Now that the summer is over and everyone is getting back to work, it is important to consider some recent tax changes and how they may impact our businesses.
Small Business Deduction Planning
The Small Business Deduction reduces the corporate income tax rate applying to the first $500,000 per year of qualifying active business income of a Canadian-controlled private corporation (CCPC).
A group of associated corporations must share the Small Business Limit (SBL) of $500,000. There are technical rules to determine whether corporations are associated, but, in simplified terms, associated corporations generally have common control, or control by related parties including cross ownership.
If a husband and wife each has a company, if there is no cross ownership, they would not be associated, and each has been entitled to claim its own SBD, resulting in up to $500,000 each of active business income taxed at the low rate. Even if husband's company was billing wife's company for services, both companies would still be entitled to its own SBD.
There are many of you who have corporations set up so that they are not associated and there are inter-corporate billings, whether for rent, management fees, consulting services, etc. For the dentists, many have hygiene companies owned by spouses or family trusts.
Many professionals have professional corporations set up to allow more than one kick at the $500,000 can.
As of the 2017 taxation year, which for many corporations has already started, related company inter-corporate fees will not qualify for the low rate of tax.
There are ways to reduce the impact of this change, but that will require a review of our corporate structures and inter-corporate billings.
One touchstone of our tax system has been the knowledge that dividends between Canadian companies are, essentially, tax free. There are some refundable taxes that may be payable on portfolio dividends, but dividends between, say an operating company and a related holding company have always been tax-free..
We have always relied on this to strip excess cash out of operating companies both for creditor proofing purposes, and to ensure that the shares of an operating company continue to qualify for the capital gains exemption, which gives each shareholder up to $800,000 of tax free capital gains on the sale of the shares of the company.
There have, for many years, been anti-avoidance rules that could re-characterize dividends and tax them as capital gains, but these rules only applied if the dividend was part of a series of transactions that ended with a sale of the company to a non-related party.
For dividends paid after April 21st, 2015, it's a whole new ballgame.
Gone is the exemption that would only apply these rules if the dividend was part of a series of transactions that ended with a sale to a non-related party.
Now even simple transactions, like paying a dividend to strip excess cash, can be subject to the new rules.
In order to ensure that the new rules don't affect any particular dividend, detailed calculations will have to be done by your accountants to determine your company's "safe income", which is the amount that can be paid by way of tax free dividends without running afoul of the new rules. In the past there has been no need to do this calculation, so many of you have never had it done. Once done, it is easy to keep it up on an annual basis. But don't be surprised if there is an unwelcome cost involved in doing the calculation the first time, as it will require a calculation for a number of years. In addition, more complicated transactions will often be required in order to pay what would otherwise be ordinary dividends.
For those of you with large accumulations of cash or investments in your operating companies, the payment of dividends to move the cash or investments is necessary to ensure that the shares of your company continue to qualify for the capital gains exemption, so there is little choice but to do the calculations and undertake the transactions.
Before the rule changes there were some abuses in the system, without a doubt. However, the abuses do not warrant this wholesale change to the anti avoidance rules. This is a cash grab, pure and simple, and one that will put you to additional expense.
Corporate-owned Life Insurance
Most of you are aware that proceeds paid on death under a life insurance policy are tax free. And, within certain guidelines, if an insurance policy is owned by a corporation, the proceeds can be paid out of the corporation in the form of tax free dividends from a tax account known as the capital dividend account (CDA).
There are some calculations needed to determine exactly how much of the insurance proceeds can be paid out on a tax free basis. The amount that can be paid out tax free increases the longer the policy is in force.
As a result of new rules for any life insurance policy issued after December 31st, 2016, it can take up to 18 additional years for the full amount of the proceeds to be eligible to be paid out of the corporation on a tax-free basis.
Insurance premiums are, generally, not deductible for tax purposes. Given the difference in personal and corporate tax rates, it is considerably cheaper for the corporation to pay out non-deductible premiums than for an individual, so it will likely still make sense to have your policies owned within your corporation.
If you are considering purchasing life insurance, the time is now!! The old rules will continue to apply to any policy ISSUED before January 1st, 2017. It is not sufficient to have applied, the policy has to have been issued.
A Word About Personal Tax Rates
I have left this to the end, because there is little planning to be done about tax rates.
Between the Ontario Liberal Government and the Federal Liberal Government, a top rate taxpayer in Ontario will be paying over 53% income taxes. Among G7 countries, only those earning top dollar in France will pay more tax than in Ontario. Note that for ordinary income and capital gains, Ontario rates are actually higher than Quebec rates for the first time in my 36 years of tax practice.
Clearly, there are many things that will need to be reviewed and, possibly, changed in the way we have always done things.
I would be pleased to work with your regular advisors to ensure that the new rules have as little impact as possible. But, unfortunately, your taxes, and your compliance costs will be going up.
"Aside from that Mrs. Lincoln, how did you enjoy the play?"