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Defining Ethical Taxation Boundaries

Understanding key tax concepts will reduce the tax burden on incentive winners and keep Revenue Canada at bay.

Understanding key tax concepts will reduce the tax burden on incentive winners and keep Revenue Canada at bay. By Don Brommet

When one talks about the ethics of taxation, the point isn’t to debate whether taxation is ethical or not, but under what ethical boundaries planners – and incentive winners – should operate to ensure they fulfill their roles as good corporate citizens.

Planners and incentive winners must realize that in the eyes of Revenue Canada, all income is taxable, whether it was received as cash, or in lieu of cash, such as an incentive reward. The advantage of incentives over cash is that there are measures that can be taken to reduce the tax burden on incentive winners.

It should be noted, however, that at no time should a planner recommend incentive winners not declare their incentive winnings. This is basically tax evasion, which can, under certain circumstances, lead to unpleasant penalties that are far greater in cost (financial and otherwise) than the taxes owed.

The Income Tax Act contains policies and guidelines that govern what is taxable. These policies can be interpreted by both Revenue Canada and by individuals or corporations. From time to time, bulletins are issued updating the guidelines based on actual cases or other changes.

Using the guidelines to your advantage is considered “tax avoidance” or “tax minimization” and is completely legal under Canadian regulations.

Revenue Canada’s interpretations of these guidelines can vary from district to district, even from company to company, so it’s worth having professional tax advisers check into each case history to do some benchmarking within your industry or like industries before accepting any position. The cases that go before the courts are those where there is a difference in opinion of what the tax act states.

At the very minimum, any company that introduces an incentive travel program should inform its participants or potential incentive reward winners that, within the structure of the rules, Revenue Canada considers this reward/trip to be a taxable benefit.

While various corporations handle this aspect of the taxation process differently, the general opinion in the meetings and incentive industry is that the company employing the incentive winner should be responsible for reporting the income on a T4A slip. Direct sales forces and other employees are obviously the company’s responsibility.

In the case of dealers or agents, the incentive reward is generally given to the company as a whole (such as a car dealership), and the president of the dealership is responsible for selecting a specific employee to represent the dealer during the incentive trip. This means the dealer is responsible for issuing the T4A to the employee.

One of the most important elements of the taxation process is understanding the difference between a meeting and an incentive.

Revenue Canada has an objective, which is to maximize its income by either taxing someone or disallowing the deduction by another. As a result, it has established key interpretations under the Income Tax Act, which separates an incentive trip from a meeting.

In the simplest terms, a meeting or incentive can be very similar in content, but are differentiated by one simple fact: to attend an incentive program, an employee must qualify, meaning attendance is restricted; a meeting is open to attendance by anyone invited from within a designated audience.

With meetings, there are specific rules that govern the location of a meeting and what expenses the host corporation can deduct. Issues such as “geographic sphere of operations” should be carefully reviewed before going outside the province or country for your next meeting. Revenue Canada may also question a company’s deducting expenses if any doubts exist.

At the other end of the spectrum, an incentive travel program can be held anywhere in the world due to the taxable nature of the award.

In terms of determining the taxable portion of an incentive travel program, there are a number of variations and interpretations of which planners must be aware. Few come in the form of black and white answers, but the following will offer some insight.

The core components of an incentive program are:
• accommodations;
• air transportation, food and beverages;
• optional activities;
• business content/meetings;
• communications; and
• administration

As some of these costs are not recognized as a “benefit” to the incentive winner, it is advisable, where possible, to separate them out for the purposes of a tax return. If the incentive trip was purchased as a package, it is best to designate 20 per cent of the total costs to cover administration (travel staff costs, internal administration) and communications (launch materials, tags, wallets, etc.).

A key aspect planners must consider with the development of any incentive travel program is the inclusion of a distinct business component in the agenda. The percentage of traditional business content essentially depends on a tax adviser’s direction, but there are some planners that pro-rate the business component against the time away (a business day is from 9 a.m. to 5 p.m., Monday to Friday).

Teambuilding activities, guest speakers, plant visits – all qualify as business components if the content supports a company’s goals and business.

A cocktail reception hosted by a supplier, at which products are discussed or presented, also constitutes a business function. Such receptions add the desired business element for justification as an incentive, but also reduce company costs – and reduce the taxable content.

Some other points that can help reduce incentive winners’ taxable benefits are:
• Memorable meals are a key part of any incentive travel program, but turning lavish dinners into award banquets brings a business element to the affair and makes it less of a benefit. In liberal interpretations, the total air has been deducted.
• Accommodations are a part of any trip and can’t be avoided, but as with the cost of transportation, there have been examples where the taxable portion has been reduced, by factoring in the prorated business component of the program.
• When a spouse is travelling with an incentive winner, the room should be attributed to the winner; the room would have been occupied regardless. This will reduce the tax burden on the spouse, as their trip is fully taxable.
• Optional activities are considered “pleasurable” by Revenue Canada and as such, must be included as part of the overall taxable portion of the trip.

Another key point for planners is to ensure employees have well-defined roles when travelling for the company. When employees have distinct responsibilities during a program, they are considered to be “workers” and not incentive winners or “achievers.” As workers, they will not suffer tax consequences. The same holds true for spouses travelling with incentive winners. They are in a support role and should do so under the specific request of the employer.

Spouses can attain a specific designation from the employer that pertains to the business objectives of the trip to avoid any tax burden.

While it&
quo;s impossible to cover every aspect of the taxation process in one article, understanding some general concepts should help planners reduce the taxable benefits to dynamic employees who have worked so hard to win trips.

Maybe one day, Revenue Canada will make incentive trips completely non-taxable, and view them as an incentive to increase corporate productivity, profitability and personal income. After all, if income is generated, tax revenues will increase by default.

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