Ruling hits tax option for advisors

National Post


The ability of financial advisors to flow securities commissions through a
personal corporation was dealt a blow last week by a Tax Court of Canada
decision, which ruled that a Nova Scotia advisor must pay tax personally on his
mutual fund trailer commissions, despite having redirected them through his
personal corporation.

Running advisory practices through private corporations has provided the
benefits of low corporate tax rates and deferred personal tax until the
dividends are paid out. This can be enhanced further by an income splitting
strategy whereby dividends are paid on shares held by a spouse or children over

Provincial securities law across Canada prohibits advisors from registering
as incorporated salespersons and, therefore, the licence to sell securities must
be held individually.

Similarly, the Mutual Fund Dealers Association's (MFDA) Rule 2.4.1, "Payment
of Commissions to Non-Registered Entities" prohibits the payment of mutual fund
commissions to personal corporations. That said, late last year, the securities
commissions of British Columbia, Saskatchewan, Ontario and Nova Scotia extended
a previously issued exemption suspending the rule's enforcement until Dec. 31,
2008, effectively allowing mutual fund commissions to be paid to personal
corporations in those four provinces.

However, just because the commissions can be physically paid to an advisor's
corporation does not necessarily mean the corporation has "earned" those
commissions for tax purposes.

This was the issue in the recent case in which the Halifax advisor and his
dealer had an oral agreement in which his mutual fund trailing commissions would
be paid to his numbered Nova Scotia company. His company reported the income on
a corporate tax return.

The Canada Revenue Agency felt that the money should be taxed in his hands
personally and reassessed him, arguing that "the transfer of the fees to the
Corporation was simply a scheme to artificially reduce [his] income. He remains
beneficially entitled to those fees. The Corporation was essentially a
receptacle for the flow of revenue with dividends from the Corporation flowing
back into [his] account."

The judge agreed and found that the transfer was specifically caught by an
anti-avoidance rule of the Income Tax Act designed to prevent the avoidance of
tax that could result when a right to income is transferred between parties that
don't deal at arm's length, including a personal corporation.

Essentially, the question boiled down to who "beneficially earned" the
trailer fees, the corporation or the advisor? The judge concluded it was the

The judge left the door open for other cases, saying that "given the right
set of circumstances, a company could be engaged in the active business of
providing services to earn trailer fees."

Those circumstances may include a formal employment contract between the
advisor and his or her corporation, business expenses being paid from the
corporation and remuneration paid to the advisor from the corporation -- all of
which were absent in the current case.

The full text of the decision can be found at:

- - - - Jamie Golombek, CA, CPA, CFP, CLU, TEP is vice-president, taxation
and estate planning, at AIM Trimark Investments in Toronto.