The 2018 Federal Budget tabled a number of proposals that will impact the financial, tax and estate plans of Canadians. The following is a summary of the most relevant budget proposals that may impact financial advisors and their clients.
- Measures for Corporations
- Measures for Individuals
- Measures for Charities
- Measures for Trusts
- Previously Announced Measures
Measures for Corporations
There has been controversy over the taxation of passive investments in a private corporation since the release of the July 2017 consultation paper. The Federal budget released on Tuesday, February 27, added much needed simplicity and clarity on how passive investments will treated going forward. The government was concerned that Canadian-controlled private corporations (CCPCs) could access the small business rate (currently 13% in Ontario – varies by province) and the after tax monies could be invested in the business passively, allowing a tax deferral until the funds are distributed as a taxable dividend. In addition to accessing the small business rate, corporations could also access the RDTOH and Capital Dividend Account (CDA), lowering the overall corporate and personal income taxes paid.
The Federal Budget proposes two measures for passive investments held in a corporation, effective for taxation years beginning after 2018.
1. Business Limit Reduction
a) The 2018 Federal budget proposals for passive investments will not change how investment income is taxed, or eliminate the RDTOH as previously announced. Instead, it proposes to reduce the small business limit for CCPCs (and their associated corporations) on a straight-line basis when investment income ranges between $50,000 and $150,000. The small business deduction will be eliminated for use on active income when passive investment income reaches $150,000 (reduced by $5 for every $1 of investment income above the $50,000 threshold). Earning a rate of return of 5%, passive investments of $1,000,000 can be held without a reduction in the small business limit (could vary based on your rate of return). For example, a CCPC with $100,000 of investment income would have a business limit reduction to $250,000. Active income up to $250,000 will still benefit from the use of the small business limit and active income in excess of the reduced business limit will be taxed at the general corporate tax rate.
b) Adjusted Aggregate Investment Income – The budget proposes to introduce a new concept of “adjusted aggregate investment income” for determining the business limit reduction. The current concept of aggregate investment income includes interest, royalties, foreign dividends and rent as well as the taxable portion of capital gains. The new concept will have some specific exclusions.
2. Refundability of Taxes on Investment Income
Currently, investment income is taxed at the corporate passive investment rate similar to the top personal income tax rate. Some of this tax paid is refundable at a rate of $38.33 for every $100 of taxable dividends paid to shareholders. Dividends may be eligible or non-eligible.
- Non-eligible dividends (taxed at higher personal tax rates) are usually paid from income subject to the small business tax rate (including non-eligible dividends received by the corporation) or from passive investment income (except non-taxable portion of capital gains and eligible portfolio dividends).
- Eligible dividends (taxed at lower personal tax rate) generally result when active income is taxed at the general rate as well as portfolio dividends from publicly traded Canadian corporations.
The current system allowed a corporation to receive an RDTOH refund when an eligible dividend was paid. This could provide a tax deferral advantage on passive investment income by allowing private corporations paying eligible dividends sourced from active business income taxed at the general corporate income tax rate to generate a refund of taxes paid on passive income.
a) New RDTOH accounts
To better align the refund of taxes paid on investment income, the Federal budget proposes that a refund of RDTOH will be available only when a private corporation pays non-eligible dividends or when RDTOH arises from eligible portfolio dividends received.
The former RDTOH account will now be referred to as the non-eligible RDTOH account and will track refundable corporate taxes paid on investment income as well as under non-eligible portfolio dividends. In addition, different treatment proposed regarding the refund of taxes imposed on eligible portfolio dividend income will necessitate the addition of a new RDTOH account. This new account (eligible RDTOH) will track refundable taxes paid on eligible portfolio dividends. Taxable dividends paid (i.e., eligible or non-eligible) will entitle the corporation to a refund from its eligible RDTOH account but will be restricted by the new ordering rule described below.
b) RDTOH Refunds – Ordering Rule
The budget implements a new ordering rule for RDTOH refunds. Generally a non-eligible RDTOH refund must be refunded before a refund from the eligible RDTOH account.
c) RDTOH Recapture
When a dividend is received by a connected corporation, the recipient corporation will include Part IV tax to their RDTOH account. The RDTOH account of the recipient corporation must match the RDTOH account from which the payer corporation obtained its refund.
d) Treatment of existing RDTOH Balance
The transition of the existing RDTOH account will be allocated as follows. The lesser of;
- the existing RDTOH balance, and
- 38⅓ per cent of the balance of its general rate income pool
will be allocated to its eligible RDTOH account.
Any remaining balance will be allocated to its non-eligible RDTOH account. For any other corporation, all of the corporation’s existing RDTOH balance will be allocated to its eligible RDTOH account.
In summary, the budget proposals continue to reinforce the importance of tax efficient investing for passive investments in a corporation. Corporate class mutual funds remain an integral component of corporate investment portfolios.
Measures for Individuals
Registered Disability Savings Plan – Qualifying Plan Holders
Currently, for an adult individual whose capacity is in doubt, the plan holder for the individual’s Registered Disability Savings Plan (RDSP) must be the individual’s appointed legal representative. A temporary Federal measure exists to also allow a qualifying family member (i.e., a parent, spouse or common-law partner) to be the plan holder of the individual’s RDSP. This measure is legislated to expire at the end of 2018.
Budget 2018 proposes to extend the temporary measure by five years, to the end of 2023. A qualifying family member who becomes a plan holder before the end of 2023 could remain the plan holder after 2023.
Canada Workers Benefit
The Working Income Tax Benefit, a refundable tax credit that supplements the earnings of low-income Canadian workers, will be renamed the Canada Workers Benefit.
Budget 2018 intends to increase the support to recipients of the new Canada Workers Benefit (CWB). Specifically, Budget 2018 proposes that, for 2019, the amount of the benefit be equal to 26% of each dollar of earned income in excess of $3,000 to a maximum benefit of $1,355 for single individuals without dependents and $2,335 for families (couples and single parents). The benefit will be reduced by 12% of adjusted net income in excess of $12,820 for single individuals without dependents and $17,025 for families.
The chart below on the following page highlights the proposed enhancement of the Canada Workers Benefit in 2019 for a single individual without dependents.
Increased benefits will also be available to individuals eligible for the Disability Tax Credit who receive the Canada Workers Benefit disability supplement. This measure will apply as of 2019 and will be indexed to inflation.
Deductibility of Employee Contributions to the Enhanced Portion of the Quebec Pension Plan
In 2017, the Government of Quebec announced that the Quebec Pension Plan (QPP) would be enhanced similar to the previously announced Canada Pension Plan (CPP) enhancements. The CPP enhancements permit a tax deduction for employee contributions to the enhanced CPP (while tax credits are available on the base CPP). Contributions to the enhanced portion of the CPP will begin in 2019 and will be fully phased in by 2025.
To provide consistent income tax treatment of CPP and QPP contributions, Budget 2018 proposes to provide a deduction for employee contributions to the enhanced portion of the QPP (as the enhanced portion of employee CPP and QPP contributions will be deductible for Quebec income tax purposes). Since contributions to the enhanced portion of the QPP will begin to be phased in starting in 2019, this measure will apply to the 2019 and subsequent taxation years.
Canada Child Benefits
Budget 2016 introduced the Canada Child Benefit, replacing the previous child benefit system, which consisted of the Canada Child Tax Benefit, the National Child Benefit supplement and the Universal Child Care Benefit. Foreign-born status Indians who are neither Canadian citizens nor permanent residents are eligible for certain programs and services, including the new Canada Child Benefit. However, these individuals were not eligible under the previous system of child benefits.
Budget 2018 proposes that such individuals be made retroactively eligible for the Canada Child Tax Benefit, the National Child Benefit supplement and the Universal Child Care Benefit, where all other eligibility requirements are met. The retroactive proposal applies from the 2005 taxation year to June 30, 2016.
Building a Secure Retirement
Starting in 2019, the federal government will begin to phase in the CPP Enhancement, which will provide more money for Canadians when they retire. The government also intends to take the following actions for 2019:
- Increase retirement benefits under the CPP Enhancement both for parents who take time off work to care for young children, and for persons with severe and prolonged disabilities
- Raise survivor’s pensions for individuals under age 45 who lose their spouse, by providing a full survivor’s pension instead of the current reduced pension that is linked to the age of the widow or widower.
- Provide a top-up disability benefit to retirement pension recipients under the age of 65 who are disabled and meet eligibility requirements.
- Increase the death benefit to its maximum value of $2,500 for all eligible contributors.
Medical Expense Tax Credit – Eligible Expenditures
The Medical Expense Tax Credit (METC) is a 15% non-refundable tax credit that is available (for 2018) on qualifying medical expenses in excess of the lesser of $2,302 and 3% of the individual’s net income. The METC currently provides tax relief in respect of certain expenses incurred for an animal specially trained to assist a patient in coping with a number of impairments.
Budget 2018 proposes to expand the list of eligible expenses for the METC where they are incurred in respect of an animal specially trained to perform tasks for a patient with a severe mental impairment in order to assist them in coping with their impairment. This measure will apply in respect of eligible expenses incurred after 2017.
Mineral Exploration Tax Credit
The 15% Mineral Exploration Tax Credit helps junior mineral exploration companies raise capital by providing an incentive to individual investors in flow-through shares issued to finance grassroots mineral exploration. This credit is in addition to the deduction provided to the investor for the exploration expenses “flowed through” from the company that issues the shares. The credit is scheduled to expire on March 31, 2018. Budget 2018 proposes to extend the credit for an additional year, until March 31, 2019.
Improving Access to the Canada Learning Bond
The Canada Learning Bond and Canada Education Savings Grant are contributions that the Government of Canada makes to Registered Education Savings Plans (RESPs) to help Canadians save for a child’s education after high school. Building on Budget 2017 measures, the Government of Canada is working with the Province of Ontario to integrate RESP referrals into the Ontario online birth registration service. This means more children from low-income families will be able to access the Canada Learning Bond. Parents will be able to open an RESP at the same time as they apply for other services under the Ontario online birth registration service and receive the Canada Learning Bond immediately.
Measures for Charities
Municipalities as Eligible Donees
In order to maintain the charitable status registration, charities must make qualifying expenditures, including gifts to eligible donees. Some charities find it difficult to locate an eligible donee that is willing or able to assume ownership of one or more of its assets.
Budget 2018 proposes to allow transfers of property to municipalities as a qualifying expenditures, subject to the approval of the Minister of National Revenue on a case-by-case basis. This could be particularly helpful for charities in rural areas, who own assets that have significance to the community, such as a fire hall or a cemetery. In these cases, a municipality may be the most appropriate recipient of such property even though, under current rules, it is not a charity. This measure will apply to transfers made on or after Budget Day.
Universities Outside of Canada
Gifts are eligible for donation tax benefits if they are made to certain universities outside of Canada, who meet specific criteria and comply with receipting and record keeping conditions. These two registration processes result in some administrative inefficiencies, including the listing of qualifying universities outside of Canada in the Income Tax Regulations and on the Government of Canada’s website. Budget 2018 proposes to improve efficiencies by eliminating the requirement to include the list in the Income Tax Regulations. This will take effect as of February 27, 2018.
Measures for Trusts
Increased Reporting Requirements
Trusts that do not earn income or make distributions in a year are generally not required to file a T3 Trust return. Also, trusts which do file T3 returns are not generally obligated to disclose the identity of all its beneficiaries. Budget 2018 proposes for certain trusts to provide additional information on an annual basis. Where the new reporting requirements apply to a trust, the trust will be required to report the identity of all trustees, beneficiaries and settlors of the trust, as well as the identity of each person who has the ability to exert control over the trustee. These proposed new reporting requirements will apply to trust returns filed for the 2021 and subsequent taxation years.
Budget 2018 also proposes new penalties for failure to file a T3 return. The penalty will be equal to $25 for each day of delinquency, with a minimum penalty of $100 and a maximum penalty of $2,500. Additional penalties may apply if the failure to file was due to gross negligence.
Health & Welfare Trust
A Health and Welfare Trust (HWT) is a trust established by an employer for the purpose of providing health and welfare benefits to its employees. In 2010, the Employee Life and Health Trust rules were introduced to the Income Tax Act. These trusts also provide health benefits for employees including; group sickness or accident insurance plans, private health services plans, and group term life insurance policies. While differences exist, the Employee Life and Health Trust rules are very similar to the rules for HWTs.
Budget 2018 proposes to have only one set of rules apply to these trusts and, as a result, the CRA will no longer apply their administrative positions with respect to HWTs after the end of 2020. To facilitate the conversion of existing HWTs to Employee Life and Health Trusts, transitional rules will be added to the Income Tax Act, including guidance on winding up existing HWTs. The Government is looking for stakeholder input.
Previously Announced Measures
Budget 2018 confirmed the Government’s intention to proceed with the following previously announced tax measures:
- Income tax measures released on December 13, 2017, to address income sprinkling
- The income tax measure announced on October 16, 2017, to lower the small business tax rate from 10.5 per cent to 10 per cent, effective January 1, 2018, and to 9 per cent, effective January 1, 2019 (with related amendments to dividend tax credits for taxable dividends)
- The income tax measure announced on October 24, 2017, in the Fall Economic Statement to provide for the indexing of the Canada Child Benefit amounts as of July 1, 2018, instead of July 1, 2020, and;
- The income tax measure announced in Budget 2016 on information reporting requirements for certain dispositions of an interest in a life insurance policy.