|borrowed money used for the purpose of earning income from a business or property (other than borrowed money used to acquire property the income from which would be exempt or to acquire a life insurance policy);|
|an amount payable for property acquired for the purpose of gaining or producing income from the property or for the purpose of gaining or producing income from a business (unless the income would be exempt or the property is an interest in a life insurance policy)|
The wording of s. 20(1)(c), "payable in the year or in respect of the year", means that the taxpayer can deduct the interest on the cash basis or the accrual basis. See Accrual Basis vs Cash Basis of Accounting.
The interest expense must not exceed the lesser of the actual amount and a reasonable amount. The information below is regarding interest expense on money borrowed for the purpose of earning income from property (i.e., investments).
You can deduct interest and carrying charges incurred to earn income from securities, bonds and other Canadian or foreign investments, if they are earning investment income. The requirement of earning income generally means that the investments should be paying interest or dividends. If an investment will never earn anything except capital gains, then the interest expense is not deductible. If an investment such as common shares is not currently paying dividends, Canada Revenue Agency (CRA) will still normally allow the deduction of interest expense, if the shareholder has a reasonable expectation of receiving dividends at some time in the future. However, if a corporation has a stated policy that it will not pay dividends, then interest on money borrowed to purchase these shares will not be tax deductible. Some corporations may not pay dividends because they prefer to reinvest earnings in the company, or repurchase their own shares, which would theoretically raise the market value of the shares. Therefore, the shareholders would have capital gains instead of dividends.
In a 2013 Tax Court Case, Swirsky v. The Queen, Ms. Swirsky was denied an interest deduction because there was no evidence that, at the time the shares were purchased, she believed or expected that dividends would be paid on the shares in the future. At the time, there was no history of the company paying any dividends. This case was about a purchase of privately held shares, so is different from a purchase of publicly traded shares, but the same logic could certainly be applied to interest expense on a purchase of publicly traded shares. If the company has no history of paying dividends, do you have a reasonable expectation that dividends will be paid in the future? It is probably best to avoid using borrowed money to purchase these shares.
Deductible interest expense could include mortgage, loan or line of credit interest, margin interest charged on your brokerage account, or interest paid on Canada Savings Bonds (CSB) payroll savings programs, as long as the interest was incurred to earn investment income.
If the interest is paid to a non-resident, it will still be tax deductible (but, see interest expense paid to non-residents).
Where the interest expense exceeds the income from the investment, the interest expense will normally still be tax deductible. See Technical Interpretation 2012-0443771E5 (pdf) re interest deductibility.
You must be able to trace borrowed money directly to the purchase of the income-producing investments. It is important to keep a clear paper trail of the use of borrowed money.
Borrowing money to purchase securities such as stocks and bonds is one of the factors that is considered by Canada Revenue Agency in determining whether the taxpayer's gains and losses from the sale of securities are to be treated as income or capital. See our article on the tax treatment of investments for more information on this.
Interest expense is entered in “Carrying charges and interest expenses” on Schedule 4, which then goes to line 221 of the personal income tax return. In the Canadian Tax Calculator, interest expense would be entered in "Other expenses".
If the interest expense exceeds all other income for the year, this becomes a non-capital loss, which can be carried back to previous tax years, or forward to future tax years.
Interest and other deductible carrying charges are claimed as a deduction from income on line 22100 (was line 221) of the personal income tax return, after completion of Schedule 4 (federal). These amounts are not used in the calculation of adjusted cost basis for your investments, so are not used in the calculation of capital gains or losses on investments.
If funds have been borrowed to purchase mutual funds or exchange traded funds (ETFs) and there are subsequent return on capital payments from the mutual fund, these amounts must be used to pay down the borrowed funds, because the interest will no longer be deductible. This was brought to light in a Tax Court Case, Van Steenis v. The Queen, 2018 TCC 78, where Van Steenis had borrowed $300,000, and over a period of 9 years received a total of $196,850 for return of capital. Van Steenis used most of the return of capital for personal purposes, instead of paying down the debt. The Tax Court ruled that there is no longer a direct link between the borrowed funds and the investment in mutual funds. Had Van Steenis paid down the debt or reinvested the return of capital amounts in other investments for which interest expense would be deductible, he would not have had a problem. Jamie Golombek of the Financial Post summarized this Tax Court case in a May 2018 article.
Interest may still be deductible when the securities purchased with the borrowed money are no longer owned. Let's use an example of a taxpayer who uses $10,000 of borrowed money to purchase shares in a corporation. The shares are subsequently sold at a loss, with the entire debt still outstanding, except in example 3 below. See CRA's Folio S3-F6-C1 on this topic - link at bottom.1. The shares are sold for $6,000, and the proceeds are used to buy another income-producing property.
- The interest on the entire $10,000 will still be deductible until the loan is repaid.
2. The shares are sold for $6,000, and the proceeds are used to buy personal property.
- The interest on $6,000 is no longer deductible, but the interest on $4,000 is still deductible until the loan is repaid.
3. The shares are sold for $6,000, and the proceeds are used to pay down the debt.
- The interest on the remaining $4,000 of debt is still deductible until the loan is repaid.
4. The shares have become worthless due to the bankruptcy of the corporation. See Worthless Shares or Debt.
- The interest on the entire $10,000 of debt is still deductible until the loan is repaid.
Note that the legislation refers to an amount "received as consideration" for the disposal of the investment. This would indicate that if some of the amount received in exchange for the shares is characterized as a dividend, it would still be "consideration" received for the shares. If it is not used to pay down the debt, then that portion of the debt would not be deductible.
Deductible carrying charges or investment expenses include the following as well as interest, if the cost has been incurred in order to earn income from your investments:
|fees paid for the management of your personal investments, including the GST on those fees|
fees paid to investment counsel (other than
commissions) for advice regarding the purchase or sale
of a particular share or security, or for the management
and administration of your investments.
The fees must be paid to a person whose principal
the cost of having your tax return prepared, only if
The above amounts would be included in "Other deductions" in the Detailed Canadian Tax Calculators.
Non-deductible interest, carrying charges and investment expenses include
|safety deposit box fees incurred for the safe-keeping of your investments - this is no longer an allowable deduction for tax years beginning on or after March 21, 2013. Prior to that it was deductible on line 221 of your tax return.|
|fees paid for general financial planning|
|administration fees paid for registered accounts such as RRSPs - besides being already non-deductible, beginning January 1, 2019, these fees, if paid outside of the registered account, were to be considered an "advantage" under s. 207.01(1)(b)(i) of the Income Tax Act, and taxable at 100% of the amount of the fees. However, both CRA and the Department of Finance have confirmed that payments of administration or investment management fees for a registered account, paid from a non-registered account, will not be considered an "advantage". See Torys LLP article on this.|
|interest on money borrowed to contribute to RRSPs, TFSAs or DPSPs. However, if investments are purchased with borrowed money in a non-registered account, and transferred to the RRSP after the loan is repaid, the interest is tax deductible. If part of the loan is still outstanding when the investments are transferred to an RRSP, the interest is no longer deductible.|
|brokerage fees or commissions paid when buying or selling securities. These costs either reduce the proceeds from securities sold, or increase the cost of securities purchased.|
|interest on money borrowed to purchase a life insurance policy|
|subscription fees paid for financial magazines, newspapers or newsletters|
Canada Revenue Agency (CRA) Resources
Folio S3-F6-C1 Interest Deductibility - see paragraph 1.41 Disappearing source rules
IT-533 Interest deductibility and related issues - cancelled
Copyright © 2002 Boat Harbour Investments Ltd. All Rights Reserved. See Reproduction of information from TaxTips.ca