Many family farm corporations today seem to be building new barns on land that is owned by the shareholder or the corporation is constructing additions or making improvements to buildings that are owned by the shareholder and not the corporation. Under section 15(1) of the Income Tax Act, the shareholder or related party owner of the property could be taxed on the actual cost of the addition or the improvement to the property. When you review the Interpretation Bulletins, Case Law and the Income Tax Act it is pretty clear that where a corporation makes an improvement to property that is owned by the shareholder there could be a taxable benefit to the shareholder. This risk is somewhat reduced if the corporation has entered into a formal lease agreement to rent the property from the shareholder. Under section 15(1) a benefit conferred by a corporation can be included in the income of a person who at the time was not a shareholder. For example if a parent of the shareholder owns a property and an improvement is made to that property. The benefit will be determined based on a case by case situation.
In order to prevent a taxable benefit being imposed on the shareholder, there should be a proper lease in place between the shareholder and the Corporation for the land owned by the shareholder. The length of the lease should be negotiated to match the useful life of the building that the Corporation is building. For example if a hog barn or dairy barn was built the lease should approximate the expected life of the barn. For other types of buildings such as coverall buildings the shareholder may want a 10 year lease with an option of an additional 5 years. An option period in the lease would be recognized unless proof exists that it will not be exercised. The improvements to the property would then effectively be used up during the term of the lease (plus one option period, if applicable). The improvements can arguably therefore be ignored in calculating the benefit under section 15(1).
It is still possible that Canada Revenue Agency could assess a taxable benefit at the end of the lease term that would match the residual value of the building. CRA may require an appraisal of the property at the time that the lease has ended. Another consideration would be if the shareholder sells the land prior to the end of the lease. The lease should have a clause in it that if the shareholder sells the land prior to the end of the lease, the shareholder has an obligation to pay the Corporation the residual value of the buildings at the time the lease is terminated. Otherwise a taxable benefit could be assessed to the shareholder if the property is sold and no payment to the Corporation was made. Many times bare land and land with buildings on it are worth the same and therefore it could be argued that at the time of the sale there is no value of the building that would need to be paid back to the corporation.
When there is a taxable benefit the GST/HST also needs to be considered. Subsection 15(1.4) generally requires that an amount should be included in the shareholder's income which essentially equals the GST/HST that the shareholder would have paid had the shareholder purchased in the marketplace a property or service which results in a subsection 15(1) benefit or would have resulted in such a benefit had no payments been made to the corporation.
This is a very complicated and risky area and all of the various situations and options should be considered before one has a corporation build on land owned by the shareholder. We strongly recommend that clients contact their accountants to discuss the pros and cons of having their corporation build on shareholder land.
Jason Timmermans, CA is a Partner in the London office of Collins Barrow.