Changes to subsection 55(2) of the Income Tax Act
Proposed amendments to subsection 55(2) of the Income Tax Act (Canada) (“ITA”) add an additional level of complexity to transactions using intercorporate dividends.
This material is for information purposes only and should not be construed as providing legal or tax advice. Reasonable efforts have been made to ensure its accuracy, but errors and omissions are possible. All comments related to taxation are general in nature and are based on current Canadian tax legislation and interpretations for Canadian residents, which is subject to change. For individual circumstances, consult with your legal or tax professional. This information is provided by The Great-West Life Assurance Company and is current as of December, 2015.
The proposed rules expand the potential application of subsection 55(2), a notoriously complex anti- avoidance rule that generally aims to prevent transactions of which one of the purposes is to use tax-free intercorporate dividends to significantly reduce a realized capital gain.1 If subsection 55(2) applies, it converts an otherwise tax-free intercorporate dividend into a capital gain. The 2015 Federal Budget introduced the amendments to subsection 55(2) which, if enacted, would apply retroactively to intercorporate dividends received after April 20, 2015. As a result, tax practitioners are treating the proposed rules as law.
1Or in the case of a subsection 84(3) deemed dividend, where one of its result is to significantly reduce a capital gain.
The main concerns with the proposed amendments are that they both broaden subsection 55(2)’s purpose test and restrict the rule’s related-party exception as it applies to ordinary dividends. This adds a new level of complexity to common intercorporate transactions, like where an operating company pays a dividend to a holding company for:
- protecting assets from potential creditors;
- maintaining capital gains exemption eligibility; and/or
- tax efficient ownership of life insurance.
This article addresses the key proposed changes to subsection 55(2) and highlights how they affect intercorporate dividends paid within common corporate structures.