Published: November 14, 2024
Introduction – The Business Limit Allocation Among Associated CCPCs
A Canadian-controlled private corporation (CCPC) is defined in subsection 125(7) of the Income Tax Act as a private corporation resident in Canada, not controlled directly or indirectly by a non-resident, a public corporation, or a combination of the two.
The CCPC status is a prerequisite for many special incentive provisions in the Income Tax Act, including the small business deduction per subsection 125(1) of the Income Tax Act. The small business deduction provides a preferential tax rate on the CCPC’s active business income earned in Canada. The federal corporate tax rate for the CCPC is reduced by the “small business deduction rate,” which has been 19% since 2019, to effectively only 9%.
The small business deduction, however, is only applicable to the CCPC’s annual active business income earned in Canada up to the “business limit,” which has been the first $500,000 since 2009.
If a CCPC is associated with one or more other CCPCs, the business limit is nil per subsection 125(2), thereby eliminating the small business deduction for each and every one of the associated CCPCs, unless the associated CCPCs file an agreement in the prescribed form, which is Schedule 23, to share the business limit amongst themselves with the Canadian Revenue Agency (CRA) per subsection 125(3).
Failure of an associated CCPC to file a valid agreement likely results in nil business limit for each associated CCPC.
The CRA requires that each corporation in a group of associated CCPCs file a valid agreement to allocate the business limit amongst themselves. However, the CRA is silent on the consequences of a corporation belonging to an associated group failing to file an election.
Judicial consideration of subsection 125(3) is scarce. In Deneschuk Building Supplies Ltd. v. R., [1996] 3 C.T.C. 2039, [1996] T.C.J. No. 547, there were four associated CCPCs, including the appellant. For the 1990 taxation year, the appellant and another associated CCPC each filed an agreement to allocate the business limit between the two of them, while the other two associated CCPCs each filed a separate agreement to allocate the business limit between the two of them.
The CRA determined that the four CCPCs were associated with one another and that all four agreements filed were invalid. The Tax Court of Canada (TCC) held that “the Act is clear and unambiguous” in deeming the original agreements to be invalid, thereby returning all of them to the default position – nil business limit.
The ruling in Deneschuk has only been referred to once in Monsell v. The Queen, 2019 TCC 5, [2019] T.C.J. No. 19, in which the TCC seemed to accept the interpretation of subsection 125(3) by the TCC in Deneschuk in obiter (a judge’s comment or observation, in passing, on a matter which does not require a decision for the case before the court.)
Associated CCPCs Can Likely Re-file Their Agreements
Subsection 125(4) of the Income Tax Act grants the CRA the power to issue a written notice to any CCPC in an associated group that has failed to file an agreement, demanding the associated CCPCs to re-file valid agreements within 30 days. If CCPCs fail to file the agreements in response, the CRA shall allocate the business limit amongst the associated CCPCs.
If, however, the CRA has not issued such a written notice, the Income Tax Act is silent on the time limit for the associated CCPCs to re-file valid agreements. In Deneschuk, at no time did the CRA notify the associated CCPCs, and the associated CCPCs re-filed in 1995, five years after the taxation year concerned. The TCC held that there was no applicable time limit whereby associated CCPCs were required to file an agreement pursuant to subsection 125(3). As a consequence, absent a demand to re-file, any subsequently re-filed agreements by the associated CCPCs were valid. This question of law has not been revisited by the courts since Deneschuk.
Pro Tax Tip – Associated CCPCs Should Take Proactive Steps to Remedy the Failure to File Valid Agreements
As discussed above, if the CRA has issued a written notice demanding one or more corporations of a group of associated CCPCs to file valid agreements to allocate the business limit among themselves, then the corporations have 30 days to comply.
Absent such a notice, the corporations should be entitled to amend their agreements at any time and are thus recommended to take proactive steps to correct their filing to entitle them to the small business deduction.
Accordingly, all the associated CCPCs must file Schedule 23, which is the prescribed form of the agreement to allocate the business limit, reflecting the full and correct listing of all associated CCPCs and to consistently allocate the business limit among themselves.
In any case, it is advisable for corporations to consult with experienced Canadian tax lawyers to ensure the filings are valid, preventing the CRA from allocating the business limit for them.
FAQ
One company in the group of associated CCPCS already files Schedule 23, listing all associated CCPCs in the group and allocating the business limit among the group; why do other corporations also need to file?
While it may make sense that one corporation can file the agreement on behalf of the whole group of associated CCPCs, the agreement filed may not reflect the true agreement among the corporations. That is why the Income Tax Act and the CRA require each and every corporation in the group to file an agreement, and all the agreements must be consistent with each other. If there is an inconsistency, then there is no agreement at all.
Can each CCPC just claim the business limit without filing an agreement?
The requirement for the associated CCPCs to file the agreement to allocate the business limit among themselves is a mechanism to prevent abuse of the CCPC status and of the small business deduction granted to a CCPC. The mechanism ensures a fair distribution of the incentive to small businesses. Without this mechanism, a person can create a web of CCPCs, splitting the business income among the CCPCs, claiming the small business deduction for each CCPC, and thereby significantly reducing or even eliminating tax payable.
I have four corporations that have each filed a Schedule 23, but the amounts allocated in each Schedule 23 are inconsistent. What do I need to do?
When the amounts allocated in each Schedule 23 are inconsistent, all the Schedules filed are invalid. Each of the four corporations needs to re-file Schedule 23, providing consistent allocation with the CRA. In case the CRA has issued a written notice demanding one or more corporations to re-file valid agreements, the corporations have 30 days to comply in order to prevent the CRA from allocating the business limit for them.
My corporations have not filed a Schedule 23, and the CRA has assessed my corporations to deny the small business deduction. What are my options?
An experienced Canadian tax lawyer should file a notice of objection to the CRA in order to dispute the denial of the small business deduction. It is very important that the Notice of Objection be drafted with proper arguments and with references to the Income Tax Act and relevant case law. There is also a time limit to file a Notice of Objection. As part of that process, the corporations should also file Schedule 23 with the CRA.
DISCLAIMER: This article just provides broad information. It is only up to date as of the posting date. It has not been updated and may be out of date. It does not give legal advice and should not be relied on. Every tax scenario is unique to its circumstances and will differ from the instances described in the article. If you have specific legal questions, you should seek the advice of a Canadian tax lawyer.
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