The Federal Budget of March 22, 2017 proposed to eliminate the ability for designated professionals (i.e., lawyer, dentists, lawyers, medical doctors, veterinarians, chiropractors and accountants) to elect to use billed-basis accounting. That is, they proposed that designated professionals had to include in their income work in progress (“WIP”). To find out more about what the government finally decided about this matter, you may want to read more of this article.
Billed-basis accounting enables taxpayers, like the professionals noted, to defer tax by permitting the costs associated with WIP to be expensed without the matching inclusion of the associated revenues.
The initial proposal allowed for a two-year transitional period to phase in the inclusion of WIP into income. In our previous publications, Work in Progress (WIP): Why and How it will be Taxable and Work In Progress (WIP): Budget Update for Contingency Fee Arrangements, we explored the potential impacts and pitfalls that these proposed changes can and will have on designated professionals, particularly firms and legal professionals.
On September 8, 2017, Finance released revised draft legislation which included additional relief for WIP for professionals. The new proposals allow for a five-year transitional rule for the purpose of valuing WIP. For purposes of computing income, the cost of WIP is deemed to be:
- 20% the cost and fair market value of the taxpayer’s WIP at the end of the first taxation year beginning after March 21, 2017
- 40% the cost and fair market value of the taxpayer’s WIP at the end of the second taxation year beginning after March 21, 2017
- 60% the cost and fair market value of the taxpayer’s WIP at the end of the third taxation year beginning after March 21, 2017
- 80% the cost and fair market value of the taxpayer’s WIP at the end of the fourth taxation year beginning after March 21, 2017
For the fifth taxation year beginning after March 21, 2017 the full amount of WIP must be included in computing income.
Furthermore, transitional relief is only available to a taxpayer who elects to exclude WIP in computing income during the last taxation year beginning before March 22, 2017. Therefore, professionals must ensure that they elect in order to benefit from the relief provisions.
The revised relief provisions are welcome as they will alleviate some of the immediate tax cost that would otherwise result from the inclusion of WIP in taxable income. However, after the transitional relief period has passed, the provisions require a full inclusion of WIP in taxable income even though the client has yet to be billed.
The Canadian Bar Association (CBA) has commented on the revised proposals: Although the relief provisions are welcome, the CBA remains concerned that the new rules will make it harder for lawyers to take on work for Canadians who cannot afford to pay legal fees until matters have been settled. The CBA will continue to seek clarity and guidance on these proposals and CRA position on contingency fee arrangements. For more commentary from the CBA, cba.org
We will continue to provide updates on this matter and other Budget 2017 proposals as information becomes available.
The information in this article is of a general nature and is in summary form. Contact one of our tax professionals to discuss these matters in the context of your situation before acting upon such information.
By: Joe Figliomeni CPA, CA