By Evelyn Jacks
It's curling season and apparently CRA has it's eye on the rock too, given a recent question I was asked about the tax status of income received by curlers for their athletic endeavors. That's prompted this overview of taxation of prizes, and it might be a good idea for professional advisors to review these rules with their star clients to avoid protracted and expensive legal challenges that could just be distracting enough to force their winning eyes off the curling rock. And that would be a shame.
Athletes are taxable on their income like all other taxpayers but may qualify for special tax treatment depending on their circumstances. What we need to review carefully is under what circumstances the income is earned and whether it may be exempt, deferred or reduced by expenses.
Windfalls. Income may be tax exempt for example, if the taxpayer received a ìWindfall.î CRA's IT 334 discusses miscellaneous income sources including windfalls to determine whether any aspect of the win is taxable. In general a "windfall" is not subject to tax but factors indicating that a particular receipt is a windfall include the following: the taxpayer had:
∑ no enforceable claim to the payment,
∑ made no organized effort to receive the payment,
∑ neither sought after nor solicited the payment,
∑ had no customary or specific expectation to receive the payment,
∑ had no reason to expect the payment would recur,
∑ the payment was from a source that is not a customary source of income for the taxpayer,
∑ the payment was not in consideration for or in recognition of property, services or anything else provided or to be provided by the taxpayer, and
∑ the payment was not earned by the taxpayer as a result of any activity or pursuit of gain carried on by the taxpayer and was not earned in any other manner.
The factors above are based on those set out in the decision of The Queen v. Cranswick, (1982) CTC 69, 82 DTC 6073 (F.C.A.).
Gifts and Other Voluntary Payments. Amounts received as gifts, that is, voluntary transfers of real or personal property without consideration, are not subject to tax in the hands of the recipient. However, when a benefit is received by an employee from an employer, or from some other person, the amount of the payment or the value of the transfer or benefit is generally included in income. Certain tax free benefits are specified in the act.
Similarly, voluntary payments (or other transfers or benefits) received by virtue of a profession or by virtue of carrying on a business are taxable receipts. Some related issues are discussed in the current version of IT-490, Barter Transactions
Games of Chance. Under circumstances discussed in CRA's IT 213, which outlines taxation of games of chance or other one-time prizes: IT 213 points out:
Is it a lottery scheme? Amounts received under this arrangement is not taxable as either a capital gain or income unless, unless due to the circumstances applying to the lottery scheme, the prize can be considered to be income from employment, business or property or a prize for achievement referred to in paragraph 56(1)(n).
Is it a game of chance? A lottery has been defined as a scheme for distributing prizes by lot or chance among persons who have purchased a ticket or a right to the chance. If real skill or merit plays a part in determining the distribution of the prize the scheme is not a lottery (unless it is based essentially on chance and the degree of skill is minimal). Again, when the chances of a prize are obtained wholly gratuitously, as for instance, a prize awarded to the winner of a game, the scheme is not a lottery.
Is it a pool betting system? A "pool system" of betting is defined in the Athletic Contests and Events Pools Act as a pool system of betting on any combination of two or more professional athletic contests or events. The fact that a degree of skill is involved in the selection of the outcome of the contest or event in the pool betting distinguishes it from a lottery scheme.
No taxable capital gains or allowable capital losses arise from the disposition of a chance to win a bet or a right to receive an amount as winnings on a bet in connection with a pool system of betting referred to in section 188.1 of the Criminal Code. The nature of pool system betting is such that the only winnings are in the form of cash from the respective pool. Consequently, no additional capital gain or loss tax consequences could arise on subsequent disposition of the winnings and therefore it is not necessary to deem the winnings to have been acquired at fair market value.
Is it a gift? When the prize has been received as a gift, it is not included in computing income at the time of receipt. However, the recipient will be deemed to have acquired the prize at its fair market value , which means that a subsequent disposition of the prize will result in a capital gain on any increase in value since the time of its acquisition.
A prize can be reasonably considered to be a gift from the viewpoint of the recipient, even though chance and/or skill may have been involved in the win. Ordinarily a gift is not considered to have been made until the donee has received delivery of the gift and accepted it in a completed and irreversible transaction.
Is it Income? The prize will be received as income where it is received by virtue of the recipient's employment , received by virtue of the recipient's business or received in respect of an achievement in a field of endeavor ordinarily carried on by the recipient pursuant to paragraph 56(1)(n) (see IT-75R2).
Is it an Achievement in a Field of Endeavor? The amount of a prize for achievement in a field of endeavour ordinarily carried on by the taxpayer can be considered to be an award to a particular person selected from a group of potential recipients and given for something that is accomplished, attained or carried out successfully. The amounts are generally included in income under in subparagraph 56(1)(n)(i) however, the type of prize contemplated is restricted.
The criteria for awarding the prize must be such that a recipient is rewarded for success in an area in which the recipient regularly applies effort. Therefore, an amount generally qualifies as a prize for purposes of subparagraph 56(1)(n)(i) if it is paid in recognition of a genuine accomplishment in a challenging area, whether it be of an academic, vocational or technical nature.
A prize that is not included in subparagraph 56(1)(n)(i) is considered to be a "windfall" and is not required to be included in income unless it is also a business receipt or income from employment.
If an employee receives, from his or her employer, a prize or other award related to sales or other work performance, the fair market value of such an incentive is regarded as remuneration for services. Accordingly, this amount must be included in income under subsection 5(1).
If there is no employer-employee relationship between the payer and the recipient of an amount and it can be established that the amount is a business receipt, the amount is included in income under subsection 9(1).
However, if the amount received is a prize for achievement in a field of endeavour ordinarily carried on by the taxpayer and it cannot be regarded as a business receipt (and is not a prescribed prize as discussed in ∂20), then the amount is included under subparagraph 56(1)(n)(i).
Is it an Entrance Fee or Reimbursement of Costs? Where the prize is not received as income and is not a gift, no amount will be included in income upon receipt of the prize and the provisions of paragraph 69(1)(c) will not apply. Such a situation would arise where the contestant has incurred a cost towards winning the prize such as purchasing a ticket or paying an entrance fee entitling the contestant to participation in the contest.
In such a case, while there are no tax consequences resulting from receipt of the prize, any subsequent disposition of that prize may result in a capital gain or loss.
In computing any such gain or loss the taxpayer's cost of the prize will be the original cost of the ticket or entrance fee rather than the fair market value of the prize. Where "personal use property" is involved, the $1,000 exemption contained in subsection 46(1) may eliminate any capital gains on disposition of a prize.
Is it a Prize Received by an Amateur Athlete? As you may have read recently in The Knowledge Bureau's Breaking News, changes were recently made to Amateur Athletic Trusts which allow for a deferral of income received from prizes, endorsements, etc. in order to preserve the athlete's status as an amateur so that he/she can continue to compete at an amateur level. Taxation of prizes will only happen when the amounts are distributed to the athlete. The rules have recently been extended to a broader category of athletes including an amateur who is a member of a registered Canadian amateur athletic association and eligible to compete in international sporting events as a Canadian national team member.
Eligible income earned in 2008 that is contributed to a qualifying arrangement before March 3, 2009, will be deemed to be income of the amateur athlete trust for 2009 and not the athlete's income for 2008 provided the athlete elects to do so by the filing due date of the athlete's 2008 tax return (generally April 30, 2009).
Is it Business Income? Income that does not qualify under the rules above should be reported as self-employed earnings, as per the story below, but remember that when you report your share of business income, you can also write off expenses against it including your share of travel, hotel, meals, etc.
Volume Discounts and Rebates. Volume bonuses or rebates from suppliers are included in computing a purchaser's business income. However, where a supplier provides customers with free tickets for a draw for a prize with the winning ticket to be drawn strictly by chance, the prize is ordinarily considered a gift. Its value is not included in the recipient's business income. On the other hand, if real skill or merit is involved in the win, it will be a question of fact to be determined in accordance with the circumstances in each case whether the prize is a gift or whether its value is business income to the recipient.
Evelyn Jacks is President of The Knowledge Bureau and author of Master Your Taxes and Essential Tax Facts which can be purchased from www.knowledgebureau.com. Copies of this article may be purchased for a fee by calling 1-866-953-4769.