Doing business with family

Business transactions between related individuals (and companies in which they have an equity stake) always warrant special attention. The Income Tax Act is full of rules and regulations that apply to transactions that are not conducted at arm’s length. From a tax perspective, the baseline assumption is that related individuals do not necessarily conduct transactions at the same value and in the same manner as they would with non-related individuals. When engaging in these types of related-party transactions, it’s important to fully understand how the arrangement will be viewed through a tax lens.

One particular area of concern is the Tax on Split Income (TOSI) enacted in 2018. The new TOSI rules were designed to close previous loopholes around income sprinkling, a practice of business owners distributing their income among family members, who are not employed in the business, with the goal of reducing their personal tax liability.

Also of particular consideration are transactions involving the purchase, sale, or redemption of shares of a corporation between related parties. Sometimes family members will choose to redistribute ownership of a corporation as part of succession planning and will often do so for no cash consideration. Some clients have assumed that, since no cash was exchanged, that there are no tax implications. However, tax regulations often treat these transactions as though they were conducted at fair market value (FMV). This view can result in a tax liability for individuals who have not received any cash income.

The key takeaway is to always consider, “What would this transaction look like if it was conducted with an arm’s length party?”