• ThumbTax: Damages, Settlements and HST - Is This What Your Client Bargained For?
  • May 2, 2013 | Author: Paul Carenza
  • Law Firm: Cassels Brock & Blackwell LLP - Toronto Office
  • The Goods and Services/Harmonized Sales Tax (HST) applies to virtually all taxable supplies of goods and services made in Canada. Not surprisingly, there are HST considerations whenever there is a payment made as a result of a breach, modification or termination of an agreement for the making of a taxable supply. The payment may even be deemed to be HST-inclusive, such that the payee must remit a portion to the tax authorities. Regardless of whether the payment is made as a result of court-ordered damages, a settlement of litigation, or a negotiated amendment to, or termination of, an agreement, clients need to understand the HST implications. Otherwise, they may not receive the treatment they bargained for.

    In the ordinary course, the supplier of goods or services charges and collects HST from the recipient of the supply and remits the HST to the tax authorities. A recipient of the supply that is engaged in commercial activity is generally able to claim an input tax credit (ITC) to recover the HST paid to the supplier.

    Where a dispute arises between the parties, one party may be ordered, or may agree, to make a payment to the other. Where the payment can be regarded as consideration for a taxable supply of goods and services, the normal HST rules apply and the supplier will be obliged to charge, collect and remit the HST.

    However, the HST also contains an important deeming provision. Section 182 of the HST legislation can deem a payment to be inclusive of HST where:

    • the payment is made as a consequences of a breach, modification or termination of an agreement for the making of a taxable supply;

    • the payment is made by the party that was the recipient of the supply under the agreement; and

    • the payment is made otherwise than as consideration for the original supply.

    Where section 182 applies, the payee is deemed to have collected, and the payer is deemed to have paid, 13/113 of the payment as HST. The payee is required to remit this amount to the tax authorities and the payer may be entitled to claim an ITC in respect of such amount. The deeming provision transforms what might otherwise be regarded as a compensatory payment into a taxable payment and can have a significant impact on the economics of a settlement, as the payee will receive significantly less than it bargained for. Conversely, the payer may be paying significantly less, provided that the payer is entitled to an ITC.

    Instances in which section 182 can have application include:

    • the cancellation of a contract for services that results in the purchaser paying an amount to the service provider;

    • the breach of a contact for the sale or lease of property that results in the purchaser/lessee paying an amount to the seller;

    • a liquidated damages clause in an agreement; and

    • a dispute resulting in the substitution of one agreement for another.

    The CBB Tax Group can suggest ways in which to manage the exposure to these HST consequences and to ensure that clients get what they bargained for.