- Employees Profit Sharing Plans
- April 2, 2012
- Law Firm: Miller Thomson LLP - Toronto Office
Employees Profit Sharing Plans (“EPSPs”) are arrangements under which an employer is required to make payments computed by reference to profits to a trust for the benefit of employees of an employer or of a non-arm’s length corporation. The beneficiaries of the trust can be all of the employees of the employer or just a designated group of employees. Generally the employer may deduct any amounts contributed to the plan, and amounts received by the trust from the employer or earned from property held by the trust are taxable in the hands of the employees as though such amounts had been earned directly by those employees. Amounts allocated to employees are included in such employees’ income regardless of whether or not they are distributed to the employees, and any such amounts are generally not taxable on their eventual distribution. Although EPSPs do not achieve deferral of income tax (other than perhaps in the first year the EPSP is established), they do present income splitting opportunities with family members and also have the advantage that contributions to EPSPs are not subject to source deductions in the same manner as wages paid directly to employees.
According to the Government, EPSPs have been used increasingly as a means for some business owners to direct profits to members of their families in order to reduce or defer the payment of income tax on these profits. In the 2011 Budget, the Government announced that it would review the existing EPSP regime, but would ensure that any future changes to the rules designed to limit the potential for abuse would continue to accommodate appropriate uses of EPSPs. The Government consulted with stakeholders from August to October 2011, and participants in the consultations generally recognized the Government’s concern in placing reasonable limitations on EPSP contributions to combat perceived abuses of EPSPs in the context of non-arm’s length employees.
To address potential abuse of EPSPs and discourage excessive employer contributions, the Budget proposes a special tax payable by a specified employee on an “excess EPSP amount”. A specified employee is generally an employee who has a significant equity interest (generally at least 10% of any class of shares) in his or her employer or who does not deal at arm’s length with his or her employer. Generally, an “excess EPSP amount” will be the portion of an employer’s EPSP contribution, allocated by the trustee to a specified employee, that exceeds 20% of the specified employee’s salary received in the year by the specified employee from the employer.
The special tax includes a federal component and a provincial component, which will be equivalent to the top federal marginal tax rate of 29% and the top marginal tax rate of the province of residence of the specified employee, respectively. The special tax will be shared with provinces and territories participating in a Tax Collection Agreement, which include all provinces and territories except Québec. The Government will introduce a new deduction to ensure that an excess EPSP amount is not subject to double taxation both under the special tax and as regular income. However, a specified employee will not be able to claim any other deductions or credits in respect of an excess EPSP amount.
The Minister of National Revenue will be able to waive or cancel the special tax if the Minister considers that it is just and equitable to do so, having regard to all the circumstances. In such cases, the normal rules governing EPSPs will apply.
This measure will apply in respect of EPSP contributions made by an employer on or after Budget Day, other than contributions made before 2013 pursuant to a legally binding obligation arising under a written agreement or arrangement entered into before Budget Day.