Tax increases in new budget will affect many farmers

The Canadian Income Tax Act turned 100 last year and Canadians can be excused if they didn’t celebrate.

Since its introduction in Canada in 1917, it has become a much more complex document and has grown to more than 2,000 pages in length.

In 2017, the government signaled its intention to change the tax rules relating to income sprinkling and investments. Budget 2018 provided more detail on how this will be administered and revealed tax increases with the new rules.

Investment income, also known as passive income, is now being targeted in a big way. Passive income generally is defined as anything non-active, such as interest, dividends, rental and royalty income and capital gains and it appears the government is taking a two-step approach to managing it.

Step one involves the reduction to the small business deduction. Federally, that means an additional five percent tax on every dollar not subject to the small business deduction. Provincially, it means we add another eight to 12 percent tax, depending on where your farm is located. In summary, it means a range of at least 13 to 17 percent in additional tax depending on where you operate your business.

The combined federal and provincial small business tax rate varies from 10 to 13.5 percent between all provinces from British Columbia to Ontario.

The new proposals reduce the small business deduction by $5 for every $1 of investment (passive) income earned above the $50,000 passive investment income threshold.

The small business deduction will be eliminated when investment income reaches $150,000. This measure will affect all Canadian-controlled private corporations when the active business income exceeds the reduced small business limit.

Step two involves changes to the Refundable Dividend Tax on Hand. RDTOH is built into the income tax system to ensure that tax payable on investment income is essentially the same, whether earned in a corporation and flowed out to shareholders or earned personally by the shareholders.

A refundable tax mechanism applies to the income of a private corporation from passive investments at approximately the top personal income tax rate, while that income is retained in the corporation. Under the current rules, a temporary tax is applied to the passive income while it is retained in the corporation and refunded when dividends are paid to the shareholders.

The new rules will now split the RDTOH account into two accounts. The current RDTOH account will now be referred to as “non-eligible RDTOH”. It will track refundable taxes paid on investment income, such as dividends received on non-eligible dividends. Refunds from this account will be obtained only when non-eligible dividends are paid.

The second account will be called “eligible RDTOH” and will track refundable taxes paid on eligible portfolio dividends. Any taxable dividend will entitle the corporation to a refund from its eligible RDTOH account.

A refund must be obtained from the non-eligible RDTOH account before obtaining a refund from the eligible RDTOH account.

All this will come into force for corporate year-end after 2018.

These are complex rules you should discuss with a tax adviser to see how they affect you.

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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