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2013 Federal Budget Special Report: Addressing “loopholes” in the Canadian tax system

Initial reactions to the 2013 Federal Budget were that it was rather lack lustre. However, after a deeper look, and more specifically from a wealth planning perspective, it was anything but lack lustre. Typically from a personal finance standpoint, most Canadians generally have seen the Federal Budget as positive, providing us with a variety of opportunities to improve our financial future. This holds true to a certain degree in this budget.

Constructive changes from the budget are highlighted by:

  • Increasing the small business, life-time capital gains exemption by $50,000 to $800,000 as well as indexing it to inflation going forward.

  • The introduction of a First Time Donor’s Super Credit to encourage Canadians to become philanthropic. Providing qualified individuals with an additional 25% non-refundable tax credit on up to $1,000 of donations.

However, a large number of the changes are quite the contrary. For the most part, the Minister of Finance has used the 2013 Federal Budget as an opportunity to tidy up some loose ends and play catch up, by closing a number of tax loopholes.

Changes proposed in this budget that could potentially affect high net worth families and individuals are summarized below:

  • Effectively eliminating the advantage of equity monetization arrangements (which was used to defer capital gains where individuals had large holdings in one security) by now requiring these transactions to be considered a deemed disposition for taxation purposes.

  • Two complex insurance strategies have been targeted (leveraged insured annuities and 10/8 arrangements) in which the government is closing the borrowing loopholes that resulted in “unintended tax benefits”.

  • Curtailing the ability of investors to convert fully taxable ordinary income into tax-preferred capital gains. This will affect funds that utilized derivative contracts to convert highly taxable distributions into distributions of capital gains.

  • Proposed adjustments to Dividend Tax Credits for small business owners, effectively eliminating or reducing the advantages of drawing income from dividends versus salary.

  • A suggestion that the Finance Minister is taking a closer look at the taxation of Testamentary Trusts. The government announced that it is “concerned with potential growth in the tax-motivated use of testamentary trusts and the associated impact on the tax base”.

  • Safety Deposit Boxes are no longer considered as “carrying costs” for investors and as a result can no longer be deducted from investment income.

  • Phasing out of tax credits for investments in labour-sponsored funds, which in the most part have not been very good investments for Canadians.

  • Introduction of the Stop International Tax Evasion Program which rewards individuals who provide information that assists in the collection of outstanding taxes due to “major international tax non-compliance”

  • Revisions to Form 1135 which requires Canadians to provide more detailed information on foreign property costing over $100,000 at any given time in the year. This includes foreign bank accounts, foreign non-personal real estate and foreign stocks held in non-registered Canadian brokerage accounts.

Investors and advisors will be scrambling to attempt to find ways to reverse the effects these new proposals may have on previously implemented strategies.

At Northland we assist our clients by providing insight into the advantages of various strategies, but also make sure they are aware of the potential ramifications if government makes policy changes that would negate those advantages. As the old saying goes “if it looks too good to be true, if often is” or maybe now we can add “at some point it will be”.

We would be pleased to review with you the impact that these proposed changes may have on your current strategies.

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