As a shareholder, the benefits you receive could have significant tax implications. In many cases, shareholders are unaware that a corporation – even if wholly owned – is a separate taxpayer. Money earned by a corporation is meant to be used for business purposes, paying for expenses or costs associated with the operations of the corporation. If a corporation pays for a shareholder’s personal expenses or permits its assets to be used by the shareholder for personal purposes, a taxable benefit may result.
The corporate bank account should not be considered the shareholder’s personal piggy bank. When money or property is extracted from the corporation other than through salaries, dividends, repayment of capital or loan or reimbursement of expense, a benefit may have been conferred by the corporation on the shareholder.
Any benefit conferred on a shareholder by a company must be reported on the shareholder’s personal tax return, unless the shareholder has reimbursed the company in a timely fashion or has credit in his or her shareholder loan before the benefit was received. There may also be GST/HST consequences that need to be addressed. If the Canada Revenue Agency (CRA) audits the corporation, the shareholder could be assessed a benefit in addition to the CRA denying such expenses as deductible to the corporation, and double taxation may result.
It may be difficult to determine whether an expense is incurred for business purposes if a personal element is involved. This could be the case with meals, entertainment, parties, gifts, travel with family members, etc. It is important to document the reason for the expense to demonstrate it was incurred for business purposes. Expenses that are not deductible to the business (such as golf club dues) may still be a benefit to the shareholder.
If corporate‑owned property (such as an aircraft, a luxury yacht or a cottage) is used by the shareholder for personal reasons, the benefit may be calculated as what the shareholder would have had to pay for the same benefit in the same circumstances if he or she had not been a shareholder of the company. In order to address this issue, the shareholder is charged with fair market value rent. On occasion, fair market value rent may not be adequate to provide the business with a reasonable return on the cost or the value of its investment, and the benefit will be computed based on a normal rate of return on the greater of the cost or the fair market value. An offset of the benefit may be possible if the shareholder provided the funds to purchase the property, and the offset will be equal to the foregone interest on the loan.
A shareholder can avoid the shareholder benefit rules by characterizing the extraction of corporate funds as a loan. In order to avoid the shareholder benefit rules, it is necessary to document a debtor‑creditor relationship. This may include a loan agreement and terms of repayment. In addition, one of the following conditions must also be met:
a) The company is in the money lending business. Under recent changes, more than 90% of the total outstanding loans at any time during which the shareholder loan is outstanding must be owed by arm’s‑length parties;
b) The loan is repaid no later than one taxation year after the year the loan is made, and the loan is not part of a series of loans and repayments. For example, a loan made on July 1, 2023 must be repaid by December 31, 2024 (assuming the corporation has a calendar year‑end). Annual dividends declared to clear out the loans are acceptable to the CRA; or
c) The loan has been provided to a shareholder who is also an employee by virtue of his/her employment. The loan must be provided to enable the employee to purchase a home, a car used for work or shares of the employer, and bona fide arrangements are made for the repayment of the loan. A loan can be considered to be given to the employee qua employment if it can be considered part of a reasonable employee remuneration package. Where the shareholder is also an employee, it is difficult to argue the loan is received as an employee unless other employees are given the ability to borrow funds for the same reasons.
Even if the loan is exempted from income under one of the exceptions, interest at prescribed rate (currently 5%) less the amount paid on the loan no later than 30 days after the end of the year must still be calculated and included in income. If the loan is included in income, no interest benefit will need to be included. In addition, a repayment of the loan may be deductible.
The rules governing shareholder benefits are complex. It is important to identify whether such a situation exists on a timely basis and discuss the best path forward with your tax advisor.