GAAR changes in Canada - Introduction
On March 28, 2023, Canada's Finance Minister presented budget materials suggesting major modifications to the country's General Anti-Avoidance Rule (GAAR).
These alterations will lead to considerable uncertainty, elevate corporate tax risks, and generate volatility in the Canadian tax disputes domain.
The three most critical proposed GAAR changes involve:
- Including an economic substance analysis
- Implementing a 25% penalty
- Extending the limitation period for the CRA to apply GAAR
Other important suggestions encompass the introduction of a new preamble to GAAR and a revision of the purpose test required for GAAR application.
Economic Substance in GAAR
The proposed "economic substance" analysis amendments deviate significantly from the Canadian standard, as Canadian courts have typically taxed transactions based on their legal form.
The economic substance aspect is incorporated as a factor in determining transaction abusiveness, rather than as an independent test to deny benefits.
The amendments list non-exhaustive factors to determine if a transaction lacks significant economic substance.
However, the budget materials emphasise that not all transactions without economic substance are abusive, and existing GAAR jurisprudence remains relevant when a transaction does not lack economic substance.
Proposed 25% GAAR Penalty
The budget materials propose a 25% penalty on the tax benefit when GAAR applies to undisclosed transactions.
This penalty should be considered by taxpayers when determining the level of aggressiveness in future Canadian tax planning.
Extension of GAAR Assessment Limitation Period
The budget suggests extending the limitation period for the CRA to apply GAAR by three years if a transaction was not disclosed.
This extension would result in a possible GAAR reassessment issuance up to seven years after the original assessment, matching the statutory limitation period for transfer pricing rule reassessments.
Additional Developments
Two more significant GAAR changes are proposed:
- Introduction of a preamble outlining GAAR's objectives, which will likely be debated extensively in courts.
- Modification of the purpose test from focusing on primary purposes to determining if "one of the main purposes" was to obtain a tax benefit.
The Department of Finance has requested feedback on these provisions by May 31, 2023. Following this, revised legislative proposals will be published, and the application date for the amendments will be announced.
GAAR changes in Canada - Conclusion
If the final legislation reflects current proposals, taxpayers will face substantial uncertainty in compliance. Economic substance will become a legislated factor, alongside a 25% penalty, that Canadian taxpayers must consider when assessing GAAR risk.
Though some pitfalls may be avoided through increased disclosure, the proper role of these new provisions will remain unclear until a comprehensive jurisprudence is established.
If you have any queries about GAAR changes in Canada or other Canadian tax matters then please do not hesitate to get in touch.
The content of this article is provided for educational and information purposes only. It is not intended, and should not be construed, as tax or legal advice. We recommend you seek formal tax and legal advice before taking, or refraining from, any action based on the contents of this article.