Goods and Services Tax Treatment of Grant and Subsidies

GST/HST Technical Information Bulletin B-067
August 24, 1992

This Technical Information Bulletin does not replace the law found in the Excise Tax Act and its Regulations. It is provided for your reference. As it may not completely address your particular operation, you may wish to refer to the Act or appropriate Regulation or contact any Revenue Canada Excise/GST District Office for additional information. If you are located in the Province of Quebec, please contact the Ministère du Revenu du Québec (MRQ) for additional information.

This bulletin may reflect amendments proposed to the Excise Tax Act contained in Notices of Ways and Means Motion and/or announced in press releases dated December 18, 1990, March 27, 1991, November 5, 1991, February 12, 1992, February 25, 1992, March 10, 1992 and April 27, 1992. The federal government announced its intention to introduce certain amendments to the Excise Tax Act to effect these changes which were outlined by the Minister of Finance or the Minister of National Revenue in press releases on the mentioned dates. [Where the information provided in this bulletin reflects proposed amendments, the information is enclosed in square brackets.] At the time of publication, Parliament had not enacted these proposed amendments. Any commentary in this bulletin should not be taken as a statement by the Department that such amendments will in fact be enacted into law in their current form.

INTRODUCTION

Grants, contributions, subsidies and similar payments, often called transfer payments, are made for many reasons ranging from money given out by a charity for food or clothing to major government-funded projects.

If it is established that a supply takes place in return for a transfer payment, the payment may be regarded by the Department as "consideration" for a supply. The amount of the transfer payment must then be used to calculate any Goods and Services Tax (GST) payable. The person who receives the payment, if registered for the GST, must collect the tax payable from the grantor of the transfer payment.

This bulletin explains how the GST applies to transfer payments and introduces policy guidelines to clarify when a particular transfer payment may be regarded by the Department as consideration for a supply. As a result of this clarification, the GST treatment of some transfer payments may be affected.

In this bulletin, "transfer payment" refers to grants, contributions, gifts, subsidies and similar payments made by any grantor whether a government, public service body, commercial organization or an individual.

The bulletin is divided into four parts:

I. An overview of the treatment of transfer payments under the Excise Tax Act.

II. Policy guidelines to help persons who provide or receive a transfer payment to determine whether or not the payment is directly linked to a supply of goods or services.

III. An explanation of transitional measures respecting transfer payments made before November 1, 1992.

IV. An Appendix which provides a summary of the effect of the policy guidelines on public service bodies.

PART I OVERVIEW

In general, transfer payments made in the public interest or for charitable purposes will not be regarded as consideration for a supply.

However, if there is a direct link between a transfer payment received by a person and a supply provided by that person, either to the grantor of the transfer payment or to third parties, the transfer payment will be regarded as consideration for the supply. If a transfer payment is consideration for a supply, then it must be determined whether or not the supply is taxable.

For example, if a person receives a $100,000 transfer payment from a grantor to set up a management training program and arranges to train specific senior executives of the grantor's company, the payment will be regarded as consideration for the supply of training services to the grantor. The recipient of the $100,000 transfer payment must therefore collect the tax from the grantor of the transfer payment in respect of the supply of the taxable training program. In this example, tax payable by the grantor, calculated on the value of the transfer payment will be $7,000 ($100,000 x 7%). The recipient of the transfer payment must collect and remit $7,000 GST.

Third Parties

A recipient may use a transfer payment to provide a supply of goods or services to one or more third parties rather than to the grantor of the payment. In this case, if it is established that a direct link exists between the transfer payment and the supplies provided to the third parties, the transfer payment will be regarded as consideration for those supplies. If the recipient of the transfer payment is a registrant and the supplies are taxable, the recipient of the transfer payment must charge and collect tax from the grantor of the transfer payment.

WHEN IS A TRANSFER PAYMENT CONSIDERATION FOR A SUPPLY?

Direct Link

To determine if a transfer payment is consideration for a supply, first establish whether the recipient has, or will, make a supply as a result of having received the payment. If this is the case, determine whether there is a direct link between the transfer payment and the supply.

A direct link may not always be apparent and therefore it will be necessary to consider the circumstances surrounding each case. For example, it is necessary to examine the agreement between the parties, the conduct of the parties and the objectives or policy statements of the grantor. In addition, the legislation, by-laws and any applicable regulation under which the payment is made should be examined, along with payment documents, reports and any applicable documentation. (However, the form or content of the payment document, i.e., an invoice based on a unit price, subsidy claim or contribution agreement, or the basis on which the payment is calculated, do not in themselves determine the existence of a direct link).

The following policy guidelines are intended to clarify whether a direct link exists between a transfer payment and a supply, and whether the transfer payment is consideration.

PART II POLICY GUIDELINES

These guidelines, which reflect departmental administrative policy, apply to all grantors and recipients (grantees) of transfer payments, including governments, public service bodies, the commercial sector and individuals.

Direct Link

There is a direct link between a transfer payment and a supply if the payment is directly related to the provision of a supply to the grantor, or to a third party, by the recipient of thetransfer payment. If a direct link exists, the payment is consideration, and if the supply is taxable, the payment must be used to calculate the tax.

To determine the existence of a direct link and if a payment is therefore consideration, the following questions should be addressed:

1. DOES A SUPPLY TAKE PLACE IN RESPECT OF THE PAYMENT?

Where a transfer payment takes place,

(a) is the transfer payment a charitable donation where the recipient issues a receipt which allows the grantor to claim a deduction for a charitable donation for income tax purposes?

If yes, the payment is not consideration for a supply.

(b) does the grantor (or a third party) receive any property or service in return for the transfer payment?

If no, the payment is not consideration for a supply since there is no activity involved that can be considered to be a supply.

If yes, the transfer payment may constitute consideration for the supply of the property or service received by the grantor (or the third party) and the transaction should be examined further for evidence of a direct link.

2. IS THERE A DIRECT LINK BETWEEN THE PAYMENT AND THE SUPPLY?

A distinction should be made between a supply made to the provider of the transfer payment and a supply made to a third party. It should be noted that the more specific the supply and the more identifiable the recipient of the supply, the stronger the suggestion that the transfer payment is consideration for that supply.

Is the supply provided:

(a) to the grantor? If so, under what conditions? Does the grantor receive a direct benefit as a result of the payment? For example, does title or ownership in property pass to the grantor or does the grantor receive a service?

If such a supply is provided, this will suggest that the transfer payment is consideration for the supply.

(b) to unspecified third parties? Does the recipient (the grantee) provide, for example, a skills upgrading course to recipients of unemployment insurance inreturn for the payment? Such a general statement suggests that no direct benefit is gained by the grantor and indicates the possibility of a public purpose (explained in the following paragraphs).

Where the grantor does not directly receive any property or services, but a supply is made to an unspecified third party, the payment may not be consideration.

(c) to a specific third party? Does the recipient provide, for example, a computer course to a particular person, for example, to Mr. John Smith? This suggests that the payment is being made to benefit a particular individual (or group) and indicates the possibility of a purchase purpose (explained in the following paragraphs).

If so, this suggests that the payment may be consideration.

What is the Purpose of the Transfer Payment?

Whether or not a transfer payment is "consideration" may depend on the specific purpose of the payment, for example,

Is the payment for

(a) a public purpose? A public purpose is one which benefits the general public or a particular segment of the general public. Many transfer payments by governments and public service bodies fall under this category. This may apply, for example, if a municipality provides funds to a non-profit organization to aid in the development of a fragrant flower garden for the blind. While a supply does takes place, it is clearly in the public interest and not for the direct benefit of the municipal government.

If yes, the payment may not be regarded as consideration.

(b) a purchase purpose? A purchase purpose is one which benefits the grantor or a specific third party and may be of a commercial nature. A purchase purpose may apply even if the grantor is a public sector body and some public benefit results.

For example, if, under an agreement, an organization gives a grant to an artist with the understanding that the results of the artist's work will become the property of the organization, the payment will normally be regarded as consideration for a supply. The artist, if registered for the GST, will be required to collect and account for the tax calculated on the consideration paid in respect of that supply. Conversely, in this example, if the organization receives nothing in return, the grant is not consideration for a supply and tax will not be payable.

In addition, a purchase purpose could include transfer payments made to purchase research services, a copyright, or part ownership in real property. As well, payments used for "contracting out" (i.e., where the grantor is paying the recipient to do something the grantor would otherwise be required to do) are very likely made for a purchase purpose and therefore consideration for a supply.

If yes, this strongly suggests that the payment is consideration.

Is the Transfer Payment Part of a Regular On-going Program of Financial Support?

Financial support may be provided through a government grants and contributions program. For example, funds may be provided pursuant to an animal feed assistance program for farmers. Is the source of the transfer payment such an ongoing program of financial support?

If yes, this suggests the payments may not be consideration.

Is The Grantor a Funding or Granting Organization?

The type of organization that provides a transfer payment may be an indication of the purpose of the payment. For example, is the organization primarily a funding or granting organization such as a charitable foundation or an arts or sports council?

If yes, this suggests that the payment is for a public purpose and may not be consideration.

Is The Grantor a Commercial Organization?

Generally, businesses are presumed to make transfer payments for purchase purposes rather than in the public interest. Where the grantor is a commercial organization, therefore, the transfer payment will normally be regarded as consideration. Some businesses do, however, have funding programs through which they support a public purpose, for example, community symphony orchestras or art groups. If the granting organization receives no direct benefit from a transfer payment, it may not be consideration and the commercial grantor's entitlement to input tax credits (ITC) should not be affected by the payment.

3. IS THE PURPOSE OF THE SUPPLY TO ALLOW THE GRANTOR TO MAINTAIN ACCOUNTABILITY IN RESPECT OF THE USE OF THE PAYMENT?

While some activities that take place in order to maintain accountability in respect of the use of a transfer payment can becharacterized as "supplies", they will not be regarded as the supply for which the transfer payment is made. This is because the market value of these activities is, in general, negligible compared to the amount of the transfer payment.

However, the fact that some accountability mechanism exists does not necessarily indicate that no other supply takes place, nor that the payment is not consideration. An analysis of the objectives of the agreement should be made to determine the purpose for which the payment is made.

The following are examples of accountability mechanisms. (These conditions are often found in the miscellaneous section rather than the main body of an agreement):

(a) an optional right to repayment - the recipient agrees to repay the transfer payment under certain conditions, for example, if the product is sold outside the country. However, the right to repayment is not the purpose of the agreement;

(b) the right to payment upon default - the recipient agrees to repay the transfer payment if the recipient is unable to fulfil the terms of the funding agreement;

(c) an optional right to use material - the recipient provides the grantor with the right to use material resulting from the payment, but this is not the main purpose of the payment;

(d) a covenant to provide a final report - the recipient agrees to set out the result of efforts expended in respect of the payment. This is not a detailed research report, rather, it is a statement and indication that the money was spent as agreed upon;

(e) a covenant to retain property - both the grantor and recipient may agree to keep title to property used or developed in respect of the payment, however, obtaining the property is not the purpose of the payment;

(f) financial reports - the recipient agrees to provide financial statements on the use of the transfer payment.

Examples of supplies made for consideration (which are the purpose of the transfer payment and which are usually found in the main body of an agreement) include the following:

(a) the right to use the results of a project - the recipient agrees that the grantor can put the results of the payment to the grantor's own use;

(b) the right to control the release of results - the recipient agrees that the grantor controls the resultsof the supply for which the payment is made, for example, to decide whether or not a research report is released;

(c) the mandatory right to income from sale of results of the project - the recipient agrees to pay the grantor a certain portion or percentage of income. Revenue generation is one of the purposes of the transfer payment;

(d) distribution rights to results - the recipient agrees that the grantor can publish, distribute and publicize the results of the payment, and these rights are a primary purpose of the payment.

The following chart provides an overview of whether or not a supply takes place and if the transfer payment is consideration for that supply. However, since the chart is a generalization, reference should also be made to the preceding policy guidelines.

SUMMARY OF POLICY GUIDELINES

IS A TRANSFER PAYMENT CONSIDERATION FOR A SUPPLY?

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EXAMPLES OF TRANSACTIONS AFFECTED BY THE POLICY GUIDELINES

The following examples are intended to give the reader some indication of the broad range of transactions that may be affected by these guidelines, as well as showing how these particular payments are treated under the GST.

EXAMPLE I. A Transfer Payment Provided for A Research Project

Under a contribution agreement and through an on-going funding program to support non-profit research, a government department gives a transfer payment to a non-profit organization (NPO) to assist in the NPO's research project. The NPO agrees to provide a final report on its findings and on the use of the funds, but maintains copyright on the research results. Because the payment is made for a public purpose and the grantor receives no direct benefit, the transfer payment is not consideration.

If, however, the NPO gives the copyright on the research report to the grantor and also provides royalties on sales to the grantor, a direct link will exist between the payment and a supply. Since there is a purchase purpose, the transfer payment will be regarded as consideration for a taxable supply.

EXAMPLE II.A Transfer Payment Provided in Return for a Direct Supply

The federal government and a provincial government have an agreement to share certain costs of building and operating a provincial correctional facility. The federal government pays a certain percentage of the costs of capital and operating expenses and in return, the provincial government allocates a matching percentage of beds in the facility for federal prisoners. The payment is consideration for a supply as the federal government will make direct use of the prison facilities for its own prisoners.

EXAMPLE III. A Transfer Payment Provided For Contracted Out Services

Under a capital expenditure program, a municipality makes a grant to a registered charity which is an animal protection organization. In addition to its other activities, the charity provides pound-keeping services such as euthanasia, adoption and stray animal services.

While the residents of the municipality benefit from the provision of service, the charity is providing services which the municipality itself would have otherwise been required to provide. In other words, the municipality used a grant to purchase services. In this example, the payment is consideration for a supply. However, because suppliesmade by charities are exempt unless specified as taxable, the supply is tax-exempt, and, under these policy guidelines, it will continue to be exempt.

PART III TRANSITIONAL MEASURES

To allow registrants and other parties to comply with the guidelines, the Department will provide the following alternative treatment for transfer payments paid, or that become due, before November 1, 1992. The policy guidelines in Part II of this bulletin will become effective on November 1, 1992.

Prior to November 1, 1992, registrants may or may not use Part II of this bulletin to determine whether or not a payment is consideration. Registrants who have treated a transfer payment as consideration for a taxable supply during this period may change their treatment of the transfer payment to be in accordance with Part II of this bulletin. The status of a transfer payment, however, must be treated the same way by both grantor and recipient. When there is a change in status, the effective date of the change must be the same for both grantor and recipient. The recipient may be required to repay ITCs claimed for purchases made in respect of a transfer payment where its status has been changed.

Registrants Engaged in Commercial Activities

Registrants who are engaged in commercial activities and who change the status of a transfer payment will continue to be entitled to claim ITCs in the usual way in respect of the payment. This is because their supplies, although now regarded as being made for no consideration, remain supplies made in the course of a commercial activity.

Public Service Bodies

Public service bodies that change the status of a transfer payment retroactively may be required to repay to Revenue Canada, Excise/GST, any ITCs claimed. This is because their supplies may change status from being made in the course of a commercial activity, to being a tax-exempt supply under the exempting provisions of Part VI of Schedule V to the Act. Unless the recipient (grantee) makes other taxable supplies, the recipient may be required to cancel its GST registration.

In the case of a status change dated prior to November 1, 1992, the supplies will be considered to be taxable until the date of change. During this period, the recipient (grantee) will be required to be registered and will be entitled to claim ITCs. ITCs must be repaid only on capitalproperty (on the lesser of the fair market value or the purchase price of the capital property), and only to the extent that the property continues to be used in a tax-exempt activity. However, if a recipient that is a public service body is entitled to the Public Service Body GST Rebate, a rebate will be allowed in respect of ITCs that are paid back to the Government.

In all cases where a change in status of a transfer payment takes place as a result of the policy guidelines, the Department will not disallow nor reduce the transitional credit and federal sales tax inventory rebate.

More Information

For more information on how to determine if a transfer payment is consideration for a supply, your ITC eligibility, and whether your registration status is affected as a result of these guidelines, contact your nearest Revenue Canada Excise/GST District office.

The Department is prepared to provide rulings on specific fact situations. More information on departmental rulings is contained in GST MEMORANDUM 100-3, GOODS AND SERVICES TAX RULINGS, available at Revenue Canada Excise/GST District offices.

DEFINITIONS

"Department" means the Department of National Revenue, Customs and Excise;

"exempt supply" means a supply included in Schedule V to the Excise Tax Act;

"input tax credit" means a credit claimable by a registrant for the Goods and Services Tax paid or payable by the registrant in respect of the acquisition or importation of any property or service for consumption, use or supply in the course of commercial activities of the registrant;

"public service body" means a non-profit organization, a charity, a municipality, a school authority, a hospital authority, a public college or a university;

"recipient", for the purposes of this Technical Information Bulletin, refers to the person to whom the original transfer payment is made;

"registrant" means a person who is registered under section 241 or who is required to apply to be registered under section 240 of the Excise Tax Act;

"supply" means, subject to sections 133 and 134 of the Excise Tax Act, the provision of property or a service in any manner, including sale, transfer, barter, exchange, licence, rental, lease, gift or disposition;

"taxable supply" means a supply that is made in the course of a commercial activity, but does not include an exempt supply.

PART IV APPENDIX

The following chart is a summary of the effect of the policy guidelines on public service bodies and the tax treatment of payments when a change in status takes place. (Chart attached)

TAX TREATMENT OF TRANSFER PAYMENTS
SUMMARY OF EFFECT OF GUIDELINES ON PUBLIC SERVICE BODIES

Deregistered change in grant status as of
REGISTRATION DATE OR JANUARY 1, 1991 GRACE PERIOD TO NOVEMBER 1, 1992
Tax on Grants Remitted Grantee refunds tax to grantor and adjusts net tax No Action
Tax Remitted but not Collected Grantee issues adjusted invoice to grantor and adjusts net tax No Action
Tax Not Remitted but Collected Grantee must refund taxes to grantor Remit Tax
Apply penalty & interest
Tax Not Remitted or Collected No Action Remit Tax Apply penalty & interest
ITC's Non-Capital Recapture All ITC's No Recapture
ITC's Capital Property Recapture All ITC's Recapture ITC's on the lesser of purchase price or FMV* for post 1990 acquisitions
PSB Rebate ( if otherwise qualify, and subject to regulations) Yes - Allowed Yes - Allowed from date of change
Registered with other taxable supplies change in grant status as of
REGISTRATION DATE OR JANUARY 1, 1991 GRACE PERIOD TO NOVEMBER 1, 1992
Tax on Grants Remitted Grantee refunds tax to grantor and adjusts net tax No Action
Tax Remitted but not Collected Grantee issues adjusted invoice to grantor and adjusts net tax No Action
Tax Not Remitted but Collected Grantee must refund taxes to grantor Remit Tax Apply penalty & interest
Tax Not Remitted or Collected No Action Remit Tax Apply penalty & interest
ITC's Non-Capital Recapture All ITCs No Recapture
ITC's Capital Property Recapture ITCs in relation to grant on the lesser of purchase price or FMV*, except property continuing to be used > 50% in commercial activity Recapture ITC's in relation to grant on the lesser of purchase price or FMV*, except property continuing to be used > 50% in commercial activity
PSB Rebate ( if otherwise qualify, and subject to regulations) Yes - Allowed Yes - Allowed from date of change
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