Incorporated Business Owners – Tax Alert Regarding Significant Adverse Legislative Proposals

By Brian Sexton, Marc Marion on 2017/07/25

On Tuesday, July 18, 2017, Finance Canada released a consultation paper and draft income tax legislative proposals having significant adverse tax impact on forms of tax planning utilized by many incorporated business owners. These new measures are complex, have considerable impact on previously accepted tax and estate planning structures and potentially have broad application.

The areas these proposals impact on include the following:

Income Splitting

The announced provisions significantly limit the circumstances where a business owner can split income with family members (spouse and adult children) by paying dividends on shares of a private corporation held directly by such family member or indirectly through a family trust (noting existing rules that have been in place for a number of years already eliminate most tax benefits for income splitting with minor children).  These proposals are to be effective commencing in 2018.

Use of Family Trusts for Capital Gains Exemption Planning

The announced provisions will no longer permit a business owner to utilize a discretionary family trust for the benefit of the owner and his or her family members as a share ownership structure allowing access to their respective capital gains exemptions on a sale of shares of a qualified small business corporation.  These proposals are effective commencing in 2018.  A number of transitional rules applicable for the 2018 year only will allow an existing trust to make an election to realize accrued capital gains and access capital gains exemptions of its beneficiaries.

Increased Tax on Passive Investment of After-Tax Active Business Earnings

The consultation paper expresses a perceived unfairness for incorporated businesses to passively invest after-tax active business earnings to earn passive investment returns and not reinvest such earnings back into the active business.  A detailed description of a number of different potential measures to impose an additional tax on these earnings is contained in the consultation paper, however, no final determination as to proposed tax changes is made and therefore specific legislative proposals have not been released regarding such measures.

Strategies Intended to Convert Dividends Into Capital Gains

The announced proposals intend to target certain strategies designed to trigger capital gains realized in transactions between non-arm’s length persons and recharacterize such gains into deemed dividends.  These proposals are effective July 18, 2017.

All of these proposals may have a considerable potential impact on tax and estate planning measures implemented by many business owners using private corporations as a business vehicle (including professionals and farmers).  If enacted as announced, they will significantly reduce many relieving tax benefits that can be derived by owners of private corporations and will require a revisiting of existing structures (including share capital design, share ownership, use of family trusts and other matters) and careful consideration of available beneficial planning structures.

Members of our firm’s Tax Group are closely monitoring these proposals with a view of determining the potential impact of these new measures, planning options in light of the new proposals and considering how best to navigate the current uncertain tax environment arising in many circumstances while these proposals continue to be reviewed, possibly amended and eventually enacted.

Please consult a member of the Taylor McCaffrey LLP Tax Group to discuss these matters further.

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If you would like legal advice, kindly contact the author(s) directly or the firm's Managing Partner Norm Snyder at nksnyder@tmlawyers.com, or 204.988.0302.