CRA reviews ‘aggressive’ TFSA schemes

Canada Revenue Agency (CRA) is putting some high-flying Tax-Free Savings Accounts (TFSAs) and their "unusualî transactions under its microscope. It seems the ability of some TFSA holders to turn a $5,000 annual contribution into, for example, $300,000 in one year has attracted Ottawa's attention. The CRA recently sent questionnaires to selected TFSA holders and is threatening a penalty of close to 100% of the value of the TFSA for any missteps.

Since the introduction of TFSAs in 2009, some TFSAs have grown beyond what the CRA believes are the TFSAs' natural limits using "qualifiedî investments ó that is, investments in properties, including money, guaranteed investment certificates (GICs), government and corporate bonds, mutual funds and securities listed on a designated stock exchange.

Indeed, the CRA believes holders of some TFSA have employed complicated, and prohibited, "swap transactions,î transferring properties or assets ó such as thinly traded securities with large differences in "bidî and "askî prices ó between the TFSA and the holder of the TFSA or a person not at arm's length from the holder. When those securities are swapped out of a TFSA into non-registered accounts, they may triple in value; repeated swaps can quickly turn $5,000 into $300,000.

But, says CRA, such "aggressiveî tax planning gives rise to unfair advantages. On that basis, the CRA is going after certain TFSA holders. (Most need not worry: the CRA is only after those who have misused TFSAs in order to gain unfair advantages through circuitous transactions and prohibited investments.)

How to identify an improper TFSA advantage. An advantage is any benefit, loan or debt that depends on the existence of a TFSA. An improper advantage is any benefit that increases the fair market value (FMV) of a TFSA that can reasonably be attributed, directly or indirectly, to one of the following:

∑ a transaction, event or series of transactions that would not have occurred in an open market between arm's length parties acting prudently, knowledgeably and willingly, one of the main purposes of which is to enable the holder (or another) to benefit from the tax-exempt status of the TFSA;

∑ a payment received in substitution for services rendered by the holder of the TFSA or a person not at arm's length with the holder, or a payment of a return on investment or proceeds of disposition for property held outside of the TFSA by the holder or a person not dealing at arm's length with the holder;

∑ a swap transaction;

∑ specified non-qualified investment income that has not been distributed from the TFSA within 90 days of the holder of the TFSA receiving a notice from the CRA requiring them to remove the amount from the TFSA;

∑ any benefit that is income (including a capital gain) and is reasonably attributable to deliberate overcontribution or a prohibited investment.
 

Prohibited investments. These are investments to which the TFSA holder is closely connected and include:

• a debt of the holder;
• a debt or equity investment in an entity in which the holder has a significant interest (generally 10% or greater); and
• a debt or equity investment in an entity with which the holder or an entity does not deal at arm's length.
   

Not included in this prohibited designation are mortgage loans that are insured by the Canada Mortgage and Housing Corporation (CMHC) or by an approved private insurer.

Most TFSA holders need not worry about these audits; they pertain only to aggressive and abusive use of the TFSA. But those faced with audits should seek professional advice as soon as possible.