Tax on Split Income: Update Effective for the 2018 Tax Year
Updated: Jun 6, 2019
How will the changes on split income rules impact your family business and personal finances?
Are there any exceptions to the new taxation rules?
We hope this post will help answer some of the questions you might have regarding the new rules that were passed into law on June 21, 2018.
A Simplified Summary
Up until December 31, 2017 small business owners or incorporated professionals could redirect a portion of their income to other family members who were in a lower tax bracket, usually by means of private company dividend payments but also through capital gains and certain income from partnerships or trusts. The higher-income owner would decide on the amount and recipient based on the recipient’s need for income and their tax bracket. This is referred to as “Split Income” or “Income Sprinkling”. Tax on Split Income (“TOSI”) would apply the highest marginal tax rate to the split income of certain family members under the age of 18 which is how it received the cute label of “kiddie tax”
-Please note that the TOSI would generally not apply in scenarios where an individual is not related to the business. Arm’s length private equity investments should not be impacted by the new rules.
Starting January 1, 2018 TOSI will cast a larger net and apply to all distributions paid to certain family members over the age of 17.
There are a few scenarios where exclusions may apply. In this post, we will touch on 3:
Exclusion from TOSI for “excluded businesses”
Exclusion from TOSI for “excluded shares”
Exclusion from TOSI for “reasonable returns”
1) Excluded Business
The new rules generally limit the ability to pay dividends to family members and certain other Canadian-resident persons not actively involved in the business of a privately-held corporation. The TOSI will generally not apply to family members who worked an average of 20 hours per week in that tax year or by working 20 hours per week in any five prior tax years (these 5 years can be at any time in the past, they do not need to be consecutive or most recent). Where a business has a seasonal component, CRA will adjust the working hours requirement to the part of the year where the business is active.
2) Excluded Shares
You may be exempt from TOSI rules if you are 25 years or over and hold “excluded shares”. These are shares in a private corporation that give you greater than 10% of the votes and value. (This is not applicable for professional corporations or service businesses). Whether a business’ activities constitute a ‘service’ is a question of fact, and a detailed analysis of operations must be done prior to determining whether shares will qualify under this exclusion.
3) Reasonable Returns
Adult family members who are 25 years of age and older can be excluded from TOSI if the amount paid represents a reasonable return on their contribution to the business. This includes labour and capital contributed and any assumed risks.
Exemptions Based on Age
The new rules may affect different individuals based upon their age in which they earn the split income. Certain details on the implications are outlined below.
For all individuals:
Income property acquired in the breakdown of a marriage or common-law relationship
Property inherited as a consequence of someone’s death
Deemed capital gains on death
Income from businesses in which the taxpayer is actively engaged
For individuals over 17 years of age:
Qualified small business corporation share dispositions
Income from a small business to which the individual is not related (portfolio private company shares)
For individuals between 17 and 24 years of age:
Capital contributed times the CRA’s prescribed rate
A reasonable return on arm’s length capital contributed
For individuals over 65:
Where one spouse is over 65 and made a significant contribution to the business, they may split income with the other or common-law partner.
In Summary
Going forward, we advise that distributions from a corporation, partnership or trust be very carefully scrutinized.
If you want to discuss how the new rules will affect tax planning for your family, please contact our office:
403-475-8033
For more information please visit the Government of Canada’s frequently asked questions on income splitting
The information in this publication is current as of November 21, 2018.
This publication has been carefully prepared; however, it was written in general terms and should not be seen as legal or tax advice. This publication should not take the place of professional advice specific to your own family circumstance. GGT Chartered Professional Accountants, its partners and employees do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken based on a decision made in relation to the concepts discussed in this publication.