Tax changes

Pending tax changes could increase tax on sale of business

November 28, 2014

The Canada Revenue Service has had a busy week, hasn’t it?  In a moment, we will talk about some possible tax changes coming that may increase significantly the tax cost for selling a corporation, but first let’s touch on two events in CRA news.

On Wednesday, the CRA announced a formal agreement with the Chartered Professional Accountants (CPA) of Canada. Under this “Framework Agreement” the two organizations will be setting up seven committees to increase communication and cooperation in tax compliance, administration and red tape.

This is a first ever event, and could be historic, in setting up a formal framework between the rule makers and the professionals who must help taxpayers comply with those rules. 

Kudos to both the Minister of National Revenue and CPA Canada, which now represent 80% of professional accountants in Canada, for making this happen.

Oh, yes, CRA also had that little issue this week with accidentally releasing to the CBC the names, home addresses and private tax information of a long list of famous artists and writers.  CRA says this was due to “human error”.

That’s a truly astounding breach, especially when the new Privacy Act has private companies and private citizens doing backflips in order to comply.  

What I found ironic about the CRA leak and the outrage voiced by the CBC was that the CBC had asked for some of this information, and felt they were entitled to it, because of the Canadian Access to Information Act, under which they made the request. They then committed the actual invasion of privacy, by broadcasting the names.

In CRA’s defense, my experience is that they guard individual taxpayer’s privacy very well.  When recently trying to get info on a letter they had sent to my wife, with her tax return in my hand and a copy of their letter to read to them, my feeling was that they guarded things too well.  But, of course they were right to tell me nothing without my wife’s written authorization. And that’s what they did. So don’t let this recent breach concern you and your personal information (unless you’re famous).

So, let’s move back to reducing your taxes. Next week, we will review the steps you can take before December 31 to pay the least amount of tax possible in 2014.

Today, though, we focus on business owners, and a possible change to tax rules that could eliminate an important tax deferral opportunity on certain business sales.  Tax advisors should be consulted.

In the 2014 Federal Budget, the government announced they would conduct consultations regarding “eligible capital property” or ECP.  This is a category of business assets which includes goodwill and certain licenses, franchises and quotas.

On the sale of a Canadian Controlled Private Corporation under the current tax rules, ECP assets are not treated as regular depreciable property.  Instead, half of the value ascribed to goodwill and other ECP is taxed at the active business tax rate, which is just 12% in Manitoba, on the first $400,000 of annual profit. 

According to a recent commentary by Cadesky and Associates LLP, a tax specialist firm, the government may be planning on treating ECP as regular depreciable property, and having its value taxed at the much higher investment tax rate on a sale.

This can be significant, as typically the cost base on goodwill is near zero for tax purposes, resulting in a large gain on the sale. Having a higher payment for ECP and less for fully taxable depreciable property has been a good way to reduce tax at the time of a sale.

Mitigating the effect of this somewhat is the fact that this tax saving is a deferral, and may not be an outright tax saving in the end. This is because the sale proceeds of such assets remain in the corporation. When future dividends are paid to the shareholders in order to use this money personally, there is a lower tax rate applied to “eligible” dividends.  These are dividends paid from retained earnings that had been taxed to the corporation at the higher rate.

If, on the other hand, the corporation had paid the lower small business rate of tax on profits, then subsequent dividends are “other than eligible”, and taxed to the shareholder at a higher personal tax rate.

With CRA, as with life, you seldom get something for nothing. Tune in next week to find out some ways that you might.

*     *     *

Dollars and Sense is meant as an introduction to this topic and should not in any way be construed as a replacement for personalized professional advice.

Please consult legal, tax and investment experts for advice on your unique situation.

David Christianson, BA, CFP, R.F.P., TEP, CIMis a financial planner and advisor with Christianson Wealth Advisors, a Vice President with National Bank Financial Wealth Management, and author of the book Managing the Bull, A No-Nonsense Guide to Personal Finance.