The Amount for Eligible Dependent is a tax credit commonly referred to as simply the "AED", and formerly known as the Equivalent to Spouse tax credit. It can result in substantial tax savings afforded to people who are not living with nor claiming a spouse or common-law partner. In 2016 there were two relatively important Tax Court of Canada decisions relating to the AED. These cases might affect your practice and how you draft separation agreements, child support orders, and divorce judgments in shared parenting arrangements, especially if you haven’t heard of the AED issue before. I’m a tax nerd, so I thought I’d pass on my thoughts. There are precedents towards the bottom, but I think it’s important to understand the pitfalls where the AED may be disallowed so that your clients don’t complain about drafting, and where there are opportunities to use the AED during negotiations.
Background. The AED is a non-refundable federal tax credit, which for the 2016 tax year would have generally resulted in a tax savings of $1,721.10, or higher when combined when combined with a corresponding provincial credit (e.g. combined tax savings of a sizeable $3,566.20 using Alberta’s wholly eligible dependent credit). The issue is that a person who pays child support generally can't claim the AED, unless both are paying support, and even then, the courts have taken a very strict approach that disallows the AED where the order/agreement refers to a "net" amount in any way. This means that in shared/split parenting arrangements where the parents want to share the AED, the agreement/order has to state that parent A pays $X to parent B each month, and parent B pays $Y to parent A each month.
Legislation. Why is this the case? Section 118(5) of the Income Tax Act disallows a claim for the AED where a person is obligated to pay child support, but s. 118(5.1) states that subsection 5 can be ignored where it would result in neither parent being able to claim the AED (i.e. where both parents are required to pay child support, as in some shared and split parenting arrangements). Section 118(4) prohibits two people from claiming the same child, and it may only be claimed for one dependent spouse or child. There are exceptions, such as ill or disabled dependents and non-resident taxpayers.
Case law. In relation to shared parenting arrangements, several cases have strictly interpreted the ITA such that the AED is disallowed where agreements/orders only refer to a “set-off” or “net” child support payment, due to the theory that such language means only one parent is obliged to pay child support (eg Ochitwa v The Queen, 2014 TCC 263; Belway v The Queen, 2015 TCC 249; Verones v Canada, 2013 FCA 69). However, there does not appear to be the same issue where an order or agreement otherwise states that each parent shall pay child support to the other, without using set-off terminology. The distinction seems arbitrary, however, the courts have strictly enforced the language of the Income Tax Act.
What are the concerns when representing the lower income parent? You’re unlikely to run into issues with respect to the federal credit where you represent the lower income client, since either s. 118(5) or s. 118(5.1) necessarily has to apply to them, unless the other parent also claims the AED. In some provinces, splitting the AED might actually backfire in that case and disallow the provincial credit for both parents. For example section 8(2) of the Alberta Personal Income Tax Act applies s. 118(5) (no person paying support may claim the AED) but does not incorporate s. 118(5.1) (exception where neither parent would be able to claim the AED), although to my knowledge there are no reported decisions or published positions relating to Alberta’s credit. Sharing the AED might also be unnecessary if it has already been taken into account in SSAG calculations and the parties’ incomes are being equalized, given that the "with child" formula refers to net income and ChildView allocates the AED to the lower-income parent.
When might splitting the AED be beneficial? An apportioning of the AED might be beneficial where the parents want to share all tax credits equally. The challenge is enabling the higher income client to share in the AED, especially where spousal support is not payable or on the low end of the range, where the other spouse’s income is so low that they wouldn’t gain any benefit from the AED in any event (in 2017, if their gross income excluding child support is less than $11,635, although depending on their province, even at incomes close to $30,000 they may not be receiving the full tax reduction), or where they are otherwise ineligible to claim the AED in relation to a child of the relationship/marriage (for example if they are are living with or claiming a new spouse, common-law partner, or a child from another relationship).
Harder. In September 2016 the Tax Court of Canada rendered its decision in Harder v R, 2016 TCC 197. In this case, the table amounts that each parent would pay were listed in separate paragraphs, except the document also broke down child support calculations, and listed an “offset” amount, as well as a deviation from the Guidelines such that the parties would have a 49%/51% share of income (which meant they weren’t actually relying upon the table amounts). Although referring to an "offset" amount would have been enough to disallow the AED, the Honourable Mr. Justice Bocock added that both parents must “factually pay to the other an amount of child support”, elaborating:
9 What constitutes actual or factual payment by both parents to each other has been enunciated to include child support, in the case of split custody (as opposed to shared parenting), where each parent paid a support amount when the child was in that parent's care (Rabb v. R., 2006 TCC 140 (TCC [Informal Procedure])). Implicitly, it likely also occurs in shared parenting arrangements where the court order references actual payments to be made by each parent to the other (by way of obiter dictum in Ochitwa v. R., 2014 TCC 263 (TCC [Informal Procedure]) at paragraph 14). Lastly, the dependent deductions are available where the parents adjust child support payments based upon further arising expenses, then distinctly pay the moneys to the other and reflect these amounts in a clear, written agreement mandatorily obligating such payment (the subject of an oral decision of Justice Lyons, delivered April 27, 2016 and to be published shortly in redacted format as AB v Her Majesty the Queen).
10 All of these decisions or situations involve a mandatory requirement for each parent to pay an amount reflected in a court order or formal agreement marching along with conclusive evidence of actual payment being made. It does not include the expeditious use of a computer software programme, the culmination of which is a unilateral payment of a support amount by only one parent to the other.
11 The practising family law Bar should take note. The engagement of the combined effect of subsections 118(5) and 118(5.1), at a minimum, requires a comprehensive documentary and evidentiary record. If separating spouses, seeking joint custody, wish to avail themselves of a dependent deduction for both spouses in such situations, surely family law lawyers can deploy their usual flexible skills to ignore the set off provisions within the paradoxically named "Divorce Mate" for a brief moment and mandate and effect actual periodic payments by both spouses to each other in cases of shared parenting of two or more children. Surely cheques, or even their more modern replacement of recurring e-transfers, may evidence a clearly enumerated, reciprocal and mandatory support amount paid by each spouse to the other.
The reference to Ochitwa is consistent with prior jurisprudence, however due to the use of the terms “actual” and “factual”, as well as the last sentence, is not clear whether “a comprehensive documentary and evidentiary record” requires evidence of actual payment of the full table amounts by each parent, such as cheques or e-transfers. Or it may be that such evidence is merely an alternate means of allowing the AED even where it is unclear from the wording of an order or agreement whether both parties are obliged to pay support. Despite the terminology used, I suspect the latter is the case. Each parent making payments each month seems impractical, potentially harmful to cash flow, and prone to unfairness where one parent pays their full table amount but the other doesn’t.
Leinweber. In November, judgement was delivered in Leinweber v The Queen, 2016 TCC 253. Here, the original separation agreement only referred to “offset child support”, and not the distinct amounts payable by each parent, following wich the AED was, unsurprisingly, disallowed. The parties then obtained a Variation Order setting out both parents’ obligations, but it still referred to a “net” amount. Given prior jurisprudence, it was unsurprising that the CRA disallowed the AED. However, what is of note is that the Honourable Madam Justice Miller of the Tax Court of Canada stated “The recipient of a support amount must have the discretion to use the amount as he pleases”, which neither the Agreement nor Variation Order satisfied, and so the AED remained disallowed. As section 56.1(4) refers to the recipient’s “discretion” over use of the funds when defining a “support amount”. The concept of “discretion” was referred to several times in this decision, although the use of a net payment appears to have been sufficient to disallow the AED.
Where does that leave us?
Clearly there shouldn’t be any mention of “net” amounts, an “offset”, or “set-off” in any agreement or order.
Given the CRA’s position against references to the Guidelines, and Harder’s admonishment against a reference to software such as DivorceMate, there also shouldn’t be any reference to any calculation being pursuant to DivorceMate, ChildView, or the Guidelines, unless referring to a deviation or possibly section 9 of the Guidelines (still, without using set-off terminology).
If you’re deviating from the Guidelines, show the adjusted table amounts only, not the adjusted set-off amount, so that you don’t run into the same issue as in Harder.
It’s probably still be safe to repeat a statement along the lines of “For convenience only, Christine agrees that Nicholas does not have to write her a monthly cheque and that she will simply pay him $100 a month, which will fulfill both their support obligations”, as contained in the CRA examples (although not identified as precedents), and as recommended by Michelle Bailey at LESA’s Family Law 25 seminar last March before these cases were published.
Harder seems to suggest that both parents could make actual payments of their respective table amounts to each other every month to assist in legislative compliance, however actual evidence of distinct monthly payments by both parents is far from a common position in the courts, and does not appear to be required by the CRA. Actual payments probably aren’t required, and it’s unlikely that the parties would agree to each pay their respective table amounts, but out of an abundance of caution you could tell clients that doing so would increase their chances of the AED being allowed, especially where they have indicated that dividing the AED is important.
If there are multiple children, the AED for each child should be allocated to a different parent in the agreement or order.
It may instead be more practical to offer to let only one parent claim the AED, to bargain for a more favourable spousal support arrangement or other benefit, especially since allocating the AED to the lower-income parent in particular significantly reduces the risk of it being disallowed. Conversely, as discussed above, in some cases it may be advantageous for the higher-income parent to claim the entire amount.
None of this affects the Canada Child Benefit, eligible parents exercising shared parenting can still claim their 50%.
Sharing the AED may not be appropriate in some circumstances, set out above.
The agreement precedent which I will be using in most cases follows, although in provinces outside of Alberta there may be different procedural requirements:
[Do not use if AED already allocated to lower-income parent in SSAG calculations and income being equalized. May not want to use these clauses if representing the lower-income parent. If either parent has a spouse, common-law partner, or a child from another relationship that they’re already claiming, a new spouse or common-law partner that they're living with, or their income is low, especially less than $11,635 (2017), then they may not benefit from the AED in any event.
Based upon the shared parenting arrangements set forth herein, and the parties’ Guideline incomes, #OTHERNAME# shall pay Section 3 Child Support to #CLIENTNAME#, in the amount of $########### per month, and #CLIENTNAME# shall pay Section 3 Child Support to #OTHERNAME# in the amount of $########### per month, both obligations commencing on the first day of #########, 20##, and continuing on the first day of each month thereafter until the children are no longer children of the marriage as defined by the Divorce Act (Canada).
[Consider placing in preamble] The parties acknowledge that they shall each maintain the discretion to allocate the respective child support payable to them, and for convenience only, the parties acknowledge that they have directed each other, outside of this agreement, that #OTHERNAME# shall not be required to provide a cheque each month, instead there shall only be one payment of $######## per month payable by #CLIENTNAME# to #OTHERNAME#, which shall fulfill both of their support obligations.
[if one child] Only #CLIENTNAME# may claim the Amount for Eligible Dependent tax credits (the “AED”) with respect to #CHILD# in even-numbered tax years, and only #OTHERNAME# may claim the AED with respect to #CHILD# in odd-numbered tax years, unless the party otherwise claiming the AED is ineligible to claim the AED in relation to the Child in any such year. If either party incurs tax liability as a result of the other party’s non-compliance with this paragraph, the non-complying party shall indemnify the other party to the extent of any such liability incurred.
[if multiple children. Children referred to should be the two youngest.] Only #CLIENTNAME# may claim the Amount for Eligible Dependent tax credits (the “AED”) with respect to #CHILD1#, and only #OTHERNAME# may claim the AED with respect to #CHILD2#, unless the party otherwise claiming the AED is ineligible to claim the AED in relation to that child in any given year. If either party incurs tax liability as a result of the other party’s non-compliance with this paragraph, the non-complying party shall indemnify the other party to the extent of any such tax liability incurred. If at the end of any taxation year only one child remains under the age of 18 years, only #CLIENTNAME# may claim the AED with respect to the child in even-numbered tax years, and only #OTHERNAME# may claim the AED with respect to the child in odd-numbered tax years, unless the party otherwise claiming the AED is ineligible to claim the AED in relation to such child in any such tax year.
In an order or judgment, the content starting at and following “The parties acknowledge” should probably be placed in the preamble to confirm agreed terms, or omitted if they’re already in an agreement.
Thanks for this. I appreciate the wording that you are going to use to try to address this problem. I wonder whether it would be worthwhile to split the part that begins "the parties acknowledge that they shall each maintain the discretion ..." Into a separate paragraph. That way you might have the argument that the one payment (not a net amount – forbidden!) Is a different agreement, separate and distinct from the obligation to pay.
It might just be arguing semantics, what do you think?
It definitely wouldn't hurt to do that, that's a great suggestion Bruce. I had decided to leave the sentences in larger clumps just so that which sentences applied to one child, and which applied to multiple, would be more obvious. That way inapplicable sentences would be less likely to be inadvertently left in.