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Mortgage Interest as a Deduction in 2008 – dealing with GAAR
I first conceived of this method in 1975/76 when a client of mine had a rental duplex and had a tenant who was injured in a car accident. It was at the time of the changeover from private insurance to ICBC and the injured single mother tenant was waiting for an insurance settlement.
My client allowed his tenant to stay in the half duplex for more than a year and to stay afloat him self, he borrowed money to pay the duplex bills. When doing his 1975 tax return, we deducted the interest paid on the loan because the purpose of the loan was clearly to fund the rental duplex.
When he finally got his cheque for more than $5,000 from the tenant, it would have been all over if he had just paid the loan off and we had not thought about it. But my client, bless his soul, phoned and asked if he had to pay off the loan (which was deductible) or could he use the money for another non-deductible purpose.
My answer, after thinking about it for a day or so, was that he could us e the $5,000+ for any purpose he could think of. At the same time, I said this, I was also writing something for the North Shore Credit Union and put my ‘new’ method of making the mortgage interest deductible in this report which they then published as part of an advertisement in the North shore News in (I think) November, 1976.
I expanded it and it was
next published by Hancock House Publishers in my Investment Guide in 1979, 1980
and 1985 and 1991 and BC Business magazine in 1979. Sometime in there, the
Ontario Dental Association also ran it in their magazine. It then became part of
the internet and can be found in the March 1997 and November 2001 newsletters in
the top left hand box at www.centa.com.
I was pretty heavily involved in the Federal Conservative Party (ran for the North Shore Nomination in 19780 and am proud to say that we got mortgage interest as a tax deduction on the 1979 federal Income tax return.
Unfortunately, Joe Clark, the Prime Minister at the time, did not count the number of yes votes and lost a non-confidence motion on Dec 12, 1979, and on Feb 18, 1980, Pierre Trudeau was re-elected as Prime Minister and even though there was a 4-page form and a line on the T-1 General that year, the deduction was killed retroactively by the liberal government and we no longer had this benefit for all without manipulating the paperwork.
In 1981, Fred Snyder was running a series of seminars and teaching my method to a lot of different groups. In one seminar, he taught it to Realtors, McCauley, Nicolls, Maitland and Company and the manager Fraser Smith wrote Fred a letter thanking him for explaining the methods. In 1985, Fraser Smith than published the SMITH MANOUVRE which explains the method in great detail and at the time, VANCITY Savings Credit Union was featured in the book and was very good at setting up the method.
Then on Oct 27, 1988 John Singleton had approximately $300,000 in his lawyer’s capital account. He got permission to take the $300,000 out (it was his but was being used as security in his law practice). He used it to buy a house and then used the house as security to borrow $300,000 which he then put into his capital account; this was all done in one day. Of course, since the money in the account was now borrowed for business purposes, he deducted the interest on his 1988 and 1989 returns and the Tax Department turned him down. He appealed and lost in the Tax Court of Canada but won in the Federal court of Appeals. The CRA appealed to the Supreme Court and in October 2001, the Supreme Court of Canada found in favour of John Singleton in a 5 to 2 decision.
This case has now been
quoted and cited in many other cases. In OVERS 2006 TCC 26,
Mr Overs paid back a shareholder-loan,
which would have been included in his income. By doing what
he did, co-incidentally, the interest expense was made
deductible.
Mrs Overs borrowed funds to purchase shares of his
holding company at their fair market value. However, Mr Overs
did NOT use a 73(1) rollover as Lipson did. Therefore, no
capital gain was realized but the attribution rules in section 74(1) worked to
transfer the interest expense on the wife’s borrowed funds -- back to
him.
Judge Little turned down the CRA’s claim that tax
benefits arose from this series of transactions. The taxpayer
followed the Income Tax Act in repaying his loan and transferring the
shares to his wife. Justice Little ruled that the transactions were NOT
avoidance transactions and therefore GAAR did not apply. Judge Little ruled that
none of the transactions could be considered “abusive tax avoidance”.
And Judge Bowman ruled in
favour of Evans
(2005 TCC
684). Judge Bowman found there were no avoidance transactions
in what could only be described as a super complicated and very sophisticated
series of business restructurings that ended up with a former shareholder
receiving cash by using specific rules in the Act, including
sections 85
(rollovers), 110.6 (capital gains exemption), 112
(tax free inter-corporate dividends), 74.5 (attribution) and ss. 84(3) (deemed
dividends).
Judge Bowman assumed that there ‘were’ avoidance
transactions. He then dealt with them on an individual basis
to decide whether the avoidance transactions were ‘abusive’.
His final decision was that provisions of the Income Tax Act operated as
intended and there could not be any abuse.
However, he was not of the same opinion with the
LIPSON Family who lost in Lipson v. The
Queen, 2006 TCC
148
Mr Lipson owned a profitable business and:
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