Fourth Quarter 2018The quarterly Canadian Overview is a newsletter produced by the Canadian member firms of Moore Stephens North America.

These articles are meant to inspire conversation and collaboration throughout Canada and beyond.

5 Things To Ask Your Accountant When Facing a Separation or DivorceBy Valérie Marcil and Carl-Philippe Finn-Côté, Marcil Lavallée

Separation and divorce are becoming more and more common in our society. It is important to consult and include your accountant in your divorce or separation proceedings since there are important financial and tax considerations that must be considered. Failing to do so may result in either an immediate tax burden or one that will appear a few years later.

Here are important issues to discuss with your accountant:

1. Spousal and Child Support

Spousal and Child Support and two separate forms of support. The first is paid to support the spouse and the other for the children as the wording implies. It is important to itemize your Separation Agreement to distinguish both child and spousal support. This is because spousal support is considered a tax deduction to the payor (the person actually paying the other spouse), and taxable income to the payee (the spouse receiving the support). Child support, however, does not have any tax ramifications.

Also, the tax implications may differ for both parties if an amount is paid on a periodic basis or as one lump-sum. Your accountant can advise you on how to structure your support.

2. Canada Child Benefit (CCB)

CCB is calculated based on the adjusted family net income. Therefore, both parents’ income is considered by the Canada Revenue Agency (“CRA”) to calculate the CCB.

In the event of a divorce or a separation of more than 90 days, it will be important to advise CRA as soon as possible of the change in marital status which will change the adjusted family net income and therefore change the CCB payments.

In order to be able to balance your budget post-separation or divorce, you should consult with your accountant to determine what each parent will be receiving in CCB.

3. Capital Gains Tax

When a couple is negotiating a possible sale of their former family residence during their divorce proceedings, they may need to consider capital gains tax following the sale. Different factors must be considered, such as when the home was purchased, and how much equity the parties have accumulated in the property since they have lived there. Your accountant should be able to advise you regarding whether or not you need to be concerned with capital gains tax and what you can do to plan around it.

4. Cashing Out Retirement

Many times, one spouse intends to cash out their retirement account in order to buy another spouse out of a different asset. There are commonly tax consequences to transactions like these, and the couple should speak to their accountant about how to avoid negative tax ramifications.

5. Trading Assets

There are often many different types of assets involved in a separation or divorce mediation. People own real estate, investment property, stocks, bonds, retirement and investment accounts, pensions, antiques, and more. Because of how diversified some people’s investments are, it is important to consider that all assets are not created equal. Some retirement accounts, for example, are pre-tax and some are post-tax. Therefore, if someone gets a home with $100,000 in equity and the other gets a retirement account that will be taxed when they take the money out that is currently worth $100,000, these assets may not be worth the same. This depends on the specific tax consequences that flow to each individual asset. It is important to also take into account the hidden tax costs that may be associated with an asset that will be transferred in a divorce proceeding.

IFRS 16 – A New Leasing StandardBy Trevor Reef, CPA, Segal LLP

IFRS 16 is a new leasing standard which will be replacing the old leasing standard, IAS 17. This new standard is effective for annual reporting periods beginning on or after January 1, 2019.

Under the old standard, IAS 17 the substance of the lease agreement determined whether the lease was an operating lease or a capital lease. For example, a lease transferring ownership at the end of the lease term or a lease for a period representing a major part of the economic life of the asset etc. would both be treated like capital leases. IFRS 16 differs fundamentally from this approach.

In a nutshell, IFRS 16 requires all leases (with limited exceptions) to be capitalized. The only exceptions to capitalizing are for (i) short term leases (12 months or less with no purchase option) and (ii) low-value leases (The IASB has suggested this amount is approximately $5,000 USD).

The impact of this new standard will mostly be felt by lessees that have significant operating leases. As an example a car that is leased. Under IAS 17 this car lease, if it met the conditions not to capitalize, would only expense the lease payments in the year and disclosed in the commitments note future lease payments. Under IFRS 16, the right-of-use of the car would now be recognized as an asset on the balance sheet, and the related lease would be recognized as a loan liability on the balance sheet.

The initial measurement of the lease liability would be based on the present value of the future cash payments under the lease. The initial measurement of the lease asset would be based on the cost of the right-of-use of that asset.

Subsequent to initial recognition, leased assets would be depreciated, and are also subject to impairment testing. Liabilities would be reduced by the principal portion of the lease payments made.

Clearly one of the major changes from the adoption of IFRS 16 will be the introduction of a potentially significant asset and liability to the balance sheet. The new standard will also require a number of additional note disclosures. But, in addition to these major presentation differences and additional note disclosures, it will be very important to understand the impact that these changes will have on financial ratios and other financial metrics. Consider, this partial list of the possible effects of adopting IFRS 16:

• Current ratio – decreases because current liabilities increase (we recognize the current portion of a lease liability) while current assets do not change.

• Asset turnover (Sales/total assets) – decrease because total assets increase, and sales do not change.

• EBITDA (profitability) – will increase because expenses that would have been deducted under IAS 17 (e.g. rent expense or other operating lease expenses) will because of capitalization of the lease under IFRS 16 now be in the form of interest and depreciation expenses which are specifically excluded from EBITDA.

The main goal of this very brief introduction to IFRS 16 was to hopefully convince those that report using IFRS (especially those with operating leases) of the potentially very significant effects of this changeover. Even though 2019 seems far away, a change of this magnitude and complexity should be addressed well in advance.

Fraud: Better Safe Than Sorry

By Jacqueline Lemay, CPA, CA, CA-EJC, CFF, Demers Beaulne

No companies are safe from fraud, no matter how big they are or what industry they’re in. According to the International Trade Council, 5 per cent of revenues (representing US$800 billion worldwide) are lost to internal or external fraud.

The most common fraud tactics include corruption, misappropriation of assets, and financial statement fraud. And with cybercrime on the rise (the Online Trust Alliance reported an 18.2 per cent in reported breaches in 2017 compared to 2016), fraud prevention and detection measures are becoming more and more important.

The various costs of fraud

In Canada, the total financial losses due to fraud1 have reached an average of $200,000 in 2018. It should be noted that this average may be under-estimated, especially because a lot of fraud goes undetected by companies, and some firms are too embarrassed to report fraud — especially if it came from an internal source.

Organizations without effective fraud prevention and detection measures expose themselves to serious consequences that go beyond cost: it could affect employee morale, the company’s reputation, business relationships, and share price. All that to say that the cost of establishing a fraud prevention and detection system are almost always going to be lower than the cost of not establishing one.

Fraud detection methods

While there are many fraud prevention and detection measures a company can take other than a system, including employee education, a culture of honesty and third-party support in this area, a system is considered the most effective detection measure, with an effective rate of nearly 50 per cent2, as demonstrated by these 2018 findings on the reasons for fraud compiled by StatsCan.3

The forensic accountant’s role

A forensic accountant familiar with the specific risks in your industry can help you establish an effective system. They know fraudsters’ tricks, how to detect them and how to create a system that neutralizes them.

Contact us to learn more about setting up a fraud prevention and detection system specifically for your company.

1 According to cases included in the Report of the Nations – 2018 Global Study on Occupational Fraud and Abuse, Association of Certified Fraud Examiners

(hereinafter “ACFE”).

2 Statistics Canada, Fraud Against Businesses in Canada: Results from a National Survey, by Andrea Taylor-Butts and Samuel Perreault, 2007-2008.

3 2018 ACFE study.

Effect of Holding Companies on Split IncomeBy Howard Wasserman, CPA, CA, CFP, TEP, Segal LLP

In 2017, new rules were introduced limiting the use of income splitting which allowed people the ability to income split with family members. The new rules were called Tax on Split Income (‘TOSI”). TOSI applies to situations where a family member has not contributed or worked in a family business and is applicable depending on age. For family members under 18, income splitting is restricted. The rules are less restrictive to family members 18-24 years old and less restrictive still for family members over 24 years old. There is also a special exclusion for those whose spouse is 65 years or older and was active in the business.

The details of the rules are beyond the scope of this article. However, we would like to highlight one corporate structure that has unexpectedly been caught in these rules: a structure where an operating company is owned by a holding company, the holding company is owned by an owner/operator and his/her spouse and adult children (over 25 years old), and the family members are not active in the business.

There is a special exclusion from TOSI dividends known as “Excluded Shares”. Excluded shares are defined as a corporation that is owned by the taxpayer where the following conditions are met:

a. It is NOT a professional corporation.

b. Less than 90% of the business income from the most recent fiscal year is from the provision of services.

c. The individual taxpayer owns 10% or more of the votes AND 10% or more of the value of the company.

d. 90% (all or substantially all) of the income of the corporation does NOT come from other related businesses.

The rules state that even if the 10% shareholding test is met, holding companies do not meet the test of Excluded Shares for a few reasons.

Firstly, they earn no business income. As per “b” above, it states that less than 90% of the business income is from the provision of services. CRA interprets this to mean that the corporation must have business income in the first place and that 90% of that business income is not from services. If a holding company only earns dividends from its subsidiary and/or investment income on its assets, it earns no business income and will therefore not qualify as an excluded share.

If the Holdco earns fees from the operating company so as to earn business income, the test in “d” would be a problem. The business income must come from a non-related business.

Bottom line is that having a holding company can be a problem to avoiding TOSI. Seek the advice of your advisor to determine your exposure to TOSI and tax planning options.

Moore Stephens North America (MSNA) is one of eight regional members of Moore Stephens International Limited (MSIL). MSNA currently has 39 member firms across North America, including five in Canada. For a complete listing of MSNA Canadian member firms, click here.

Additional information, including thought leadership and other key collaboration opportunities, available at msnainc.org.