New Legislation on the Small Business Deduction –
Is This the End of Claiming Multiple SBD?
By Edmund Chow, CPA, CGA
Edmund Chow is a senior
manager of the tax group at
Smythe LLP in Vancouver,
where he specializes in tax
compliance and advisory
services for owner-managed
businesses.
T
he availability of the small business deduction (SBD) is one of
the most favourable tax attributes for companies that qualify
as Canadian-controlled private corporations (CCPCs). A
CCPC that is earning “active business income” in Canada and is taxed
in BC has its combined federal and provincial tax rate reduced from
26% to 13%, up to the $500,000 “business limit” shared with “associated
corporations.” Recognizing this favourable tax treatment, corporate
taxpayers have been creative in implementing business structures to
multiply their access to the SBD.
Changes designed to eliminate multiplication of the SBD were initially
proposed in the March 22, 2016 federal budget. Draft legislation for
these changes was later released for consultation by the Department
of Finance on July 29, 2016. The proposed SBD rules would be effective
for corporate taxation years beginning on or after March 22, 2016.
32 CPABC in Focus • Nov/Dec 2016
The purpose of this article is not to walk
through the changes made to section 125 of the
Income Tax Act (the Act), but to focus on how
the proposed tax rules would affect two business structures commonly used to multiply
the SBD.
1. Using a partnership and “service
corporation”
One of the most common methods used to
multiply SBD is to place a partnership at the
core of a corporate group. Under the “specified
partnership income” rules, corporate partners
share the $500,000 business limit based on the
pro-rata allocation (to said partners) of the
partnership’s income from an active business
carried on in Canada.
Creative taxpayers have developed various
structures so that the corporations they or
their spouses own can receive income directly
or indirectly derived from the partnership that
is not considered specified partnership income.
Typically, these non-partner corporations are
called “service corporations” because they
provide professional, administration, or management services—either to the incorporated
partner or to the partnership itself. A service
corporation is associated with the corporate
partner, but it is not a partner of the partnership; as such, it potentially enables each
partner to benefit from the full $500,000
business limit, rather than requiring partners
to share the $500,000 business limit as a group.
These structures are set up for sound business
reasons, and the Canada Revenue Agency has
issued numerous rulings to confirm that they’re
permissible. Nevertheless, the definition of
“specified partnership income” has been expanded in the draft legislation to eliminate
this multiplication of the business limit. Under
the proposed rules, a corporation that is a
“designated member” would effectively have to
share a portion of the business limit allocated
by the partnership to a partner or corporate
partner with which the designated member
does not deal at arm’s length.