A corporation is defined as large if the total of the taxable capital employed in Canada of the corporation and any related corporation exceeds C$10 million ($9.5 million).
The 50% prepayment rule was introduced in 1993, when certain large corporations were thought to be filing unfounded objections to assessments to reserve the ability to later revisit their tax return in the event of subsequent favourable developments in tax law. The rule was enacted to discourage this conduct and came in the wake of corporate taxpayers receiving approximately $2 billion in refunds after amending their objections as a result of a court decision.
Assuming the advanced collection of 50% of disputed assessments from large corporations was justified in 1993, the policy supporting it no longer exists because of amendments to the Income Tax Act after 1993.
In this regard, since 1995, large corporations have been required to particularise the grounds of their objections, effectively precluding unfounded objections that were targeted by the 50% prepayment rule. The particularisation rule has the effect of preventing amended objections by large corporations. Based upon this change of law, it is unclear what the policy basis is for the continued existence of the 50% prepayment rule.
In 1993, the interest rates on an underpayment or overpayment of tax by corporations were the same. However, under current law, the government is entitled to collect 5% interest on underpayments of tax, but is only obligated to refund 1% to corporations on overpayments of tax.
The spread between interest rates gives a strong incentive for the government to raise assessments even where the chance of success is remote. In such a case, a large corporation objecting to a questionable assessment must pay 50% of the disputed taxes and receives refund interest at a rate of 1% when the assessment is subsequently vacated. In all circumstances the government realises a windfall of 4% on the disputed assessment.
If there was a policy rationale in 1993 for the 50% prepayment rule, it no longer exists. The rule is at odds with practice in other nations and creates hardship for large corporations. With a system of differential interest rates applicable to underpayments and overpayments of tax and the requirement for large corporations to particularise their objections, there is no longer a need for such a rule. Accordingly, the prepayment rule for large corporations should be repealed.
By principal Tax Disputes correspondents for Canada, Robert Kopstein (robert.kopstein@blakes.com) and Corinne MacCarthy (corinne.maccarthy@blakes.com) of Blake, Cassels & Graydon.
