Steeve Vachon
Partner | CPA, CGA, M. Fisc. | Tax

Several mechanisms exist to reduce tax on capital gains. The capital dividend account (CDA) is particularly efficient. However, company shareholders do not seem to use it as much as they could. All it takes is sound planning.

The CDA is a mechanism provided under the Income Tax Act. It enables private companies (not public companies) to distribute tax-exempt amounts to shareholders. Though it is very efficient, use of the CDA must follow certain criteria.

The CDA in detail

The CDA is a type of account solely used for tax purposes. It is not a bank account and does not appear on the company balance sheet. This account contains a certain number of elements, including the following main ones:

• Excess of the non-taxable portion (50%) of capital gains over the non-deductible portion (50%) of the company’s capital losses;
• Dividend from other company CDAs;
• The proceeds from the company’s life insurance that exceeds the adjusted cost base (ACB).

Acting at the right time

The CDA is only useful if the company realizes gains, as shareholders may only receive payments when such is the case. If the company has losses, the amounts accumulated in the CDA will be reduced by the amount of these losses. This is why it is important to verify the CDA balance periodically because, from one year to the next, base on the company’s profitability, shareholders could withdraw tax-sheltered amounts.

The CDA and company life insurance

The CDA can also be used if the death benefit is paid to a company under a life insurance policy. In such cases, the amount payable to the CDA corresponds to the amount of the life insurance contract of which the company is a beneficiary that exceed the ACB. Significant amounts can therefore be tax-exempt through the use of this mechanism.

To take full advantage of this mechanism, appropriate planning is necessary, especially if share transfer is planned. Major amounts are at stake in such cases and the CDA can facilitate the transition between the seller and the buyer.

Lastly, it is important to fill out the required forms before proceeding with paying out the CDA dividends. Do not hesitate to call on our experts to determine the best strategies. They know the details of various programs well and can easily use them to your advantage.

30 Apr 2012  |  Written by :

Mr. Vachon is a partner at RCGT. He is your expert in taxation for the Sainte-Marie office. Contact...

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