Tax shelters are defined in the Income Tax Act. In very general terms, a tax shelter includes either a gifting arrangement or the acquisition of property, where it is represented to the purchaser or donor that the tax benefits and deductions arising from the arrangement or acquisition will equal or exceed the net costs of entering into the arrangement or the property. Also, a gifting arrangement where the donor incurs a limited recourse debt related to the gift will be a tax shelter. Generally a limited recourse debt is one where the borrower is not at risk for the repayment.

A tax shelter identification number is intended only to track the schemes and participants and does not entitle the participants to any of the benefits related to the tax shelter.

Every promoter of a tax shelter has to include on every written statement that refers to the identification number of the tax shelter the following statement:

“The identification number issued for this tax shelter shall be included in any income tax return filed by the investor. Issuance of the identification number is for administrative purposes only and does not in any way confirm the entitlement of an investor to claim any tax benefits associated with the tax shelter.”

A promoter of a tax shelter must acquire a tax shelter identification number before selling the tax shelter property. In addition, the promoter must provide the Canada Revenue Agency (CRA) with the list of investors or participants, including their names, social insurance numbers, and other prescribed information.

The identification number allows the CRA to track these arrangements and the taxpayers who participate in them. All tax shelters are reviewed, and if they are considered potentially abusive, audits are carried out.

Promoters who file false or misleading information in their application for a tax shelter number, or that sell, issue, or accept consideration in respect of a tax shelter before an identification number has been issued, are liable to a penalty. While this penalty or related interest is outstanding, no participant in the tax shelter can claim the tax benefits associated with the tax shelter.

Mass marketed gifting tax shelter arrangements are made for the primary purpose of avoiding the payment of the required taxes rather than raise funds for charities. Mass marketed gifting tax shelters include schemes where taxpayers receive a charitable donation receipt with a higher value than what they paid. This can typically be four or five times their out of pocket cost.

The Canada Revenue Agency (CRA) audits every mass-marketed tax shelter arrangement and no arrangement has been found to comply with the Income Tax Act.

All charities must obtain a charity registration number from the CRA to be able to issue official donation receipts. This is different from the tax shelter number, which must be obtained by the promoter of a gifting tax shelter arrangement. All registered charities, including those involved in gifting tax shelter arrangements, must include their charity registration number on all official donation receipts they issue. However, even if a donation receipt is issued by a registered charity, if the receipt is issued for transactions that do not qualify as a gift, or for an inflated amount, the amount on the receipt would not be allowed.

Various types of gifting tax shelter arrangements, some including the issuance of promissory notes, some with the donation of in-kind property, have emerged over the last few years. Although they may be different in their design, these arrangements have similar results: charitable donation receipts are issued to participants for amounts greater than they paid. In all cases, the CRA has reassessed the participants and denied the donation tax credit as claimed.

The Federal Court of Appeal has rendered three significant decisions involving promoted gifting tax shelter arrangements that promised a profit to participants in return for a payment. In each case, the cash benefit for the taxpayer exceeded the taxpayer’s cash payment. While each taxpayer argued that their arrangement met the requirements of the law, in each case, the courts concluded that the taxpayer’s donation tax credit was zero. The three cases are:

• F. Max E. Maréchaux (2010 FCA 287)
• Kathryn Kossow (2013 FCA 283)
• Allen Berg (2014 FCA 25)

Anyone considering entering into a tax shelter arrangement should obtain independent professional advice from a tax advisor before signing any documents. In addition, they should:

• know who they are dealing with, and request the prospectus or offering memorandum and any other documents available in respect of the investment and carefully read them;
• pay particular attention to any statements or professional opinions in the documents that explain the income tax consequences of the investment. Often, these opinions will tell the investor about the problems that can be expected and suggest that the investor obtain independent legal advice;
• not rely on verbal assurances from the promoter or others-get them in writing; and
• ask the promoter for a copy of any advance income tax ruling provided by the CRA in respect of the investment. Read the ruling given and any exceptions in it.

Individual taxpayers should be aware that the CRA could normally reassess returns up to three years after the date of assessment. The fact that tax shelter benefits were accepted on initial assessment should not be interpreted as acceptance of the claim by the CRA. It may take more than one year to complete a tax shelter audit.