TaxMatters@EY – December 2020

Alan Roth, Toronto

Have you ever found yourself looking for tax savings while completing your tax return in April? If so, you’ve probably realized that at that point there’s not much you can do to reduce your balance owing or increase your refund balance. By the time you prepare your tax return, you’re looking back and simply reporting on the year that has ended.

But don’t worry. As we approach the end of the year, there’s still some time left for forward-looking planning. You can approach year-end planning by asking yourself questions, going through a checklist, considering a framework or using all three methods.

Taking time out of your busy December to think about these questions can help you find better answers that may save you money on your 2020 tax bill and beyond:

Did you receive COVID-19-related relief benefits from the government in 2020?

Various COVID-19-related relief benefits provided by the government, such as the Canada Emergency Response Benefit (CERB), Canada Emergency Student Benefit (CESB), Canada Recovery Benefit (CRB), Canada Recovery Sickness Benefit (CRSB) and the Canada Recovery Caregiving Benefit (CRCB) are taxable.

Financial assistance payments received under a provincial or territorial COVID-19 relief program are also taxable. If you received benefits under any of these programs in 2020, you will be required to include the total amount in income on your 2020 income tax return.

If you operate an unincorporated business in 2020 and received any benefits under the Canada Emergency Wage Subsidy (CEWS), the Temporary Wage Subsidy (TWS) or the Canada Emergency Rent Subsidy (CERS) programs, the amounts received are deemed to be government assistance, and therefore taxable², and will need to be reported on your 2020 income tax return as well.³

Because these benefits are all taxable, you will need to take them into account when estimating the amount of taxes you’ll owe for the 2020 taxation year.⁴

For details about the transition from the CERB to EI and the CRB, CRSB and CRCB, see EY Tax Alert Issue 2020 No. 45, Transition plan for the CERB announced, and TaxMatters@EY, November 2020, Transition from the Canada Emergency Response Benefit. Bill C-4 receives Royal Assent.

For further information about the TWS and the original version of the CEWS before it was revised, see TaxMatters@EY, May 2020, COVID-19 tax measures available to owner-managed businesses and individuals, and TaxMatters@EY, June 2020, More details emerge on the Canada Emergency Wage Subsidy. See EY Tax Alert 2020 Issue No. 42, Redesign and extension of the Canada Emergency Wage Subsidy, for information about the revised CEWS program. See EY Tax Alert 2020 No. 52, Bill C-9 introduced to implement new rent subsidy and amend current wage subsidy, for information on the CERS and updates to the CEWS program.

Have you been working from home as a result of the COVID-19 pandemic?

If you’ve worked from home in 2020 like many Canadians as a result of the lockdowns associated with the COVID-19 pandemic, you may wonder to what extent you may deduct any related home office expenses. The Income Tax Act specifies the types of expenses incurred in a home office that employees or the self-employed may deduct and the conditions that must be first met to be able to deduct them.

For more information, see the following article by David Robertson and Laura Jochimski of EY Law: Could home office quarantine mean home office deductions?

The federal and provincial governments have been relatively silent on their willingness to amend the rules for the deduction of home office expense in any way or even to provide clarifications to the rules in light of the circumstances that have arisen in the face of the COVID-19 pandemic.⁵ However, the federal fall economic statement, delivered on November 30, 2020, noted that the Canada Revenue Agency (CRA) will permit employees who have been working from home in 2020 as a result of the pandemic to claim up to $400 in home office expenses. The claim would be based on the amount of time spent working from home, without the need to track detailed expenses. The CRA will generally not request that employees provide a signed form from their employers (e.g. a Form T2200) for these costs. Further details will be communicated by the CRA in the coming weeks.   See EY Tax Alert 2020 Issue No. 57.

The CRA has recently provided information on the taxation of certain benefits provided by employers to employees working from home as a result of the pandemic. The CRA stated earlier in the year that the reimbursement of up to $500 for all or part of the cost of purchasing personal computer equipment to enable an employee to work remotely as a result of the COVID-19 pandemic would be considered a tax-free benefit if the purchase is supported with receipts. At the October 2020 Canadian Tax Foundation virtual conference CRA Roundtable, the CRA confirmed that this position would be expanded to include home office furniture such as desks and chairs provided that they are needed for the employee to carry out their duties of employment from home.

The CRA also noted at another recent webinar that if your regular place of employment is closed during the pandemic, the CRA will not consider employer-provided parking at that location to be a taxable benefit to you. If you are still going to your employer’s place of business to work, the CRA noted that it would not consider a reimbursement or reasonable allowance for travel expenses related to commuting in a motor vehicle from an employee’s home to a regular place of employment to be a taxable benefit if your presence at the office is required and the office is closed. If the office is open, “additional travel costs” to pick up home office equipment, for example, would not be a taxable benefit. For example, if you normally commute via public transit, the extra cost incurred to use your car for safety reasons would be considered an additional travel cost in this context.

In addition, travel expenses incurred from the employee’s home to their place of work using a motor vehicle provided by the employer under similar circumstances to those outlined above will be considered business mileage and, therefore, not included as a taxable benefit.⁶

For further information, see EY Tax Alert 2020, Issue No. 50, CRA update on CEWS and employee benefits.

If your employer reimbursed you for computer equipment or furniture to enable you to work from home during the pandemic, ensure that you keep your receipts from your purchases. If you have been going to work at your employer’s place of employment, ensure that you also retain a log of kilometres driven that were related to your travel from home to work.

Are there any income-splitting techniques available to you?

You may be able to reduce your family’s overall tax burden by taking advantage of differences in your family members’ marginal income tax brackets using one or a combination of the following:

• Income-splitting loans – You can loan funds to a family member at the prescribed interest rate of 1% (for 2020 loans created after June 30, 2020⁷). The family member can invest the money and the investment income will not be attributed to you (i.e., treated as your income for tax purposes), as long as the interest for each calendar year is paid no later than January 30 of the following year.
• Reasonable salaries to family members – If you have a business, consider employing your spouse or partner and/or your children to take advantage of income-splitting opportunities. Their salaries must be reasonable for the work they perform.⁸ However, other income splitting opportunities involving your business may be limited (see below re: income-splitting private corporation business earnings).
• Spousal RRSPs – In addition to splitting income in retirement years, spousal RRSPs may be used to split income before retirement. The higher-income spouse or partner can get the benefit of making contributions to a spousal plan at a high tax rate and, after a three-year non-contribution period, the lower- or no-income spouse can withdraw funds and pay little or no tax.

Have you paid your 2020 tax-deductible or tax-creditable expenses yet?

• Tax-deductible expenses – A variety of expenses, including interest and child-care costs, can only be claimed as deductions in a tax return if the amounts are paid by the end of the calendar year.
• Expenditures that give rise to tax credits – Charitable donations, political contributions, medical expenses, home accessibility renovation expenses and tuition fees must be paid in the year (or, in the case of medical expenses, in any 12-month period ending in the year) in order to be creditable.
• Consider whether deductions or credits may be worth more to you this year or next year – If you can control the timing of deductions or credits, consider any expected changes in your income level and tax bracket or marginal tax rate.

Have you considered the impact of any recent changes to personal tax rules⁹?

Employee stock options grants – Proposed amendments will limit the availability of the 50% employee stock option deduction¹⁰ to an annual maximum of $200,000 of stock options that vest in a calendar year, based on the fair market value of the underlying shares on the date of grant. However, these amendments will not apply to options granted to employees of “startup, emerging, or scale-up companies.” The government is expected to provide definitions in the near future on what these terms mean in this context.¹¹

The following example illustrates the impact of these proposed measures. Your employer, a long-established public company, grants you 10,000 options (which vest immediately) to purchase shares of the company for $100 per share at a time when the fair market value of the shares is also $100 per share. Therefore, the value of the shares represented by the options at the time of grant is $1,000,000. If you exercise the 10,000 options in a particular year, the stock option deduction will only apply to 2,000 ($200,000/$100) of the options granted.

The proposed rules were originally intended to apply to stock options granted on or after January 1, 2020 by corporations that are not CCPCs. However, on December 19, 2019, the Department of Finance stated that further details on the proposals would be announced in the 2020 federal budget and, therefore, the proposed changes would not come into effect on January 1, 2020. See EY Tax Alert 2019 Issue No. 42: Proposed changes to employee stock option rules delayed.

The 2020 budget was delayed due to the COVID-19 pandemic and as of the time of writing no date has been announced for the release of that budget.

In its September 23, 2020 Speech from the Throne, the federal government confirmed its intention to proceed and conclude its work on this matter. In its fall economic statement delivered on November 30, 2020, the federal government provided further details on the proposed rules, confirming that they would take effect for stock options granted on or after July 1, 2021 (other than qualifying options granted after June 2021 that replace options granted before July 2021).  The existing rules will continue to apply to stock options granted before then. To the extent that you have control over the timing of the granting of options, it may be prudent to consider having the options granted prior to July 2021 to ensure that the existing rules still apply to them. See EY Tax Alerts 2020 Issue No. 57 and Issue No. 59.

For further details, see also EY Tax Alert 2019 Issues No. 26, Proposed changes to employee stock option rules (June 2019 update) and No. 14, Federal budget 2019-20: proposed changes to the stock option deduction.

Holding passive investments in your private corporation – Amendments effective for taxation years beginning after 2018 may limit a Canadian-controlled private corporation’s (CCPC’s) access to the small business deduction and, accordingly, the small business tax rate¹² in a taxation year to the extent that it holds passive investments that generate more than $50,000 of income¹³ in the preceding year. Consult your tax advisor for possible strategies to mitigate the adverse impact of these rules.

For example, if you are considering realizing accrued gains in the company’s investment portfolio before its 2020 taxation year end and the company is likely to cross the $50,000 income threshold by doing so, consider deferring the gains to the following year so that the 2021 taxation year is not impacted. You may also consider the pros and cons of holding a portion or all of the portfolio personally instead of in the company.

The impact of these rules on CCPCs subject to taxation in Ontario or New Brunswick is smaller because both provinces have confirmed that they are not adopting them for purposes of their respective provincial small business deductions.

For more information, see TaxMatters@EY, May 2018 “Federal budget simplifies passive investment income proposals."

Digital news subscriptions – Recent amendments introduced a new temporary 15% non-refundable tax credit on amounts up to $500 paid by individuals for eligible digital news subscriptions annually (a maximum annual tax credit of $75) beginning in 2020. Certain conditions apply. For example, the subscription must entitle you to access content provided in digital form by a qualified Canadian journalism organization (QCJO)¹⁴ and that content must primarily be original written news¹⁵. In addition, the credit is limited to the cost of a standalone digital news subscription where the subscription is a combined digital and newsprint subscription. If there is no such comparable subscription, you are limited to claiming one half of the amount actually paid. The credit applies to eligible amounts paid after 2019 and before 2025.

Tuition fees associated with training – Recent amendments introduced a new refundable tax credit, the Canada training credit. Effective for 2020 and later taxation years, the credit assists eligible individuals who have either employment or business income to cover the cost of up to one-half of eligible tuition and fees associated with training. Beginning in 2019, eligible individuals can accumulate $250 each year in a notional account which can be used to cover the training costs. A number of conditions must be met to be eligible.¹⁶

The amount of the refundable credit that can be claimed in a taxation year is equal to the lesser of one-half of the eligible tuition and fees paid in respect of the year and the individual's notional account balance. For purposes of this credit, tuition and fees do not include tuition and fees levied by educational institutions outside of Canada.

The portion of eligible tuition fees refunded through the Canada training credit reduces the amount that would otherwise qualify as an eligible expense for the tuition tax credit. The first credit can be claimed for the 2020 taxation year.

Do you income-split private corporation business earnings with adult family members?

Recent amendments may limit income splitting opportunities with certain adult family members¹⁷ through the use of private corporations in 2018 and later years.

For example, a business is operated through a private corporation, and an adult family member in a low income tax bracket subscribes for shares in the corporation. A portion of the business’s earnings is distributed to the family member by paying dividends. These rules apply the highest marginal personal income tax rate (the tax on split income) to the dividend income received unless the family member meets one of the legislated exceptions to the application of this tax. For example, if the adult family member is actively engaged in the business on a regular basis by working an average of at least 20 hours per week during the year (or in any five previous but not necessarily consecutive years), the tax on split income may not apply.

Consult with your tax advisor to learn more.

For more information about these rules, see EY Tax Alert 2017 Issue No. 52, Finance releases revised income splitting measures, TaxMatters@EY, February 2018, Revised draft legislation narrows application of income sprinkling, TaxMatters@EY, February 2020, “Tax on split income: CRA provides clarifications on the excluded shares exception,” and TaxMatters@EY November 2020, “Tax on split income: The excluded business exception.”

Have you maximized your tax-sheltered investments by contributing to a TFSA or an RRSP?

• Tax-free savings account (TFSA) – Make your contribution for 2020 and catch up on prior non-contributory years. You won’t get a deduction for the contribution, but you will benefit from tax-free earnings on invested funds. Also, to maximize tax-free earnings, consider making your 2021 contribution in January.
• TFSA withdrawals and re-contributions – TFSA withdrawals are tax free and any funds withdrawn in the year are added to your contribution room in the following year. But if you have made the maximum amount of TFSA contributions each year¹⁸ and withdraw an amount in the year, re-contributions made in the same year may result in an overcontribution, which would be subject to a penalty tax. If you have no available contribution room and are planning to withdraw an amount from your TFSA, consider doing so before the end of 2020, so that it’s possible to re-contribute in 2021 without affecting your 2021 contribution limit.
• Registered retirement savings plan (RRSP) – The earlier you contribute, the more time your investments have to grow. So consider making your 2021 contribution in January 2021 to maximize the tax-deferred growth. If your income is low in 2020, but you expect to be in a higher bracket in 2021 or beyond, consider contributing to your RRSP as early as possible, but holding off on taking the deduction until a future year when you will be in a higher tax bracket.

Are you considering making an RRSP withdrawal under the Home Buyers’ Plan?

If you’re a first-time home buyer,¹⁹ the Home Buyers’ Plan (HBP) allows you to withdraw up to $35,000²⁰ from your RRSP to finance the purchase of a home. No tax is withheld on RRSP withdrawals made under this plan. If you withdraw funds from your RRSP under the HBP, you must acquire a home by October 1 of the year following the year of withdrawal, and you must repay the withdrawn funds to your RRSP over a period of up to 15 years, starting in the second calendar year after withdrawal. Therefore, if possible, consider waiting until after the end of the year before making a withdrawal under the HBP to extend both the home purchase and repayment deadlines by one year.

Have you maximized your education savings by contributing to an RESP for your child or grandchild?²¹

Contributions – Make registered education savings plan (RESP) contributions for your child or grandchild before the end of the year. With a contribution of $2,500 per child under age 18, the federal government will contribute a grant (CESG) of $500 annually (maximum $7,200 per beneficiary).

Non-contributory years – If you have prior non-contributory years, the annual grant can be as much as $1,000 (in respect of a $5,000 contribution).

Is there a way to reduce or eliminate your non-deductible interest?

Interest on funds borrowed for personal purposes is not deductible. Where possible, consider using available cash to repay personal debt before repaying loans for investment or business purposes on which interest may be deductible.

Have you reviewed your investment portfolio?

Accrued losses to use against realized gains – While taxes should not drive your investment decisions, it may make sense to sell loss securities to reduce capital gains realized earlier in the year. If the losses realized exceed gains realized earlier in the year, they can be carried back and claimed against net gains in the preceding three years and you should receive the related tax refund. Note that the last stock trading date for settlement of a securities trade in 2020 is Tuesday, December 29, 2020 for securities listed on both Canadian and US stock exchanges.

Just remember to be careful of the superficial loss rules, which may deny losses on certain related-party transactions.

Realized losses carried forward – If you have capital loss carryforwards from prior years, you might consider cashing in on some of the winners in your portfolio. As noted above, be aware of the December 29, 2020 deadline for selling securities listed on a Canadian or US stock exchange to ensure that the trade is settled in 2020. Or consider transferring qualified securities with accrued gains to your TFSA or RRSP (up to your contribution limit). The resulting capital gain will be sheltered by available capital losses, and you will benefit from tax-free (TFSA) or tax-deferred (RRSP) future earnings on these securities.

Alternatively, you could consider donating publicly traded securities (e.g., stocks, bonds, Canadian mutual fund units or shares) with accrued gains to a charitable organization or foundation. If you do, the resulting capital gain will not be subject to tax and you will also receive a donation receipt equal to the fair market value of the donated securities.

Can you improve the cash flow impact of your income taxes?

Request reduced source deductions – If you regularly receive tax refunds because of deductible RRSP contributions, child-care costs or spousal support payments, consider requesting CRA authorization to allow your employer to reduce the tax withheld from your salary (Form T1213). Although it won’t help for your 2020 taxes, in 2021 you’ll receive the tax benefit of those deductions all year instead of waiting until after your 2021 tax return is filed.

Determine requirement to make a December 15 instalment payment – If you expect your 2020 final tax liability to be significantly lower than your 2019 liability (for example, due to lower income from a particular source, losses realized in 2020 or additional deductions available in 2020) you may have already paid enough in instalments. You are not required to follow the CRA’s suggested schedule and are entitled to base your instalments on your expected 2020 liability. However, if you underestimate your 2020 balance and your instalments end up being insufficient or the first two payments were low, you will be faced with interest and possibly a penalty.

Have you thought about estate planning?

Review your will – You should review and update your will periodically to ensure that it reflects changes in your family status and financial situation, as well as changes in the law.

Consider your life insurance needs – Life insurance is an important tool to provide for the payment of various debts (including taxes) that may be payable as a result of your death, as well as to provide your dependants with money to replace your earnings. Review your coverage to ensure that it remains appropriate for your financial situation.

Consider an estate freeze to minimize tax on death and/or probate fees – An estate freeze is the primary tool used to reduce tax on death and involves the transfer of the future growth of a business, investments or other assets to family members. Consider the impact of the revised rules for the taxation of testamentary trusts and charitable planned giving, and the impact of the revised tax on split income rules (see above – Do you income-split private corporation business earnings with adult family members?) on income-splitting strategies using estate freezes.

For example, an estate freeze is set up where parents transfer the future growth in value of a business to the next generation. Dividends paid in 2018 or later years to an adult child may be subject to the highest marginal personal income tax rate under these rules unless the individual meets one of the legislated exceptions to the application of this tax.

For details, see EY Tax Alert 2017 Issue No. 52, Finance releases revised income splitting measures.

Consider a succession plan for your business – A succession plan involves devising a strategy to ensure that the benefit of your business assets passes to the right people at the right time.

These questions may seem familiar, but as tax rules become more complex, it becomes more important to think of the bigger tax picture continuously throughout the year, as well as from year to year as your personal circumstances change. Start a conversation with your tax advisor to find better answers.

Wes Unger, Saskatoon

Corporate business owners have great flexibility in making decisions about their remuneration from a private company. This flexibility is available to all types of businesses, including incorporated professionals and business consultants. However, the planning process is not a simple one as there are many tax issues that must be addressed. It’s important that decisions about remuneration be considered before year end, as well as during the business’s financial statement and tax return finalization processes.

The federal government’s proposals on income sprinkling were enacted in 2018 and are applicable to 2018 and later years (See Rules limit income splitting after 2017 below). These rules impacted some of the traditional planning that was previously available to corporate business owners.

In addition, the 2018 budget introduced legislation impacting the taxation of private corporations in 2019 and later years. Further discussion of these rules continues below.

Basic considerations

• In general, if a corporate owner-manager does not need personal funds for spending, earnings should be left in the corporation to generate additional income and defer personal tax until a later date when personal funds are needed. For 2020, this tax deferral benefit resulting from the difference between corporate tax rates and personal tax rates can range, for individuals taxed at the highest marginal tax rate, from as little as 20.4% in Prince Edward Island when applying the general corporate tax rate, to as high as 42.5% when applying the small business corporate tax rate in British Columbia. Deferring personal tax allows you to reinvest the corporate earnings and earn a rate of return on the personal tax you would have otherwise paid if you had extracted the funds from the business.
• For fiscal years starting in 2019, the amount of income eligible for the federal small business deduction is generally reduced if the corporation (together with all associated corporations) has passive investment income greater than $50,000 in the previous year, and is eliminated entirely if the amount of passive investment income exceeds $150,000, similar to the reduction that is applied to a corporation whose taxable capital exceeds $10m in the prior year. See the May 2018 issue of TaxMatters@EY. A corporation with too much passive investment income in the prior year will be taxable at the general corporate rate¹ on its active business income. Paying tax at the higher general corporate tax rate will decrease the amount of the tax deferral benefit, but will allow the corporation to pay out eligible dividends in the future. At this time only two provinces have decided not to follow this federal provision.²
• Even if funds are not required for personal consumption, business owners may want enough salary to create sufficient earned income to maximize their RRSP contribution and use tax savings associated with graduated income tax rates. Whether or not this is an appropriate strategy depends on an overall review of the owner-manager’s financial plan for the near future, as well as the long term. To contribute the maximum RRSP amount of $27,830 for 2021, business owners will need 2020 earned income of at least $154,611. One method to generate earned income is to receive a salary in the year. Note that salary must be earned and received in the calendar year. Receipt of a salary would also allow the business owner to maximize CPP pensionable earnings for the year (based on maximum pensionable earnings of $58,700 for 2020).
• If funds are needed for personal consumption, the CRA has a longstanding policy of not challenging the reasonableness of remuneration where the recipient is active in the business and is a direct or indirect shareholder. This criterion of reasonableness is relevant when considering if the remuneration is deductible to the paying corporation. It is generally more advantageous to distribute corporate profits as a salary or bonus to an active owner-manager based on current provincial corporate and personal tax rates. However, this may not be applicable for all provinces, and certain provinces levy additional payroll taxes, such as Ontario’s employer health tax, which may impact an analysis of the optimal compensation strategy.
• In many provinces there is an overall “tax cost” to distributing business profits in the form of a dividend, meaning the total corporate and personal tax paid on fully distributed business earnings exceeds the amount of personal tax that would be paid in that province if the individual earned the same amount of income directly. However, business owners may still wish to earn money through a corporation and defer the tax, if future cash needs can be satisfied by salaries or bonuses from future profits. Earnings subject to a large deferral of tax can remain reinvested in the business or corporate environment for many years, sometimes indefinitely. However, this strategy has to be used carefully, because accumulating excessive business earnings could impact the corporation’s ability to claim the small business deduction on its active business income in the future. See the previous discussion on passive investment income changes. It could also affect a shareholder’s ability to claim the lifetime capital gains exemption (see comments on QSBC status below).

Advanced considerations

• Shareholder loans made to the corporation can be repaid tax free and represent an important component of remuneration planning. Advance tax planning may permit the creation of tax-free shareholder loans.
• Complex tax rules associated with otherwise tax-free intercorporate dividends could result in the dividends being recharacterized as capital gains. However, advance tax planning may be available to mitigate this issue, and it also may be possible to benefit from corporate distributions taxed at reduced tax rates associated with capital gains.
• A business owner who holds personal investments such as marketable securities can sell them to a private corporation in exchange for a tax-paid note or shareholder loan. While capital gains may arise on the transfer, the personal tax rate on capital gains is generally lower than the personal tax rate on eligible or non-eligible dividends. Advance tax planning may also allow recognition of the capital gain to be deferred; however, tax losses may not be realized on a transfer to an affiliated corporation.
• Corporate-level merger and acquisition transactions, such as the divestiture of a business or real estate, may also generate favourable tax attributes such as tax-free capital dividend account (CDA) balances or refundable taxes. These attributes form an important component of remuneration planning.
• A business can claim a capital cost allowance (CCA) deduction for the purchase of depreciable assets that are available for business use on or before the business’s fiscal year end. A business that is contemplating a future asset purchase and has discretion in the timing of acquisition may choose to make the purchase sooner rather than later and then bring the asset into use to allow CCA to be claimed. This strategy should be carefully considered in light of the opportunities for an enhanced CCA deduction currently available. Refer to EY Tax Alerts 2019 Issue No. 15 and 2018 Issue No. 40.
• Retaining earnings in a corporation may affect a Canadian-controlled private corporation’s (CCPC’s) entitlement to refundable scientific research and experimental development (SR&ED) investment tax credits. A business should compare the investment return from deferring tax on corporate earnings against the forgone benefit of high-rate refundable SR&ED investment tax credits.
• Leaving earnings in the corporation may also impact the status of the corporation’s shares as qualified small business corporation (QSBC) shares for the purpose of the shareholder’s lifetime capital gains exemption (currently $883,384). Advance tax planning may be available to mitigate this issue and permit continued accumulation of corporate profits at low rates, without impacting the QSBC status of the shares.
• Paying dividends may occasionally be a tax-efficient way of getting funds out of a company. Capital dividends are completely tax free, and eligible dividends are subject to a preferential tax rate. For fiscal years that begin after 2018, eligible dividends are only eligible to generate a dividend refund out of the eligible refundable dividend tax on hand (ERDTOH) account. For more information, see the June 2018 issue of TaxMatters@EY. Non-eligible dividends can generate a dividend refund out of the ERDTOH and the non-eligible refundable dividend tax on hand (NERDTOH) account. A review of the company’s tax attributes will identify whether these advantageous dividends can be paid.³
• Dividends and other forms of investment income from private corporations do not represent earned income, and so do not create RRSP contribution room for the recipient. An individual also requires earned income to be able to claim other personal tax deductions, such as child care and moving expenses. Business owners should consider how much earned income they need in light of the RRSP contributions they wish to make or personal tax deductions they wish to claim.

Income splitting considerations (subject to TOSI)

• Consider paying a reasonable salary to a spouse or adult child who provides services (e.g., bookkeeping, administrative, marketing) to the business in order to split income.
• If a spouse or adult child (older than 24 years of age) is not active in the business and has no other sources of income, consider an income-splitting corporate reorganization whereby the family members become direct shareholders in the business, owning 10% or more of the votes and value of the corporation. This planning is still available even with the TOSI rules in effect, as long as the corporation is not a professional corporation and has less than 90% of its gross business income from the provision of services and at least 90% of the company’s income is not derived directly or indirectly from one or more related businesses. For non-active family members, there generally must be a direct shareholding as described above.⁴ Non-active family members are no longer able to be indirect shareholders and avoid the TOSI legislation. Active family members are able to be indirect shareholders and avoid the TOSI legislation as long as they fit into one of the exclusions under the TOSI rules. Depending on the province of residence, an individual who has no other source of income can receive anywhere between approximately $10,175 (non-eligible) and $53,230 (eligible) in dividends tax free. These amounts increase where the recipient has access to tax credits such as the tuition tax credit in the case of adult-children students. Commercial and family law considerations, in conjunction with the tax benefits, will determine whether it is worthwhile pursuing such a strategy. In select cases, a low-interest family loan can be advantageous for permissible income splitting. Given the low 1% “prescribed rate,” it may be worthwhile exploring this planning option, especially if the return on investment exceeds the prescribed rate.

Managing tax cash flow⁵

• If there’s a plan to pay salary, remember that bonuses can be accrued and deducted by the business in 2020, but not included in the business owner’s personal income until paid in 2021. To be deductible to a corporation, the accrued bonus must be paid within 180 days after the company’s year end, permitting a deferral of tax on salaries of up to six months.⁶
• If earnings left in the corporation exceeded the available small business deduction limit for the preceding tax year, corporate taxes for the current year will be due two months, rather than three months, after the year end. The current rate for late payment arrears interest is 5% and is not deductible for income tax purposes.
• Monthly and quarterly tax instalments (for corporate and personal income, respectively) must be managed to avoid arrears interest and penalty interest. A single midyear payment strategy can be used to simplify the obligation of making recurring payments, and generally reduce or eliminate interest and penalties.⁷
• Use of a shareholder “debit” loan account (where the corporation has a receivable from the individual shareholder) may simplify the need to project exact owner-manager remuneration requirements. Shareholder debit loans must be repaid within one year after the end of the year in which the loan was made, or else the loan will be included in the business owner’s income in the year funds were withdrawn. The repayment of a shareholder loan cannot constitute a series of loans or other transactions and repayments if the one-year repayment is to be considered valid.⁸
• Borrowing from the company within the permissible time limits will cause a nominal income inclusion at the prescribed rate, which is currently only 1%. The cost of financing from the corporation using shareholder loans can therefore currently be achieved at tax-effected rates of 0.475% to 0.54% at the highest marginal tax rates, depending on your province of residence.

For more information on remuneration planning and other tax-planning and tax-saving ideas, contact your EY advisor.

Winnie Szeto, Toronto

In this case, the Tax Court of Canada (TCC) found that the taxpayer was a resident of Canada for tax purposes during the 2013 taxation year even though he may also have been a resident of Ethiopia in that year. As a result, the income he earned in that year was taxable in Canada. The TCC noted that this case fell within the most difficult subgroup of residency cases, since it dealt with someone who had previously been an ordinary resident of Canada but who claimed to have severed ties with Canada by the time of the year in dispute.

Background

The taxpayer was born in Ethiopia in 1958. In 1981, he and his wife immigrated to Canada, and in 1985 he became a Canadian citizen. He studied at a Canadian university and graduated in 1986. The couple had three sons, all born in Canada.

From 1996 to 2004, the taxpayer owned and operated his own business in Canada. In 2004, he sold his business but continued to work for the new owners for two more years after the sale.

From 2006 to 2008, the taxpayer worked in Ethiopia as a country manager for two Canadian companies that had operations in Ethiopia but were headquartered in Toronto.

From 2008 to 2015, the taxpayer worked in Ethiopia as a country manager for another Canadian company (Aco), also with headquarters in Toronto. The taxpayer had an ownership interest in this company and was also part of the company’s senior management.

The taxpayer acknowledged that by 2017 he was once again a resident of Canada.

The Minister of National Revenue assessed the taxpayer to include total income of $230,828 for the 2013 taxation year on the basis that he was a resident of Canada during that year. The taxpayer appealed the assessment to the TCC.

The Crown’s position

The Crown argued that the taxpayer had sufficient connections to Canada during the 2013 taxation year to consider him a resident of Canada for that period. The Crown supported its position with the following facts, among others, with respect to the 2013 taxation year:

• The taxpayer had a valid Ontario Health Insurance Plan (OHIP) card, a valid Ontario driver’s licence and a Canadian passport.
• He paid no income taxes to any other jurisdiction.
• He paid rent for an apartment in Toronto for January and February and helped his son make a down payment on a condo in Toronto, where he often stayed.
• He owned a rental property¹ in Toronto.
• He received income of $202,500 from Aco, which was denominated in Canadian dollars and deposited into his Canadian bank account.
• He had numerous personal relationships in Canada — one of his sons was studying in Toronto and his other two sons, who were studying abroad, would return to Toronto whenever they had a break from their schooling.
• He had several Canadian bank accounts and investments, for which he used a Toronto address as his contact information, as well as a very active Canadian credit card.
• He was physically present in Canada for 110 days, in Ethiopia for 122 days, and in various other jurisdictions for the remainder of the year.

The taxpayer’s position

The taxpayer acknowledged that he still had various ties to Canada but argued that the ties existed only because he had family in Canada. He argued that he resided only in Ethiopia. Although he visited his family in Canada often and supported them financially, this did not mean that he was a resident of Canada. The taxpayer argued that his visits to Canada constituted sojourning, and that the visits did not have the quality of being a resident.

The taxpayer principally relied on the facts that several years had passed since he left Canada and that he had a home in Ethiopia (which he rented from 2006 until partway through 2013, when he purchased it). He claimed that he did not have access to a home in Canada from 2013 onwards.

The taxpayer supported his position with several facts, including:

• He was born in Ethiopia and was emotionally connected to the country.
• He separated from his wife in 2006, moved to Ethiopia and worked there from 2006 to 2017.
• He had a Foreign Nationals of Ethiopia Origin ID card (which enabled him to enter, work and stay in Ethiopia) and also had residency status in the United Arab Emirates.
• He had an Ethiopian bank account with a year-end balance of CAD$57,908.
• He had a girlfriend and dog residing with him in Ethiopia, and he employed a house cleaner and a driver.

The TCC’s decision

The principal issue in this appeal was whether the taxpayer was an “ordinary resident” of Canada in the 2013 taxation year.

At the outset, Judge MacPhee of the Tax Court noted that the term “resident” was not defined in the Income Tax Act (the Act)², except that a resident in Canada includes a person who was “ordinarily resident in Canada.”³

The Court was required to determine whether the taxpayer severed his ties with Canada such that he was no longer considered to be a resident. As there was no definitive objective test for such determination, the analysis must therefore be fact specific.

The Court found the following factors enumerated in Reeder v R⁴ to be helpful in determining whether the taxpayer was a resident of Canada:

• Past and present life habits
• Regularity and duration of visits in Canada
• Ties in Caranda
• Ties outside Canada
• Permanence or otherwise of purposes of stay abroad

Past and present life habits

Prior to 2006, the taxpayer’s everyday life was focused in Canada. Beginning in 2006, the taxpayer’s life changed significantly in that he spent significant amounts of time in Ethiopia. In 2013, he spent 122 days in Ethiopia vs. 110 days in Canada.

However, during this time, the taxpayer worked for a Canadian company while he was in Ethiopia, he had an ownership interest in this company, and his pay was deposited into his Canadian bank account. As a result, the judge found this factor slightly favoured the taxpayer.

Regularity and duration of visits in Canada

As noted earlier, the taxpayer spent 110 days in Canada. The judge was of the view that this was a substantial amount of time, considering the amount of world travel the taxpayer undertook that year. As a result, the judge found this factor to slightly favour the Crown.

Ties within Canada

According to Judge MacPhee this factor was the most determinative. The judge noted that the taxpayer had many ties in Canada — in particular, his very active bank accounts, his RRSPs (which he contributed to in 2013), income paid to him in Canada by his Canadian employer, his investment property in Toronto, his valid OHIP card and his Canadian driver’s licence.

Furthermore, the judge noted that the taxpayer had a large extended family in Canada in addition to his ex-wife and sons. Accordingly, the Court found that the most important aspects of the taxpayer’s life, from a financial and family perspective, were in Canada in the 2013 taxation year. As a result, this factor overwhelmingly supported the Crown’s position.

Ties outside Canada and permanence or otherwise of purposes of stay abroad

As previously noted, the taxpayer owned a home in Ethiopia for part of 2013, he worked many days in Ethiopia, and he had a driver, gardener, girlfriend and pet in Ethiopia. While these factors supported the argument that he may have been a resident of Ethiopia, the fact that he was a resident of Ethiopia did not mean that he cannot also be considered a resident of Canada. The judge noted that the case law was clear that a person can be a resident in two places at the same time.

Conclusion

Based on the above analysis, the Court concluded that the taxpayer was a resident in Canada in 2013 and, as a result, the income he earned in 2013 was taxable in Canada. The appeal was dismissed.

Lessons learned

In a world where cross-border work is common, taxpayers may find themselves in a similar position to the taxpayer in Biya, with significant familial and financial ties to more than one jurisdiction. Under Canadian income tax law, there is no bright-line test to determine one’s residency; rather, residency is determined on a case-by-case basis and is necessarily fact specific.

As Biya confirmed, a taxpayer may be considered a resident of Canada even if they have significant ties to another country and are not physically present in Canada for much of the year. It is important to note that Canada has tax treaties with many countries that contain tie-breaker rules that may provide some relief to taxpayers in such situations. However, Canada does not have a tax treaty with Ethiopia and, therefore, such relief would not have been available to the taxpayer in Biya.

Because Canadian income tax obligations are based on whether an individual is a resident of Canada, taxpayers are well advised to seek the assistance of tax professionals for residency determinations.

Tax Alerts – Canada

Tax Alert 2020 No. 50 – CRA update on CEWS and employee benefits
During a CPA Canada webinar held on October 26, 2020, the Canada Revenue Agency (CRA) provided updates on certain aspects of the Canada Emergency Wage Subsidy (CEWS) and introduced several administrative positions relating to employment benefits.

Tax Alert 2020 No. 51 – Ontario budget

Tax Alert 2020 No. 52 – Bill C-9 introduced: new CERS and amended CEWS
On November 2, 2020, Bill C-9, An Act to amend the Income Tax Act (Canada Emergency Rent Subsidy and Canada Emergency Wage Subsidy), received first reading in the House of Commons.

Tax Alert 2020 No. 53 – Québec IDCI: are you ready?
In its March 10, 2020 budget, Québec announced the introduction of a taxable income deduction for the commercialization of innovations in Québec (IDCI). In brief, the IDCI is a deduction that will allow a qualified innovative corporation to benefit from a reduced effective tax rate of up to 2% on the qualified portion of its taxable income attributable to qualified intellectual property assets. As of the date of this Tax Alert, draft legislation has not been released in respect of this new tax measure.

Tax Alert 2020 No. 54 – Federal government releases CERS
The federal government has released its long-anticipated draft legislation for the Canada Emergency Rent Subsidy (CERS) program along with two related backgrounders.

Tax Alert 2020 No. 55 – Québec Bill 42 receives Royal Assent
On September 24, 2020, Québec Bill 42, An Act to give effect to fiscal measures announced in the Budget Speech delivered on 21 March 2019 and to various other measures, as amended, received Royal Assent. Among other measures, Québec Bill 42 contains measures first announced in the March 21, 2019 Québec budget and further detailed by the Ministère des Finances in Information Bulletin 2019-5 released on May 17, 2019 relating to new mandatory disclosure requirements with respect to nominee agreements.

Tax Alert 2020 No. 56 – Federal government delivers its Fall Economic Statement 2020
On 30 November 2020, federal Deputy Prime Minister and Finance Minister Chrystia Freeland tabled Supporting Canadians and Fighting COVID-19: Fall Economic Statement 2020.

Tax Alert 2020 No. 57 – Income tax measures from the 2020 Federal Fall Economic Statement
Deputy Prime Minister and Minister of Finance Chrystia Freeland announced a broad range of tax measures in her first fall economic update on 30 November 2020.

Tax Alert 2020 No. 58 – Federal government announces specified GST/HST regime for e-commerce supplies
The Fall Economic Statement contains significant Goods and Services Tax (GST)/Harmonized Sales Tax (HST) proposals, including measures designed to ensure that GST/HST applies fairly and effectively in the context of an increasingly digital economy.

Tax Alert 2020 No. 59 – Stock option proposals reintroduced
The Fall Economic Statement reintroduces changes to the taxation of employee stock options first introduced in the 2019 federal budget. The changes introduce a $200,000 annual limit on employee stock options that may qualify for preferential tax treatment.