Tag: CCPC

CCPC status with non-resident shareholders

At issue                                                          

A corporation is a separate legal entity and a separate taxable entity from its shareholder /owners.  To the extent that the corporation’s tax rate is less than that of the shareholders, it may be possible to achieve tax deferral and savings.

While this may be modestly beneficial in comparing against general corporate rates, it is particularly emphasized where the small business deduction may be claimed.  Current combined federal-provincial small business rates range from 11% to 19%.

Section 125(7) of the Income Tax Act (ITA)

For a corporation to be able to claim the small business deduction, the key criterion is that it is a Canadian-controlled private corporation (CCPC).  In brief, generally the corporation cannot be controlled by non-residents, one or more public corporations, or a combination of them.

One part of the definition, subparagraph (b), includes a test that pools the shares of non-residents and public corporations into a hypothethetical person to determine whether control may be exercised by them.

Duha Printers (Western) Ltd. v. Canada, [1998] 1 S.C.R. 795

A unanimous shareholder agreement (USA) legally binds shareholders in one way or another.

With respect to the issue of control (normally meaning the ability to elect a majority of the directors, called de jure or “effective control”), the Supreme Court of Canada held that a USA had to be considered in determining control, though in the present case the USA did not affect control.

Subsequent to this case, the Canada Revenue Agency (CRA) interpreted that the existence of a USA did not necessarily extend to subparagraph (b) of the CCPC definition, in part because the hypothetical person could not be a party to a USA.

Bioartificial Gel Technologies (Bagtech) Inc. v. R., 2013 F.C.A. 164

In filing its 2004 and 2005 tax returns, Bagtech asserted CCPC status, entitling it to claim greater investment tax credits for its scientific research and development activity than otherwise would be available.  At the time, approximately 70% of Bagtech’s voting shares were owned by non-residents.  However, a USA was in place requiring that 4 of the 7 directors had to be elected by Canadian residents.

In assessing Bagtech, and consistent with its past rulings and administrative statements, the CRA did not view the USA as affecting control.  Instead, it applied a straight arithmetic calculation (ie., the 70% figure) to subparagraph (b) to find that Bagtech did not meet the CCPC definition.

Bagtech successfully appealed the assessment to the Federal Court.  Following Duha Printers, the trial judge held that, pursuant to the USA, the non-resident shareholders could not elect a majority of the directors.

The CRA appealed to the Federal Court of Appeal, but the FCA found in favour of Bagtech, siding with the trial judge’s interpretation of Duha Printers.

2014-0523301C6E – Control – unanimous shareholders agreement

At the 2014 Conference of Advanced Life Underwriters (CALU) roundtable, representatives of the Canada Revenue Agency (CRA) were asked about the agency’s intentions in the wake of the Bagtech ruling, given that the decision was made not to appeal to the Supreme Court.

The Agency acknowledged that its past interpretation of Duha Printers could not be reconciled with the Bagtech ruling.  Accordingly, it would adopt the Bagtech approach with respect to the issue of “effective control”, reserving the background potential for a general anti-avoidance rule (GAAR) analysis in appropriate circumstances.

Practice points

  1. In these days of very mobile individuals and commerce, this should provide some comfort to companies with non-resident connections seeking the benefits of CCPC status.
  2. Still, CRA’s acknowledgement at the CALU roundtable appears somewhat begrudging, with that GAAR possibility for those the Agency may feel are taking advantage.
  3. As noted by the SCC in Duha Printers, the mere existence of a USA is not sufficient on its own, so a legal opinion may be prudent before taking a position when filing the corporation’s tax return.

Tax on dividends rising – Changes for small business owners

Small business owners will generally be paying a little more on the dividends they extract from their corporations beginning in 2014.  

In the 2013 federal budget, the government expressed its concern that individuals were being over-compensated by receiving dividends from a corporation than if the individual had earned that income personally.  Changes were proposed, and now enacted, in an effort to bring the system of integrating corporate and personal taxes back into alignment. 

To be more precise, these changes target corporate income that has made use of the small business deduction.  Previous changes had already addressed corporate income that had been subject to the full corporate tax rates – the so-called eligible dividend regime introduced in 2006 and rolled-out over the following six years.

Ineligible dividends in 2014, and on

In our income tax system we have two main types of taxpayers: individuals and corporations. Despite that taxes are levied at the corporate level, ultimately those taxes are borne by individuals.  The dividend gross-up/tax-credit procedure accounts for previously paid corporate taxes when the shareholder/individual calculates personal taxes due.  

Since the introduction of the eligible dividend regime in 2006, the federal gross-up and tax credit rates on ineligible dividends had remained unchanged.  Beginning in 2014, the gross-up will change from 25% to 18%, and the federal tax credit will go from 2/3 to 13/18.  The provinces use the federal gross-up, so have been prompted to adjust their respective tax credit rates.  

Based on enacted and announced changes (and subject to potential change in upcoming 2014 budgets), this table shows the effective tax rate shareholders face at top bracket in each province:

Top bracket rates – Ineligible dividends
(Combined federal-provincial)

Province     2013      2014

BC            33.7%    38.0%
AB            27.7%    29.4%
SK            33.3%    34.2%
MB           39.1%    40.8%
ON*          32.6%    36.5%
QC            38.5%    39.8%
NB            33.0%    36.0%
NS            36.2%    39.1%
PE            38.6%    38.7%
NL           30.0%    31.0%

The other side of the story

In fairness to the tax authorities, these changes are not arbitrary.  They are designed to integrate with the actual small business rate that will have been used in calculating the original corporate income.   

In theory, an individual taxpayer should be indifferent about earning income personally, or through a corporation that then distributes to the individual.  This should hold true whether the distribution is in the form of salary to that person as an employee, or as a dividend to that person as shareholder/owner. 

In practice though, things had gotten a bit out of kilter, leading to a preference toward dividends in most provinces in recent years.  The effect of the changes will be to narrow the distinction between salary and dividends, and in some cases to slightly swing the pendulum past perfect integration and toward salary.  

Bearing in mind that these are not the only considerations in deciding on the salary/dividend mix, here is the starting point those owner/managers can use for that analysis:  

Tax savings or cost of using dividends
(A positive figure favours dividends)

Province    2013    2014

BC            1.0%    -0.6%
AB            1.2%    -0.3%
SK            2.0%     1.2%
MB            0.6%    -0.9%
ON*          3.4%     0.1%
QC            -0.3%   -1.3%
NB            1.6%     0.9%
NS            4.2%     2.1%
PE            1.4%     1.3%
NL           1.8%     0.9%

* Ontario is expressed at the top federal bracket rate, rather than the significantly higher Ontario rate of $500,000+.