Shareholder Loans and Shareholders Loan CRA Ontario
Do you know what a shareholder loan is? In this article, you’ll get to develop a comprehensive understanding of shareholder loans and other significant aspects related to them. Additionally, you’ll also get to know why you need to work with professionals to avoid falling into costly consequences related to shareholder loans.
What Does A Shareholder Mean?
Fundamentally, a shareholder loan can be looked at in two ways. It can either be due to shareholder’ or due from shareholder’. A better and simpler explanation of a shareholder loan can be any finances contributed to a company or finances withdrawn from a corporation. These are funds that should be returned in future.
According to the Income Tax Act, in regards to shareholder loans, the shareholders of a company can take a loan without having to indicate it as personal income when doing personal tax return for the fiscal year. Essentially, if a shareholder takes a shareholder loan, it should be returned to the company before the end of the following year to prevent the amount attracting taxation.
In order for the loan not to appear as income, the Canada Revenue Authority (CRA) directs that there should be interest charged by the company giving out the shareholder loan. For every shareholder loan given to a shareholder, a prescribed interest should apply.
It is standard practice to have loan processes and transactions documented well in a written agreement. The documentation can also come in the form of a corporate agreement with clearly defined conditions of repayment to the company. Proper documentation of a shareholder loan carries a great deal of significance as it helps to prevent problems that may arise in future in regards to the loan.
Just to give an example of how this might be, Smith’s company has a year-end of December 31, 2021. He may receive a shareholder loan from his company at any date in 2021 without having to indicate it as personal income, given that he returns the funds received before December 31, 2022. So, if Smith took a loan of $60,000 from his company in March 2021, he won’t have to indicate it as personal income when doing tax returns in 2021. But, he will have to return the loan amount plus the prescribed interest within the stipulated time. From the above information, it is certain that shareholder loans allow persons to borrow money from their corporations at a minimal interest rate.
The Eligibility of a Shareholder Loan
Who is eligible for a shareholder loan? Well, it’s not any person who is eligible for a shareholder loan. The following are the persons eligible to receive shareholder loans from a company:
The shareholders of a company or corporation – This consists of persons or partnerships owning shares of the company.
Persons associated with a shareholder of a specific company – This comprises of people associated with a shareholder, for example a spouse or any other family member. Section 15(2.1) excludes foreign associates of the company.
A trust beneficiary or partnership member that has shares in a particular company – An individual or beneficiary of a trust with shareholding can receiving a shareholder loan.
What are the Tax Benefits of a Shareholder Loan?
There are tax benefits of a shareholder loan. One of the benefits of a shareholder loan is the capacity to withdraw money from a company, where you are a shareholder, without having to incur tax liability. Indeed, this brings into the picture opportunities for planning. However, this can push some shareholders to use the rules of shareholder loans in the wrong way. It is for this reason that the Income Tax Act brings the principle amount into the picture. If you don’t want to incur costly and unplanned tax consequences, here are conditions that your shareholder loan should meet:
The shareholder loan should be received by you or your spouse to purchase a home to stay in, and you should have received the amount as an employee of the company giving out the loan. Also, bona fide arrangements should be put in place.
The shareholder loan should be received to buy a motor vehicle for the purposes of running the operations of the company. Of great importance still, you should have received the amount in your position as an employee of the company. Bona fide processes should be made to ensure that there is nothing that can attract costly tax-related consequences.
Returning the loan amount should happen before the expiry of the stipulated time. For example, if the shareholder loan was given out on January 2021, the repayment should happen before December 31, 2022 to avoid a case of paying unintended taxes.
The ability to get a shareholder loan without having to incur tax charges is a major benefit that the shareholders of a company experience. Apart from this benefit, it is also possible to experience other tax benefits if the one receiving the shareholder loan is strategic enough. This will happen after one defaults the payment of the loan. Once the due date of repaying the loan amount passes without paying the loan, the amount is added to one’s income. The effect of this is that any subsequent payments reduce the taxable income of that particular year. Therefore, if you anticipate that taxes will increase in the future, you can decide to pay back the amount later and cut down the level of your tax liability.
A good example that demonstrates this is when a son of a shareholder of a company goes to college and takes a shareholder loan to take care of expenses while learning. Given that he is just a student and not able to repay the loan while in school, he chooses to repay it later when the tax rate goes down. After graduating and finding a good and stable job, he can then repay the loan. Given that the loan repayment is tax-deductible, he will end up saving more, which is a huge plus for him.
Loan Problems with CRA
There will be problems if a shareholder receives a shareholder loan from their company and fails to pay it back within the stipulated period. For instance, if a shareholder received a shareholder loan of $70,000 from his corporation and failed to repay the amount for a period of more than one year, this will create a problem with CRA. The plan of action by CRA will be to consider the loan as the shareholder’s personal income.
This will be a problematic affair for the shareholder because there will be double taxation. This is not good as the shareholder will end up incurring tax consequences that were unintended. While CRA may allow the shareholder to have a tax deduction in the following year after the repayment of the loan, it may not be an efficient idea. So, the most prudent thing is to try your best to avoid getting into problems with CRA.
Ways of Avoiding Tax Problems Related to Shareholder Loans
There are ways you can make use of to avoid cases of double taxation. They are:
- Repaying the loan
- Taking the amount as wages/salary
- Taking the loan amount as dividend
Before delving deeper into the three ways of avoiding double taxation, it is important to understand that proper documentation is necessary. The terms of repayment should be properly documented in a written arrangement. A corporate resolution is another documentation that is vital in the whole process.
Repayment of the Loan
Certainly, this is the simplest way to undertake if you are to avoid tax problems emerging from your shareholder loan. If a shareholder pays back the loan given by a corporation within the required time, there will be no reason for paying any taxes.
If you have a shareholder loan and you pay it before the end of the year, as it is required, and consider borrowing again immediately after, this won’t be a great idea. CRA has put in place rules that prevent this scenario. Normally, this is considered to be a case of series of loans and repayments and could still attract double taxation. Thus, it’s highly advisable that you pay the required amount within the required time to avoid a situation where you have to incur unintended costs.
Taking the Amount as Wages/Salary
A person who owns a company can also be an employee. So, if he decides to earn $70,000 from his company and prevent a case of double taxation, he can choose to take the loan amount as a salary. In this case, the salary appears as a tax deduction for the corporation and the owner includes it in the employment income. This goes a long way in avoiding double taxation.
Taking the Loan Amount as Dividend
An owner of a business can also avoid double taxation by taking the shareholder loan as a dividend. After the declaration of the dividend, the amount is transferred to the owner’s personal account. Normally, dividends attract taxes at lower rates compared to employment income. This helps to avoid double taxation in an effective way. It is important to have the required planning to avoid a situation where you have to pay for surprise taxes.
Why you need To Hire Experts
From the information above, it is without a doubt that shareholder loans are important as they help shareholders to handle financial matters with ease and much flexibility. However, without knowledge of how shareholder loans work, you may end up making costly mistakes. It is for this reason that you need to work with experts to guide you accordingly. Issues to do with taxes and accounting can be problematic if you don’t have the required knowledge and expertise. That’s why JTT Accounting comes in handy as a preferred solution for matters related to shareholder loans. If you live in Toronto and Ontario, the services of JTT Accounting will be highly valuable to you. Here are reasons why you should consider JTT Accounting:
Guiding You on Documentations
A shareholder loan comes with the need for proper documentations between the parties involved. Repayment arrangements should be properly documented to avoid ambiguity and confusion in the future. For this reason, hiring an expert is extremely important as it helps to put everything in its place so that no problem appears at a later date. If you work with JTT Accounting, you’ll be sure that the correct documentation will be put in place.
You’ll Have Less Stress
You’ll definitely have less stress when you know that professionals are handling processes on your behalf. When you have the right people giving you advice on matters of loans and taxes, you’ll have peace of mind because you’ll trust the information they give you. You’ll have less stress as you manage your finances, whether you’re an individual or a corporation.
Comprehensive Tax Planning
Tax planning is a challenge that many individuals and businesses experience. Without quality tax planning, they find themselves in problems. The good news is that there are professionals who can help with that. At JTT Accounting, you’ll get to work with experts who will guide you on effective tax planning. You’ll be able to avoid the tax mistakes people find themselves in for lack of proper guidance and preparation.
Top-Rated Services
If you’re looking for quality accounting services in Toronto and Ontario, you can get them at JTT Accounting. The team of professionals at the accounting firm has the experience and expertise to guide both individuals and companies to achieve success in financial effective planning.
Indeed shareholder loans are a valuable way of managing short-term financial needs. They are also integral in allowing shareholders to exercise flexibility in the way they withdraw money from a corporation. If you are looking for a short-term loan you can repay in less than 12 months, a shareholder loan is a feasible option to get the funds you need. Repaying the loan amount within 12 months is advisable to avoid tax consequences. You can contact JTT Accounting for any questions you may have and you’ll get the help you need.