Year-end tax tips for business owners

It’s that time again when we discuss year-end tax strategies with our clients. New for the 2018 tax year are rules that came into force earlier this year surrounding the taxation of Canadian-controlled private corporations (CCPCs). Now is a good time to remind clients who are either business owners or incorporated professionals about the planning that’s available in light of the changes.

Income splitting

Effective for 2018, new rules were put in place to block most attempts at sprinkling income among family members as shareholders of a CCPC. The new rules expand the existing kiddie tax rules, which are also referred to as the “tax on split income” (TOSI) rules.

The TOSI rules generally apply where a person receives dividend or interest income from a corporation, or realizes a capital gain, and a related person is either actively engaged in the business of the corporation or holds a significant amount of equity (with at least 10% of the value) in the corporation.

The TOSI rules provide various exceptions. For instance, if a shareholder is sufficiently involved in the business, the TOSI rules will not apply. This test will automatically be met if the shareholder works an average of 20 hours per week in the business.

Some other exceptions depend on the age of the shareholder. If a shareholder is older than 24, and owns at least 10% of both the votes and value of the corporation, then so long as the business meets certain conditions (such as not being a professional corporation), the TOSI rules may not apply.

For 2018 only, clients have until Dec. 31 to satisfy the 10% share ownership requirement. They should review the share structure of any private corporations with their legal and tax advisors to see if they should consider a corporate reorganization to the share structure to allow shareholders to qualify for this 10% share ownership exception, where it makes sense to do so.

Passive investment income

The tax rate on business income earned in a corporation is generally much lower than the top personal marginal tax rate for a person who earns business income. Consequently, until income is withdrawn from a corporation as a dividend, personal taxes are deferred.

Where active business income earned in the corporation is eligible for the small business deduction (SBD), a lower corporate tax rate (the SBD rate) applies. For this SBD income, the tax deferral ranges from 35.3% to 41% in 2018, depending on the province.

The amount of tax deferred in the corporation results in higher starting capital for investment, compared to an individual investor. So if the higher amount of after-tax business income is invested inside the corporation, a shareholder may end up with more after-tax income from the corporation (compared to investing personally) at the end of the investment period. The government considered this unfair and took steps to minimize the tax deferral.

The SBD rate currently applies federally up to the SBD limit, which is the first $500,000 of a CCPC’s qualifying active business income. Starting in 2019, the SBD limit will be reduced for CCPCs with over $50,000 of certain investment income—known as adjusted aggregate investment income (AAII)—in the previous year.

The SBD limit will be reduced by $5 for every $1 of AAII that exceeds $50,000 and will reach zero once $150,000 of AAII is earned in the previous year. This will decrease the tax deferral available on SBD income earned after 2018.

Note that private corporations that do not have any income that qualifies for the SBD rate (including pure investment holding corporations with no active business income) will not be impacted by this measure.

As AAII from 2018 will apply when calculating the 2019 SBD limit, it is important that these rules be considered prior to Dec. 31 for CCPCs with a Dec. 31 year-end.

For example, business owners or incorporated professionals may wish to consider withdrawing sufficient funds from their CCPCs by Dec. 31, 2018, to maximize contributions to RRSPs and TFSAs.

Previous studies have shown that RRSPs and TFSAs may provide a higher level of after-tax retirement income than leaving funds in the CCPC to be withdrawn as dividends in retirement. Receiving a salary of at least $147,222 by Dec. 31, 2018, will allow the maximum RRSP contribution of $26,500 in 2019. Reasonable salaries may also be paid to family members who work in the business to allow them to make contributions to their own RRSPs and TFSAs.

Jamie Golombek , CA, CPA, CFP, CLU, TEP is the Managing Director, Tax & Estate Planning with CIBC Financial Planning and Advice in Toronto.

Jamie Golombek

Tax & Estate

Managing Director, Tax and Estate Planning, CIBC Private Wealth Team Jamie Golombek is Managing Director, Tax and Estate Planning with CIBC in Toronto. As a member of the CIBC Private Wealth team, Jamie works closely with advisors from across CIBC to support their clients and deliver integrated financial planning and strong advisory solutions. He joined the firm in 2008 after 12 years with a global investment company, where he was involved in both internal and external consulting on all areas of taxation and estate planning. Jamie has also worked for Deloitte as a tax specialist in the Toronto office, where he specialized in both personal and corporate tax planning. Jamie is quoted frequently in the national media as an expert on taxation. He writes a weekly column called “Tax Expert,” in the National Post, has appeared as a guest on BNN, CTV News, and The National, and for several years was a regular personal finance guest on The Marilyn Denis Show. He received his B.Com. from McGill University, earned his CPA designation in Ontario and qualified as a US CPA in Illinois. He has also obtained his Certified Financial Planning (CFP) and Chartered Life Underwriting (CLU) designations. In 2023, Jamie was named a CPA Ontario Fellow. The FCPA is the highest distinction that can be bestowed upon a CPA who brings distinction to themselves and to their profession through leadership and achievement in their professional, community or personal lives. Jamie is a past chair of the Investment Funds Institute of Canada’s Tax Working Group. He is also a member of CPA Ontario, the Illinois CPA Society, the Estate Planning Council of Toronto, the Canadian Tax Foundation and the Society of Trust and Estate Practitioners. For nearly two decades, Jamie taught an MBA course in Personal Finance at the Schulich School of Business at York University in Toronto.