Chapter 3

Employment
Income
Employment
Income
Under Part I, Division B, subdivision a:

Inclusions:

• Sec. 5 – Salary, wages, and gratuities

• Sec. 6 – Other income inclusions arising from employment
• Sec. 7 – Stock option benefits

Deductions:

• Sec. 8 – Deductions allowed against employment income

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Employed - • May provide services to another party as an
independent contractor.
Defined  Not subject to same direction or control.
 Paid in the form of a fee.

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 Non-tax implications
Distinction is for independent
important for tax contractors:
Employed Vs. reasons because: • Ineligible for general EI
benefits, holidays, and

Self-Employed
• Deductibility of expenses is employer-paid or other
more restricted for non-cash benefits;
employees
• Potential liability for
• Employers must remit services they perform;
income tax, EI, and CPP
• Cannot collect severance
payments to the CRA for
pay; and
employees only
• Lack of job security and so
increased economic risk.

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 Steps to Step 1 - Assess the Situation - Gather all the facts relating to the person’s position and activities:

Addressing Step 2 - Analyze the Issues:

Employed
Organize your thoughts Step 3 - Conclude and Advise:
around the following tests: Based on your finding in
Step 1:
Versus Self-
• Intent of the two parties Arrive at a conclusion
- Develop your best arguments
consistent with your analysis.
• Economic reality or for both employed and self-
Employed entrepreneur test:
• Control
employed
- Be balanced in your analysis
Assess the impact of your
decision and advise on the

Issue • Ownership of tools,

• Chance of profit/risk of loss
- Analyze the strengths and
weaknesses of your arguments
implications.
• Expenses deductible for tax
purposes,
• Tax rates applicable to the
income, and
• Non-tax factors such as
employee and government
benefits

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 Control Test Employer-employee Independent
relationship
contractor
Who determines
what is done,
where, when, and
Employer decides Contractor decides
how?

This Photo by Unknown

Author is licensed under
CC BY-NC-ND

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 Employer-employee Independent
relationship
contractor

Ownership of Employer provide Contractor provide

Tools Test Tools and pays for repairs Tools and pays for repairs

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 Independent
Employer-employee Relationship
contractor

Chance of Profit Employer takes the Contractor takes the

or Loss Test Risk and Rewards Risk and Rewards

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 All formal
All benefits,
compensation
with
income, with
exceptions, are
exceptions, are
taxable when
Employment taxable when
received.
received.
Income
Four Fundamental All deductions
are disallowed
Rules All allowances,
with • unless they are
exceptions, are specifically
taxable. allowed in the
Act.

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 Employment income = (A + B + C) – D
Where:
D=
Fundamental A = the salary,
wages,
deductions
B = the sum of that are
Rules and Basic commissions,
gratuities, and + the benefits
received or +
C = the sum of
the allowance - specifically
permitted as
Formula
other forms of received.
enjoyed. exceptions to
remuneration
the general
received.
rule.

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 First fundamental rule • Salary, wages and commissions
• Gratuities
- inclusion of formal • Bonuses
compensation • Honoraria
arrangements: • Director’s fees

Included on a Cash • when received, not necessarily

Formal Basis when earned.

Compensation Taxation year for

employment income is
the calendar year.

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 First fundamental rule - inclusion of formal
compensation arrangements:
• Salary, wages and commissions
• Gratuities
• Bonuses
• Honoraria
Formal • Director’s fees
Compensation
Included on a Cash Basis

• when received, not necessarily when earned.

Taxation year for employment income is the

calendar year.

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 Par. 6(1)(a) includes benefits that arise in the
course of or by virtue of office or employment

Exceptions to the General Rule

• Employer’s contributions to:
Employee • RPP/PRPP
Benefits • Private health services plan premiums
and provincial health levies, but not
provincial health plan premiums
• Supplementary unemployment
benefit plan
• Deferred profit-sharing plan (DPSP)
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 Amount of Benefit included is the
lower of:
• Cost to employer of supplying the benefit,
or
• FMV of the benefit.
Taxable Benefits
Special Benefit calculations apply
to:
• Stock Options
• Employee loans
• Use of employer provided automobiles.

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 ITA 6(2) - Loan-cost or interest free loans
provided by employers are a taxable benefit

Taxable Benefit = CRA Prescribed Rate – actual

interest paid.
• Actual interest paid must be paid be Jan 30 of the
following year.
Employee
Loans Reg. 4301 - Prescribed rate is set by the CRA
every quarter.

Sec. 80.5 deems interest benefit to be paid

• Important for deduction of interest paid on funds

borrowed to purchase a car for use in employment or
purchase shares of a corporate employer

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 Employee Loans Special Circumstance

ITA 80.4(4) &

(6) - Rate used
is the lesser of:
Home
Purchase The prescribed

Loans
rate in the
quarter the loan If the
was outstanding. prescribed
rate declines,
The prescribed the lower rate
rate in effect at can be used.
the time the loan
was granted.

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 Included in employment income
the amount of the employer loan
Forgiveness of employee loans
net of any payments made by the
employee

Employment
Benefit First $15,000 - not taxable, but

Inclusions Reimbursement of loss on sale of

home:

one-half of any amount above

$15,000 is taxable.

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 Assess the Situation and
Identify the Issues: (2) Analyze the Issues:
Steps to Gather all the facts relating
Based on the information
gathered determine: (3) Conclude and Advise: Assess the

addressing an to the individual’s employee

loan. (a) The amount of interest
impact of your calculation and
advise on the implications, such as:
benefit to be included in
employee employment income. If the
loan is used for several
(a) the amount that may be
deductible under specific
loan different types of purchases,
separate out the
circumstances; and
(b) tax rates applicable to
calculation components of the imputed
interest.
the income.

(b) The total amount, if any,

of the loan that must be
included in income.

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 Two income tax issues arise for employee:

• Nature of the income inclusion: Is it employment

income or capital gain or both?
• The timing of the inclusion

Stock Options
Give rise to three different transactions:

• Granting of the option

• Exercise of option (purchase of shares)
• Sale of shares

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 No cash outlay – provides employer
resources

Employer does not receive any type of

deduction.
Benefits – Stock Employee given opportunity to purchase
Options ownership in company at a set price.

Benefits arise when:

Option Fair Market

<
Price Paid Value
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 Benefits – Stock Options

In-The-Money Options: Stock options of

public companies with an option price
below FMV at the date the option is
granted.

3 Not-In-The-Money Options: Stock options

of public companies with an option price
equal to or greater than the FMV at the
date the option is granted.

Stock options of a CCPC.

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 Type of corporation;

Timing of
inclusion of Whether the employee and
Stock Options employment the corporation were
income depends dealing at arm’s length; and
on:

Relationship of option price

to the FMV of the shares
when the option is granted.

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 • A taxable benefit must be included in
income at the time the option is exercised.

Employment
Income =
FMV at
exercise - Price paid for
the shares

• Any increase (or decrease) in value

Public Company subsequent to purchase
- date is a capital
Stock Options gain or loss.
Capital gain/
Capital loss
= Proceeds on sale
to third party
- FMV at
exercise

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 • A taxable benefit must be included in
income at the time the option is SOLD.

Employment
=
FMV at
- Price paid for
Canadian Income exercise the shares

Controlled • Any increase (or decrease) in value

Private subsequent to purchase date is a capital
Corporation gain or loss.
(“CCPC”) Capital gain/ = Proceeds on sale - FMV at
Capital loss to third party exercise

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 Deduct ½ of employment income inclusion
when calculating taxable income if:

- Options not in the money at Grant

Public date
Special Stock Companies:
Option Deduction deduction if:
Division C –
taxable income - Shares were held for 24 months
[par. 110(1)(d.1)]
CCPC: same OR
deduction if: - The options are not in the money
at the grant date [par. 110(1)(d)]

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 Assess the situation and gather the information
Analyze the issues
-Type of corporation

Steps in -Option price

-FMV at grant date
Determine:
-The timing of the
Conclude on the tax implications
Assess
Approaching a -FMV at Exercise date
-P of D
employment income
inclusion
discuss what happens
in the year the
options are granted, the individual is
Stock Option -The amount to be
includes in
employment income
options are exercised eligible for the
and the options are Division C deduction
sold
Question - and the capital gain

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 Mr. Dietrich, who is employed by Public Co. Ltd., was
granted an option in year one to purchase up to
5,000 common shares at $10 after completion of his
fifth year of employment. The FMV of the common
shares at the time of granting the right was $12. He
does not have any other shares.
During Mr. Dietrich’s seventh year of employment,
Stock Option: he decided to exercise part of his right and
Example purchased 1,000 shares with a FMV of $15 as at that
date.
Three years later, Mr. Dietrich sold the shares for
$25 per share.
Required: Assume Mr. Dietrich has no other capital
transactions in any of the years above, what are the
tax implications of each of the above transactions?
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 What are the tax implications of each of the
above transactions?
When option granted: no tax effect
When option is exercised:
Employment income = 1,000 shares * ($15 - $10) =
Stock Option: $5,000
Public Company ACB of 1,000 = $15 per share
Example No Division C deduction available as the options
were in the money at grant date.
When shares are sold:
Capital gain = 1,000 shares * ($25 - $15) = $10,000

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 How would your answer differ if the option
price was $13 instead of $10?

When option granted: no tax effect

When option is exercised:
Stock Option: Employment income = 1,000 shares * ($15 - $13) =
Public Company $2,000
Example Division C Deduction = ½ * $2,000 = $1,000
ACB of 1,000 = $15 per share
When shares are sold:
Capital gain = 1,000 shares * ($25 - $15) = $10,000

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 How would your answer differ if Mr. Dietrich
was employed by a CCPC?

When option granted: no tax effect

When option is exercised: no tax effect
Stock Option: When shares are sold:
CCPC Example Employment income = 1,000 shares *($15 – $10) =
$5,000
Capital gain = 1,000 shares * ($25 - $15) = $10,000
Eligible for ½ deduction of employment income
inclusion since he held shares for more than 2
years.

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 Automobile
Benefits
An overview

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 To the extent that an
automobile is for There are two
personal use, a taxable components:
benefit results.

ITA 6(1)(e) -
Automobiles Standby
charge, and

ITA 6(1)(k) -
Operating
cost benefit.
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 Standby charge formula:
[2% X (C X D) + 2/3(E – F)]

Original Cost Number of

Owned of the vehicle x 2% x Days Available

Standby Charge 2% X (C X D) Automobile

(GST/HST)
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(no reduction)
Yearly Lease
Leased Cost - insurance x 2/3
2/3(E – F) Cost included in lease

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 • Can be reduced to reflect a low amount of
personal use.
• Reduced when the distance travelled is
primarily for employment duties.

50%
Reduced Standby or more
Charge
• Personal use must be less than 20,004
(1,667 x 12 months) kilometres for the year.

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 A
X [2% X (C X D) + 2/3(E – F)]
B

• Can be reduced to reflect a low amount of

personal use.
• Reduced when the distance travelled is primarily
for employment duties.
Reduced Standby • Personal use must be less than 20,004 kilometres
Charge for the year.
• Multiplying the basic standby charge for either an
owned or a leased vehicle by the following
fraction:

A Lessor of personal KM or other value

B 1,667 Kilometres x [Days available/30]
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 Operating Cost ITA 6(1)(k) -
Alternative
½ of the
Vehicle must be
used primarily
standby charge for work (50%
Benefit – Calculation:
or more)

alternate ITA 6(1)(l) –

Personal
calculation
employer pays
portion of operating portion is
cost for employee taxable benefit.
owned vehicle:

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 Is the car
owned by the
employer or
employee?

Employer Employee

Automobile Is the allowance

Decision Tree Is it primarily

business or
amount
reasonable?

personal use?

Yes - No
taxable No - Amount of
benefit allowance included as
Business Personal income and
use use reasonable expenses
allowed for deduction

Standby Operating Full Operating

charge = benefit = lesser standby benefit=
Standby of 1/2 standby $.34/KM
or $.34/km charge
charge x
Reduction
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 ITA 6(1)(b) - All allowances are taxable, subject to
specific exceptions.

Reimbursements are generally not taxable.

Allowances Allowance refers to:

• a fixed, specified amount that is paid on a regular basis,

• over and above a normal salary,
• to cover certain expenses incurred.

Unique aspect: do not have to account for or provide

details of how it was spent.

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 Three most common:
Allowance
Allowance Allowance
Exceptions for
for for Motor
Travelling
Travelling Vehicles —
Expenses of
Expense of Ordinary
Other
Salesperson Employees
Employees

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 Exception is for sales/negotiating person if:
• Allowance is reasonable;
• Allowance is only for travelling expenses (including
motor vehicle expenses); and
Allowance for • Recipient must be involved in selling of property or
Travelling Expense negotiating of contracts for his/her employer.

of Salesperson Travel expenses include transportation,

meals, lodging, and other incidental costs.

Tax-free allowance are not always

beneficial.

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 • Allowance is reasonable in the
Allowance for circumstances
Travelling • Allowance is for travelling expenses
Expenses of (not including motor vehicle); and
• Recipient must travel away from the
Other area of the employer’s establishment

Employees Other Employees where employee ordinarily worked.

Than Salespersons • The allowance is for the purpose of

Allowance for travelling in the performance of their
duties as employees; and,
Motor Vehicles • The allowance is reasonable
— Ordinary • ITA (6)91)b(vii.1) – Must based solely
on the number of kilometres.
Employees

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 Other Common Forms of Taxable Benefits:

Flexible
benefit
Holiday
Group term Interest- Plans
Rent-free Gifts in trips, Business
life free or low- (depends Financial
or low-rent cash or in prizes, and Club dues trip with
insurance interest on the counselling
housing, kind, incentive spouse
policies loans, nature of
awards
the item
received)

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 That employers will be able to give employees:

it doesn’t exceed $500

AND
1. Long- a separate award may
Service/Anniversary qualify as non-taxable to
Award: the extent: is for a minimum 5 years
of service (then one
CRA Administrative every 5 years after).

Practice – Given to arm’s length

Non-Cash Gifts employee

Combined total value of If total combined value

2. Non-Cash Gifts: $500 or less annually exceeds $500 in a year,
non-taxable excess is taxable

Gift cards may be

considered non-cash if
certain criteria are met

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 Common Expenses:

1
ITA 8(1)(f) - Salespeople’s Expenses
ITA 8(1)(h)/(h.1) – Ordinary Employees Traveling and Motor Vehicle
Deductions from 2 Expenses
Employment ITA 8(1)(i) - Professional and Union Dues, Cost of Supplies
3
Income - No
deductions are 4
ITA 8(1)(j) – Cost of motor vehicles and aircrafts (CCA)

permitted unless ITA 8(1)(m) - Contributions to RPP

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specifically listed
ITA 8 (13) - Works Space in Home
(ITA 8(2)) 6

7
ITA 8(6.1) Eligible tool of tradesperson

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 • Can Claim under:
• 8(1)(f) or
• 8(1)(h) & (h.1)
• 8(1)(f) has more eligible deductions – but limited
to commission income
• 8(1)(h) &(h.1) not limited to commission income.
Salesperson • Must choose one or the other
Expenses

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 Employee’s involved with the selling of property or the
negotiation of contracts are permitted a broader range of
deductions:

Expenses • Advertising and promotional expense

• Travel – airfare, hotel, 50% of meals.
Using
limited to • Telephone – used exclusively to earn
employment income
ITA
commission • Home office cost: insurance and property taxes
8(1)(f)
Salespeople’s
• Automobile costs related to earning

income
employment income

Expenses
• CCA on automobile ITA (8)(1)(j)
Not limited to • Automobile financing costs
• Certain home office expenses such as: utilities,

commission maintenance and repairs, office supplies, long

distance calls,

income:

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 The following items are specifically not deductible:

Expenditures of a capital
Payments for the use of nature that have a long-
Membership fees or
a yacht, camp, lodge, or term benefit, unless
dues in a club,
golf course. listed as an exemption
Salespeople’s to this rule.

Expenses
main purpose to
provide dining,
recreational, or sporting
facilities to its members.

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 • Ordinarily required to carry
employment duties away from
the employer’s place of
business.
Travel Expenses ITA 8(1)(h)/(h.1) - Travel • Employee is required to pay
expenses incurred in the the travel costs, and
Ordinary course of work-related • Has not received a non-taxable
duties provided that the
Employee following circumstances
allowance designed to cover
such costs.
exist:

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 Travel expenses include:
Travel Expenses • Transportation, includes all methods including vehicle costs,
Ordinary • Meals – limited to 50%
• Lodging, and
Employee • All other expenses created by the travel activity.

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 ITA 67.2/67.3 - Vehicle cost, subject to
limitations, include:
• Gas and oil,
• General repairs,
• Insurance,
• Financing costs (interest), and
Travel Expenses • Capital cost or lease costs.

Limitations to Vehicle Costs

• Vehicle cost limited to $37,000.

• Lease cost limited to $1,050 per month.
• Interest Cost limited to $350 per month.
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 Exhibit 3-1 Employee Deduction Provisions

Deduction
Provision
Summary

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 1. The principal place duties
ITA 8(13) - are performed, OR

Permitted only
Work Space when the
in Home
Used exclusively for earning
workspace is employment income, and
either: 2. If first condition not met,
then:
Used on a
regular/continuous basis for
meeting customers or clients.

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Home Office Expenses Commission Other
Expenses Employees Employees

Rent  
Repairs and maintenance  
Supplies  
Telephone  
Utilities  
Home insurance  X
Property taxes  X
Mortgage interest X X

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 • Deductible:
• Annual professional membership dues paid to
maintain standing in a profession recognized by
statute;
• Office rent paid or;
• Salary paid to an assistant;
Dues and Other • Cost of supplies paid; and
Expenses • Annual union membership dues paid.
• Tradesperson tools
• Employee portion of registered pension plans
• Legal expenses

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 Guarantee a predetermined amount of
retirement income

Defined Benefit

Registered Investment risk lies with employer

Pension Two types:

Whatever pension income that the

Plans contributed funds in the plan can

purchase through acquisition of an
annuity (no guarantee of pension
income)
Money-purchase (Defined
Contribution)

Investment risk lies with employee

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 Employers often contribute amounts to a
registered pension plan on behalf of an
employee.

Most RPPs permit (or require) the employee to

contribute an annual amount to the plan.
Registered
Pension Plan ITA 8(1)(m) - Within specified limits,
contributions made by an employee are
Contributions deductible:

2022 2023 2024 2025 2026

$30,780 $31,560 $32,490 $33,810 indexed

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