Tax planning for private food and beverage companies
2017 was an interesting year for owners of Canadian private corporations and their tax advisors. The year started with an announcement in the 2017 Federal Budget that the government was concerned with a number of tax reduction strategies being used by “high-income” earners and that it would be issuing a paper in the coming months to curtail these strategies.
In mid-July 2017, the federal government’s proposals were released. The proposals extended the tax on split income (“TOSI” or the “kiddie tax”), eliminated the capital gains exemption on gains accrued while the individual was a minor, penalized passive income earned on the after-tax business profits of the corporation, and eliminated strategies that converted dividend income to capital gains.
The government received numerous written responses from taxpayers and professionals on the impact that the proposals would have on the business community. Meetings were held with Members of Parliament and hearings were held in Ottawa. Taking all of that into account, the government made several announcements in the fall. They abandoned the proposals to eliminate strategies that converted dividends to capital gains as they were much too broad, they indicated a softening of the TOSI rules, and they hinted that the 2018 Federal Budget would provide details with respect to the restrictions it would place on passive income earned by private corporations.
The 2018 Federal Budget was tabled in the House of Commons on February 27, 2018 and it presented a plan to reduce the small business deduction when passive income over $50,000 is earned within an associated group.
So what does this mean for shareholders of private corporations?
- Strategies to convert dividend income to capital gains are still available but may not be for long – the government still does not like these strategies and will likely develop a workable plan to restrict their use. Any shareholder who would like to reduce the cost of extracting earnings from their corporation from the top dividend rate (45% for non-eligible and 39% for eligible) to a capital gains rate (27%) should look to do so before the government finds a way to defeat this strategy.
- Review existing strategies to ensure that the new TOSI rules will not apply and, if necessary, take steps to modify these strategies. Family members who are active in the business can receive reasonable income amounts, as can spouses, when the active business owner is 65 years of age or over.
- Review the impact of the small business deduction claw-back where the associated group has more than $50,000 of passive income. Where possible, new investment strategies can be put into place with the view of restricting the amount of passive income.
- Consider the use of corporate-owned life insurance as an investment strategy. Investments inside of a life insurance policy grow tax-free and would not be subject to the passive income rules. Death benefits continue to be tax-free and can be distributed free of tax to the extent that they exceed the tax cost base of the policy.
- Look for alternative income splitting strategies that were not impacted by the 2017 proposals including using prescribed interest rate loans. [The prescribed interest rate is currently 1% but will be increased to 2% effective April 1, 2018.]
2018 should be an interesting year. The goal posts keep moving, so it is essential that all tax related strategies are reviewed on a regular basis.