On February 27, 2018, Finance Minister Bill Morneau tabled one of the most highly anticipated budgets in recent years. The budget, entitled “Equality + Growth: A Strong Middle Class” (the “Budget”) builds on the themes of previous budgets: creating a strong middle class, gender equality and delivering a fair tax system. A number of noble issues were addressed, including the creation of a framework for pay equity in federally-regulated organizations and support for women in assuming a greater role in business, the government, and in sports.
Passive Income Tax Reform
The most significant development from a tax planning perspective was the highly anticipated release of tax reforms to passive income earned by private corporations.
Prior to the Budget, the government committed to ensuring:
- Passive investments held prior to any changes, including the future income on such investments would be protected (i.e. grandfathered);
- A $50,000 threshold was provided going forward; and
- Incentives were maintained for Canada’s venture capital and angel investors.
The potential creation of multiple pools of investments would have created a complex and burdensome situation for business owners. It is with a sigh of relief then that the government put forth a tempered response to the issue of passive income within private corporations. The proposed measures limit the tax deferral advantages on passive investment income in a manner that should appease most critics.
The first measure proposes to limit the ability of businesses with significant passive savings to benefit from the preferential small business rate. Where applicable, the small business deduction limit will be reduced by $5 for every $1 of investment income above an annual threshold of $50,000. The business limit would then be reduced to zero at $150,000 of investment income. This approach is simple and does not require the tracking of new and legacy investment pools. The proposal also provides relief from certain types of passive income that are incidental to the active business.
The second measure is designed to better align the refundable component of the tax on passive income within a private corporation with the source of the dividends being used to trigger the refund. Under the current system, both “eligible” and “non-eligible” dividends result in the refund of the Refundable Dividend Tax on Hand (RDTOH) balance.
- “Non-eligible” dividends are presumed to have been paid from a corporation’s active business income that has been subject to the small business tax rate or from passive investment income, excluding eligible portfolio dividends.
- “Eligible” dividends are presumed to have been paid from a corporation’s active business income that has been subject to the general corporate tax rate and includes eligible portfolio dividends.
The Budget proposes the refund of RDTOH be available only where a private corporation pays a “non-eligible” dividend. An exception will be provided in respect of RDTOH arising from eligible portfolio dividends. A new “eligible” RDTOH account will be created to track the refundable taxes paid on eligible portfolio dividends moving forward.
The two measures will apply to taxation years that begin after 2018.
Further details relating to the passive income tax reform will be addressed in an upcoming Expanded Horizons article.
Enhancements to the Employment Insurance (EI) Program
For many Canadians, starting a family typically coincides with the soon-to-be parents establishing their careers. EI maternity and parental benefits provide financial security to the family during that all-important first year. The benefit was extended in Budget 2017, giving families the ability to receive up to 61 weeks of EI parental at a lower benefit rate of 33% of average weekly earnings over an extended 18 month period.
In an effort to promote gender equality at home and in the workplace, the EI benefit is once again being enhanced. The Budget proposes to introduce a new EI parental sharing benefit which will provide additional weeks of coverage where both parents agree to share the parental leave. The benefit will increase the duration of the EI parental leave by up to five weeks where the second parent agrees to take a minimum of five weeks under the standard 12 month option. The benefit remains 55% of earnings for the full 40 weeks. For families who opt for the extended leave at the reduced benefit, the second parent would be able to take up to eight weeks of additional parental leave.
The EI parental sharing benefit initiative is expected to be available starting June 2019.
Another benefit was launched December 3, 2017 and while it was not part of the Budget, it deserves recognition. This benefit is the EI Family Caregiver benefit and is available to help families care for a critically ill adult. The benefit allows an eligible caregiver to take up to 15 weeks off work to care for or support an adult family member who is critically ill or injured.
To access the new EI Family Caregiver benefit a medical certificate must be signed by a medical doctor or nurse practitioner stating that:
- there has been a significant change in the patient’s baseline state of health;
- the patient’s life is at risk as a result of an illness or injury; and
- the patient requires the care or psychological or emotional support of one or more family members.
Protecting Canadian’s Pensions:
Over the past couple of years there have been several high-profile companies, such as Sears Canada, that have gone through the insolvency process with substantial unfunded pension liabilities. The situation has left many Canadians uncertain about their retirement and is an area that the government wishes to address. Over the coming months the government will be seeking feedback from pensioners, employees, and companies in order to develop an approach to address the retirement security for all Canadians.
Personal Tax Measures:
Canada Workers Benefit:
The Budget proposes to rename and enhance the Working Income Tax Benefit, which provides a refundable tax credit to low-income Canadians. The maximum benefit is to be increased to $1,355 (up from $1,192) for single individuals without dependants and $2,335 (up from $2,165) for families. The benefit is reduced by 12% (originally 14%) of adjusted net income in excess of $12,820 for single individuals without dependants and $17,025 for families.
Individuals qualifying for the Disability Tax Credit may also be entitled to a disability supplement. The Budget proposes the maximum amount of the disability supplement be increased to $700, with the phase-out increasing to $24,111 for single individuals without dependants and to $36,483 for families. The rate reduction is to be reduced to 12% and to 6% where both partners are eligible for the supplement.
These measures are to be introduced in 2019 with indexation continuing to apply afterwards.
Medical Expense Tax Credit:
The Medical Expense Tax Credit (METC) is a non-refundable tax credit designed to address the impact above-average medical and disability related expenses has on an individual taxpayer. For 2018, the METC is available for eligible medical expenses in excess of the lesser of $2,302 and 3% of the individual’s net income.
Tax relief is currently offered in respect of certain expenses incurred for an animal specially trained to assist individuals cope with specified impairments (for example, a guide dog trained to lead blind and visually impaired individuals). The Budget proposes to expand the definition of impairments to include conditions such as post-traumatic stress disorder. This measure is to apply in respect of eligible expenses incurred after 2017.
Mineral Exploration Tax Credit:
Flow-through shares (“FTS”) are an important vehicle for junior resource corporations to raise capital for exploration and development activities. The FTS allow these corporations to transfer the resource expenses to the investor, thus providing valuable tax planning opportunities. The Budget extends the eligibility for the Mineral Exploration Tax Credit for an additional year, to FTS agreements entered into on or before March 31, 2019.
Reporting Requirements for Trusts:
Trusts provide a degree of anonymity that creates the concern of complex arrangements being used for aggressive tax avoidance, tax evasion, money laundering and other criminal activities. A trust is generally not required to file an annual (T3) return where it does not earn income or make distributions. Furthermore, a trust is not required to report the identity of all of its beneficiaries when a return is required. To remedy this situation the Budget proposes to require certain trusts to provide additional information on an annual basis. The new reporting requirements will require the trust to report the identity of all trustees, beneficiaries and settlors of the trust, as well as any person who has the ability to exert control. The following types of trust are excluded from the new reporting requirements:
- mutual fund trusts, segregated fund and master trusts;
- trusts governed by registered plans;
- lawyers’ general trust accounts;
- graduated rate estates and qualified disability trusts;
- trusts that qualify as non-profit organizations or registered charities; and
- trusts that have been existence for less than three months or that hold less than $50,000 in assets throughout the taxation year.
The proposed reporting requirements will apply for the 2021 and subsequent taxation years.
Health and Welfare Trusts
A Health and Welfare Trust (HWT) is a trust established by an employer for purposes of providing health and welfare benefits to its employees. The tax treatment for the HWT is not set out within the Income Tax Act (ITA) and instead relies on administrative positions published by the Canada Revenue Agency (CRA). The administrative positions deal with the contributions to, and the computation of, taxable income of such trusts. The tax treatment of health benefits paid to employees is set out in the ITA.
In 2010, rules regarding Employee Life and Health Trusts (ELHT) were added to the ITA, addressing certain issues not dealt with by the CRA’s administrative position on HWTs. The treatment of surplus income and pre-funding of benefits are some examples of issues not addressed by the administrative HWT regime.
The Budget proposes to apply one set of rules to these arrangements with the CRA administrative positions on HWTs no longer applying after the end of 2020. Transition rules to convert HWT to ELHT will be added to the ITA after a period of consultation. Stakeholders are invited to submit comments on the transitional issues to HWT-consultation-FSBE@canada.ca no later than June 29, 2018.
Previously Announced Tax Measures
The Budget reaffirms the Government’s intentions to proceed with various tax measures previously announced. A few of the more relevant ones include:
- the income tax measure announced in Budget 2016 on information reporting requirements for certain dispositions of an interest in a life insurance policy;
- the income tax measure announced on October 16, 2017 to lower the small business tax rate from 10.5% to 10% effective January 1, 2018 and to 9% effective January 1st, 2019, along with related amendments to the gross-up amount and dividend tax credit for taxable dividends; and
- the income tax measures released on December 13th, 2017 to address income sprinkling.
Budgets today seem to have less and less to do with budgeting. The idea of national debt is also changing – remember the days when the debt was expressed in terms of dollars? With a projected deficit of $18.1 billion for the 2018/19 spending program it is clear borrowing has become the way of life in Canada. Of course, it sounds better when the total debt is compared to the GDP. This appears to be the new norm, and at least we can take solace in the fact we have the lowest Debt to GDP ratio in the G7.
As expressed by Minister Morneau the Budget is “doubling down on [the] plan to invest in the middle class and in people working hard to join it.” Perhaps someday we will figure out how to repay the debt too.
This article was provided courtesy of Chris Geldert, CPA, CA, CEA
Chris Geldert joined Financial Horizons Group in 2013 and is excited to be able to continue providing first class resources advisors should come to expect from their MGA. As a Chartered Accountant with over a dozen years in the insurance industry, Chris works to bridge the gap between client’s professional advisors. From developing and presenting strategies, to providing independent recommendations on products suited to the client’s needs and risk comfort levels, Chris works to assist advisors grow their practice.
The writer can be contacted at:
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Disclaimer: This article is intended to provide general information only and should not be considered as legal, accounting or taxation advice. Before acting on any of the information contained within this article, or before recommending a course of action, make sure your clients seeks advice from a qualified professional. Any examples or illustrations used in this article have been included to help clarify the information presented in this article and should not be relied on by you or your client in any transaction.