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Employee Loans and Loan Subsidies

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Personal Tax -> Employee loans

Employee Loans and Loan Subsidies

Income Tax Act s. 80.4, s. 110(1)(j)

A loan by an employer or a third party to an employee, or the subsidization of an employee loan, may result in a deemed taxable benefit being included in the income of the employee.

S. 80.4(1) of the Income Tax Act indicates that there may be a deemed taxable benefit to an individual or corporation when a person or partnership receives a loan or otherwise incurs a debt:

  1. because of a previous, current or intended office or employment of the individual, or

  2. because of the services performed or to be performed by a corporation carrying on a personal services business

If it is reasonable to conclude that if the relationship in a or b above did not exist, then:

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the terms of the loan or debt would have been different, or

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the loan would not have been received or the debt would not have been incurred,

then the debt will be deemed to have been incurred "by virtue of the office or employment".

Employee loan example:

Mr. X is loaned $100,000 by his employer on April 1, 2008, at an interest rate of 2%. This is not a home purchase or home relocation loan.  No principal repayments are made on the loan in 2008.

Depending on the interest rate paid by Mr. X, compared with the prescribed interest rate for employee loans, there may be a taxable benefit under s. 80.4(1) of the Income Tax Act.

The prescribed interest rates for 2008 (leap year) for employee loans were:

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Apr 1 to Jun 30     91 days   4%

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Jul 1 to Sep 30     92 days   3%

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Oct 1 to Dec 31    92 days   3%

See Canada Revenue Agency prescribed interest rates.

Using the prescribed interest rates, the loan interest from Apr 1 to Dec 31 would be $2,503, calculated as:

        $100,000 x 4% x 91/366 + $100,000 x 92 x 3% x 92/366 + $100,000 x 3% x 92/366

Mr. X actually paid $1,503 of interest, on or before Jan 30, 2009 (within the year or 30 days thereafter), for the period Apr 1 to Dec 31 2008 (275 days), calculated as:

        $100,000 x 2% x 275/366

The result is a taxable benefit in 2008 to Mr. X of $1,000 ($2,503 less $1,503).

If Mr. X did not pay the interest within 30 days of the end of 2008, then the taxable benefit would be $2,503.

If some of the interest on the loan was paid by the employer or a company related to the employer (loan subsidy), the taxable benefit to Mr. X would be increased by the amount paid.

If Mr. X reimbursed a portion of the interest paid by the employer or a company related to the employer, his taxable benefit would be reduced by the amount reimbursed.

Home purchase or home relocation loans

A loan to an employee would be considered a home purchase loan if it is used to acquire or repay a debt that was incurred to acquire a dwelling, or a share of the capital stock of a cooperative housing corporation, as a residence of the employee or a person related to him.  Subsequent debt incurred to repay a home purchase loan would still be considered a home purchase loan.

The loan would be considered a home relocation loan if:

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The employee commenced employment at a new work location in Canada,

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Because of the new work location, the employee moved from his old residence to the new residence, which will be his ordinary place of residence,

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The loan, received by the employee or his spouse, is used to acquire the new residence,

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The distance between the old residence and the new work location is at least 40 km greater than the distance between the new residence and the new work location, and

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The employee designates the loan as a home relocation loan (an individual may not have more than one home relocation loan at any time).

Where a home purchase or home relocation loan has a term exceeding five years, at the end of five years the balance outstanding on the loan will be deemed to be a new home purchase loan.  This would mean that the maximum prescribed rate will be reset to the prescribed rate that is in effect at the beginning of the sixth year.

Limit on taxable benefit from home purchase or home relocation loans

If the loan is considered a home purchase loan or a home relocation loan, then the loan interest calculated using the prescribed rates, which change quarterly, must not exceed the amount of interest calculated using the prescribed rate at the time the loan is made.  This means that:

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if the prescribed quarterly rate increases, the taxable benefit amount will not increase, but

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if the prescribed quarterly rate decreases, the taxable benefit amount will decrease.

This also means that where the interest rate on an employee home purchase or home relocation loan is set at the prescribed rate in effect at the time the loan is made, which results in no taxable benefit, there will be no taxable benefit for five years, regardless of how high the prescribed interest rate goes.

Home relocation loan benefit deduction

S. 110(1)(j) of the Income Tax Act allows an individual to deduct an amount related to a deemed benefit from a home relocation loan.  The amount of the deduction is the least of:

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the amount of the deemed taxable benefit from the home relocation loan

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the amount of the interest calculated at prescribed rates, if the loan had been for $25,000, and expired on the earlier of
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the expiry date of the loan, and

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the fifth anniversary date of the loan, and

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the amount included in income under s. 80.4 for all loans

If the loan to Mr. X is a home relocation loan, then he would be able to deduct from his income the lesser of

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the deemed taxable benefit of $1,000, and

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the interest amount calculated using prescribed rates if the loan had been for $25,000, or $25,000/$100,000 x $2,503, or $625.75, and

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all amounts included in his income for all employee loans, or $1,000

In this case Mr. X would be allowed a deduction of $625.75 on line 248 of his tax return.  When his employer completes the T4 for Mr. X, the T4 will include the following information:

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$1,000 will be included in Box 14 Employment Income, as well as Box 36 Interest-Free and Low Interest Loans

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$625.75 will be included in Box 37 Employee Home-Relocation Loan Deduction

Interest expense deduction re employee loans

If the proceeds of the employee loan were used to produce income from business or property, the amount of interest included as a taxable benefit can be included as part of the interest expense deduction.  Examples - employee receives a loan from employer:

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to invest in shares of a corporation

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as a home purchase loan, and a portion of the home is used to generate rental income

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which is used to acquire a motor vehicle or aircraft that is required to be used in carrying out the duties of an office or employment

Loans from third parties

When a person is negotiating a loan, and the employer provides documentation to the lender to support the employee's loan application, the loan will generally be considered to have been received "by virtue of the office or employment".  If the employer then subsidizes the interest costs by payment to the lender or to the employer, there will be a taxable benefit under s. 80.4 of the Income Tax Act.

When a person negotiates a loan with no involvement of the employer, the loan will not be considered to have been received "by virtue of the office or employment".  If the employer subsequently subsidizes the interest costs by payment to the lender or to the employee, any benefit of the subsidization will be included in the income of the employee under s. 6(1)(a) of the Income Tax Act, instead of under s. 80.4.  This would mean that there would be no home relocation loan deduction allowed.

Canada Revenue Agency resources:

bulletIT421R2 Benefits to individuals, corporations and shareholders from loans or debt
bulletLine 248 Employee home relocation loan deduction

 

Revised: March 06, 2012

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