In the 2017 Federal Budget tabled on March 22, Finance Minister William Francis Morneau announced that he would conduct a review of tax planning strategies using private corporations and that a consultation paper would be published in the coming months. Last Tuesday, July 18, the Minister tabled his recommendations, as well as legislative proposals aimed at countering certain tax planning strategies.
The two main strategies targeted by the Minister’s proposals are as follows:
- Income splitting through private companies;
- Holding a portfolio of passive investments in a private company.
Income splitting through a private corporation
Income splitting involves sharing an individual’s income with family members to take advantage of progressive tax rates. This transfer reduces the tax bill.
Income splitting is currently advantageous only for adults. Minors, to whom income is allocated, are subject to a higher rate of tax known as “split income tax”.
The Minister’s legislative proposals are designed to extend split-income tax liability to all adults. A “reasonableness” test will be based on the income recipient’s business contributions. Where this test is not met, the split-income tax will apply.
Another strategy is to allocate a capital gain arising from the sale of shares of a private corporation under certain conditions to family members, in order to use the capital gains exemption of each and multiply that exemption by $835,716. The proposed legislation will no longer allow this tax planning strategy.
Holding a portfolio of passive investments in a private company
Some individuals benefit from holding passive investments in a corporation, taking advantage of the fact that corporate income tax rates are significantly lower than those for high-income individuals. This is problematic when an individual holds funds in a corporation not for the purpose of growing the company, but simply to shelter them from the higher personal tax rate.
Accordingly, the Minister is proposing a number of approaches designed to improve the fairness and neutrality of the tax system on passive income, so that the portfolio of an individual who invests passively in his or her private corporation is taxed at the higher rate of a salaried individual.
Please note that the government is in the process of initiating a 75-day public consultation period to allow investors to analyze the three proposals and submit their views. This consultation process will end on October 2, 2017.
In conclusion, these legislative proposals will have a major impact on the taxation of private companies in Quebec.
Our team of tax specialists works to identify these issues and implement strategies to help our clients maximize their corporate structure.
