Passive Investment Income
In July 2017, the Government announced that it was considering approaches that will improve the fairness and neutrality of the tax system, such that savings held within corporations are taxed in a manner that is equivalent to savings held directly by individuals. The Government sought feedback from the public regarding this issue.
Taking into account the feedback received from the July 2017 consultation, the Government proposes two measures to limit the tax deferral advantage associated with earning passive investment income inside private corporations:
Small Business Limit: The tax rate for qualifying active business income of small CCPCs is 10% for 2018 and 9% as of 2019. This preferential tax rate applies on up to $500,000 of qualifying active business income. This $500,000 limit, known as the business limit, is reduced on a straight-line basis for a CCPC and its associated corporations having between $10 million and $15 million of total taxable capital employed in Canada. Any active business income earned above the business limit is taxed at the general corporate tax rate of 15%. The budget proposes to introduce a measure that will reduce the business limit for CCPCs that have significant income from passive investments. Under this measure, the business limit will be reduced on a straight-line basis for CCPCs having between $50,000 and $150,000 of investment income. The new business limit reduction will be calculated as the greater of the reduction based on taxable capital and the reduction based on passive investment income.
Refundability of Taxes on Investment Income: The current tax regime relating to refundable taxes on investment income of private corporations seeks to tax income from passive investments at a rate that is approximately equal to the top personal income tax rate while that income is retained in the corporation. Some or all of these taxes are added to the corporation’s refundable dividend tax on hand (RDTOH) account and refundable at a rate of $38.33 for every $100 of taxable dividends paid to its shareholders. This refund is available regardless of whether eligible or noneligible dividends are paid to the shareholder. The budget proposes two RDTOH accounts: “eligible RDTOH” and “non-eligible RDTOH”. The “eligible RDTOH” account will be created to track the RDTOH that arises from eligible dividends received by a corporation, so that the corporation will still be able to obtain a refund of the RDTOH upon payment of eligible dividends. The non-eligible RDTOH account will track any other refundable taxes paid by the corporation. In most cases, this amount will be refunded where a corporation pays non-eligible dividends. These measures are applicable to taxation years beginning after 2018.
Health and Welfare Trusts
A Health and Welfare Trust is a trust set up by an employer for the purpose of providing health and welfare benefits to its employees. The tax treatment of such a trust is not set out explicitly in the Act. Instead, the CRA has published administrative positions regarding the requirements for qualifying as a Health and Welfare Trust along with rules relating to contributions to, and the computation of taxable income of, such a trust. The Act does, however, contain rules relating to Employee Life and Health Trusts. These trusts also provide health benefits for employees. These set of rules are very similar to the CRA’s administrative positions for Health and Welfare Trusts; however, there are certain differences. For example, a Health and Welfare Trust does not limit the number of key employees who can be beneficiaries of this trust, whereas an Employee Life and Health Trust does. In order to provide more certainty for taxpayers, the budget proposes that only one set of rules apply to these arrangements. The CRA will no longer apply their administrative positions with respect to Health and Welfare Trusts after the end of 2020. Existing Health and Welfare Trusts will be required to either convert to an Employee Life and Health Trust by December 31, 2020 or wind up. Trusts that do not convert (or wind up) to an Employee Life and Health Trust will be subject to the normal income tax rules for trusts. The CRA will also not apply their administrative positions to new Health and Welfare Trusts established after February 27, 2018. New trusts will be required to satisfy the Employee Life and Health Trust rules. To facilitate the conversion of existing Health and Welfare Trusts to Employee Life and Health Trusts, transitional rules will be added to the Act following a consultation period.
Please contact me directly if you would like a copy of the full tax changes including personal and international changes. I can be reached at 250-334-1504 or Ashley.Mangles@rbc.com. Sign up for my quarterly newsletter, “Fishing and Finance”, to keep up on the latest wealth, and fishing strategies.
Ashley Mangles is an Investment Advisor with RBC Dominion Securities Inc. Member-Canadian Investor Protection Fund.