business as Pekoe, albeit significantly expanded.

Questions

(a) May B register for GST? If not, why not?

(b) May Pekoe and A file an ETA election under subsection 167(1) of the ETA to avoid having Pekoe charge GST on the supply to A of the undivided, proportionate interest in the partnership property upon dissolution (bearing in mind that A owns 99% of Pekoe)?

It seems that since A has acquired ownership, possession, or use of all or substantially all of the property necessary for it to be capable of carrying on the business, the election is available. If CRA disagrees, why? (We note that CRA Policy Statement P-103R, Transfer of an Undivided Interest in a Joint Venture, allows an undivided fractional interest in assets of a joint venture to qualify for the election.)

(c) If the subsection 167(1) election is unavailable to Pekoe and A, is the GST Pekoe is required to charge and collect fully recoverable by A and B as ITCs, in light of the nature of their activities?

The draft policy statement on subsection 272.1(7) of the ETA contains an example that raises concerns that A and B (assuming B can and does become GST registered) may bear a non-recoverable tax, even though they would be considered to be engaged in commercial activities pursuant to the definition of that term contained in subsection 123(1) of the ETA.

Administrative Questions

15. GST Audit Plans

Does CRA have standardized GST audit plans and procedures to be observed by its auditors? Is there a CRA policy regarding audit plans and related information requests from the auditors to the registrants? Are these plans and procedures followed consistently throughout the country? To what extent does a GST auditor or manager have discretion to act independently of any such plans or procedures?

16. Limited Scope Waiver

Does CRA accept GST waivers with a scope limited to specific issues? If yes, can CRA explain in what circumstances such a waiver is acceptable? Is there a process in place to ensure a consistent approach to waivers throughout Canada?

17. GST Rulings

What procedures are in place to ensure consistency in the GST rulings issued by CRA across the country, as well as by Revenue Quebec? Is there a procedure to allow a taxpayer to have a ruling reviewed when it appears inconsistent with other rulings? In the event a ruling is inconsistent, what recourse does a taxpayer have?

18. Documentation

For GST purposes, a registrant is entitled to claim an ITC, as long as it obtains the prescribed information, including the supplier's name and address, the GST registration number, and the consideration for the supply. Please confirm that a registrant who obtains the prescribed information in an electronic format is entitled to claim an ITC in respect of the GST paid. Additionally, please confirm that an auditor is not required to establish that the supplier has appropriately remitted the GST collected in order to grant the corresponding ITC to the purchaser.

19. Procurement Cards

For several years, TEI and CRA have discussed the need to address the documentation issues related to procurement card purchases. Please provide a status report on the procurement card policy.

20. Sales To Provincial Government Entities

Generally, provincial governments are exempt from paying GST. CRA Publication G500-6-2, Provincial Governments (GST 500-6-2), lists the required information that vendors must keep to substantiate GST-exempt sales to provincial government entities.

In practice, provincial governments and their departments find it cumbersome to produce a GST certification clause letter, but rather provide their GST registration number as support for GST-exempt purchases. A provincial government's GST registration number is not listed as appropriate proof to exempt the sale in Publication G5006-2.

Can the documentary requirements be simplified for GST-exempt sales to government entities?

21. GST Memorandum 17.16

As indicated during TEI's 2003 liaison meeting, TEI has some suggested changes and comments pertaining to GST Memorandum 17.16--GST/HST Treatment of Insurance Claims. Attached is a marked-up version; we would be happy to discuss these suggestions with you.

Customs

22. Customs Notices

If a Customs notice is issued on January 2, 2004, that adversely affects the classification of goods (e.g., the rate is higher), and it is now July 30, 2004, how far back in time does the importer need to go to be in compliance? Does the importer need to go back 90 days from the date the notice is issued in order to have "reason to believe," or does "reason to believe" begin on the date the notice is issued? The following questions are illustrative:

(a) Importer A is aware of this change and goes to Customs to inquire about a potential reassessment. Importer A does not wish to resubmit claims. Can A obtain a waiver from the Customs Border Service Agency (CBSA) to obviate a resubmission?

(b) Importer B is aware of this classification change but does not approach CBSA or resubmit claims. If audited, is B subject to an Administrative Monetary Penalty System (AMPS) assessment since it had "reason to believe" and did not act within the 90 days?

(c) If the Customs notice reduces the rate of duty on a certain commodity, how far back can a client go to claim refund? Can it go back four years or is the notice issued on a prospective basis only?

23. Interest on Additional GST

During TEI's December 6, 2000, liaison meeting, an issue arose concerning the imposition of interest on GST when goods are imported into Canada and the importer subsequently realizes that additional GST is payable. CRA suggested that TEI raise the issue with the Director of the Trade Incentives Program, and TEI did so in February 2001 (as described in our letter to CRA dated December 20, 2002, a copy of which is attached). The issue has been discussed at TEI's 2001, 2002, and 2003 Liaison Meetings with CRA. Please provide a status report on this issue.

24. Customs Notice N-571

Customs Notice N-571, Accounting for Pallets, dated May 12, 2004, allows certain categories of pallets to be imported into Canada without being declared or accounted for. Would CBSA consider expanding this program to cover other categories of returnable containers in circumstances where importers can demonstrate that the containers are continuously used for the purposes of importing and exporting goods to and from Canada?

25. Quantity and Price Differential Reporting

The Customs Act requires a periodic report of quantity and price differentials on all imported goods (subsection 32.2(2)). This task is onerous for large-volume importers since every part, supply, piece of machinery, and equipment must be tracked from the receiving location and compared against the invoice and other related customs documentation. Companies have made substantial investments in order to be able to reconcile the receipts (the only way to accomplish the task is using costly programs that can successfully track the information for a large volume of transactions).

Recently, CBSA amended the reporting requirement to segregate and report overages and shortages separately along with any related price discrepancies. This amendment requires significant manual intervention since the existing electronic reports and invoices generally net the differentials. Moreover, the extra work does not appear to be feasible since quantity differentials tend to net out over time, i.e., overages and shortages tend to be corrected on the next shipment. While we are aware that overages and shortages have different legislative provisions in the Customs Act, the task of reporting them separately is very burdensome and time consuming, especially to large volume importers. Please comment on the reason for this additional requirement.

Conclusion

Tax Executives Institute appreciates this opportunity to present its comments on pending excise and commodity tax issues. We look forward to discussing our views with you during the Institute's December 8, 2004, liaison meeting.

(1) In accordance with Ontario Guide 206, a fixture is an item that is permanently attached to real property when installed.

(2) 3859681 Canada Inc. v. The Queen, 2003 TCC 501 (Zellers Inc. v. The Queen was heard on appeal together with 3859681 Canada Inc.).
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Title Annotation:Canada Revenue Agency
Publication:Tax Executive
Date:Nov 1, 2004
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