In the recent (Dec. 13, 2017) release from the Department of Finance, we now have some additional information on how the income sprinkling rules will impact small business owners and their families. Family members who are caught by the new income sprinkling rules will be taxed under the “tax on split income” (TOSI) provision of the income tax act, also known as the “kiddie tax”. Dividend income that falls under the TOSI provision will be taxed at the highest marginal tax rate. Wage income earned by family members is not included under TOSI provisions and have always been subject to their own reasonability test under the income tax act.
The release includes information on specific exemptions from the new TOSI provisions for family members. The “bright-line” tests, or off-ramps, as the release calls them, includes the following:
- The business owner’s spouse will be excluded, provided that the owner meaningfully contributed to the business and is aged 65 or over. The owner’s spouse does not need to be 65 to qualify for this exemption.
- Adults aged 18 or over who have made substantial labour contribution (average of 20 hours per week) to the business during the year, or any five previous years.
- Adults aged 25 or over who own 10 percent or more of a corporation that earns less than 90 percent of its income from the provision of services and is not a professional corporation.
- Individuals who receive capital gains from qualified small business corporation shares.
Individuals aged 25 or over who do not meet any of the exclusions described above will be subject to a reasonableness test. The reasonableness test would include the value and source of a contribution of capital to the business.
For adult children aged 18 or over, if they made substantial labour contributions to the business for at least five years, then they can continue to receive income even after they have stopped working for the business, such as when they start post-secondary education.
These exemptions leave a very small window of opportunity of income sprinkling for service based businesses and professional corporations. Unless your family member contributes significantly to the business (average of 20 hours per week or significant capital investment), any income received will likely be caught by the TOSI provisions.
Business owners will have until the end of 2018 to adjust to the new exclusion for non-service businesses. This would allow for the possible reorganization of the share structure for adults aged 25 or over to reach the 10 percent ownership level.
For more information, please follow these links:
Background information
Technical information
If you would like to discuss your specific situation and how these new rules may apply to you, please contact us directly.
DISCLAIMER:
The preceding information is for educational purposes only. As it is impossible to include all situations, circumstances and exceptions in a newsletter such as this, a further review should be done by a qualified professional.
No individual or organization involved in either the preparation or distribution of this letter accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.