It is fair to say that, bare trusts have recently been the focus of Canada Revenue Agency (CRA) audit activity. In this regard, many bare trusts have been subjected to GST/HST audits and based on statements made by the CRA there are more audits to come.
The issue that the CRA seems to take exception to is the claiming of input tax credits by the Bare Trust that relate to the operations of a Joint Venture. In many situations, participants in a joint venture utilize a bare trust corporation to hold legal title to the real property related to the joint venture activity. Since a joint venture is not allowed to register for the GST/HST, in many cases the joint venture owners elect under the Excise Tax Act to have the bare trust account for the GST/HST on behalf of the joint venture. During recent audits, the CRA has taken the position that a bare trust is not able to account for the GST/HST of the joint venture since it does not meet their administrative definition of a “participant”. To be considered to be a “participant” of the joint venture, the CRA's administrative policy requires that:
- A person be a beneficial owner of the property; or
- A person exercise sufficient managerial and operational control over the operations of the joint venture.
A “participant” that meets either of these administrative requirements may elect to be appointed the “operator” of the joint venture and account for all the GST/HST related to the operations of the joint venture.
Keep in mind that with a typical bare trust arrangement, the bare trust does not have beneficial ownership of the real property. In addition, it is quite common for the bare trust to not have the required managerial or operational control over the operations of the joint venture. This is because a bare trust is usually established to implement decisions made by the joint venture owners and thus does not have the discretionary power to make decisions on behalf of the joint venture. As such, it is difficult to refute the CRA's position that a bare trust does not meet their administrative definition of an “operator”.
You should note, that the CRA is proposing to deny all of the input tax credits claimed by a bare trust and will require the beneficial owners of the property to claim the denied input tax credits on a current GST/HST return. This would result in a significant liability to the joint venture since interest would be charged on the input tax credits that would be denied to the bare trust. Recently, the CRA issued GST/HST Notice N. 284, Bare Trusts, Nominee Corporations and Joint Ventures (GST/HST Notice No. 284) in which they state that auditors have been advised not to assess GST/HST owing where an assessment could be raised because the bare trust is not a participant.
This administrative tolerance will only be provided where the bare trust and the joint venture participants are otherwise fully compliant and that on a go forward basis, a qualifying participant is the “operator” of the joint venture. Since this administrative tolerance is available for reporting periods ending before January 1, 2015, bare trusts and joint ventures should take action immediately to ensure they take the necessary steps to become compliant before this date.
Bear in mind there are several options available to the joint venture owners to ensure compliance with the CRA's proposals. One option would be for the joint venture owners to claim their pro rata share of the GST/HST charged and incurred by the joint venture on their own GST/HST returns. From a practical perspective, reporting a pro rata portion of the GST/HST may be difficult to implement especially in cases where there are several joint venture owners.
A second option is for the joint venture owners to enter into an agreement and appoint one of the other joint venture owners as the “operator”. By entering into this election, the “operator” may account for the GST/HST of the joint venture on behalf of the other joint venture owners. However, by filing this election, the “operator” becomes jointly and severally liable for any GST/HST obligation of the joint venture. Thus a joint venture owner may be reluctant to be appointed the “operator” of the joint venture.
A third option is to expand the role of the bare trust so that the joint venture owners can provide the bare trust with required managerial and operational control over the business operations of the joint venture. This should involve providing the bare trust with ability to manage the day to day operations of the joint venture and to make the necessary decisions. This will likely be a significant change in the duties and responsibilities of the bare trust and thus should be discussed with legal counsel to ensure the legal implications of this change are considered. You should note that GST/HST Notice No. 284 confirms that a bare trust may be a participant in the joint venture for GST/HST purposes. However, whether a person has the managerial and operational control of a joint venture is often a question of fact which is determined after a full examination of the duties performed and a review of the relevant agreements.
That being said, it is advisable for bare trusts and joint ventures to take action now and to review their agreements to determine whether they are complaint with CRA's administrative policies and where necessary take the required actions to become compliant. It is fully expected that the CRA will continue with its audit action against bare trusts with auditors armed with the comments in Notice 284. Will you be prepared when CRA makes their next visit?