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New GST Rules
Proposed changes to GST legislation may mean higher costs for financial institutions.
FROM:
MAY-JUN 2007 ISSUE | BY
R. JASON RICHE
Financial institutions have always been subject to special Goods and Services Tax (GST) treatment, mainly because financial services are generally exempt from GST. Since financial institutions predominantly make exempt supplies (and don’t charge GST to their customers), they aren’t entitled to recover GST they pay on their associated costs. In January, however, proposals were introduced that will have a significant impact on how financial institutions are treated.
GST on Imported Supplies
Unlike goods, which have GST applied upon import into Canada, services and intangibles could escape GST if it weren’t for a self-assessment mechanism. In my
September/October 2006 article I alluded to the “convoluted statutory fix” announced in the November 2005 Notice of Ways and Means Motion, which has now been released by the Department of Finance as proposed legislation.
The proposed rules expand the scope of who is included in self-assessment, adding certain non-resident financial institutions. The proposed rules also broaden the scope of what is subject to self-assessment and target dealings financial institutions have with their non-resident branches and related entities. In some instances, the rules look at the input costs these related parties have incurred outside Canada in support of the Canadian operations for which no GST was paid, and require the Canadian institutions to self-assess GST accordingly. What is troubling with the proposed rules is that they look to have GST
self-assessed on internal salary costs for employees working outside Canada to support Canadian operations. If those employees were working in Canada, their salaries would not be subject to GST.
With the new rules, the scope of what is subject to self-assessment has widened and this will increase GST costs. In order to properly look at the input costs of non-resident-related parties that support their Canadian operations, many financial institutions will probably need to adjust the way they track such information. This will translate into increased compliance costs and efforts.
ITC Allocation Methodologies
Many financial institutions do make some taxable supplies and are permitted to allocate costs bearing GST to each type of supply and claim input tax credits (ITC) for those costs. Since 1991, financial institutions have been able to design their own methodologies to allocate such costs, so long as the methods chosen were “fair and reasonable.”
This has now changed. Under the proposals, Finance has introduced a more structured regime which dictates methodologies via administrative bulletins as established by the Canada Revenue Agency (CRA) and prescribes predefined ITC recovery rates for certain taxpayers (12 per cent for banks, 10 per cent for insurers, and 15 per cent for securities dealers). Qualifying institutions can apply to the CRA to use their own methods, but such applications must be made at least six months before the first day of the fiscal year in which the particular methods would apply. These proposals will generally be effective for fiscal years that begin after March 2007.
These new rules are a clear signal that Finance and the CRA are trying to curtail the amount of ITCs being claimed by financial institutions. What is perhaps most disconcerting is the degree of power the CRA will have over the way ITCs are claimed. This more controlled regime marks a significant departure from the current rules and gives the CRA the power to dictate what is “fair and reasonable.”
Annual Information Schedule
It is proposed that all financial institutions with annual revenues of $1 million or more file an annual information schedule for fiscal years after 2006. This schedule will require detailed information concerning their compliance with GST, and will be due six months after their fiscal year end.
The Minister has said this information will assist in assessing policy and legislative changes, tax administration, compliance, and certain commitments made to the provinces regarding sales tax harmonization. However, collecting this information is also very likely to assist the CRA in performing GST audits.
Gathering the information necessary to complete this schedule could require a redesign of the way financial institutions record, track, and process data. In fact, the net effect of these proposals will likely be an increase in compliance and GST costs overall.
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R. Jason Riche
, BA, LLB, CGA, is a senior manager for Deloitte & Touche LLP in Toronto. E-mail
rriche@deloitte.ca.
The information appearing in “Tax Focus” is provided for the interest of readers. Neither CGA Magazine
nor the column author assumes any liability to persons relying on the information in the article to perform tax planning and/or compliance of any kind.