Tax practitioners are concerned that recently proposed legislation from the federal government targeting certain aggressive tax-planning transactions casts too wide a net, drawing in legitimate tax planning. Tax experts also say that the complexity of the proposed self-reporting regime makes it difficult for financial advisors to be certain they and their clients are in full compliance with the law.

“The draft legislation might be viewed as a ‘piling on’ of complex legislation that the average lawyer and/or accountant — and, arguably, even tax practitioners — cannot understand or apply,” according to Kim Moody, tax specialist with Moodys LLP in Calgary and chairman of the Toronto-based Canadian chapter of the International Society of Trust and Estate Practitioners. Moody was a panel member in a November webcast presented by STEP Canada to discuss the proposed reporting regime. “[Tax practitioners] query whether this is good in a self-assessment system.”

Following up on a pledge made by the federal government in its 2010 budget to fight aggressive tax planning, the Department of Finance had released draft legislation in August that would see taxpayers and advisors involved in “avoidance transactions” self-report to the Canada Revenue Agency on the existence of these transactions — if the transactions meet at least two of three hallmarks:

> If any advisor or promoter involved in the transaction is entitled to a fee that is contingent on the taxpayer obtaining a tax benefit from the transaction.

> If any advisor or promoter involved in the transaction has, as part of the transaction, confidentiality protection regarding the details of the transaction.

> If there is a guarantee extended, as part of the transaction, that the taxpayer will receive a tax benefit from the transaction.

The proposed rules define an “avoidance transaction” as any transaction that results in a tax benefit — unless the transaction was undertaken for a bona fide purpose other than obtaining that tax benefit.

A filing obligation is imposed on both the taxpayer and any advisor involved in the transaction. However, any single person involved in the transaction may file on behalf of all participants if that person makes a full and accurate disclosure that satisfies the disclosure requirement for all participants.

The proposed legislation is set to come into effect next year and will apply to transactions that are entered into after 2010, as well as those transactions that are started before the end of 2010 but aren’t completed until 2011 or later.

In targeting aggressive tax transactions, the Canadian government is following the lead of other tax jurisdictions, including the U.S. and Britain. In 2009, the Government of Quebec introduced its own self-reporting regime targeting aggressive tax transactions; the federal rules are modelled, to some extent, on Quebec’s regime.

“Nothing that is happening in this regard in Canada is happening in isolation to what’s happening around the world,” says Nick Pantaleo, international tax services partner with PricewaterhouseCoopers LLP in Toronto. “We are seeing more and more instances [in which] governments are asking taxpayers to report about specific types of transactions or activities they are undertaking.”@page_break@In introducing this new regime, the Department of Finance is trying to target certain aggressive tax transactions that had previously escaped the CRA’s radar by putting the onus on participants of these transactions to self-report, tax practitioners suggest. But while they applaud the government’s desire to target aggressive tax planning, practitioners argue that the new regime introduces confusion and uncertainty into the process of legitimate tax planning — and places unnecessary burdens on taxpayers and advisors.

In submissions to the Department of Finance regarding the new reporting regime, tax practitioners and various stakeholder organizations have expressed their concern with the proposed legislation, including (among other issues): a too broad definition of the term “advisor”; the lack of clarity regarding a number of definitions in the new rules, including what the government considers to be an “avoidance transaction”; a possible conflict between the reporting requirements imposed by the regime on advisors and advisors’ professional duty to uphold client/solicitor privilege; and the imposition of non-compliance penalties that are too harsh.

“Part of the difficulty that Finance has is crafting legislation that is focused on catching the things it truly wants to catch,” Pantaleo says. “What you’re hearing from practitioners is that Finance may be erring on the side of overreaching, getting more in the basket than it should be.”

The comment paper from PwC argues that the definition of “advisor,” which the Department of Finance defines as anyone who provides advice or assistance with respect to creating, developing, planning, organizing or implementing the transactions, is so all-encompassing that it’s probable that some advisors in a transaction won’t be aware of their reporting requirements or their potential liability: “The proposals may create significant issues for both taxpayers and advisors, particularly in regard to the reporting obligation imposed on advisors and the fact that advisors who participate in a transaction may not be privy to all the arrangement with other advisors or persons involved in a transaction or series [of transactions].”

Advisors could, in theory, find themselves with a reporting obligation if they participate in a “reportable” transaction. So far, however, the financial services industry has been quiet on the issue.

“We’re definitely giving the matter consideration, and investigating more fully to assess what requirements the draft legislation imposes on our members, if any,” says Andrea Taylor, director with the Investment Industry Association of Canada. In the meantime, she says, the IIAC does not yet have a policy position on the new reporting regime.

The penalty assessed on any person who fails to file on time is the total of any fee or fees that the person was to receive, even if only on a contingent basis, with respect to the transaction.

The Department of Finance is now reviewing the submissions from the financial services industry regarding the draft legislation; it is not expected to move forward on the file before the end of the year. Meanwhile, tax practitioners are hopeful the Department of Finance will address some of their recommendations and concerns before the final legislation is drafted. IE