The intended result of a tax shelter is the ability to claim a tax deduction equal to a portion of, or in some cases, the entire amount of the investment in a short period. This creates a current loss which reduces other income subject to tax. Investment income will be taxed upon receipt; therefore, taxes otherwise currently payable are deferred until a later year. Where money is borrowed to make the investment, the interest on the loan is also tax deductible.
Tax shelter investment deductions must be specifically identified on your tax return and a tax shelter identification number must be provided. The tax shelter promoter should provide the necessary tax filing forms and amounts for losses or deductions.
Tax shelters are not usually liquid in the short term, and thus are normally considered a medium to longerterm investment. Tax shelter deductions can be limited by the at-risk rules that state in most cases you may not write off more than the cost of your investment.
Limited Partnerships (LPs)
Limited partnerships allow a flow-through of tax losses to the investor while providing limited liability.
LPs are often used for real estate, films or other investments structured as business activities, generally providing a high level of write-off of many of the start-up, financing and arrangement costs, usually referred to as soft costs.
LP investors are taxed on their share of income or loss of the partnership. Cash distributions represent partnership drawings and do not represent taxable income, but reduce the limited partner's ACB.
For partnership interests acquired after February 22, 1994, where a limited or passive partner has a negative
ACB in the partnership interest at the end of a fiscal period of the partnership, a capital gain must be reported. This provision will prevent tax shelter arrangements so that tax-deductible losses are claimed and, subsequently, cash distributions are made which exceed the cost of the partnership interest to the investor.
Revenue Canada takes the position that only the income or loss for prior (not the current) period will be taken into account in determining the ACB of a partnership interest
Real Estate Limited Partnerships
A limited partnership may have the effect of slightly escalating the rate at which CCA can be claimed.
CCA is claimed within the partnership and the financing costs are deducted by the investor. If the investor had acquired the property directly, the financing costs would increase the rental expenses and potentially reduce the permitted claim for the CCA.