Refundable Dividend Tax On Hand

[Griet van Vliet]

What she found in the Solar Praxeum was staggering. The client, Angie's Amazing Getups Incorporated, had the following information found from the Praxeum's files and there were no less than fifteen notes found, and it was incorporated in Talz-land, so the CCA, RDTOH stuff would be applicable to them, too. But, before she could act upon these notes and give the owners their financial statements, for which an adverse opinion would be given to them without fail, she started by the original income statement, knowing that, if the original income statement was wrong, the statement of changes in equity, balance sheet and statement of cash flows would also be wrong:

Angie's Amazing Getups Inc.​

Income Statement​

For the year ended...​

​

Sales 7,578,903
Less: Cost of goods sold (5,468,752)
Gross profit 2,110,151
Interest income 110,532
Loss on sale of limited-life license (17,000)
General and administrative expenses (852,000)
Interest (8,500)

EBITDA 1,343,183

Depreciation expense 550,000

EBIT 793,183

Current tax expense (182,000)
Deferred tax expense (35,000)

Net income 576,183

 

[Griet van Vliet]

Unlike the Circle, and, in fact, most clients I've had, here the AFDA wasn't nil, nor were the bad debt expenses. And, surprisingly, tax-basis AFDA wasn't the same as IFRS-basis AFDA, so it was likely the tax-basis bad-debt expense wasn't the same either, Griet thought, upon reading the first note found in the Praxeum. Yes, AAG followed IFRS for financial reporting, and IFRS-basis AFDA was 20,000 at the start of the year, and 25,000 at the end of the year, with actual writeoffs against the AFDA of 11,750. So the bad debt expense was 16,750, but tax-basis AFDA opening balance was 13,000 and the ending balance was 15,000, so the tax-basis bad-debt expense was 13,750. Plus the reconciliation schedule, Schedule 1 on its T2, was, while technically starting at the EBIT, the padawan near her undergoing the Trial of Insight was quick to point out that it should start at the EBITDA since one needed to add back depreciation expense and replace it by CCA.

NITP (WIP): 1,345,183

 

[Griet van Vliet]

Note 2 included a more detailed listing of G&A expenses:

Donations to registered charities 27,000 (they need to be added back to NITP and deducted for Division C taxable income)
Accrued bonuses (declared 2/3 into the year, paid five months after year-end) 78,000
Meals and entertainment costs:

Golf memberships expense 14,400 (not allowed for tax purposes)
Meals expense 32,000 (only half of it can be deducted for tax purposes, so 16,000)
Personal chef expense 5,000 (personal expense disallowed from a T2)
Annual summer BBQ for all staff 6,000 (only half can be deducted for tax purposes, so 3,000)

Sponsorship expense 100,000 (paid for theater productions that make use of AAG costumes)
Advertising in an Akarui theater magazines aimed at Akarui clients 15,000
New software purchased 2/3 into the year (13,000 for applications and 25,000 for systems) 38,000
Accounting and legal fees for articles of incorporation amendment 6,000 (3,000 are capitalized under Class 14.1 for tax purposes)
Cost to attend annual convention of costume designers held on Binaros 17,000

NITP (WIP) 1,451,583

 

[Griet van Vliet]

Notes 3 and 4: Interest expense comprise the following:

Interest on loan payable 5,000
Penalty and interest for late and insufficient installment payments 2,000 (non-deductible for tax purposes)
Interest of late payment of property taxes 1,500

Travel costs included in G&A: the company policy is to reimburse employees for 0.58 credits per kilometer for the business use of their speeders. Seven employees each drove 4,000km and an eighth one drove 7,500km. (33,000 x (0.58-0.54)+2,500 x (0.58-0.48) = 1,570 must be added back on that basis)

NITP (WIP) 1,455,153

 

[Griet van Vliet]

Note 5 contained the opening CCA balances, and, in the past, maximum CCA was taken on all assets:

Class 1 (4%) 650,000
Class 8 95,000
Class 10.1 17,850
Class 14 68,000
Class 14.1 Nil
Class 44 65,000
Class 53 135,000

Note 6 was about the sale of a limited-life license to produce costumes based on a popular theme park for 63,000, while the book value was 80,000, and was the only asset in Class 14. (A terminal loss of 5,000 is hence incurred)

Note 7 pertained to the capital assets transactions:

The company purchased land and constructed a new building on it during the year, used 95% for M&P. (Class 1.2 at 10%) The cost of the land was 350,000 and construction costs were 475,000. (CCA on the new factory: 23,750)
The company purchased a new set of furniture for the reception area of the new factory above for 1,200. (Class 8 at 20%)
Some outdated desks used by the finance department with a cost of 5,000 were sold for proceeds of 3,500. (Class 8 as well)
Landscaping for the living roof of the new factory cost 35,000. It was capitalized for accounting purposes, but for tax purposes, is expensed.
A company speeder for use by the president of the company was purchased for 90,000, replacing a three-year-old company vehicle purchased for 95,000. The old vehicle was sold for 60,000 (but, since it's a class 10.1 there is no recapture and CCA can only be taken on the first 30,000)
A fence around the new factory cost 52,000. (Class 6 at 10%, CCA on the fence: 2,600)

The ending UCC balances are therefore

Class 1 624,000
Class 1.2 451,250
Class 6 49,400
Class 8 74,160
Class 10.1 25,500
Class 12 6,500
Class 14 Nil
Class 14.1 2,925
Class 44 48,750
Class 50 18,125
Class 53 67,500

The total CCA taken was therefore 26,000 + 23,750 + 2,600 + 18,540 + 4,500 + 6,500 + 75 + 16,250 + 6,875 + 67,500 = 172,590.

NITP (WIP) 1,242,563

 

[Griet van Vliet]

Note 8 was about the sale of shares, probably some long-term equity instruments classified as FV-OCI if the client initially credited the gain on sale of investment of 152,708 to Retained Earnings, even though it actually was a capital gain, in which case only half the amount would be taxed on, despite the full amount having to show up on the income statement and the current income tax expense needing to be adjusted as a result. So the relevant journal entries are therefore Dr. Retained earnings 152,708 Dr. Current tax expense 41,766, Cr. Gain on sale of investment 152,708, Cr. Income tax payable 41,766. But 76,354 would be taxed as a capital gain and 76,354 would go straight to the capital dividend amount. As for Note 9, it talks about the income earned outside of Talz-land: foreign active business income of 70,000, with taxes paid to the amount of 6,000, and that FV-OCI investment brought in dividends of 15,000, on which taxes of 2,000 have been withheld, on which the financial reporting treatment was already made. And note #14, whereby ineligible dividends of 60,000 were paid out to shareholders but instead charged to G&A expense, meant the following entry had to be made, since, for financial reporting purposes, a 27.54% tax rate was assumed: Dr. Retained earnings 60,000, Cr. G&A expense 60,000, Dr. Current tax expense 16,524, Cr. Income tax payable 16,524.

Amendments:

General and administrative expenses (792,000)
Gain on sale of FV-OCI investments 152,708

EBIT 1,005,891
Current tax expense (240,290)
Deferred tax expense (35,000)
Net income 730,601

NITP (WIP) 1,378,917

 

[Griet van Vliet]

Note 10: The Investment Income account consists of the NCI dividend from the investment in note 9, 56,532 in interest from debt instruments, 16,000 from eligible dividends on local bank shares and 25,000 in non-eligible dividends from Snodgrass Ltd in which AAG owns a 8% NCI, and Snodgrass received no dividend refund this year. Note 11: all other income is active business income. Note 12: M&P profits are determined to be 65,000. Note 13: AAG has permanent establishments in Talz-land and on Akarui. Its gross revenue and payroll information is as follows: Alzoc III: Gross revenue 73.8%, Payroll 89.1%, Akarui: Gross revenue 26.2%, Payroll 10.9%, so, for the purpose of tax abatement, Alzoc III is going to eat up 81.45% and Akarui, 18.55% (and hence 18.55% of the taxable income is ineligible for the 10% abatement). Phew: the reconciliation is over, the adjustments to the income statements as well, since Note 15 is just about opening balances in various tax accounts, Griet thought, while the padawan finished the reconciliation, and the NITP was now final: 1,386,917, thanks to the addition of 8,000 in foreign income tax payments.

 

[Griet van Vliet]

Determining taxable income required one to look at Note 15, which listed opening balances in six tax accounts:

Charitable donations carry forward 3,500
Active business loss carry forward 52,500
Net capital loss carry forward 8,833
RDTOH 40,500
Dividend refund for 2016 9,500
GRIP 76,500

Because the first three are taken up, plus any deductions from NITP from earlier notes, the final Part I taxable income is 1,254,084. For the purposes of the foreign tax credits, adjusted division B income is 1,337,084, and it's the lesser of the following three amounts: the actual amount withheld, foreign-source income times Tax Otherwise Payable (either 25% or 25-2/3% depending on if it is business or non-business income) divided by ADBI, or Tax Otherwise Payable (minus any non-business income foreign tax credit in the case of foreign-source ABI).

 

[Griet van Vliet]

For the non-business income part, the "lesser of two" (really a "lesser of three" in the active business income case but the local-sourced income dwarfs any foreign-sourced income) yields the following: 2,000 to be compared to: (15,000/1,337,084)*25-2/3%*1,254,084 = 3,611.01, or 3,611 (since, for corporate taxation, Talz tax authorities typically ask taxpayers to round to the nearest credit, unlike individuals) so 2,000. The equivalent calculation for the active business income yields (70,000/1,337,084)*25%*1,254,084 = 16,414, compared to 6,000 so 6,000 was the lesser of the two here. Then it became necessary to track down the active business income since all remaining revenue came from ABI, and then and only then could the final determination of income tax payable could be made:

Taxable income 1,254,084
Less: Foreign-sourced ABI 70,000
Less: Capital gains 76,354
Less: Other investment income 71,532

Active business income 1,036,198

So even by simultaneously removing 100/38-2/3 times 2,000 and 24,000 = 6,000*4 (or, for that matter, the full amount of foreign-source income of 85,000) from taxable income would still exceed the 500,000 threshold by a wide margin, so the full amount of SBD is in use here.

Therefore the total Part I income tax payable is as follows:

Base amount 1,254,084*38% = 476,552
Additional refundable tax (see note below) 10-2/3%* 139,053 = 14,832
Less: Tax abatement 1,254,084*81.45%*10% = (102,145)
Less: Foreign tax credits 2,000+6,000 = (8,000)
Less: General rate (and M&P) deduction 565,198*13% = (73,476)
Less: Small business deduction 500,000*17.5% = (87,500)

Part I tax payable 220,263

Note: The ART is equal to 10-2/3% of the lesser of the two numbers:

Taxable capital gains 76,354
Other investment income 71,532
Less: Capital loss carry forward (8,833)
Aggregate investment income 139,053

or

Taxable income 1,254,084
Less: Amount eligible for the SBD (500,000) | 754,084

 

[Griet van Vliet]

"Now that we know, master, the Part I income tax payable, here comes the RDTOH, but if they paid their installment taxes late and insufficiently, it means they experienced rapid, unforeseen growth last year or the preceding year before that"

"The RDTOH is made up of Part I and Part IV taxes. Part IV taxes, while refundable, are levied on portfolio dividends, but the test to determine a connected corporation from a portfolio dividend is the 10% test. Here AAG holds a 8% NCI in Snodgrass, so all dividends are subject to the Part IV tax"

Which means the following in terms of the RDTOH calculations: 15,000 + 16,000 = 31,000 in portfolio dividend revenue, times 38-1/3% = 11,883 in Part IV tax, since Snodgrass was owned by the mother of AAG's and hence considered connected, despite AAG only holding an 8% NCI in it. Plus since Snodgrass did not receive any tax refund for this, AAG is not liable for Part IV tax on this. How much of it will the client get back, will depend on the rest of the procedures. Thus far, they knew the Part IV tax payable, but the hard part was determining the refundable part of Part I taxes. The lesser of three things, one of which has already been calculated (224,637, the Part I tax payable, refundable under ITA 129(3)(a)(iii)). The second one is:

30-2/3% of aggregate investment income: 30-2/3%*139,053 = 42,643
Less: Non-business FTC (2,000)
Over 8% of non-business foreign-sourced income 15,000*8% = 1,200 | (800)
Part I tax refundable under ITA 129(3)(a)(i) = 41,843

And, of course, the final one, under ITA 129(3)(a)(ii):

Taxable income 1,254,084
Less: Amount eligible for the SBD: (500,000)
Less: 4 times the business FTC: (24,000)
Less: (100/38-2/3) times the non-business FTC: (5,217)
Adjusted taxable income 724,867

Part I tax refundable under ITA 129(3)(a)(ii) = 220,263

The ending RDTOH balance is therefore

Opening RDTOH balance 40,500
Part I refundable tax 41,843
Part IV refundable tax 11,883
Less: Dividend refund for last year (9,500)

Ending RDTOH balance 84,726

 

[Griet van Vliet]

The RDTOH balance is much higher than the full amount of ineligible dividends paid, to say nothing of 38-1/3% of that number, with the dividend tax refund understood as 23,000. Typically, companies that declare dividends higher than their RDTOH would support earn very little investment income, but now that Parts I and IV taxes were calculated, the total tax liability would become clear. The total tax liability is therefore 220,263 + 11,883 - 23,000 = 209,146. And the final part of the tax return was to be the schedule dealing with the GRIP account:

Opening GRIP balance 76,500
Eligible dividends received 16,000
Adjusted taxable income (1,254,084 - 500,000 - 139,053)*72% = 442,822
Less: Eligible dividends paid in the preceding year Nil

Ending GRIP balance 535,322

 

[Griet van Vliet]

And now a new client whose former accounting firm was bought by VPN, which there was a suspicious RDTOH. For the first year, the opening RDTOH balance is nil since it started operating that year. The lesser of the three is the AII times 30-2/3%, which is 100,000, and Part I income is 110,000. And then came taxable income minus the SBD-eligible income, 100/38-2/3 times the non-business FTC and 4 times the business FTC is 120,000. The ending RDTOH balance for the first year, and beginning balance for the second year, is 100,000. Which was also the amount of dividend paid, yielding a dividend refund of 38,333.

Second year now: under 129(3)(a) the lesser of the three sub-provisions yields 40,000, so the ending balance is 140,000 - 38,333 = 101,667. They paid a 60,000 dividend, yielding a 23,000 dividend refund to be applied against the following year's RDTOH.

Third year: there is no AII, the ending balance RDTOH is 78,667 but the dividend paid is 300,000, yielding a potential dividend refund of 115,000.

Fourth year: no investment income, some Section 112 dividends (and hence a Part IV tax was paid on it, for 8,000), but the entire beginning balance of RDTOH has been used up for 78,667 so even paying another 300,000 in dividends will yield a 8,000 refund since it was the total amount of Part IV tax paid. The thing with refundable taxes is that paying the dividend is necessary to actually get the refund.

 

[Griet van Vliet]

And now Griet received two checks for 100,000 each in dividends: the first one is eligible dividends (from another, publicly-traded company in which VPN holds a NCI) and the second one is ineligible dividends, in which Griet still holds a NCI but still a significant equity stake. These Talz have changed the gross-up and dividend tax credit rates somewhat, so grossing up both dividend checks would yield 138,000 and 116,000 respectively. Since the tax rate is 50% at the top bracket, the total amount in tax paid is 127,000 before any tax credits are applied. Speaking of tax credits, on both tax levels, it's 38,000 and 16,000, and the actual tax liability is 73,000 total, 31,000 on the first check, and 42,000 on the second check. The effective inclusion rate, which is bracket-dependent, is 62% and 84% at the top bracket, and it will be lower at lower brackets. (Oh, GRIPs and LRIPs...)

 

[Griet van Vliet]

And then came another client. In 2018, Mr. A assumed 20,000 of Company B's liabilities and paid 10,000 in cash for 2,000 common shares of B (a CCPC) having a PUC (paid-up capital, which follows the stock, as opposed to the ACB following the shareholder) of 50,000. Therefore Dr. Cash 10,000, Dr. Accounts payable 20,000, Dr. Retained Earnings 20,000, Cr. Share capital 50,000 (with the 20,000 reduction in R/E being there for balancing the journal entry). However, although the legal PUC increased by 50,000, the net assets only increased by 30,000, that 20,000 is a deemed dividend. (The calculation of deemed dividends would also need to take into account any reduction of PUC in another class). Also, that same Mr. A owns 100 shares of Company D, worth 15,000 in the open market, bought for 9,000 and the PUC is 10,000. Now D redeems 50% of its C/S. Proceeds of disposition are then 7,500, and 5,000 is the PUC of that half, and then the deemed dividend is 2,500 so the total deemed dividend is 22,500. Now, for capital gains purposes, the 2,500 deemed dividends would be removed, and the revised proceeds (or one could alternatively add the deemed dividend to the ACB) is 5,000, but the ACB is 4,500 (7,000 if the deemed dividend was instead added to the ACB but the proceeds remained the same) then the gross CG is 500, and the net one for tax purposes is 250.

 

[Griet van Vliet]

Now came the next file in the dossier: for tax purposes there was no such thing as a consolidated tax return for the Talz, even though RadionFaux Industries (RIL), selling pet supplies, and their owners, the Ottawa clan, would need to consolidate their financial statements, since they also owned OttawaFaux, a pet breeding company, in full, no NCIs involved. OttawaFaux's file is pretty straightforward: its net active business income is 55,000 taxed at 10% (although its revenues were 200,000, its net income was much lower) and no aggregate investment income (hence no ART, no Part IV tax for OttawaFaux), and the total tax bill is 5,500 for OttawaFaux. They paid 42,000 in dividends to RadionFaux, the parent company, for which RadionFaux got a tax refund of 14,000 (which means RadionFaux has to pay the 14,000 in Part IV tax on it, and into the RDTOH it goes). As at the beginning of the financial year for which this set of T2s apply, the following information was available for their opening balances, while keeping in mind that no dividends have been declared, much less paid:

Taxable capital employed domestically 328,000
RDTOH 5,200
GRIP 11,750
CDA 6,000

 

[Griet van Vliet]

But because there was no consolidated tax return, the starting point was the segmented financial statements. The income statement had two more notes:

RadionFaux Industries​

Income statement​

For the year ended...​

​

Sales revenue 580,000
Interest on long-term bonds 27,500
Interest received on foreign bonds 18,000 (net of 2,000 in taxes withheld at the source)
Eligible dividends on portfolio shares 17,500
Non-eligible dividends from OttawaFaux 42,000
Gain on sale of shares 27,000

Total revenue 712,000

Cost of goods sold 208,000

Gross profit 504,000

Depreciation expense 122,000
Other operating expenses 147,000

EBIT 235,000

 

[Griet van Vliet]

Starting point for reconciliation is the EBITDA, or 357,000; one would need to take into account a plethora of items. Among them are the following: a penalty of 3,500 because of a Tax Court judgment, charitable donations of 5,000, 34,000 in meal and entertainment expenses incurred for business reasons, of which only 1/2 is deductible, 20,000 in landscaping costs amortized over 10 years for accounting purposes, and the gain on sale of shares, of which only 1/2 is taxed.

NITP (WIP): 371,000

 

[Griet van Vliet]

Since it did not receive a capital dividend, the full amount of capital dividend account was used up on top of a 92,000 dividend, of which 25,000 was designated as eligible. And they also plan to pay the maximum CDA allowable, knowing that any excess is penalized at a 60% rate at the corporate level even though the recipients would still receive it tax-free. Which meant the full amount of 6,000 + 13,500 = 19,500 was going to be paid as a capital dividend at year-end. There is no way there is going to be any active business income left to be put in the GRIP if the aggregate investment income is 61,000 = 13,500 + 27,500 + 20,000 and the net ABI is below 500,000, so the only addition to the GRIP is the eligible dividend of 17,500, Griet thought, with the implications that 1) the closing CDA balance is 19,500 and 2) the only addition to the GRIP (designating 25,000 as eligible this year would affect next year's GRIP balance and not this year's) is therefore the 17,500 in eligible dividends. The closing GRIP balance is therefore 29,250 and thus there won't be an EEDD (excess eligible dividend designation) next year.

 

[Griet van Vliet]

Then came the CCA calculations. Sale of truck for 12,000, and then purchase of 52,000 in furniture. The opening balances were as follows:

Class 1 (4%) 246,000
Class 8 (20%) 135,000
Class 10 (30%) 90,000

Class 1 was rather straightforward: 9,840 was taken in CCA, but because half-year rules, there was only 5,200 taken on the furniture, tacked on to 27,000 from the rest of Class 8, for 32,200 taken in CCA from that class, and for Class 10, there was 23,400 taken in CCA because CCA is claimed only on 78,000, for a total CCA amount of 65,440.

NITP (WIP) 305,660

 

[Griet van Vliet]

Once the calculation of NITP was over, all one needed to do was to subtract loss carry overs (capital or not), charitable deductions (to the extent it doesn't exceed 75% of the NITP) and Section 112 dividends, of which only the last one applied, to the tune of 59,500. Whereas the NITP was critical for an individual, for a corporation, it was used for only a handful of tax credits. Thus the taxable income was the most important number to a corporation for determining its tax liability under the Talz tax regime. In this case, for Part I tax, it was 246,160.

Base Part I tax: 246,160*38% = 93,541
Tax abatement: 246,160*10% = (24,616)
Small business deduction: 185,160* 18% = (33,329)
Additional refundable Part I tax: 61,000*10-2/3% = 6,507

Part I tax payable: 42,103

Because, in this situation, the foreign investment tax credit is the lesser of 25-2/3% of 20,000 (technically the foreign non-business income over (taxable income plus charitable donations) times 25-2/3% of the taxable income) or 2,000, it is 2,000. For the purposes of calculating the Part I contribution to the RDTOH, one needed to calculate two more numbers, under ITA 129(3)(a)(i) and (ii):

30-2/3% of AII: 61,000*30-2/3% = 18,707
Less Excess of foreign NBTC over 8% of foreign investment income: 20,000*(10-8)% = (400)

Amount under ITA 129(3)(a)(i) = 18,307

Taxable income 246,160
Less: Amount eligible for the SBD (185,160)
Less: (100/38-2/3) times the NBTC (5,172)

Amount under ITA 129(3)(a)(ii) = 55,828*30-2/3% = 17,121