Integration for Business & Investment Income of the Private Corporation (Part 1)

Concept of Integration

  • Purpose is to prevent double taxation.
  • Tax neutrality: No tax advantage or disadvantage among different business forms (corporation, sole proprietorship, partnership).

Scenarios of Taxation

  • Scenario #1: Individual earns $10,000 term deposit interest.
    • Files individual tax return, pays 40% tax, walks away with $6,000 after taxes.
  • Scenario #2: Buys shares in a CCPC (Canadian Controlled Private Corporation) with $10,000 interest.
    • Pays corporate tax (lower due to SBD) and dividend tax, walking away with $6,000 after taxes.
  • Scenario #3: Buys shares in a public company with $10,000 interest.
    • Pays higher corporate tax and dividend tax, still walking away with $6,000 after taxes.

Advantages of Incorporation vs. Individual Investment

  • By investing via a corporation, tax can be deferred compared to an individual paying taxes immediately on interest.
  • CCPCs benefit from lower tax rates and small business deductions, enabling reinvestment.

General Rate Income Pool (GRIP)

  • Dividends from GRIP are "Eligible Dividends" and subject to 38% gross up.
  • Assumed all income from public corporations is part of this pool.
  • CCPCs can designate eligible dividends up to their GRIP balance.
GRIP Balance Calculation
  • Add: GRIP balance at previous year-end, after-tax earnings not benefiting from SBD, eligible dividends received.
  • Subtract: Eligible dividends paid.

Low-Rate Income Pool (LRIP)

  • Represents income taxed at a lower corporate rate (13.8%) and under specific conditions for CCPCs.
  • Includes non-eligible dividends subject to a 15% gross up.
LRIP Balance Calculation
  • Add: Previous LRIP balance, after-tax earnings eligible for SBD, non-eligible dividends received.
  • Subtract: Non-eligible dividends paid.

Active Business Income (ABI) Integration Tools

  • Small Business Deduction (SBD): Reduces corporate tax rate for active business income.
  • Refundable Part I Tax: Incentive measures for businesses.
  • Dividend Refund: Facilitates redistribution of income to shareholders.

Small Business Deduction (SBD)

  • Rate: 19% of first $500,000 of active business income for CCPCs.
  • Net federal tax implications of SBD: Basic rate subject to federal and provincial abatement, estimation based on thresholds.
  • Eligibility: Required to maintain CCPC status throughout the year; limited based on associated corporations' income.
Deeming Rules [ss.129(6)]
  • Prevent income manipulation to obtain advantages from SBD by reclassifying rental income as active if connected with ABI.
  • Existence of specified investment or personal services business results in ineligibility for SBD.

Calculation and Reduction of SBD

  • SBD directly influences taxable income and business limits.
  • Reduction formulas based on taxable capital exceeding $10M and Adjusted Aggregate Investment Income (AAII).
    • Example illustrating different reductions using applicable formulas.

Definitions of Income Types

  • Active Business Income (ABI): Any income from business except SIB and PSB.
  • Specified Investment Business (SIB): Business primarily for deriving income from property with minimum full-time employees.
  • Personal Services Business (PSB): Income earned providing services similar to an employee's position.

Ancillary Income

  • Income from minimal non-business activities may be classified as part of active business income under certain conditions (interest from short-term investments).

Association Rules

  • Focus on preventing multiple SBD claims through associated corporations.
  • Definitions of related parties and control lack regularity, emphasizing shares and influence.
Associated Corporations Criteria
  • Relationship through shared control, ownership, or combined interests resulting in association.

Control Types

  • Direct Control: >50% ownership leading to legal control.
  • Indirect Control: Influence through shareholding despite possessing less than 50%.
Look Through Rules
  • Provides clarity on indirect ownership structure influencing control and association.

Incorporation Advantages & Disadvantages

Advantages:
  • Tax deferral, income splitting, estate planning, limited liability, potential access to financing.
Disadvantages:
  • Higher taxes at times, initial tax prepayment, and increased legal/accounting costs.