The Small Business Deduction (“SBD”) provides for a reduction in the rate of corporate income taxes payable on the first $500,000 of active business income earned by Canadian-controlled private corporations.

The 2016 Federal Budget introduced changes to the Income Tax Act (Canada) intended to prevent taxpayers from multiplying access to the SBD. The changes are effective for taxation years beginning after March 21, 2016. These new rules are relevant to the computation of the corporate income tax liability for many private corporations’ fiscal 2017 year-ends. The new rules generally restrict access to the SBD in respect of income earned from:

1. the provision of property or services to certain partnerships, and
2. the provision of property or services to certain private corporations if it is not the case that the CCPC earns all or substantially all (90% or more) of its active income from the provision of property or services to persons with which the CCPC deals at arm’s length. For further details, please see our comments on the “Multiplication of the Small Business Deduction” in our 2016 Federal Budget Commentary newsletter dated March 24, 2016.

If your corporation is affected by these new rules, it may be subject to a higher rate of corporate income tax for the 2017 fiscal year and your instalments may not be sufficient to cover the total corporate income taxes.

Example

Consider the following worst-case scenario:

• Service Company (“ServiceCo”) is owned and operated by Mrs. X
• X’s spouse, Mr. X, is a shareholder of another corporation (“ProfessionalCo”)
• ServiceCo generates all or substantially all of its $500,000 net income for its taxation year ended December 31, 2017 from the provision of services to ProfessionalCo.
• The corporate tax rate is 13% for SBD eligible income and 26% for general rate income.
• In fiscal 2016, ServiceCo was entitled to claim the full SBD; however, for 2017 ServiceCo will be denied the SBD pursuant to the new rules and will be taxed at the general corporate rate.

In fiscal 2016, ServiceCo paid combined corporate income taxes of approximately $65,000 (being $500,000 of income at the small business corporate tax rate of 13%). In fiscal 2017, ServiceCo would owe combined corporate income taxes of approximately $130,000 (being $500,000 of income at the general corporate tax rate of 26%).

Assuming that ServiceCo made corporation income tax instalments for 2017 of $65,000 (based on the prior year taxes payable method), it will have an additional corporate income tax liability owing of $65,000 on its balance due day of March 31, 2018.

Conclusion 

If the new rules may impact your corporation, your 2017 year corporate tax liability may be higher than in prior years. You may need additional cash in the corporation to satisfy this liability (with final payment due either two months or three months after the corporation’s tax year end). We can assist with the preparation of an estimate of your balance owing for the 2017 tax year.

Please contact us if you have any questions or concerns about this or any other matter.