Federal budget measures and their estimated impacts on HNW taxpayers

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The new federal budget focuses on measures aimed at making life affordable for Canadians and transitioning to a greener economy, but there are also items for higher-income individuals and families to note.

“Before the budget there was lots of talk about changes that affect high- and ultra-high-net-worth Canadians, but there weren’t many,” says Dino Infanti, Partner, National Leader, Enterprise Tax at KPMG in Canada.

“For example, there were no increases in personal and corporate tax rates and no direct changes to capital gains inclusion rates. There’s also no ‘wealth tax’ [a surcharge on the highest incomes],” he says.

Nevertheless, Infanti and other experts say there are a few significant areas for wealthy families and family offices to look at carefully.

“The main ones are changes to the alternative minimum tax and to the rules governing the transfer of a business from parents to other family members,” says Ameer Abdulla, tax partner at EY Private (Ernst & Young LLP) in Toronto.

The alternative minimum tax (AMT), introduced in 1986, is designed to prevent high-income Canadians from paying little or no personal income tax, by requiring them to apply a parallel tax calculation when they file their annual returns. AMT has fewer deductions, exemptions and tax credits than the regular regime; it imposes a 15-per-cent tax, with an exemption of $40,000.

The new budget, tabled March 28, changes this by raising the AMT rate to 20.5 per cent. Individuals whose incomes put them into the AMT regime have to pay either the AMT or their regular tax calculation, whichever is higher.

If they pay the AMT, they can carry forward the extra amount and apply it against regular taxes for up to seven years.

“The AMT can be thought of as a prepaid tax in this way,” says Rob Jeffery, Partner and National Tax Policy Leader at Deloitte LLP in Halifax.

“If you anticipate paying tax the non-AMT way in future years, you can get back the additional amounts you paid under the AMT.”

At the same time, the federal budget boosts the basic exemption from AMT up from its current $40,000 to $173,000. Under the current system, about 70,000 Canadians pay the AMT; the new budget would mean a tax cut for 38,000 of these wealthy taxpayers.

“The changes probably mean that fewer individuals will pay the AMT, particularly fewer considered to be in the middle class, but it will be targeted more toward those individuals the government describes as wealthy,” Infanti says.

The government estimates that the AMT reform will mean that 99 per cent of the AMT will be paid by those who earn more than $300,000 per year, and 80 per cent would be paid by those who earn more than $1 million annually. It’s estimated that these budget changes will generate $3 billion in revenues over five years, starting in 2024.

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The new budget is also disallowing a range of tax breaks and deductions that apply to AMT claimants. One hundred per cent of capital gains for those paying AMT will be taxable, up from 80 per cent, and all benefits from gains through stock options will be taxable too.

The government is also disallowing a range of deductions that apply to AMT users until now. These include employment expenses, moving and child-care expenses, workers’ compensation and social assistance payments and interest and carrying charges incurred to earn property income. The budget is also cutting non-refundable tax credits that can be applied to the AMT to 50 per cent.

It’s important for high-income Canadians to see how the new rules will apply to their particular circumstances, says Sabrina Fitzgerald, National Private Client leader, PwC Canada.

“Historically, when we knew AMT may apply, there could be some planning to minimize or recover tax payments in a following taxation year,” she says. This may still be possible by carrying forward the extra payments for up to seven years, but it may work differently for different taxpayers, and the situations will vary.

Taxpayers looking to transfer their businesses to relatives should take note of how the budget’s new rules affect such transfers, Fitzgerald adds.

“The rules are complex. The changes are designed to ensure that only genuine transfers benefit from a preferential tax treatment. Family offices should be aware of these changes and work with their advisors to take these rules into consideration,” she says.

The new rules put in safeguards against abuses that might arise, such as in the plotline of the TV hit series Succession, where the controlling parent generation is vague and ambivalent about whether the children get control.

“The main abuses that occur are when the parents transfer the business but don’t actually remove themselves from control, or when the child receives the business but isn’t actually involved or is able to flip it to a third party yet still receive preferential tax treatment,” Abdulla says.

“The new rules clarify the situation. They clear up gray areas where there are penalties that don’t apply in some situations but should,” he adds. They take effect for transactions that occur after Jan. 1, 2024.

High-net-worth Canadians should look at how the new budget affects their income and taxation over the longer term, Abdulla adds. “They should sit down with their [advisor or] family office and consider the budget’s impact on their particular blend of income over the next five to 10 years,” he says.

“For example, people will want to model out whether the AMT will be applicable and how much it might cost,” he says.

“The budget really points to the importance of looking at multi-year tax planning for higher income taxpayers,” Deloitte’s Jeffery says. It’s a good idea to ask family offices to analyze how the new changes would have affected this year’s [2022] tax return, to get a picture of how future returns will be different, he says.

“These are fairly technical changes, so you want to make sure your planning is well thought-out,” he says.

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