DAVID WILKENFELD, CPA, CA, canadian tax CONSULTANT

What’s Your Tax Issue? – Negative Retained Earnings

In Canadian Income Tax on April 4, 2013 at 2:58 pm

Questions

The Tax Issue

I am the only owner of a Canadian corporation with a year ending Dec 31. I regularly pay an annual dividend at the end of each year equal to my corporate profits.

Last February I started preparing the corporate tax return and after estimating income and expenses, issued a T5 slip for a dividend that I estimated would bring the retained earnings  balance to zero.

Two days ago I finalized my company’s year-end and found that I missed about $2,000 of expenses to be claimed for the year. Can I still claim the expenses which will drag retained earnings balance to negative scale? Should I expect any consequences from CRA side?

The Answer

This is a question that comes up from time to time, and it’s more a legal issue than a tax question. The ability to pay any dividend is governed buy the relevant corporation statute that your company was incorporated under. The rule is, however, generally similar among all the statutes. Under the Canada Business Corporations Act,  Section 42, a corporation is prevented from legally declaring or paying a dividend if there are reasonable grounds for believing that

(a) the corporation is, or would after the payment be, unable to pay its liabilities as they become due; or

(b) the realizable value of the corporation’s assets would thereby be less than the aggregate of its liabilities and stated capital of all classes.

So, as long as you don’t run afoul of the above rule at the time the dividend was paid, there should be no problem. If you do, however, find yourself with a small deficit, the CRA should not have a problem with it. The rule is there to protect your creditors and shareholders and to ensure that you do not strip the company of its assets in an illegal manner. A deficit of $2,000 is probably not going to attract a law suit.

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