As part of the 2018 budget, the government announced that there will be no further changes to income sprinkling rules that were revised in December 2017. The government had made these revisions in December because of the outcry from taxpayers across the country to the original proposals. These new rules are effective January 1, 2018.
For several years, the government has enforced rules to restrict income splitting through a “Kiddie Tax”. Dividends from private corporations which are paid to children under the age of 18 are taxed at the highest tax rate under these rules.
Last year, the government looked to expand the “Kiddie Tax” and apply it to more individuals. The new rules are commonly referred to as “Tax on Split Income” (TOSI).
The new TOSI rules apply to spouses, children aged over 17, grandparents, and siblings. The original proposals had also included aunts, uncles, nieces and nephews, but these individuals were removed from the new proposals.
In order for dividends paid to these individuals to not be TOSI dividends, they must be paid for work completed on a regular, consistent and substantial basis. The government has said that working an average of 20 hours per week during the year or in five previous years would meet these requirements. The five years do not have to be consecutive. This has been called the “excluded business test”.
For seasonal businesses such as farms or fisheries, these guidelines would only be applicable when the business is operational.
There are some additional exceptions to the application of TOSI, through the “excluded shares test”. If the taxpayer is over 24 and owns 10% of the shares of the company, these rules may not apply. However, the company must not be a professional corporation, which would include medical, legal, dental, and accounting companies. It must also receive less than 90% of its revenue from services. Finally, 90% of its income has to be derived from non-related businesses.
For individuals over 24, the government will also consider other factors, such as whether the individual has contributed capital to the company, whether the amount received is commensurate to the relative risk assumed with their ownership, as well as other factors that the government considers relevant.
Because of the vagueness of these last points, it may be years before precedents are set as to what is considered a reasonable dividend.
For children aged 18 to 24, they can have their TOSI reduced by 1% of the amount that they contributed to the company. If they received financing for this contribution from an unrelated source, they can have TOSI reduced to what would be considered to be a reasonable return on their contribution.
For spouses, these rules no longer apply once they turn 65, assuming that the dividend would not considered to be a TOSI dividend if it had been received by the other spouse.
There are several provinces in Canada who already have a payroll tax system in place, including Manitoba, Ontario, Quebec and Newfoundland and Labrador.
There are different exemption structures in each province, from zero in Ontario to $1.30 million in Newfoundland and Labrador.
Although the highest payroll tax in most provinces is in the range of 1.95% to 2.15%, Quebec’s payroll tax is much higher. On payroll of over $5 million, payroll taxes of 4.26% are levied.