Dec 13 Tax Proposals - When Tax Planning Challenges Good Family Business Continuity Planning
Originally Published on LinkedIN - https://www.linkedin.com/pulse/dec-13-tax-proposals-when-planning-challenges-good-michael/
On December 13th the Canadian government's Finance Minister released updated rules on the tax on split income (TOSI). Many of these changes are welcome and will bring relief to many family businesses. (But there are specific rules to comply with and exclusions such as for professional corporations, service businesses and corporations that are not eligible for the lifetime capital gains exemption).
A reminder on how the TOSI rules work: These rules will tax distributions and capital gains on distributions to related family members [ie. grandparents, parents, children, siblings] from private corporations/trusts/partnerships considered a "related business" at the TOP tax rate for those distributions.
However, to take advantage of these rules there are a few changes to traditional family business planning that may need to happen.
Common Family Business Advice: Encourage your child to work outside the family business for at least five years before joining.
Tax Issue with the Advice: If the family member works for the family business in the current tax year or in any of the five previous tax years for an average of 20-hours per week per year, then you will be able to pay them dividends without these rules applying. But, if they do not, then their distributions may be taxed at the top rate.
Question: How will this impact your decision to have your child gain experience elsewhere when they are starting out?
VOTING SHARES versus VALUE SHARES
Common Family Business Advice: Separate the voting shares and the value shares so that the kids can all benefit from the value but maybe they will not all have equal votes.
Tax Issue with the Advice: Under the new TOSI rules, an exemption for shareholders who own 'excluded shares' requires that the individuals own 10% of the VOTES AND VALUE of the non-service business.
Question: Will you distribute the votes the same way you distribute the value?
Common Family Business Advice: Put the shares of the business in a trust so that they are creditor protected or just because it is not yet clear who will make the best owner of the company going forward.
Tax Issue with the Advice: The exemption for the 10% ownership threshold for the TOSI rules requires that the shareholder own the shares DIRECTLY. If the shares are held in a trust, it is an INDIRECT ownership, sot he 10% exemption will not apply.
Question: Will you still use a trust to own the family business? Or will you move towards shotgun-like agreements for family members?
FAMILY BUSINESS PRUNING
Common Family Business Advice: When it is appropriate for the business or family dynamics, pruning family members out of the family business should be encouraged but done very carefully.
Tax Issue with the Advice: The exemption known as 'excluded shares' discussed above requires a 10% ownership stake. That means only 10 family members can own the shares at most.
Question: Will you prune the family tree faster to maintain the 10% thresholds?
I am interested in responses to the above questions as an accountant working with enterprising families it is always a balance between what is best for the family and what is best for tax. Feel free to contact me at [email protected].
Michael Sadovnick CPA, CA, CPA (AZ), FEA