Proposed changes for Eligible capital property
Under current rules, eligible capital property (ECP) of a business is subject to a tax regime that is similar to the capital cost allowance (CCA) regime that applies to depreciable property. ECP includes certain intangible properties, such as purchased goodwill, customer lists, the cost of obtaining trademarks, and incorporation costs.
Basically, 3/4 of the cost of the ECP is added to a pool called the “cumulative eligible capital” pool. An annual deduction of 7% of the pool on a declining balance basis is allowed to be deducted from the related business income. On the sale of an ECP, there may be “recapture” of previously deducted amounts, similar to the recapture that applies to depreciable property. Conversely, there may be a terminal loss (a deduction of the outstanding pool) when you no longer carry on the business and have no ECP of any value.
When you sell ECP for proceeds greater than your original cost, the excess is treated similarly to a capital gain, in that only ½ of the excess is included in your income. However, the ½ excess is treated as business income rather than a taxable capital gain (unless it is ECP in respect of a farm or fishing property that is subject to the capital gains exemption).
In other words – for those readers familiar with the depreciable property CCA rules – the ECP rules generally mirror the CCA rules, but with a number of technical differences.
The Department of Finance has finally decided to fold the ECP rules into the CCA system, in order to simplify compliance for taxpayers and their advisors. In the February 2014 Federal Budget, it announced a proposal to eliminate the current system and replace it with a new CCA pool for ECP. Since then the Department has been consulting with the tax and business communities, and will announce the implementation of the proposals after the consultation.
Under the proposed rules, the new pool will consist of the full cost (rather than 3/4) of ECP and will be depreciable on a declining-balance basis at 5% per year (close to the current rate of 7% of 3/4). The new pool will be subject to the “half-year” rule that applies to most depreciable property (acquisitions in a year are effectively depreciable at half the regular rate).
Expenditures that do not relate to a specific property of the business will be added to the cost of the goodwill of the business. Conversely, receipts that do not relate to a specific property will be treated as proceeds of disposition received for goodwill.
When a property in the new pool is sold at an amount exceeding its original cost, the excess will be treated as a (half-taxed) capital gain. As noted earlier, under the current regime the ½ inclusion is typically treated as business income.
There will be transitional rules for ECP owned before the date on which the new rules are finally implemented. It is proposed that existing ECP pool balances will be transferred to the new CCA class. For the first ten years, a 7% depreciation rate will apply to the transferred pool amount. The Department of Finance also indicated that “special rules” will be announced to simplify the transition for small businesses.
As of March 2015, the Department had not yet issued draft legislation to implement these proposals.