Tim Cestnick is president of WaterStreet Family Offices, and author of several tax and personal finance books. tcestnick@waterstreet.ca
Beware that giving a Christmas gift can be a risky exercise – and even dangerous. Just ask Jonathan Cantu and Charles Kern, two men from California who gave presents to each other a few years ago and ended up injured and in jail. As the story goes, the two men exchanged gifts, and then had some kind of dispute. One of the men grabbed a flowerpot and clubbed the other over the head, so the other reciprocated and the two men ended up in hospital, then jail overnight.
I can relate, sort of. I've given my share of lame gifts to Carolyn over the years, and have paid for it every time (I've mentioned the Elvis clock before, but she liked the toilet bowl mug even less). And let's be clear: Those who receive gifts are not immune to nasty surprises either, and our tax law can cause the problem. Let me explain.
The law
Section 160 of our tax law is the provision that could cause you to become jointly liable for someone else's tax bill. Section 160 says that, where someone owes money to the taxman and, at that time, transfers property (perhaps a gift – which can include just about anything of value) directly or indirectly to a spouse, common-law partner, child under age 18, or to anyone not dealing at arm's length, then the recipient of the property will be "jointly and severally liable" to pay the taxes owing by the transferor.
Did you catch that? The taxman wants to make sure he collects his money. So, if someone close to you gives you something of value at a time when he or she owes taxes, the Canada Revenue Agency (CRA) may come knocking on your door to collect. Now, you'll only be liable for an amount up to the fair market value of the property you received, and only to the extent you did not pay for the property. By the way, the property being transferred could be anything: artwork, jewellery, investments, cash, or a collection of some kind are common.
The example
Consider Jake and his son James. Jake owns a cottage property worth $250,000, and for a number of reasons including estate planning, decides to transfer the property to James. Jake makes the transfer at a time when he owes the CRA $100,000. Under section 160, the CRA would have a right to assess James for the $100,000 in taxes owing. James will no doubt be surprised to receive a Notice of Assessment from the CRA announcing that he now owes $100,000 in taxes.
If James were to pay for the property, then he may escape all or part of the assessment under Section 160. If he were to give his father, say $75,000, then James would only be on the hook for the difference between the $100,000 fair market value of the property and the $75,000 he paid, or $25,000 in total.
The defence
One way to avoid an assessment under Section 160 is to demonstrate that you did effectively pay for the property you received. And the courts have sided with taxpayers in some recent decisions on this issue. In the case of Gillian N. Darte v. The Queen (2008 DTC 2567), for example, Ms. Darte had funded and made substantial renovations to the home where she and her common-law partner lived. She wasn't compensated for this work.
Her partner was the registered owner of the home, but he transferred a one-half interest in the home to Ms. Darte at a time when he owed money to the CRA. In the end, Ms. Darte won her case. The court decided that Ms. Darte's work on the home was effectively her payment for the half of the home she was given. The value of the half-interest she received was equal in value to what she gave up, according to the court.
More recently, in the case of Eleanor Martin v. The Queen (2013 DTC 1061), Ms. Martin received assets from her husband upon his death. She was assessed for her late husband's taxes owing from his medical practice. She argued that she was owed for work she provided to his practice and for rents that should have been paid by the practice for use of their home. It turns out that the amounts owing to her were greater than the taxes owing by her husband, so the court sided with her and she escaped a Section 160 assessment.
Tim Cestnick