Tax planning for professionals and unicorporated businesses

Maximize 1995 Earnings

All self-employed professionals and unincorporated businesses with a non-calendar year end should try to maximize their calendar 1995 professional and business earnings to take advantage of a planning opportunity arising from the February 27th, 1995 Federal Budget. The proposed new rules require calendar year end reporting commencing in 1995 for all individuals and partnerships. However, and this is where the tax planning opportunity arises, income that falls into the stub period ending December 31st, 1995 is eligible for a reserve. In effect, 5% of the stub period income is recognized in 1995, 10% is recognized over the next 8 years and the remaining 15% is recognized in the 10th year, 2004.

Note that anti-avoidance rules will prevent taxpayers from reducing discretionary deductions such as capital cost allowance or bad debt allowances. But professionals can certainly complete and bill files in 1995 rather than wait to 1996. All businesses can delay the purchase of capital items and supplies until 1996 thereby reducing expenses or CCA that would otherwise be deducted in 1995.

Who Is Affected?

The new rules apply to all partners and proprietors in any unincorporated business and will also affect all professionals including accountants, lawyers, architects, dentists, doctors, veterinarians or chiropractors. The rules also affect professional corporations of such professionals in jurisdictions where such corporations are permitted.

Choice of Year End

The budget originally proposed a mandatory calendar year end for all affected proprietorships and partnerships. The purpose of this proposal is to eliminate the tax deferral available with a non- calendar year end. Due, in part, to representations made by the Canadian Institute of Chartered Accountants to the Department of Finance, an alternative has been introduced. Individuals and partnerships made up solely of individuals may use this other method which permits the use of a non- calendar year year end but eliminates the deferral advantage. This is accomplished by the use of a formula which estimates net income on a calendar year basis for tax purposes by grossing up the last fiscal period’s net income, pro-rated for the stub period to the end of the calendar year. Once taxpayers have elected to change their reporting date to a calendar year they cannot switch back to an off calendar year. New unincorporated businesses commencing from January 1st, 1995 onwards may be non-calendar year reporters, but they may have to report both 1995 and 1996 income in 1996.

Loss of Reserve

If an individual terminates his business, changes to a substantially different type of business, incorporates or leaves the country, the reserve must be included in income at that time.