Source: Revenue Canada web site

Millennium Bug Expenditures

The Department of Finance has released amendments to the Income Tax Regulations (the Regulations) to help small- and medium-sized businesses address the Year 2000 computer compliance problem.

These amendments will allow accelerated capital cost allowance (CCA) deductions of up to $50,000 for small- and medium-sized firms for computer hardware and software they acquire between January 1, 1998, and June 30, 1999, to replace similar property they acquired before 1998 that is not Year 2000 compliant.

Q1. What is the amount of the accelerated CCA?

A1. Under proposed amendments to the Regulations, eligible taxpayers will be entitled to a maximum of $50,000 of accelerated CCA so that eligible expenditures that are made to replace property that is not Year 2000 compliant may be subject to a full write-off for tax purposes in the year the property is acquired. The accelerated CCA can be claimed in any tax year in which eligible expenditures are made. In cases where the eligible taxpayer is part of an associated group, the $50,000 limit has to be shared between members of the group.

Example

On July 1, 1998, Xco purchases new hardware and software to replace its computer system that was acquired in 1987 and is not Year 2000 compliant. The hardware costs $50,000 and the software costs $50,000.

Regular CCA

Accelerated CCA

Q2. How is the accelerated CCA claimed?

A2. To claim the accelerated CCA, an eligible taxpayer has to file a letter with their return for the year in which the eligible property is acquired. The letter should include a description of the property acquired, its cost, the date it was acquired, a description of the non-compliant property it replaces, and the date that the non-compliant property was acquired. The taxpayer must be able to substantiate the basis for the material risk of malfunctioning because of the change to the calendar year 2000.

Q3. Who can claim the accelerated CCA?

A3. The accelerated CCA can be claimed by any eligible taxpayer that provides the letter described above. However, the accelerated CCA cannot be claimed by:

• a large corporation [as defined in subsection 225.1(8) of the Act]; or
• a partnership, any member of which as a large corporation [as defined in subsection 225.1(8) of the Act].

Q4. What expenditures qualify for the accelerated CCA?

A4. To qualify for the accelerated CCA, an expenditure has to meet all of the following requirements. The expenditure has to:

• be made between January 1, 1998, and June 30, 1999;
• acquire property included in:
• paragraph (f) of Class 10; or
• paragraph (o) of Class 12; and
• replace property described in either of these paragraphs that was acquired before 1998 and that has a material risk of malfunctioning because of the change of the calendar year to 2000.

Q5. What types of equipment are covered under paragraph (f) of Class 10 and paragraph (o) of Class 12? Are fax machines, printers, security systems, or other machinery considered?

A5. Paragraph (f) of Class 10 refers to general purpose electronic data processing equipment and systems software, while paragraph (o) of Class 12 includes computer software other than systems software. Fax machines and other office equipment or machinery are not included in either of these paragraphs and are therefore not eligible for the accelerated CCA.

Q6. Does this apply to capital additions to existing property?

A6. Betterments to existing property included in paragraph (f) of Class 10 and paragraph (o) of Class 12 are eligible for the accelerated allowance as long as:

• the expenditure was made between January 1, 1998, and June 30, 1999, to replace property described in either of these paragraphs that was acquired before 1998; and
• the property has a material risk of malfunctioning because of the change of the calendar year to 2000.

Q7. How is the amount of $50,000 shared among an associated group; does an agreement have to be filed?

A7. No agreement has to be filed. However, members of an associated group should agree on the way in which the allowance will be shared. Any part of the allowance that is claimed by a member of an associated group will reduce the amount that another member of the group can claim.

Q8. Does Technical Newsletter number 12 still apply?

A8. Yes, Technical Newsletter number 12, which discusses whether a particular Year 2000 expenditure should be expensed or treated as a capital expenditure, remains relevant. The Department of Finance has indicated, in their backgrounder accompanying the amendments to the Regulations, that expenditures on computer chips and firmware (software that is embedded in a computer chip) made to ensure functionality in the Year 2000 (i.e., a repair) are fully deductible in the year they are incurred.

Q9. I was a member of a partnership during the year. However, now I am not. No acquisitions fitting this description were made before our dissolution, but I now want to take advantage of the accelerated CCA. Are there any restrictions for me?

A9. Partnerships that have a large corporation as a member are not entitled to the accelerated CCA. A taxpayer who, in a particular tax year, is not a member of a partnership would not be prevented from claiming the accelerated CCA. However, the amount of the taxpayer's claim may be restricted if a corporation claimed all or part of the accelerated CCA in a tax year in which the corporation was associated with the taxpayer.

Q10. What happens if I upgrade, i.e., purchase more sophisticated versions of the product that also happen to be Year 2000 compliant? Is only a part of the purchase price allowable?

A10. Whether a less expensive product exists to fix the taxpayer's Year 2000 compliance problem is irrelevant when determining the amount of accelerated CCA. The accelerated CCA is calculated on the basis of the capital cost to the taxpayer of eligible property acquired during the year. However, when determining whether property is eligible, it remains a question of fact as to whether the property was acquired to replace the existing non-compliant property.

Q11. What if my business is operating in a loss position? Can I still claim 100% of the cost of my computer equipment? Can I carry forward the loss?

A11. Businesses operating in a loss position are entitled to claim the allowance. These businesses can also choose not to claim the accelerated CCA and save regular CCA deductions for future years. The accelerated CCA has no effect on the ability of a taxpayer to carry forward any losses, whether or not the losses are created by claiming the accelerated CCA.

Q12. Is this CCA deduction also available to large firms?

A12. A large corporation, as defined in subsection 225.1(8), is not entitled to claim the accelerated CCA. Under that subsection, a large corporation for a particular tax year generally includes a corporation that has to pay the large corporation tax under Part I.3.