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Changes to the Closely Related Test

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Amendments to the ETA’s closely related test were announced in the 2016 budget and received Royal Assent December 15, 2016.  They came into force March 22, 2017.


The amendments add a new eligibility condition in respect of elections under section 150 and 156 of the ETA. Specifically, the amendments introduce a “qualifying voting control” criterion to elections made since March 23, 2016. The result is thatelections currently in force amoung the entities of a group, could become invalid. 


The amendments also restrict eligibility for the subsection 228(7) offset provision, a result of significance to any corporation that has been reducing their tax payable or remittable, by absorbing the tax refunds or rebates of a closely related corporation.


Section 150, section 156 and subsection 228(7) of the ETA establish tax shortcuts for members of a “closely related” group.  


Prior to the amendments, entities were considered “closely related” when a parent corporation or partnership, held at least 90% of the value and number of the issued and outstanding shares with full voting rights (the “90% of shares criterion”) of a subsidiary corporation.  


The amendments to section 128(1) of the ETA, replace the 90% of shares criterion with a stricter test, the “qualifying voting control criterion”.  Now, in order to make an election under section 150, an election under 156, or an offset under 228(7), the parent corporation (or partnership) must own shares of the subsidiary which include not fewer than 90% of the votes, with some exceptions.


As illustration, consider two corporations XCo and YCo.  YCo has a multiple voting share structure, such that class A shares have 100 votes per share, and class B shares have 1 vote per share.  There is one issued class A share, nine issued class B shares, and no outstanding shares. 


On the previous 90% of shares criterion, in order for XCo and YCo to be closely related, XCo would need to own at least 9 of the 10 YCo’s issued shares.  It could own the one class A share, and eight class B shares, or it could own all nine class B shares.  On the previous test, the respective voting power of the shares would have been inconsequential in assessing whether the corporations were closely related.


However, on the new “qualifying voting criterion”, in order for XCo and YCo to be closely related, XCo must own the class A share, because even if XCo owned all nine class B shares, it would only own 8.26% of the votes (9/109).


As described in the CRA’s “Excise and GST/HST News November 2016” the amendments strengthen the test for determining whether two corporations, or a partnership and a corporation, can be considered closely related. 


Of note, the new test only affects corporate relationships in which the owned corporation has a multiple voting share (“MVS”) structure.  For corporations in which there is one vote per voting share, the changes have no impact.


The new closely related test applies to all new elections made under sections 150 or 156. 


In addition, while the amendments did not come into force until March 22, 2017, they apply retroactively to all elections made on or since March 23, 2016.  This means that an election made on March 23, 2016 must meet the new closely related test.


All elections made on or prior to March 22, 2016 are unaffected by the amendments.


As the new closely related test also restricts a corporation’s ability to offset tax payable or remittable by absorbing the tax refund or rebate of a closely related corporation, it is no longer enough that one corporation owns 90% of the other corporation; it is now necessary that the offsetting corporation own 90% of the votes of the other corporation – as otherwise described above.


If you are the owner or manager of a corporation or partnership that has filed an election under section 150 or section 156 in the past year (or has been offsetting taxes owed under subsection 228(7)) you should assess whether your business group meets the new closely related test.  You should be especially careful if your business group includes corporations with an MVS structure.


Finally, it is notable that since January 1, 2015 all new section 156 elections have been subject to mandatory filing, and since January 1, 2016 all pre-2015 elections have been subject to mandatory filing, changes that came into place in 2015.


Kathryn Walker & Robert G. Kreklewetz

A version of this article appeared in the April 2017 issue of Tax for the Owner Manager

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