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Tax cases rarely make it all the way to the Supreme Court of Canada, but when they do, the results usually have far reaching implications. It’s even more interesting when the taxpayer wins! Such was the case on August 1 when Justice Rothstein dismissed CRA’s appeal in the case of Canada v. Craig. As a result, it now appears we have a new set of criteria for determining whether or not losses from farming should be restricted.
In the Fall 2011 issue of
Orchard & Vine (“The Taxation of Farm Losses” pg.52-53), I looked at how CRA determines whether losses from farming are fully deductible, partially deductible (restricted) or not deductible at all. Section 31(1) of the Income Tax Act limits deductibility of farm losses “[w]here a taxpayer’s chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income”.
Until recently, the question of farm loss deductibility focused on an interpretation of s.31(1) in the 1978 Supreme Court case of Moldowan v. the Queen. In that case, Justice Dickson attempted to break down farming into three classes:
But Moldowan has been criticized over the years because it does not contemplate that farming could be a subordinate source of income and still be part of “a combination of farming and some other source of income”.
Then came the 2006 Federal Court of Appeal case of
Gunn v. Canada, where CRA relied on the precedent of Moldowan in restricting the farm losses of the taxpayer. Finding in favour of the taxpayer, Justice Sharlow pointed out in her decision that, according to logic of Justice Dickson in
Moldowan, the taxpayer must be able to demonstrate that their other source of income is subordinate to farming. But if they could do that, then they could probably argue successfully that farming is their
chief source of income, thereby avoiding
any restriction on their farm losses!
CRA appealed the
Gunn decision, setting the stage for this summer’s Supreme Court ruling. Normally, the Supreme Court is quite reluctant to overturn its previous decisions. However, the flawed logic of Moldowan and the subsequent decision in
Gunn had left a confusing and uncertain landscape for taxpayers and advisors in deciding whether farm losses should be restricted. Justice Rothstein has attempted to correct this lack of clarity in his judgment. His direction can be summarized as follows:
Justice Rothstein says in his decision that “the approach must be flexible, recognizing that not each factor need be significant. The question is whether, looking at these factors together, the taxpayer places significant emphasis on each of the farming business and other earning activity, and if so, the combination will constitute a chief source of income and avoid the loss deduction limitation of s. 31(1).”
In other words, no one factor is more or less important than the others, and not all factors need to be significant in order for the test to be met. So, for instance, a taxpayer might invest significant capital in a farming partnership and presumably still get full deductibility for his/her share of the partnership’s losses, despite not being actively involved in the farming activity.
Clearly it just became much more difficult for CRA to prove that farm losses should be restricted. It is difficult to envision circumstances where a taxpayer would be considered to be farming on a commercial basis and not be able to demonstrate that a combination of farming and another source of income are his/her chief source of income. Farming does not have to be the chief source, just one of two or more sources.
This is good news for anyone engaged in farming on less than a full time basis. And as a result, any taxpayer who has reported restricted farm losses in the past should review their filing position in view of this recent Supreme Court decision.
Geoff McIntyre, CA is a business advisor to the Agrifood industry in MNP’s Kelowna office.
This article was featured in the Fall 2012 issue of
Orchard & Vine Magazine.
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