2023 Federal Budget: Business Tax Measures

Investment Tax Credit for Clean Hydrogen

Following on the government’s announcement in the 2022 Fall Economic Statement, the budget proposes to introduce a refundable investment tax credit for clean hydrogen (Hydrogen ITC), essentially for the purchase and installation of equipment that is acquired (and becomes available for use) after March 27, 2023 and before 2034, and that produces hydrogen from:

electrolysis, or
natural gas, so long as emissions are abated using carbon capture, utilization, and storage (CCUS)

The rate of the Hydrogen ITC would be 15%, 25% or 40%, depending on the assessed carbon intensity (CI) of the hydrogen that is produced.

The Hydrogen ITC would be phased out starting in 2034 and would be fully phased out for property that becomes available for use after 2034.

Equipment required to produce hydrogen from electrolysis would be eligible if all or substantially all of the use of that equipment is to produce hydrogen through electrolysis of water, including electrolysers, rectifiers and other ancillary electrical equipment, water treatment and conditioning equipment, and equipment used for hydrogen compression and on-site storage.

Equipment required to produce hydrogen from natural gas with emissions abated using CCUS would be eligible for the Hydrogen ITC, excluding certain equipment which is eligible for the CCUS ITC.

Equipment that is eligible for the Hydrogen ITC would need to be made available for use in Canada.

Property that is required to convert clean hydrogen to clean ammonia would also be eligible for the Hydrogen ITC, at the lowest credit rate of 15%. A description of eligible clean ammonia equipment, as well as specific conditions that would apply, will be provided at a later date.

Certain labour requirements must be satisfied to qualify for the full Hydrogen ITC; these requirements are discussed in the section “Labour Requirements Related to Certain Investment Tax Credits,” below.

Eligible investments would be subject to a verification and compliance process, the details of which will be provided at a later date.

Businesses would be able to claim only one of the Hydrogen ITC, the CCUS ITC, the Clean Tech ITC, the Clean Electricity ITC or the Clean Tech Manufacturing ITC (all of which are discussed below), if a particular property is eligible for more than one of these tax credits. However, multiple tax credits could be available for the same project, if the project includes different types of eligible property. Businesses would be able to fully benefit from both the Hydrogen ITC and the Atlantic Investment Tax Credit.

The budget also announced that the government will continue to review eligibility for other low-carbon hydrogen production pathways.

Clean Technology Investment Tax Credit – Geothermal energy

The 2022 Fall Economic Statement proposed the Clean Tech ITC, a 30% refundable tax credit that would be available to businesses investing in eligible property that is acquired and that becomes available for use on or after Budget Day (i.e. after March 27, 2023). Certain labour requirements (which are discussed below) must be satisfied to qualify for the full ITC.

The budget proposes to expand eligibility of the Clean Tech ITC to include geothermal energy systems that are eligible for Class 43.1 of Schedule II of the Income Tax Regulations, and which have not been used for any purpose before their acquisition.

Eligible property would include equipment used primarily for the purpose of generating electricity and/or heat solely from geothermal energy, that is described in subparagraph (d)(vii) of Class 43.1. This includes, but is not limited to, piping, pumps, heat exchangers, steam separators, and electrical generating equipment.

Equipment used for geothermal energy projects that will co-produce oil, gas or other fossil fuels would not be eligible for the credit.

The budget also proposes to modify the phase-out schedule of the Clean Tech ITC announced in the 2022 Fall Economic Statement. Rather than starting the phase-out in 2032, the credit rate would remain at 30% for property that becomes available for use in 2032 and 2033 and would be reduced to 15% in 2034. The credit would be unavailable after 2034.

Investment Tax Credit for Clean Technology Manufacturing

The budget proposes to introduce a refundable investment tax credit for clean technology manufacturing and processing, and critical mineral extraction and processing (Clean Tech Manufacturing ITC), equal to 30% of the capital cost of eligible property associated with eligible activities.

Investments by corporations in certain depreciable property that is used all or substantially all for eligible activities would qualify for the credit. Eligible property would generally include machinery and equipment, including certain industrial vehicles, used in manufacturing, processing, or critical mineral extraction, as well as related control systems.

Tax integrity rules would apply to recover a portion of the tax credit if eligible property is subject to a change in use or is sold within a certain period of time.

Eligible activities related to clean technology manufacturing and processing would be:

manufacturing of certain renewable energy equipment (solar, wind, water, or geothermal)
manufacturing of nuclear energy equipment
processing or recycling of nuclear fuels and heavy water
manufacturing of nuclear fuel rods
manufacturing of electrical energy storage equipment used to provide grid-scale storage or other ancillary services
manufacturing of equipment for air- and ground-source heat pump systems
manufacturing of zero-emission vehicles, including conversions of on-road vehicles
manufacturing of batteries, fuel cells, recharging systems, and hydrogen refuelling stations for zero-emission vehicles
manufacturing of equipment used to produce hydrogen from electrolysis
manufacturing or processing of upstream components, sub-assemblies, and materials provided that the output would be purpose-built or designed exclusively to be integral to other eligible clean technology manufacturing and processing activities, such as anode and cathode materials used for electric vehicle batteries

In addition, eligible activities would also include extraction and certain processing activities related to certain critical minerals essential for clean technology supply chains: lithium, cobalt, nickel, graphite, copper, and rare earth elements. This could include activities both before and after the prime metal stage or its equivalent.

Businesses would be able to claim only one of the Clean Tech Manufacturing ITC, the Clean Tech ITC, the Clean Electricity ITC, or the Clean Hydrogen ITC, if a particular property is eligible for more than one of these tax credits. However, they can claim both the Atlantic Investment Tax Credit and the Clean Tech Manufacturing ITC.

The Clean Tech Manufacturing ITC would not be available for property used in the production of battery cells or modules if such production benefits from direct support through a Special Contribution Agreement with the Government of Canada.

The Clean Tech Manufacturing ITC would apply to property that is acquired and becomes available for use after 2023; it would be gradually phased out starting with property that becomes available for use in 2032, and would no longer be in effect for property that becomes available for use after 2034.

Investment Tax Credit for Clean Electricity

The budget proposes to introduce a refundable clean electricity investment tax credit (Clean Electricity ITC) of 15% for eligible investments in:

non-emitting electricity generation systems: wind, concentrated solar, solar photovoltaic, hydro (including large-scale), wave, tidal, nuclear (including large-scale and small modular reactors)
abated natural gas-fired electricity generation (which would be subject to an emissions intensity threshold compatible with a net-zero grid by 2035)
stationary electricity storage systems that do not use fossil fuels in operation, such as batteries, pumped hydroelectric storage, and compressed air storage
equipment for the transmission of electricity between provinces and territories

Both new projects and the refurbishment of existing facilities will be eligible.

Taxable and non-taxable entities, such as Crown corporations and publicly owned utilities, corporations owned by Indigenous communities, and pension funds, would be eligible for the Clean Electricity ITC.

The Clean Electricity ITC could be claimed in addition to the Atlantic Investment Tax Credit, but generally not with any other investment tax credit.

The Clean Electricity ITC would be available as of the day of the 2024 budget, for projects that did not begin construction before the day of the 2023 budget. The Clean Electricity ITC would not be available after 2034.

Labour requirements (discussed below) must be met to qualify for the full Clean Energy ITC. To access the tax credit in each province and territory, other requirements will include a commitment by a competent authority that the federal funding will be used to lower electricity bills, and a commitment to achieve a net-zero electricity sector by 2035.

The budget states that the Department of Finance will engage with provinces, territories, and other relevant parties to develop the design and implementation details of the Clean Electricity ITC and that the government will also conduct targeted consultations on the possibility to introduce reciprocal treatment in light of some of the eligibility conditions associated with certain tax credits under the U.S. Inflation Reduction Act. With respect to intra-provincial transmission, the government will consult on the best means, whether through the tax system or in other ways, of supporting and accelerating investments in projects that could be considered critical to meeting the 2035 net zero objective.

Investment Tax Credit for Carbon Capture, Utilization, and Storage

The 2022 budget proposed a refundable investment tax credit for carbon capture, utilization, and storage (CCUS ITC) that would be available to businesses that incur eligible expenses starting on January 1, 2022. The budget proposes additional design details in respect of the CCUS ITC, and states that further details will be included in legislative proposals to be released in the coming months.

The main areas dealt with in these budget proposals are in respect of:

dual use heat and/or power and water use equipment
dedicated geological storage in British Columbia
validation of concrete storage processes
a recovery calculation in respect of refurbishment property

Businesses would be able to claim only one of the CCUS ITC, the Clean Tech ITC, the Clean Electricity ITC, or the Hydrogen ITC, if a particular property is eligible for more than one of these tax credits.

Draft legislative proposals related to these measures are included in the Notice of Ways and Means Motion accompanying the budget.

These measures would apply to eligible expenses incurred after 2021 and before 2041.

Labour requirements related to certain investment tax credits

The 2022 Fall Economic Statement announced the government’s intention to attach prevailing wage and apprenticeship requirements (together referred to as “labour requirements”) to the proposed Clean Tech ITC and the Hydrogen ITC. The government also proposes to have these requirements apply to the proposed Clean Electricity ITC.

In order to qualify for the 30% rate under the Clean Tech ITC, the labour requirements would need to be met. A 20% rate would be available to businesses that do not meet the labour requirements.
Under the Hydrogen ITC, credit rates will vary across different CI tiers, as discussed above. If a business does not meet the labour requirements, the credit rate for each CI tier will be reduced by ten percentage points.
In order to qualify for the 15% Clean Electricity ITC (discussed below), the labour requirements would need to be met. A 5% would be available if the labour requirements are not met.
During the phase-out periods of the Clean Tech ITC and the Clean Hydrogen ITC, if a business does not meet the labour requirements, the tax credit rate available would be reduced by ten percentage points.
The government also intends to apply labour requirements to the CCUS ITC, the details of which will be announced at a later date.

The labour requirements would apply in respect of workers engaged in project elements that are subsidized by the respective investment tax credit, whether they are engaged directly by the business or indirectly by a contractor or subcontractor. The labour requirements would apply to workers whose duties are primarily manual or physical in nature (e.g. labourers and tradespeople). The labour requirements would not apply to workers whose duties are primarily administrative, clerical, supervisory, or executive.

To meet the prevailing wage requirement, a business would need to ensure that all covered workers are compensated at a level that meets or exceeds the relevant wage, plus the substantially similar monetary value of benefits and pension contributions (converted into an hourly wage format), as specified in an “eligible collective agreement”. Standard benefits would include health and welfare and vacation benefits. A business could meet the prevailing wage requirement either by paying workers in accordance with an eligible collective agreement, or by paying workers at or above the equivalent prevailing wage. The requirement could be satisfied through different combinations of wages, pension contributions and benefits.

To meet the apprenticeship requirement, a business would need to ensure that for a given taxation year, not less than 10% of the total labour hours performed by covered workers engaged in subsidized project elements be performed by registered apprentices. Covered workers are those whose duties correspond to those performed by a journeyperson in a Red Seal trade.

This would be subject to the restriction that at no point could there be more apprentices working than are allowed under applicable labour laws or a collective agreement that applies to the work being performed.

Under the Clean Tech ITC, exemptions from the labour requirements would apply in respect of acquisitions of zero-emission vehicles and acquisitions and installations of low-carbon heat equipment.

Businesses could pay corrective remuneration to workers (including interest) and pay penalties to the Receiver General to resolve non-compliance and be deemed to have satisfied the requirements. The budget states that further details of this mechanism will be announced at a later date.

The budget also states that the government will consult with labour unions and other stakeholders to refine these labour requirements in the months to come.

These requirements would apply to work that is performed on or after October 1, 2023.

Zero-emission technology manufacturers

The 2021 budget introduced a temporary measure to reduce by one half corporate income tax rates for qualifying zero-emission technology manufacturers. The budget proposes to expand it to income from the following nuclear manufacturing and processing activities:

manufacturing of nuclear energy equipment
processing or recycling of nuclear fuels and heavy water
manufacturing of nuclear fuel rods

This expansion of eligible activities would apply for taxation years beginning after 2023.

Furthermore, the budget proposes to extend the availability of the reduced rates for all eligible activities by three years.

Flow-through shares and Critical Mineral Exploration Tax Credit – Lithium from brines

The budget proposes to include lithium from brines as a mineral resource, such that eligible corporations can issue flow-through shares and renounce expenses in respect of these resources to their investors. The proposal also includes the expansion of the critical mineral exploration tax credit (CMETC) – a 30% non-refundable tax credit announced in the 2022 budget – to this resource.

Eligible expenses related to lithium from brines made after March 28, 2023 would qualify as Canadian exploration expenses and Canadian development expenses. The expansion of the eligibility for the CMETC to lithium from brines would apply to flow-through share agreements entered into after March 28, 2023 and before April 2027.

Scientific research and experimental development (SR&ED)

No details of the previously announced SR&ED program review were announced in the budget. However, it was stated that the Department of Finance will continue to engage with stakeholders on the next steps in this process, including the consideration of adopting a patent box regime, in the coming months.

Tax on equity repurchases

The budget includes details on the proposed 2% tax on share repurchases by public corporations, which was first announced in the 2022 Fall Economic Statement.

This tax will apply to Canadian-resident corporations that have publicly listed equity, other than mutual fund corporations. It will also apply to equity repurchases by certain other publicly listed entities, as follows:

real estate investment trusts (REITs)
specified investment flow through (SIFT) trusts and partnerships
entities that would be SIFT trusts or partnerships, if their assets were located in Canada

The tax is equal to 2% of the net value of equity repurchased by the entity in a taxation year (i.e. the value of equity that is redeemed, acquired or cancelled by the entity, less the value of equity that is issued by the entity from treasury). Exclusions are provided for:

certain equity with debt-like characteristics (i.e. shares and units that have a fixed dividend and redemption entitlement)
equity that is issued or cancelled in certain corporate reorganizations

A de minimis exemption is also provided where the taxpayer repurchases less than $1 million of equity in a taxation year. This is determined on a gross basis (i.e. ignoring share issuances).

Equity of an entity that is acquired by certain affiliates of the entity is deemed to be acquired by the entity itself. This deeming rule also applies to an acquisition by a non-affiliate, if one of the main purposes of the transaction (or series of transactions) is to avoid the tax. Exceptions from the deeming rule are provided to facilitate certain equity-based compensation arrangements, and certain acquisitions made by registered securities dealers in the ordinary course of business.

Another anti-avoidance rule essentially prevents the tax base of the new tax (i.e. the net value of equity repurchased) from being manipulated by a transaction (or series of transactions) that has the primary purpose of reducing that tax base.

The new tax will apply to repurchases of equity that occur on or after January 1, 2024.

General anti-avoidance rule

The general anti-avoidance rule (GAAR) is intended to prevent abusive tax avoidance transactions while not interfering with legitimate commercial and family transactions. If abusive tax avoidance is established, the GAAR applies to deny the tax benefit created by the abusive transaction. On August 9, 2022, the government released a consultation paper on modernizing and strengthening the GAAR; this paper identified perceived issues with the existing GAAR and proposed ways to address those issues. The budget includes proposed legislation to amend the GAAR, as follows:

A preamble will be added, to ensure that the GAAR is interpreted as intended. Among other things, the preamble would state that the GAAR strikes a balance between certainty for taxpayers and protecting the fairness of the tax system. It also would note that the GAAR can apply to a tax benefit, regardless of whether the tax strategy used to obtain that benefit was foreseen.
The avoidance transaction test in the GAAR is currently based on a “primary purpose” test; this will be broadened to a “one of the main purposes” test. Generally speaking, a transaction will be an avoidance transaction if it results in a tax benefit, and one of the main purposes of the transaction was to obtain the tax benefit. The consultation paper discussed other potential changes to the avoidance transaction test (e.g. addressing foreign tax savings); those changes have not been adopted.
An economic substance rule will be added to the “misuse or abuse” test in the GAAR. This rule would state that, if a transaction is significantly lacking economic substance, that tends to indicate that the transaction is abusive. Factors that tend to indicate a lack of economic substance would include: no change in economic position; the expected value of the tax benefit exceeding the expected non-tax economic return; and the transaction being entirely (or almost entirely) tax motivated. The new rule would not supplant the existing ‘misuse or abuse’ test – e.g. a transaction that lacks economic substance will not be considered abusive, if the tax benefit was clearly intended by Parliament.
A penalty will be imposed where the GAAR applies, equal to 25% of the tax benefit. However, no penalty would apply where the tax benefit is a tax attribute that has not been used to reduce tax. Furthermore, a penalty would not apply if the transaction is disclosed to the Canada Revenue Agency (CRA) under the mandatory disclosure rules, including a new option for voluntary reporting under those rules.
The normal reassessment period for GAAR assessments will be extended by 3 years, unless the transaction had been disclosed to the CRA.

A consultation will be held on the proposed legislation, until May 31, 2023. Following that consultation, the government will release revised proposed legislation, with an effective date.

Dividend received deduction by financial institutions

A corporation may generally claim a deduction for dividends received on shares of other Canadian-resident corporations. This “dividends received deduction” is intended to limit the imposition of multiple levels of corporate tax. A new rule will prevent financial institutions from claiming this deduction for dividends received on shares that are mark-to-market properties (which are generally portfolio shareholdings). The budget states that the dividends received deduction conflicts with the policy behind the tax regime for mark-to-market properties (which generally includes all gains and losses on such properties in computing ordinary income). The new rule will apply to dividends received after 2023.

Tax treatment of credit unions

Credit unions are subject to specific income tax and Goods and Services Tax/Harmonized Sales Tax (GST/HST) rules. The current definition of a “credit union” excludes an entity that earns more than 10% of its revenue from sources other than certain specified sources (e.g. interest income from lending activities). The budget proposes to amend the credit union definition by eliminating this revenue test; and by reflecting the way that credit unions currently operate (i.e. as full service financial institutions). These amendments will apply to taxation years ending after 2016.