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Banka: Clarifying investment carrying charge tax deductions
Schedule 4 of the personal tax return is called Statement of Investment Income, and it has a small section at the bottom called Carrying Charges and Interest Expenses.
This is where you would claim deductions related to your investments that were listed in the upper portion of Schedule 4.
On the actual Canada Revenue Agency paper form there is one line for carrying charges and you must specify the type of charges you are claiming and then there is another line for interest.
These deductions are recorded on Line 221 of your tax return and reduce your taxable income.
On the computer software that a tax preparer uses, the carrying charges line is expanded to include safety deposit box charges, accounting fees, management or safe custody fees, investment counsel fees and fees reported on a partnership income T5013 slip.
The interest line is expanded to include money borrowed to earn interest, dividend and royalty income or to acquire an interest in a limited partnership in which you are not an active partner.
The deduction for a safety deposit box appears reasonable, because you should be able to deduct your annual fee if you use your box to hold your share certificates.
The deduction of accounting fees creates an issue.
Section 18 discusses the deductibility of expenses and the deductibility of accounting fees falls under this provision and 18(1)(a) loosely translated says that expenses are only deductible to the extent in that they are incurred for the purpose of gaining or producing income from a business or property.
So we can define a business fairly easily, but when we define property, we need to think in a broader terms than just land and building.
Property is defined in Section 248(1) as property of any kind whether it has substance or not and will include rights, shares, money, timber resources and work in progress of a profession.
In Interpretation Bulletin IT99R5 there is also a discussion in paragraph 6 that ‘reasonable fees and expenses incurred for advice and assistance in preparing and filing of returns for income tax purposes are normally deductible by virtue of section 9 (Income) and are not limited under paragraph 18(1)(a) (general limitation).
My interpretation of paragraph 6 is that if you needed to hire a professional to prepare your tax return then it should be deductible as an expense, however, the CRA auditors do not all agree with me and there has not been any movement to change the wording of the act so that it is clearer and in favour of my interpretation.
Some of the newer CRA auditors have not yet grasped the concept of property and will deny the deduction of the accounting fees and need to be shown in the act where the definition of property is located.
Usually if the investment is held jointly, standard practice is to split the income and expenses as per the T-slip.
Some auditors will allow the deduction in one spouse’s return, yet deny it on the other especially if the accounting fees exceed the investment.
So the consensus is that if you have a business, you would deduct accounting fees on the business reporting form T2125.
But if you have investments, then you would deduct the accounting fees on Schedule 4. If you required assistance in preparing your tax returns without the benefit of having a business or property, you would also record the accounting fees on Schedule 4.
In this case, be prepared to prove that you needed assistance. If you are a senior with only CPP and OAS you can send your blank tax return into the CRA and they will prepare it for you.
If you are a commissioned employee, you are also allowed to deduct your accounting fees as part of the cost of earning your commissioned income.
The next items in the carrying charges section are the deduction of management or safe custody fees and the deduction of investment counsel fees.
What this means is that when you pay a stock broker who makes a commission on the sale, this commission would not be deductible, however, if you receive advice from a professional investment counsellor on the buying and selling of specific shares or for the safe custody of your shares, then that would be deductible.
Most stock brokers have now become investment counsellors so that their fees would be deductible.
Interest is only deductible if it borrowed to earn income from an investment except for RRSPs RRIFs, other tax deferred plans or TFSAs.
In order for the interest to be deductible the terms of payment must be clearly established. If you borrow money to develop land, the interest will not be deductible as an expense, but will be added onto the cost of the land.
If you did borrow money to purchase an investment and that investment turns out to be worthless, the interest on the money borrowed for that investment will no longer be deductible.
There are also instances whereby the interest deducted may create a loss, but this loss may not be fully deductible against other income.
Gabriele Banka is a Certified General Accountant and the owner of Banka & Company Inc.