Proposed tax changes limit capital gains exemption claims

The federal government’s controversial proposals to change the tax laws for private corporations would have a big impact on farmers.

The government says there are inequities in the taxation benefits available to a wage earner versus those available to the owner of a private corporation who has funded the capital risk.

The proposed changes would affect income sprinkling, holding passive investments inside a private corporation and converting income into capital gains.

This article will examine some elements of the legislative proposal that specifically affect the farming community.

Because the legislation is very complex, analyzing how it might apply to you should be done with the assistance of your professional tax or financial adviser.

As you are most likely aware, the Income Tax Act provides a deduction in computing the taxable income related to capital gains from the disposition of qualified farm or fishing property.

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There is a similar deduction available from the disposition of qualified small business corporation shares, and they are collectively referred to as the lifetime capital gains exemption.

Proposed changes to the act limit the amounts that may be deducted under the lifetime exemption after 2017 and include a new set of conditions that must be met.

The intention of the change is to prevent the multiplication of the lifetime exemption through tax planning strategies where eligible taxable capital gains are realized by family members of a business principal who have not effectively contributed to the business.

Targeted conditions include:

  • No amount will be deductible under the lifetime exemption if the benefitting individual hasn’t turned 17 before the year claimed.
  • An individual may not claim the exemption if the gain arose from the disposition of property (whether held by the individual or another person or partnership) before the beginning of the year that the individual turned 18.

This speaks to carving out values for the business while children are minors and may be difficult to administer in coming years.

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Farmers might be the first to question that the input provided by children to the growth of the farm asset has virtually no value to the enterprise.

  • If the taxable capital gain that arises from the disposition of a property is included in computing an individual’s split income (a.k.a. “Kiddie Tax”), then the amount that the individual can deduct under the lifetime exemption for the year is reduced by twice the amount included in computing the individual’s split income.

This rule prevents an individual from claiming a portion of the exemption using the reasonableness tests that apply in determining the individual’s split income.

Additional changes to the act relate to accrued gains from trusts and property transferred from trusts which, according to the government, are considered substitutes to the more direct claims described above.

However, the government does appear intent on changing the rules of how farmers and other businesses can claim deductions from private corporations.

Grant Diamond is a tax analyst in Saskatoon, SK., with FBC, a company that specializes in farm tax. Contact: fbc@fbc.ca or 800-265-1002.

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