GST between sole proprietor and incorporated company - both owned and controlled by one owner

Tax Topics
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Can anyone out there advise. I have a client that had a sole proprietor that was recently incorporated. There is equipment leased by the sole proprietor (leases are in the clients name not the corporation). The corporation utilizes the equipment. He will be looking into a section 85 rollover in future if the lessors agree. In the interim he will rent the equipment to the corporation. Should GST be charged on the rental as they are related parties, both owned and controlled by one individual

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  1. A lease is a lease for tax purposes - you can’t use a S85 for a leased asset.
  2. If the business operations are being transferred into the corp, I would make the assumption that the lease is effectively taken over by the corp. At some point the lessor may be able to change the name and legality of it, but I see no reason to do the extra bookkeeping for the proprietorship.
  3. If the GST paid to the lessor is the same as the GST paid from the corp to the prop, the net difference to CRA is nil, so I would simply document that in case CRA ever questions it.
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GST should be charged on the rent if the individual is a registrant. Their relationship to the corporation does not matter. There is an election to deem most supplies made between certain related corporations to be for nil consideration (therefore avoiding HST), but this only applies between corporations.

I would also point out that a lease is not an asset for tax purposes, even if it’s a capital lease for accounting purposes. Section 85 cannot apply to such a transfer.

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Yes - this. I forgot to mention that.

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Failing to collect GST when you are obligated to can attract penalties and interest for the client. Making assumptions about the transfer of a lease can also result in adverse tax consequences for the client, with deductions for the lease payments potentially being denied.

My advice is to not make assumptions. Follow the form of the lease for tax purposes, including consideration of the identity of the lessee. The lease should be considered in any transfer agreement from the proprietorship to the corporation, and it would require assent from the lessors.

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I agree @iain.fyffe - that’s probably a better way to do it - it’s all about the supporting documents - if CRA ever questions it. In my experience it’s a low probability that CRA would flag it to be investigated.

There is also a field on the GST return to report GST on behalf of affiliates (line 102), so technically you could close the prop GST account (assuming it was not doing any other GST-taxable business), and report its GST on the corp’s return.

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Follow-up question: when you say the client had a proprietorship that was incorporated, and that they will be looking into a s.85 in future, do you mean that no s.85 has been filed for the incorporation? Was a transfer/purchase & sale agreement prepared? Or did the client just start operating the business through the corporation? There can be adverse tax consequences if an incorporation is not done properly.

For instance, without a s.85 all assets would be deemed to have been sold by the proprietor for their far value, and this includes intangible assets such as goodwill. Depending on the nature of the business, there may be significant goodwill which could result in taxable income to the proprietor on the transfer.

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Thank you both for the reply. I appreciate the assist.

Colleen Warren