Ontario Tax & Accounting Terms: A Glossary for Business Owners
Understanding the language of accounting and taxation is essential for business owners in Ontario to navigate theirfinancial and regulatory landscape effectively. This glossary provides clear and concise definitions of key terms used in business accounting and Canadian tax regulations, helping entrepreneurs and financial professionals stay informed and make better decisions.
Active Business Income (ABI): Income earned by a corporation from its active business activities in Canada, which does not include passive income from investments. ABI is taxed at lower rates and may be eligible for the Small Business Deduction.
Adjusted Cost Base (ACB): The original amount paid to acquire capital property plus any related expenditures incurred such as commissions and legal fees.
Associated Corporations: For Canadian tax purposes, corporations that are connected through ownership or control by the same person or group of related persons. There are many tax implications to being considered associated, including that associated corporations must share the Small Business Deduction limit, and that the taxable supplies for all associated corporations must be aggregated to determine the required filing frequency for GST/HST returns.
Attribution Rules: Specific provisions in the Canadian Income Tax Act that prevent income splitting among family members to reduce overall tax liability. These rules attribute income or capital gains earned by a lower-income family member back to the person who transferred the property or funds, ensuring that the income is taxed at the higher earner’s rate.
Capital Cost Allowance (CCA): The tax equivalent of depreciation in the Canadian tax system, representing the yearly deduction that businesses can claim for the depreciation of tangible and intangible capital assets over time according to rates specified by the Income Tax Act.
Capital Dividend Account (CDA): A notional account for Canadian-controlled private corporations that tracks tax-free surpluses, such as the non-taxable portion of capital gains and life insurance proceeds received due to the death of an insured person. Corporations can distribute these amounts as tax-free dividends to Canadian resident shareholders, after filing certain paperwork with the CRA.
Capital Losses Carried Forward: Canadian taxpayers can carry forward capital losses indefinitely to offset against capital gains in future years. These losses can only be applied against capital gains, not against ordinary income (except for deceased individuals).
Deemed Dividends on Redemption of Shares: In Canada, when a company redeems, cancels, or purchases its own shares from shareholders, the transaction may result in a deemed dividend. This is the amount by which the payment to the shareholder exceeds the paid-up capital (PUC) of the shares. The deemed dividend is taxed in the same way as dividends paid by the company. If the ACB of the shares is different from their PUC, the shareholder may also have a capital gain or loss in addition to the deemed dividend.
Eligible Dividends: Dividends designated by a corporation as being paid out of its General Rate Income Pool. Eligible Dividends are subject to tax at lower rates than Non-Eligible Dividends.
Eligible Refundable Dividend Tax On Hand (ERDTOH): This is a mechanism in the Canadian tax system allowing private corporations to obtain a refund of taxes paid, when they pay eligible dividends. ERDTOH accounts for the part of the corporation’s tax refund that is associated with Part IV tax paid on eligible dividends it received.
Federal Investment Tax Credits Carried Forward: Companies engaged in certain activities, such as scientific research and experimental development (SR&ED), can earn investment tax credits in Canada. If not refundable or able to be used to offset current year taxes, these credits can be carried forward for up to 20 years to offset future federal tax liabilities.
Foreign Accrual Property Income (FAPI): Income from passive investments earned by a foreign corporation controlled by a Canadian resident taxpayer, which is attributed to the Canadian taxpayer and taxed in Canada, even if the income has not been distributed. This prevents Canadian taxpayers from avoiding Canadian tax by shifting passive investment income to lower-tax jurisdictions.
General Rate Income Pool (GRIP): GRIP is a notional account used by Canadian-controlled private corporations to track the amount of income that has been taxed at the general corporate rate (i.e. Active Business Income not eligible for the Small Business Deduction). This amount can be distributed as eligible dividends, which may be taxed at a lower rate in the hands of the shareholders.
Income Before Income Taxes: This is the profit a company has earned before any income taxes have been applied, as per the Canadian accounting standards. It is calculated after considering all operational and non-operational revenues and expenses but before the deduction of income taxes. This figure is essential for understanding a company’s operational efficiency and profitability without the influence of its tax obligations.
Lifetime Capital Gains Exemption (LCGE): This is a provision in the Canadian Income Tax Act that allows individuals to exclude a certain amount of capital gains realized from the sale of qualified small business corporation shares or qualified farm or fishing property from their taxable income. The LCGE represents a significant tax-saving opportunity for business owners and farmers in Canada.
Non-Capital Losses Carried Forward: Canadian companies can carry forward non-capital losses for up to 20 years to offset future taxable income. Non-capital losses include most business operating losses, and this provision helps companies manage the tax implications of fluctuating profits and losses over time.
Non-Eligible Dividend Tax On Hand (NERDTOH): Similar to ERDTOH, NEDTOH represents a notional account that tracks the refundable portion of tax on passive income, and Part IV tax paid on non-eligible dividends received by a Canadian corporation. When the corporation pays non-eligible dividends to its shareholders, it may receive a refund of taxes from its NERDTOH account.
Ontario Research and Development Tax Credits Carried Forward: Specific to Ontario, these are credits earned for eligible research and development expenditures within the province. Similar to federal investment tax credits, these can be carried forward to reduce provincial tax liabilities in future years.
Paid-Up Capital (PUC): Usually the initial amount contributed to a corporation for the issuance of shares by the corporation. Unlike ACB, which is specific to the shareholder, PUC does not change when the shares are sold to a new shareholder.
Part IV Tax: This is a tax that private corporations in Canada pay on certain dividends received from other taxable Canadian corporations. The purpose of Part IV tax is to prevent income from being taxed at preferential rates multiple times within the corporate structure. Part IV tax paid by a corporation can often be recovered when the corporation pays out dividends to its shareholders.
Passive Income: Income earned by a corporation from investments rather than from active business operations, such as rental income, interest, or dividends. Passive income is subject to different tax treatment compared to active business income, with specific rules designed to prevent corporations from gaining tax advantages by earning investment income.
Qualified Small Business Corporation (QSBC) shares: Shares of a corporation held for 24 months where the corporation is a Small Business Corporation at the time of sale and for the 24 prior months was a Canadian-controlled private corporation having more than 50% of the fair market value of its assets used mainly in an active business carried on primarily in Canada by the corporation or by a related corporation.
Return of Capital (ROC): Distributions made by a corporation to its shareholders that are not considered dividends but a return of some portion of the paid-up capital of the shares. This reduces the adjusted cost base of the investment, potentially affecting capital gains calculations on future disposals.
Small Business Corporation (SBC): A Canadian-controlled private corporation in which 90% of the fair market value of the assets of the corporation are used mainly in an active business carried on primarily in Canada by the corporation or by a related corporation.
Taxable Income: Taxable income refers to the amount of profit subject to corporate income tax by the federal and provincial governments. It is determined after adjusting the company’s gross income for deductible expenses incurred to produce the income, including capital cost allowance (similar to depreciation).
Shareholder Loan Receivable: This refers to loans made by a corporation to its shareholders by virtue of the shareholders withdrawing funds from the corporation. The Income Tax Act has specific rules that govern the tax treatment of these loans, including conditions under which the loan amount may be deemed as taxable income for the shareholder.
Small Business Deduction (SBD): A tax relief offered to Canadian-controlled private corporations (CCPCs) that reduces the federal corporate tax rate on the first $500,000 of active business income earned in Canada. Provinces and territories often provide similar deductions, making the effective tax rate on ABI for small businesses significantly lower than the general corporate rate.
SR&ED Expenditure Pool: The Scientific Research and Experimental Development (SR&ED) expenditure pool represents the total of a company’s expenditures eligible for SR&ED investment tax credits in Canada that has not yet been deducted from taxable income. The expenditure pool carries forward indefinitely.
