The Federal Government takes aim at private corporations and their shareholders

by Dentons


On July 18, 2017, the Federal Government released a package of tax measures aimed to “improve fairness”, “close loopholes” and limit tax planning strategies that involve the use of private corporations. The suite of measures represents the most significant overhaul of the taxation of private corporations in Canada in approximately 40 years. This note summarizes many of the proposed amendments to the Income Tax Act (Canada) (the “Act”) and provides some preliminary suggestions for taxpayers affected by the proposed measures to consider.

Proposed changes

Sprinkling of income using private corporations

The proposed measures extend the existing tax on split income for minors (the so-called “Kiddie Tax”) to adults in certain circumstances. New rules will be introduced to “help determine whether compensation is reasonable” based on a family member’s “contribution of value” and “financial resources” to the private corporation.

In general, the term “income sprinkling” refers to tax-planning arrangements whereby income that would have presumably been taxed in the hands of a high-income individual, is instead taxed as income of another lower-income individual. Previous attempts to limit income splitting tended to focus on minor children only.

Under the proposed measures, dividends and other amounts received from a corporation, by an adult family member of the principal of the corporation, will generally be subject to tax at the highest rate, subject to a reasonableness test. Absent the proposed amendments, there was generally no mechanism in the Act to treat these amounts as being subject to tax at any rate higher than that which otherwise applied to the recipient. A corporation paying an amount as a salary or bonus, however, has to justify such payment as reasonable in order to claim a deduction for the amount paid pursuant to section 67 of the Act. The proposed Kiddie Tax amendments amount to a significant new measure for the government to prevent what it considers inappropriate distribution of income among family members.

Under the proposed measures, an adult individual who receives split income will liable for tax at the highest marginal rate on the “unreasonable portion of income” from the business of a related individual. The proposals include:

  • An expanded definition of a “specified individual” to include Canadian resident individuals, whether minor or adult, who receive split income.
  • A new reasonableness test for the purpose of determining whether tax on split income applies to a specified individual who is an adult. Under the proposed measures, the reasonableness test is subject to the labour contributions and capital contributions of the adult individual. The reasonableness test is more restrictive for specified individuals age 18 – 24.

A series of proposed measures are specifically targeted at regulated professionals using private corporations as a means to lower their family’s overall tax burden. This can be seen as an extension of the attack on regulated professionals which began in earnest in Budget 2016, with a drastic overhaul of the specified partnership income rules. These revisions greatly curtailed the ability of certain professionals to access the reduced rate of tax available under the small business deduction.

LCGE planning

The Government is also proposing to eliminate tax planning that encourages the proliferation of the lifetime capital gains exemption (“LCGE”) available on the disposition of shares of a qualified small business corporation. The proposed measures are to:

  • Eliminate the ability for individuals to qualify for the LCGE in respect of capital gains that are realized, or that accrue, before the taxation year in which the individual attains the age of 18 years.
  • Eliminate the ability for individuals to claim the LCGE to the extent that a taxable capital gain from the disposition of property is included in an individual’s split income.
  • Limit the ability to claim the LCGE on gains that accrue during the time when property is held by a trust.

The proposed measures are set to apply to dispositions made after 2017. Special transitional rules are proposed that will allow an individual to elect to realize a capital gain on eligible property in 2018 that is eligible for the LCGE under current rules.

Passive investment income

The tax deferral advantage on passive income (e.g. income derived from portfolio investments) is to be eliminated. At first this statement is confusing since investment income earned by a Canadian-controlled private corporation is taxed at approximately the highest personal tax rates. Since active business income, whether or not subject to the small business deduction, is taxed at less than the highest personal tax rates, corporations have the opportunity to invest funds not needed for their businesses. These corporations can invest greater amounts in passive investments than individuals who have paid more tax than the corporations on similar amounts of income;

Under the current rules under the Act, passive investment income can take on many forms, such as interest, dividends, rental income or capital gains. By retaining savings in a corporation, the tax benefit of saving within a private corporation often exceed the tax benefit of existing saving vehicles, such as registered retirement savings plans or tax free savings accounts.

A number of different tax systems, such as an apportionment or elective methods have been suggested to deal with this perceived abuse and Finance Canada has asked for comments on these alternatives. The proposed changes would generally affect corporate owners who are setting aside some of their corporate profits for passive investments, but should not impact taxes payable by corporations with no passive investment income.

Capital gains stripping

Since the spread between the tax of capital gains and dividends has increased substantially over the last few years, it is proposed to “put more teeth” in section 84.1. Section 84.1 has been around since 1985 and its purpose is to prevent taxpayers from removing or “stripping” surplus from a corporation in a tax-efficient manner. Transactions that permit section 84.1 to be avoided permit a taxpayer to treat gains on disposition of shares as capital gains, rather than taxable dividends, that are ineligible for the LCGE.

The current version of section 84.1 also allows, even in non-arm’s length situations, individuals to strip surplus from the corporation in an amount equal to the “hard” adjusted cost base of their shares.

An expanded anti-stripping rule is proposed by amendments to section 84.1. More specifically, the Act is amended to prevent individual taxpayers from using non-arm’s length transactions that “step-up” the cost base of shares of a corporation in order to avoid the application of section 84.1 on a subsequent transaction. The anti-stripping rule would apply to non-arm’s length transactions where it is reasonable to consider that “one of the purposes” of the transactions or series of transactions is to pay an individual shareholder non-share consideration out of a corporation’s surplus, to the extent that the hard adjusted base has been increased by an acquisition from a non-arm’s length transaction. Changes are also proposed to prevent removal of private corporation surplus that is taxed as a capital gain instead of as a dividend.

Section 246.1

Proposed section 246.1 appears to catch at least two types of transactions. It is possible that more transactions could be affected.

First, it appears that the use of the popular “pipeline transaction” would deem a taxable dividend to be received by an individual even to the extent of the “hard” adjusted cost base of the shares. This is somewhat surprising since a number of favourable advanced tax rulings have been given for pipeline transactions where the CRA’s requirements were met. It is not certain how these new provisions will interact with the proposed amendments to section 84.1.

A second type of transaction that may be affected is the deliberation of subsection 55 (2) to trigger a capital gain and distribute the resulting capital dividend amount.

Where do we go now?

  1. The amendments to section 84.1 and the new s.246.1, if enacted are already effective. Some taxpayers may have ongoing structures that are impacted by these proposed measures and should undertake a review to determine if revisions are advisable.
  2. The anti-sprinkling rules come into effect in 2018. The salary/dividend mix of private corporations and their shareholders should be reviewed before 2018 and adjustments considered advisable made in 2017.
  3. LCGE planning should be re-visited. Planning considerations may include advising trustees to make tax-deferred distributions to beneficiaries sooner or contemplating use of the proposed election available for dispositions of eligible property in 2018.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Dentons | Attorney Advertising

Written by:


Dentons on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.


JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at:

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.