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02 March 2018 Canada's budget 2018-19 and its implications for private companies and shareholders On 27 February 2018, Federal Finance Minister Bill Morneau tabled his third budget (Budget 2018). The following is the executive summary highlights of Budget 2018 that are relevant to private companies and their shareholders. For a comprehensive and detailed review of all Budget 2018 measures, see EY Global Tax Alert, Canada issues Federal budget 2018-19, dated 1 March 2018. On 18 July 2017, the Federal Government proposed to increase the tax rate on passive earnings derived from the reinvestment of after-tax corporate business earnings in passive investments. These proposals, if enacted, could have resulted in effective tax rates on passive earnings in excess of 70%. In October 2017, the Government announced that proposals targeting the reinvestment of after-tax corporate business earnings in passive investments would be limited to private corporations with passive investment income in excess of CA$150,000. The Government further announced that draft legislation for these proposals would be released in Budget 2018. As outlined below, the July 2017 proposals and October 2017 clarifications will not proceed as previously announced, and the resulting proposed approach to passive income taxation will be reduced in scope and simplified. The proposed measures take into account feedback received during the consultation period associated with the July 2017 proposals. Budget 2018 proposes two modest measures to limit certain tax advantages of private companies earning passive investment income. These measures are generally applicable for taxation years beginning after 2018. Under existing legislation, the small business deduction is available on active business earnings of up to $500,000. No changes were announced relating to the scheduled reduction of the federal small business tax rate to 9% as of 2019. The availability of the small business deduction must be shared by companies that are part of an associated group. Existing legislation reduces the available small business deduction to the extent an associated group of companies has taxable capital in excess of $10 million. To ensure the small business deduction is used by companies to reinvest in their active business, and not in passive assets, Budget 2018 proposes a further reduction to the $500,000 small business limit for Canadian Controlled Private Corporations (CCPCs) that have passive investment income in excess of $50,000. The new reduction is complimentary to the taxable capital reduction of the small business limit. The entire small business deduction would be unavailable if income from passive investments of the associated group exceeds $150,000, or if the taxable capital exceeds $15 million; where a CCPC meets one or both conditions, the greater reduction amount will be applied. In general terms, the passive income-based reduction to the small business limit will apply to investment income with some adjustments:
The new reduction will be tested annually and based on income from the prior year. It is conceivable that a corporation could regain access to the small business deduction if the investment income falls below the threshold. Additionally, a new deeming rule has been proposed that could associate two related (but not otherwise associated) companies for the purposes of the small business limit, if one company lends or transfers property, directly or indirectly, to the other with a view to reduce the amount of the small business limit reduction. The new reduction will be applicable to taxation years that begin after 2018. A proposed anti-avoidance rule would make the rules applicable earlier, should a corporation have a short tax year in an attempt to defer the application of the new rules. CCPCs' passive investment income is generally "integrated," meaning that investment income is corporately taxed at approximately the same rate as an individual at the top marginal tax rate. To preclude double taxation, a portion of the CCPC's corporate tax is refunded on the payment of dividends to individual shareholders and the refund is designed to approximate the personal tax payable by the shareholder. The refundable portion of the tax is tracked in the corporate refundable dividend tax on hand (RDTOH) account. The July 2017 proposals included a discussion that could have eliminated the refundable portion of a CCPC's tax on investment income. Budget 2018 will not proceed with the July 2017 proposals. Budget 2018 proposes a modified system for dealing with the recovery of RDTOH. The new system will create eligible and non-eligible RDTOH accounts and is generally designed to attempt to limit the recovery of RDTOH on the payment of an eligible dividend funded from active business earnings. RDTOH applicable on dividends from Canadian public companies will generally continue to be recovered with eligible dividends. Transitional rules will address existing RDTOH accounts. To the extent a CCPC has historically paid sufficient general rate corporate income tax, existing RDTOH may still be recovered through the payment of eligible dividends. The new measures are effective for taxation years beginning after 2018. An anti-avoidance rule will apply to prevent the deferral of the application of this new system through the creation of a short taxation year. The Government confirmed intentions to proceed with the income tax measures released on 13 December 2017 to address income sprinkling. These measures generally became applicable on 1 January 2018. In July 2017, the Government introduced draft legislation relating to the multiplication of the lifetime capital gains exemption, as well as the conversion of income into capital gains. In October 2017, the Government announced it would not be proceeding with such draft proposals. There was no further mention of these or similar proposals in Budget 2018. Furthermore, the capital gains inclusion rate remains at 50%. No further changes are proposed to the general, small-business or passive rates of corporate income tax. Previously announced proposals to reduce the small business rate to 9% were reconfirmed.
Budget 2018 did not propose changes to individual income tax rates or tax brackets. The brackets will continue to be indexed for inflation. To see Appendix B for the highest combined marginal income tax rates by province and territory, please download the PDF file.
Budget 2018 proposes to require that certain trusts provide additional information on an annual basis. Information such as the identity of all trustees, beneficiaries and settlors will be required to be filed for 2021 and subsequent taxation years. Failure to provide the information will result in the application of penalties. 5 March webcast: Join us for a candid discussion of how the budget measures might impact Canadian private companies. The session will be hosted by EY Tax Partners Gabriel Baron and Ryan Ball. Please confirm your attendance by 4 March by completing the online registration form.
Document ID: 2018-5356 |
