August 25, 2020
By Selena Ing , Associate and Felix Wu, Associate, Farber Tax Law
Millions across Canada have been adversely affected by the COVID-19 pandemic, leaving many individuals temporarily laid off or jobless. In response, the Federal Government instituted the Canada Emergency Response Benefit (the “CERB”) in order to provide temporary financial support to workers who have stopped working as a result of COVID-19.
To be eligible for the CERB, an applicant must meet the following criteria (the “Qualification Criteria”):1
- the worker must be a resident of Canada and at least 15 years old;
- the worker must have stopped working due to reasons related to COVID-19, or are eligible for Employment Insurance (“EI”) regular or sickness benefits, or have exhausted EI regular/fishing benefits between December 29, 2019 and October 3, 2020;
- the worker had employment and/or self-employment income of at least $5,000 in 2019 or in the 12 months prior to the date of their application; and
- the worker did not quit their job voluntarily.
An applicant cannot have earned more than $1,000 in employment and/or self-employment income for 12 or more consecutive days within the four-week benefit period of their first claim. On a subsequent claim, an applicant cannot have earned more than $1,000 in employment and/or self-employment income for the entire four-week benefit period of the new claim (the “Income Threshold”).As of August 16, 2020, Service Canada and the Canada Revenue Agency (the “CRA”) have estimated that there have been approximately 8.62 million unique applicants who have applied for the CERB benefit, and approximately $70.03 billion total dollar value of the CERB benefits paid.2
The CERB is a taxable benefit, and the Federal Government will issue a T4A tax slip on the amounts received by a taxpayer.3 Therefore, the expectation is that a CERB recipient will report their CERB benefits on their tax returns for the 2020 tax return, which will likely be due in the following April.
The Canadian government has recently stated that CERB is ending on October 3, 2020, when the benefits will be transitioned to EI thereafter.4 Following the end of the CERB program, the CRA will begin auditing recipients of CERB to ensure that there was not any deliberate non-compliance or misuse of the program. Risk assessment tools and random sampling methodology will likely be used to select a range of files to be audited.
Auditors from the CRA will likely be closely reviewing the income tax return of many CERB recipients for the 2020 taxation year to determine whether:
- the recipient of the CERB benefit had in fact met the Qualification Criteria; and
- the recipient remained within the Income Threshold and earned $1,000 or less in employment and/or self-employment income for:
- 12 or more consecutive days within the four-week benefit period of their first claim; or
- for the entire four-week benefit period of any subsequent claims.
Following an audit from the CRA, any taxpayer who has not met the Qualification Criteria or surpassed the Income Threshold will likely be retroactively disqualified from CERB and will be asked to repay the amounts received with interest and, in some cases, penalties.Recipients of CERB partaking in day trading should be particularly wary, since the CRA may re-characterize the gain from the disposition of the securities sold as business income instead of capital gains. Business income constitutes as self-employment income, which may disqualify your CERB eligibility if you are above the Income Threshold.
Capital Gains vs. Business Income – Could you be considered a “trader”?Under subsection 38(a) of the Income Tax Act (“ITA“), capital gains are taxable at a 50% rate. According to subsection 248(1) of the ITA, a capital gain or loss can include the sale of property, including stocks and bonds. Subsection 39(4) of the ITA generally allows a taxpayer to elect from the gains or losses from the disposition of Canadian securities to be taxed as capital property, and therefore at a 50% rate. For these reasons, Canadians may assume that any trading activity, such as buying and selling, calling and putting, exercising options, is treated and can be reported as a capital gain.
However, upon a CRA audit, the gains from the disposition of securities made by a taxpayer may be recharacterized as business income in cases where the CRA believes the taxpayer was selling the securities as a business or adventure or concern in the nature of trade and/or the taxpayer acted as a “trader or dealer in securities”.
Adventure or Concern in the Nature of TradeA taxpayer’s gain from the disposition of securities may be considered on account of “business” based on the manner in which they conduct their activities. Per subsection 248(1) of the ITA, a “business” includes an “adventure of concern in the nature of trade”. The test for this is based on commerciality. In the leading case of Stewart v The Queen, 2002 SCC 46 (“Stewart“), the Supreme Court of Canada stated that a taxpayer’s activities will constitute a source of business income if:
- the taxpayer’s activity is undertaken in pursuit of profit, rather than a personal endeavour; and
- if not a personal endeavour, the source of the income comes from a business.
If the activity is clearly business related and has no personal element, it will be held as business income. However, where a taxpayer is engaging in an activity that could be construed as either a hobby/personal pursuit or a business (e.g. day trading), the amounts earned will only be considered income if it can be proven that the activity was undertaken in a commercial manner. Factors to be considered are:
- the profit and loss experience in past years;
- the taxpayer’s training in the activity;
- the taxpayer’s intended course of action in engaging in the activity; and
- the capability of the venture to show a profit.
Although some taxpayers may claim that their trading activities are merely hobbies, a CRA audit may conclude based on a review of the trading account history, the individual’s prior experience with trading, and their intended reasoning behind their day trading activity as factors demonstrating sufficient commerciality for the earnings to be taxed as business income.
Trader or Dealer in SecuritiesNotwithstanding the test outlined in Stewart, some individuals may attempt to dissuade the CRA from characterizing their trading activity as business income through the filing of a T123 Election on Disposition of Canadian Securities Form, thereby electing for the amounts to be treated taxed as capital gains under subsection 38(a) of the ITA.
However, under paragraph 39(5)(a) of the ITA, a “trader or dealer in securities” cannot elect for the tax treatment. A “trader” must report any gain or loss from the disposition of their securities as business income or loss.
While the term “trader or dealer in securities” is not defined in the ITA, case law has established numerous factors to determine whether an individual is in fact a “trader”. Understandably, a taxpayer who makes it their profession to buy and sell securities (e.g. a trader employed at financial firm, etc.) would qualify as a “trader”, although there is no requirement for a “trader” to possess any formal registration or license by any regulatory authority to buy and sell securities. Per Kane v The Queen,  1 CTC 1, the differentiating factor is whether the taxpayer possesses a particular or special knowledge of the market which distinguishes them “from the common risk takers who play the market regularly or sporadically based on commonly available advice and information”.
More generally, factors which may allow the CRA to hold a taxpayer as a “trader” under paragraph 39(5)(a) of the ITA were first enumerated in Vancouver Art Metal Works Ltd. v The Queen,  2 FC 179 (“Vancouver Art“), and listed in CRA Information Bulletin IT-479R Transactions in Securities:
- Frequency of Transactions: a taxpayer who engages in very frequent and consistent trading is more likely to be a “trader” than an individual who engages sporadic trading activity with no activity over multiple trading days.
- Duration of Holdings: a taxpayer who holds their investments for a short period of time before selling the security for a profit (e.g. margin or day trading) is more likely to be qualified as a “trader”, as opposed to an individual who holds their security for a longer duration as a long-term investment.
- Intention to Acquire for Resale as a Profit: a taxpayer who purchases investments with the intention of reselling for a profit margin will likely be considered a “trader”. Conversely, taxpayers who purchases securities for the purpose of gaining profits through capital appreciation or dividends is less likely a “trader”. While most taxpayers will aim to sell their investments for a profit, the mere existence of a gain on sale does not immediately qualify a taxpayer as a “trader”.
- Nature and Quantity of Securities Held: a taxpayer with a portfolio of high volatility stocks (e.g. low cap stocks and penny stocks) with potential for quick sale with gain on margin will likely be considered a “trader”, as opposed to a taxpayer with a portfolio of low risk investments (e.g. “blue chip” stocks and bonds). When considering this factor, the CRA will also consider the size of the portfolio: a taxpayer who holds or engages in transactions with a large portfolio is more likely to be considered a “trader” than an individual with a small portfolio.
- Time Spent on Activity: a taxpayer who spends limited time on their trading activity is less likely be considered as a “trader” in comparison to a taxpayer who spends a considerable amount of time researching the markets, executing their trades and monitoring their accounts throughout the day.
Unlike Stewart, a taxpayer is characterized as a “trader” and disqualified from making an election on capital gains based specifically on how they treat their trading activity. While no factor as listed in Vancouver Art is determinative, the auditor will likely review the information holistically. Taxpayers who qualify under multiple characteristics, such as individuals who engage in frequent trading transactions with short holding periods with the intention of earning quick profits will more likely be denied the chance to make an election and will be forced to report the amounts as business income.
With the end of the CERB program nearing, the CRA will soon be auditing recipients to ensure their compliance with the Qualification Criteria and the Income Threshold. Throughout the administration of the program, the CRA has indicated that it will scrutinize applicants, and may engage in audit activity for verification purposes. For these reasons, applicants who have expanded hobbies into alternative revenue streams must be especially mindful of the Income Threshold, as their new earnings may be deemed as business income upon a CRA audit. Although day traders in particular may want to elect to dispose securities as capital gains using a T123 Form, the CRA, under paragraph 39(5)(a) of the ITA, may deem investors who engage in high-frequency and volatile investment trading as “traders” and the gains from the disposition of the securities will be recharacterized as business income.
Since business income constitutes as self-employment income, individuals partaking in any business-like activities above the Income Threshold may be disqualified from CERB and forced to repay their CERB benefits with interest and, in some cases, penalties.
 “Canada Emergency Response Benefit (CERB)”, Government of Canada, accessed online on August 24, 2020: <https://www.canada.ca/en/services/benefits/ei/cerb-application.html#eligible>.
 “CERB: Return or repay a payment”, Government of Canada, accessed online on August 24, 2020: <https://www.canada.ca/en/revenue-agency/services/benefits/apply-for-cerb-with-cra/return-payment.html#h3>.
 “Questions and Answers on the Canada Emergency Response Benefit”, Government of Canada, accessed online on August 24, 2020: <https://www.canada.ca/en/services/benefits/ei/cerb-application/questions.html>.