HOLIDAY NEWS UPDATE
The holiday season is right around the corner, and it seems that both levels of government are finally giving us a few presents worth talking about.
2018 FEDERAL FALL ECONOMIC STATEMENT
As a response to the Trump administration’s recent tax reform, the federal government came out with a proposal to enhanced the tax deduction offered in the year of acquisition for all tangible and intangible property acquired after November 20th, 2018.
This proposal would have two important effects:
For example, let's compare the purchase of new office equipment (CCA class 8 at 20%) for $10,000 made on November 20th, 2018 (old rules) and November 21st, 2018 (new rules).
2018 ONTARIO FALL ECONOMIC STATEMENT
The newly formed PC government has announced that they will not adopt the federal measures to phase out the small business limit for passive investment income.
The 2018 federal budget had announced that an associated business group of corporations would see its small business deduction of $500,000 reduced by $5 for each dollar it would earn in passive income above the threshold of $50,000. Therefore, if an associated group of corporations earned $150,000 of passive income, they would no longer be entitled to the small business tax rate currently sitting at 13.50% (instead of 26.50%).
This new change gives rise to interesting situations. We had reviewed in great length in a previous newsletter the tax consequences of earning more than $50,000 of passive income, and how it might be better to restructure corporate investments when possible in order to get below that threshold, or to review the salary dividend planning. Now, depending on the tax bracket, it may be interesting to purposely fall in the category of qualifying for the small business deduction in Ontario but not federally due to excess passive income. A shareholder who was to empty his active business corporation every year and is at the top marginal tax bracket would have an integrated (corporation + personal) tax rate of approximately 53.97%, but if this same business did not qualify for the small business deduction at the federal level but did at the provincial level, he would have an integrated tax rate of approximately 51.33%, a 2.66% tax savings. This is because at the federal level, when a corporation earns active income that is not eligible for the small business tax deduction, they get taxed at the regular rate (26.50%) but get the right to create room to declare eligible dividend which is taxed at a much lower rate for the shareholder compared to a regular non-eligible dividend. Since this is a federal tax concept only, it means that with the new provincial changes, the corporation would be entitled to creating eligible dividend space at the federal level, therefore, being able to declare eligible dividend that will be taxed at a lower rate both federally and provincially to the individual shareholder, while still getting the corporate small business tax deduction at the provincial level.
For example, here are the total corporate taxes for a corporation that earned $100,000 of active business income in 2019:
In summary, if the corporation earned $150,000 of passive income, the $100,000 of active business income would have cost the corporation $12,500 under the old rules (2018), $26,500 if both provincial and federal disallowed the small business deduction (as originally planned), but only $18,500 with the new Ontario proposed rules. Therefore, instead of needing to pay an extra $14,000 because of the new federal rules, the corporation will only loose $6,000, which is money that the corporation will be able to reinvest into the business.
For the shareholder(s) of the corporation, what does this mean?
Let’s assume the $100,000 earned in the corporation is fully distributed back to the shareholder in the form of dividends, and that the shareholder is already at the highest personal marginal tax bracket:
As always, we are always available to discuss these changes and how they may affect you and your corporation moving forward.
Happy holiday to all.
CPA, CA, M.Tax, CFP, TEP
Reminder: this was not an analysis of salary vs dividend, and the highest marginal tax bracket was used, results will vary depending on the client situation.
As we can see, the proposed changes will make it that we are able to depreciate the purchase for tax purpose much faster than the old rules.
Some exceptions could apply and the rules may apply differently depending on the class of asset that was acquired. The fall economic statement also introduced special rates for the acquisition of manufacturing and processing equipment as well as clean energy equipment.