Canada: How The Alternative Minimum Tax (AMT) Could Impact You As A Business Owner

The Alternative Minimum Tax (AMT) impacts Canadian taxpayers by ensuring that high-income individuals and trusts pay a minimum amount of tax each year, notwithstanding that they have access to various tax deductions and incentives. This is achieved by adjusting taxable income, such as adding back certain deductions and incentives like the Lifetime Capital Gains Exemption (LCGE) and the employee stock option deduction.

Currently, the first $40,000 of adjusted taxable income (ATI) is exempt from AMT, and the balance of ATI is subject to a federal minimum tax rate fixed at 15%. If the minimum tax calculated under AMT exceeds the annual regular federal income tax liability, AMT applies. Most provinces, including British Columbia, have their own provincial AMT based on a percentage of the federal AMT. The AMT paid can be carried forward as a credit for up to seven taxation years, and can be applied to reduce future income taxes where the regular federal income tax exceeds the federal AMT for the particular subsequent year. Awareness of the new AMT rules will be imperative for effective tax planning and compliance for 2023 and beyond.

Recent Changes Proposed to the AMT

The AMT has recently undergone a significant review by the Department of Finance, and draft legislation was introduced in August of this year, which, if enacted, it will would significantly impact high-income taxpayers. Our experts have grouped these changes into various categories below.

Tax Rate Increase

The AMT rate has undergone a notable increase, now standing at 20.5%, a significant rise from the previous rate of 15%. This change will significantly increase the tax liability of individuals and trusts subject to the AMT.

Basic Exemption Threshold Enhancement

The basic exemption under AMT has substantially increased, aligning with the fourth federal income tax bracket¹. This threshold amounts to approximately $173,000 for the 2024 tax year, a substantial increase from the previous $40,000 exemption threshold. This change should ensure that lower and middle-income individuals are not subject to the AMT.

Trusts and Exemptions

The changes have extended to include additional trusts exempted under the AMT rules. Notably, Graduated Rate Estates (GREs) now fall under this category. Also, Qualified Disability Trusts are now eligible for the basic AMT exemption (described above).

Capital Gains and Deductions

Significant alterations concerning capital gains and employee stock option benefits are proposed under the new AMT. Capital gains are to be fully included at a rate of 100%, compared to the current rate of 80%.

Similarly, suppose the employee stock option deduction is being claimed. In that case, the employee stock option benefits will be fully included at 100%, up from the current 80%. These changes will significantly expand the scope of the AMT.

Charitable Donations

Capital gains on the donation of property are to be included at 100%, replacing the current 50% rate. Furthermore, capital gains on donations of publicly listed securities and the taxable benefit from donations of employee stock options are now subject to be included at a rate of 30%, a significant change from the current 0% rate. These changes are expected to have significant negative implications for charitable giving by high- net- worth individuals in Canada.

Losses

Several deductions under AMT have been adjusted. Capital loss carryovers are to be deductible at 50%, down from the current 80%. The Allowable Business Investment Loss (ABIL) deduction is to be reduced to 50% from 80% of the gross Business Investment Loss. These changes will reduce the impact of loss deductions on the calculation of the AMT.

Deductions and Credits

Changes to AMT include adjustments in the deductibility of certain employment expenses. Amounts related to certain employment expenses, moving expenses, childcare expenses, and Canada Pension Plan (CPP) contributions are to be deductible at 50%, compared to the current 100%.

Interest and financing expenses will also shift to a 50% deduction from the current 100%. Non-capital losses and Limited Partnership loss carry-forwards will also be subject to a 50% deduction, down from the current 100%.

Finally, the Northern Residents deduction and various non-refundable tax credits have been reduced to 50%. These changes will impact the availability of deductions and credits under AMT, increasing the AMT base.

How These Changes Could Impact Business Owners?

Increased Tax Liability for High-Income Business Owners

With the AMT rate rising to 20.5%, high-income business owners benefiting from various tax preferences, such as capital gains, including capital gains eligible for the lifetime capital gains exemption (LCGE), may see a significant increase in their personal tax liability.

For instance, a business owner who would currently not be subject to the AMT on the sale of his or her shares eligible for the LCGE may be subject to a significant AMT liability in 2024. This change may necessitate re-evaluating the revisiting and altering tax planning strategies to mitigate the potential increased tax burden.

Impact on Charitable Giving and Property Donations

The change in the tax treatment of capital gains on property donations will likely affect business owners who engage in philanthropic activities.

Under the new rules, capital gains on property donations are fully taxable for AMT purposes. As a result, business owners who donate property, such as real estate or shares of a private corporation, may face a higher AMT liability. This may lead to business owners to reconsidering the timing and structuring of their charitable contributions, with potentially impacting on their overall philanthropic plans.

Restructuring Employee Compensation Policies

Executives and other high income employees receiving stock-based compensation may have increased exposure to the AMT beginning in 2024.

Also, the 50% reduction in the deduction for certain employment expenses and moving expenses could have more than a minor impact on a business owner's compensation policies for certain high-income employees, including the business owner.

Given that high- income employees with significant employment or moving expenses who pay for and deduct these expenses will have increased exposure to AMT beginning in 2024, it may be prudent for business owners to consider reimbursing these employees for such expenses to reduce this exposure.

Footnote

1. Indexed annually to inflation

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.