Some hopes were dashed and some fears allayed when Federal Finance Minister Bill Morneau brought down the Liberal government’s 2018 budget in February.
While there were no increases in contribution room for RRSPs or TFSAs, professionals with Canadian controlled private corporations (CCPCs) were given a much simpler proposal on how to handle their passive investment income.
“The big news is that there wasn’t any big news [in the budget],” said Tony Salgado, director, business transition planning at CIBC Financial Planning & Advice.
Hoped-for but not altogether expected was a drop in income tax rates to ensure Canada’s competitiveness with other countries, particularly the United States. The wealthiest professionals in Ontario are subject to a top personal tax rate of 53.5 per cent, but some American states have a top rate of only 37 per cent, said Salgado.
“I would have liked to have seen lower corporate taxes following U.S. tax reform,” said Bessy Triantafyllos, a partner with Deloitte Private. “And I would have liked to have seen lower personal taxes. To keep this country competitive we need to be able to attract top talent. I think our very high personal tax regime is prohibitive. But I think the Liberal government platform is to work for the middle class and tax the top 1 per cent.”
Some industry experts said they’ve already heard from professionals who are eager to learn more about moving to the United States from a tax perspective, while others cautioned that taxes alone should not be the sole factor in moving south.
There was some disappointment that there was no call for a review of the Income Tax Act.“We operate in a global economy and uncertainty lingers, especially when faced by actions such as tax reform in the United States,” said Bruce Ball, vice-president, tax, at the Chartered Professional Accountants of Canada (CPA Canada). “An independent, comprehensive tax review would greatly assist in creating a best-in-class tax system to generate jobs, attract investment and foster inclusive growth for the benefit of all Canadians.”
Ball noted that Finance Canada will conduct a detailed analysis of the U.S. federal tax reforms to see how this might affect Canadians. “This is an issue of immediate importance and more information on how this analysis will be carried out is needed.”
The government remained firm on ensuring that high-income Canadians weren’t able to pay less tax on investment income through their Canadian-controlled private corporations (CCPCs) than individuals do.
But it came out with a much simpler course of action in the federal budget than it proposed last summer.
The new passive investment proposal doesn’t affect the large companies that have built up funds, said Aaron Schechter, a tax partner with Crowe Soberman LLP. “Unfortunately, it does affect some of the smaller and medium-sized businesses that have built up investment portfolios in their corporations.”
According to the budget, less than 3 per cent of CCPCs will be affected by the passive income changes.
The budget proposes to reduce the private corporation’s ability to use the small business deduction rate, a lower rate of tax for Canadian corporations with annual income of up to $500,000 a year.
The budget recommends a gradual reduction in the small business deduction rate for CCPCs with $50,000-$150,000 of passive investment income, said Triantafyllos. Once at that top limit, they will not be able to take advantage of the small business deduction at all.
According to the budget, a CCPC with passive investment assets of less than $1 million at a 5 per cent rate of return would be unaffected by the proposal and could continue to earn up to $500,000 in active business income at the small business tax rate.
“Private company owners typically don’t have pension plans or medical benefits so a lot of them are saving money for retirement in their private companies,” said Triantafyllos. “So where they do save and invest passively they will be negatively impacted by these changes.”
Salgado said the main message here is for people to review their investment strategies especially if they have passive investments within corporations. “See where you fall between the $50,000 and $150,000 and then look at the impact that’s going to have on your ability to use the small business deduction.
“If you haven’t been using RRSPs and all you’re doing is [using] corporate passive investments and if you are generating above the $150,000 in passive income, then now is probably the right time to look at plan B,” said Salgado.
He cautioned, however, that people should never pull out funds from a corporation without thinking about the personal level of tax that will take place if they withdraw.
A second measure will apply to corporations paying tax at the general rate, which can trigger a refund of taxes paid on investment income. This could give them an unintended tax advantage because they can choose to pay out dividends from their active business income and receive a tax refund on investment income. The proposed measure will place limits on the timing and conditions to receive a refund.
The passive investment issue was just one major tax proposal the federal government brought forward last summer dealing with CCPCs — and the most controversial. Changes to rules involving dividends and capital gains were withdrawn. Income splitting or “sprinkling” did go ahead this year, although many were hoping the government would back off on that in the budget.
For its part, the Canadian Federation of Independent Business (CFIB) said it intends to lobby MPs and senators for more changes to small business tax rules, including deferral of the income-splitting rules and a full exemption for spouses.
CFIB president Dan Kelly said small businesses are facing major cost pressures in the coming years, including higher costs for CPP/QPP, carbon tax/pricing and higher minimum wages in some provinces.
“On top of that, entrepreneurs know that today’s deficits are tomorrow’s taxes. The lack of a plan to get Canada out of deficit spending is deeply troubling,” added Kelly.
Another budget proposal was an extension of a rule on Registered Disability Savings Plans (RDSPs). Currently in place is an option to appoint a “qualifying family member” as the account holder when the RDSP beneficiary is not mentally capable of looking after the account themselves, said Curtis Davis, senior consultant, tax, retirement and estate planning services at Manulife in Toronto. That provision was set to expire at the end of this year, but it has now been extended until the end of 2023.
“This prevents a lot of unnecessary court appearances and court procedures just to get that personal representative in place for purposes of the RDSP,” said Davis.
Protections for pensions in bankruptcy were also on the minds of federal government leaders. Ottawa said it will consult with stakeholders on the issue as part of a wider approach to addressing retirement security for Canadians.