Eligible Dividend Designation – Subsection 89(14)
A taxable dividend, including a deemed dividend received by a resident of Canada after 2005, is an eligible dividend only if the corporation designates it as an eligible dividend. To designate a taxable dividend as an eligible dividend, the corporation must notify in writing the person to whom it pays the dividend that all or any part of the dividend is an eligible dividend.
Question 1
How is the designation rule to be applied where the registered holder of a share is a mere nominee for the owner of the share (for example, in a book‑based system)? It seems that a notice to the registered holder of the share would be sufficient to comply with the technical wording of the rule, but there has been no obligation on the nominee to advise the beneficial owner of the share that the dividend is an eligible dividend, which would seem to frustrate the purpose of the rule. Can the Canada Revenue Agency (CRA) please comment on this point?
Response 1
Subsection 89(14) of the Income Tax Act 1 provides that a corporation designates a dividend to be an eligible dividend
“by notifying in writing at [the time it pays a dividend] each person or partnership to whom it pays all or any part of the dividend that the dividend is an eligible dividend.”
Generally, corporate law requires that a corporation maintain a securities register wherein it records the name and last known address of each holder of its securities 2 ). Where a corporation pays a dividend on a particular share, it is generally entitled to treat the registered owner of the share as the person exclusively entitled to receive the dividend 3 ).
Subject to acceptable alternatives described in our general guidelines referred to below, a corporation that seeks to designate a dividend to be an eligible dividend will be required to give written notification to each person to whom it pays any part of the dividend by giving such written notification to the registered owner of the share on which the dividend is paid at the owner’s address in the corporation’s securities register.
In most cases where a book-entry system is maintained to record the beneficial owner of shares of a particular corporation, that corporation’s shares will be publicly traded and the corporation will be entitled to rely on the procedure for designating an eligible dividend that was described in our general guidelines released on December 20, 2006, Designation of Eligible Dividends 4 . For public companies, we stated, in part:
“Acceptable methods of making a designation are posting a notice on the corporation’s website, and in corporate quarterly or annual reports or shareholder publications. We will consider that a notice posted on a corporate website is notification that an eligible dividend is paid to shareholders until the notice is removed. Similarly, a notice in an annual or quarterly report that an eligible dividend has been paid is considered valid for that year or quarter, respectively. Alternatively, if a public corporation issues a press release announcing the declaration of a dividend, a statement in the press release indicating that the dividend is an eligible dividend will be sufficient proof that notification was given to each shareholder.”
Reference should be made to the guidelines for additional comments concerning eligible dividend designations. See also Response 5 below.
Question 2
As a technical matter, it appears that the current provisions of the Act do not permit an eligible dividend received by a Canadian resident trust and distributed to a Canadian beneficiary to retain its character as an eligible dividend in the hands of the beneficiary. If this is not an intended result, how does the CRA plan to deal with this issue?
Response 2
It is our view that a taxable dividend, designated as an eligible dividend under subsection 89(14), that is paid to a Canadian resident trust will maintain its character when distributed by that trust to its Canadian resident beneficiaries under subsection 104(19). In order for a taxable dividend to qualify as an eligible dividend, it must meet the criteria in the eligible dividend definition in subsection 89(1). Under subsection 89(1), the taxable dividend must be received by a person resident in Canada, be paid after 2005 by a corporation resident in Canada, and be designated as an eligible dividend in accordance with subsection 89(14). Subsection 104(19) states that, under certain conditions, a taxable dividend received by a trust resident in Canada is deemed to be a taxable dividend received by the beneficiary of the trust from the corporation paying the dividend. Provided the conditions in the definition of eligible dividend, as outlined above, are met, the taxable dividend received by the Canadian beneficiary would qualify as an eligible dividend.
Question 3
What is the CRA’s position with regard to a corporation reorganizing its share capital into two classes, one for non-residents on which eligible dividends would not be paid, and the other for residents on which eligible dividends would be paid?
Response 3
Eligible dividends paid to individuals resident in Canada are subject to a lower effective rate of tax as a result of an enhanced dividend “gross-up” and enhanced dividend tax credit. Shareholders that are not resident in Canada are not entitled to the enhanced dividend “gross-up” and enhanced dividend tax credit.
In order to pay an amount as an eligible dividend, the corporation paying the dividend must designate the full amount of the dividend as eligible dividend. Partial designations are not possible.
Questions have been raised about the effect on a Canadian-controlled private corporation’s (CCPC) general rate income pool (GRIP) when a portion of the amount that it designates as an eligible dividend is received by a person that is not resident in Canada. There is concern that by designating the full amount of a dividend to be an eligible dividend, the CCPC will be required to reduce its GRIP by the full amount of the dividend, notwithstanding that at least a portion of the amount of the dividend was received by a shareholder that is not resident in Canada and therefore not entitled to the benefit of the enhanced dividend “gross-up” and enhanced dividend tax credit.
At question 6 of the CRA Round Table discussion at the recent 2008 Congrès de l’Association de planification fiscale et financière (the 2008 APFF conference), 5 the CRA confirmed that, in order for an amount to be an eligible dividend for purposes of the Act, all of the essential conditions set out in the definition of “eligible dividend” in subsection 89(1) must be satisfied. One of the essential conditions is that the full amount of the dividend must be designated as eligible dividend. Another essential condition is that the amount must be received by a person that is resident in Canada. Where the full amount of a dividend is designated as an eligible dividend, but a portion of the dividend is received by a person that is not resident in Canada, the portion received by the non-resident will not meet all of the essential conditions and will not be an eligible dividend for purposes of subparagraph (a)(i) of component “I” of the formula for the calculation of the dividend payor’s GRIP. In other words, the portion of the dividend received by the non-resident will not reduce the CCPC’s GRIP. As a result, CRA considers the reorganization described above to be unnecessary in order for a CCPC to maximize the benefit of its GRIP to its Canadian‑resident shareholders.
Question 4
In 2006, the CRA allowed handwritten notification for the payment of eligible dividends on T3 and T5 slips. The CRA indicated at the 2006 Canadian Tax Foundation Annual Conference CRA Round Table that it would consider whether this practice should be extended to subsequent taxation years. 6 Will the CRA consider handwritten notification on T3 and T5 slips sufficient notification for the payment of eligible dividends for the 2008 and subsequent years?
Response 4
Our position at the 2006 annual conference was taken in view of the fact that, at the time of our comments, the eligible dividend legislation had not yet received Royal Assent. As a result, the coming-into-force provisions, which provided that notification by May 22, 2007 for any dividends paid before February 21, 2007 would comply with subsection 89(14), were not yet published. Our comments were made, and the coming-into-force provisions were adopted, to deal with cases where corporations had paid eligible dividends prior to the legislation receiving Royal Assent. The CRA confirmed that it is important that recipients of dividends receive timely notification of eligible dividends, particularly when a corporate shareholder passes those dividends on to its own shareholders. The CRA confirmed that dividends would not be considered ineligible solely due to the timeliness and/or method of notification until the end of the 2008 calendar year. Corporations will need to take the necessary steps to implement proper and timely notification protocols for 2009 and subsequent taxation years.
Question 5
Read literally, subsection 89(14) requires the shareholder to be notified at exactly the same moment that the dividend is paid. Is that how the CRA interprets that subsection? If not, can the notice be before or after the payment and, if so, by how much long before or after?
Response 5
Generally, notification at or before the time the dividend is paid is appropriate notification for the purpose of subsection 89(14) as set out in our general guidelines:
“For 2007 and Subsequent Taxation Years
Public Corporations
For 2007 and subsequent taxation years, for public corporations, we will accept that notification has been made if, before or at the time the dividends are paid, a designation is made stating that all dividends are eligible dividends unless indicated otherwise. Acceptable methods of making a designation are posting a notice on the corporation’s website, and in corporate quarterly or annual reports or shareholder publications. We will consider that a notice posted on a corporate website is notification that an eligible dividend is paid to shareholders until the notice is removed. Similarly, a notice in an annual or quarterly report that an eligible dividend has been paid is considered valid for that year or quarter, respectively. Alternatively, if a public corporation issues a press release announcing the declaration of a dividend, a statement in the press release indicating that the dividend is an eligible dividend will be sufficient proof that notification was given to each shareholder.
All Other Corporations
For 2007 and subsequent taxation years, for all corporations other than public corporations, the notification requirements of proposed subsection 89(14) must be met each time a dividend is paid. Examples of notification could include identifying eligible dividends through letters to shareholders and dividend cheque stubs, or where all shareholders are Directors of a corporation, a notation in the Minutes.”