Recently enacted changes to Canada’s Income Tax Act (the “Act”) have important implications to recipients of intercorporate dividends. The new provisions will increase the risk that all or part of what would otherwise be a tax-free intercorporate dividend will be converted into a taxable capital gain to the corporation receiving the dividend.
Dividends paid to a shareholder that is not a corporation are not affected by these changes.
Dividends received by a Canadian resident corporation from another Canadian resident corporation are generally not taxable to the recipient corporation (other that certain temporary refundable taxes in some circumstances). However, certain provisions prevent abusive tax planning designed to take advantage of the intercorporate tax-free dividend regime. These “anti-capital gains stripping” provisions were more limited in scope (and often not a significant concern on payment of intercorporate dividends in the ordinary course of business) before these changes.
The recently enacted changes have expanded the scope of the “anti-capital gains stripping” provisions by dramatically broadening their potential application. Many common dividend payments to corporations now risk falling within their ambit – including, but not limited to, regular cash dividends and dividends paid for asset protection or creditor proofing purposes.
Where the new rules apply to an intercorporate dividend, all or part of the dividend will be converted to a taxable capital gain. In some situations, this deemed capital gain will actually reduce the total amount of corporate and personal income tax, but in many situations the deemed capital gain will be disadvantageous because what would otherwise be a tax-free dividend will be converted to a taxable gain with the corresponding corporate tax payable.
An exception is provided for dividends that are paid out of the “safe income on hand” (“SIOH”) attributable to the shares on which the dividends are paid. The calculation of SIOH can be extremely complicated, but generally speaking SIOH is the accumulated net income for tax purposes, subject to certain adjustments, that is attributable to each shareholder’s shares from the date of acquisition to the date of a dividend payment. The exception for dividends paid out of SIOH recognizes that corporate income taxed once should generally not be taxed again at the corporate level.
It would be prudent to contact us prior to the payment of any significant intercorporate dividend to discuss the risk that the new rules might apply to the dividend recipient to convert a tax-free dividend into a taxable capital gain.
Please contact us if you have any questions or concerns on this matter.
D&H Group LLP continues to keep you informed of changes (and proposed changes) that can affect you and your business. D&H Group LLP is an eighty person firm with over 50 years’ experience in providing clients with sound professional advice. Operating throughout British Columbia and Western Canada, D&H Group LLP can also service national and international clients in cooperation with out affiliates: BHD association, a national association of independently owned accounting firms, and the International Association of Practicing Accountants Worldwide, which has over 130 offices located throughout the world.
The material contained in this and other newsletters is not intended to be advice on any particular matter. Readers are cautioned not to act on the basis of any matter contained in the Business Reports without first considering appropriate professional advice specific to their situation. We would be pleased to provide further information and address any questions that our readers may have.News