My name is Mark Goodfield. Welcome to The Blunt Bean Counter ™, a blog that shares my thoughts on income taxes, finance and the psychology of money. I am a Chartered Professional Accountant and a partner with a National Accounting Firm in Toronto. This blog is meant for everyone, but in particular for high net worth individuals and owners of private corporations. The views and opinions expressed in this blog are written solely in my personal capacity and cannot be attributed to the accounting firm with which I am affiliated. My posts are blunt, opinionated and even have a twist of humor/sarcasm. You've been warned.

Tuesday, September 6, 2011

For Income Tax, “If It Seems Too Good To Be True... It Probably Is.”


Jeff Gray of the Globe and Mail recently wrote an article titled “Lawyers targeted over charity tax schemes”  which reported on a court case in which a tax lawyer who provided a comfort (opinion) letter in connection with a charity tax shelter scheme is being sued. The article noted that this is but one lawsuit levelled against legal firms in relation to charity and other income tax schemes.

In my opinion, this article raises three distinct issues. First, what is the responsibility of the tax accountants and tax lawyers who provide comfort letters? Second, what is the culpability of the financial advisor in recommending the charity scheme? And finally, should an individual be expected to recognize a tax scheme that seems too good to be true?

With respect to the accountants and lawyers, without being self-righteous, our firm has never promoted income tax shelters nor condoned the purchase of such by any clients, with the exception of certain types of flow-through share investments.

I suspect that the comfort letters Gray discussed in his article most likely interpreted the income tax law correctly from a technical perspective; in other words, the lawyer likely concluded that the tax benefits being promoted were in line with the specific relevant provisions of the Income Tax Act, although in this case, they may have been the "shades of grey" provisions. The Canada Revenue Agency (“CRA”), however, felt that the tax shelter was a sham and denied the benefits to the individual participants. The issue (according to the article) before the courts in relation to the lawyer is whether there was negligent misrepresentation on the part of the lawyer issuing the comfort letter. The plantiffs' argue the lawyer breached “the standard of care of a senior tax lawyer” for his legal opinion on the scheme and for allowing “comfort letters” from him to be included with its promotional materials?

I am not aware of the specific facts of this case, and as a non-lawyer I have no idea if any or all five general requirements for negligent misrepresentation have been breached. Thus, I have no intention of commenting on the legalities of the case. In addition, in this situation you can call me the “Wimpy” Bean Counter as I am constrained by professional conduct rules as to what I can say about other professionals. I do however query how income tax shelters such as this can be mass marketed to anyone other than accredited investors if accounting firms such as mine, see red flags immediately?

The second issue is also somewhat concerning. One would hope the advisor in this case clearly communicated the obvious risks of this scheme and the fact that he would receive a commission for selling this tax shelter. Let’s hope the commission for selling the tax shelter investment did not influence or have any effect upon his recommendation. However, when a declaration must be signed stating that the participant is aware the tax shelter scheme may be re-assessed by the CRA, one has to wonder how any advisor could recommend such a tax shelter to the average investor?

In regards to the individual’s responsibility, I wrote about this issue in my June 14th blog titled Income Tax Planning - Tail Wagging the Tax Dodge. In this blog I discussed how I have seen many taxpayers blinded by income tax savings to the detriment of their common sense.

In the Globe and Mail article, Mr. Gray stated that Fern Delarosbil, a project management consultant in 2003 purchased the tax shelter as recommended by his financial advisor. For every $2,500 Mr. Delarosbil gave to a designated charity, he would get a receipt for $10,000. Although I have some sympathy for Mr. Delarosbil and others like him, since they apparently relied on the comfort letter and their financial advisor, when does individual responsibility rear its head?

I grant you Mr. Delarosbil is not an income tax expert and his financial advisor suggested he participate in this charity scheme, but did he not see any red flags? Did he not wonder why in this case he would receive $4 for every dollar contributed, yet if he made a donation to the United Way or his local church that the charity donation receipt would have been on a dollar for dollar basis? Was he not somewhat alarmed that he had to sign a tax risk disclosure document saying he had been clearly warned that the scheme might not work and that he could face a reassessment by the CRA? I mean if that is not a slap in the face to wake up and smell the odour of this deal, then I do not know what is.

Over the years I have seen lots of wacky tax shelters and charity schemes, from comic books, to sports equipment, to movies, to papaya farms in Costa Rica. When clients receive documents recommending these schemes they often remark to me that they seem too good to be true. In most cases I reply that they are too good to be true and unless they find the idea of being reassessed in the future, possibly going to tax court and possibly owing back taxes and interest titillating, they should stay away.

In the end, it keeps coming back to the fact that there is an insatiable appetite for any kind of tax savings vehicle in Canada, regardless of the associated risk. Concurrently, as these tax shelter schemes fall by the wayside or have made their way through the tax courts, several insurance based products have also stepped into the breach to satiate the tax savings appetite. Again, these plans appear to be technically correct, yet they cause one to raise an eyebrow given the tax benefits being touted . I would not be surprised if some of these insurance based strategies are looked at closely by the CRA in the future – in fact, the CRA has already commented that they plan to do so in at least one case.

The blogs posted on The Blunt Bean Counter provide information of a general nature. These posts should not be considered specific advice; as each reader's personal financial situation is unique and fact specific. Please contact a professional advisor prior to implementing or acting upon any of the information contained in one of the blogs.

4 comments:

  1. The $4-for-$1 charity offer certainly seems too good to be true! Wow...

    What are these "insurance based products" that you refer to? I have seen some articles in the Globe & Mail describing ways of using life insurance policies that seem unusual to me - is this what you have in mind?

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  2. Tom, the insurance industry has pushed the 10/8 insurance loans where you write off 10% interest and get a guaranteed 8% return tax deferred in an insurance policy. Although the insurance industry feels confident these plans work, the CRA has been reviewing them and I have not heard anything definitive.

    Also, where people have corporations, the insurance industry feels confident you can transfer certain personal policies that have a fair market value into a corporation with minimal or no income tax cost and then extract the fair market value free as a shareholder loan. While many feel these plans work, our firm has some concerns.

    That is about all I want to say at this moment, I may blog on these topics in the future, but am somewhat hesitant as I am not an insurance expert.

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  3. Curious if you have any updates on 10/8 plans, now often 9/7?

    Apparaently no tax benefit from the personal loan with the collateralized corporate loan as the rate would be the same given the individual's asset - the company itself, which holds the policy...

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    1. Hey Jim, the CRA was not sucessful in attacking 10&8 plans because of their tactical approach in my humble opinion. The fact they still clearly do not like theae plans means we still do not recommend these plans.

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