ABILs: Claiming Tax Losses When Businesses Experience Financial Difficulties
In troubled economic times, it is not unusual to lose money invested in a business. Although losing money is never a good thing, one silver lining is that losses may be claimed for tax purposes. If an investor loses money on a publicly-traded stock, only a capital loss is available. The problem with capital losses is they can only be deducted against capital gains.
Since many individuals hold their investments in registered accounts such as RRSPs or TFSAs, it may be several years before an investor realizes a taxable capital gain to offset a capital loss.
On the other hand, where a person loses money on an investment in a private corporation, a more favourable tax loss may be available. This special type of loss is called an allowable business investment loss, or “ABIL”, and may be deducted against ordinary income. That is, an ABIL may be deducted against business or employment income, and is not limited to an offset against a capital loss.
This makes an ABIL a very valuable tax loss, and of interest to a business owner or investor in a private corporation.
An ABIL may be available on a loss realized on the following types of investments, if certain conditions are satisfied:
- shares of a private corporation, and
- debt instruments issued by a private corporation, including bonds, debentures, or simply loans made to a business owned by yourself or a family member.
ABILs are a great tax savings opportunity, but also one of the most heavily-litigated areas of tax appeals. Sadly, many taxpayers are denied their valuable ABILs because of insufficient evidence to support the claim for the tax loss. It is a tough outcome for a taxpayer who loses money in a business only to have the Canada Revenue Agency (CRA) deny the ABIL deduction!
Aside from the common problem of insufficient evidence to support an ABIL, there are a number of complex legal hurdles under the Income Tax Act that must be overcome in order to claim the deduction. Some of these legal issues will be the subject of a future blog.
The good news is that by engaging a tax lawyer or accountant to obtain proper advance planning and legal documentation, taxpayers can ensure this loss utilization opportunity is available to them.
The tax group at Nerland Lindsey LLP can help investors with losses in private companies in the following ways.
- Review and update corporate minute books to ensure shares or debt instruments are validly issued.
- Explore corporate options such as creditor proposals or bankruptcy and analyze the effect on an ABIL claim.
- Prepare documentation for loans, promissory notes, and other relevant agreements underlying an ABIL claim.
- Confirm the conditions are satisfied to file any of tax elections that may be required.
- Advise on steps that need to be taken for collecting on a debt to substantiate an ABIL deduction (even though the debt may be clearly uncollectible).
- Review financial statements and tax returns to assess the private company’s ability to qualify as a “small business corporation” under the Income Tax Act (which is one of the requirements of an ABIL claim).
- Recommend any corporate reorganization or other steps that may necessary in advance of an ABIL claim.
If you have had a loss denied by the CRA, any member of our tax group would be pleased to discuss your options. However, it is always best to be proactive.
By seeking advice from a tax lawyer, business owners or investors can avoid the stress and business disruption of lengthy CRA audits and reduce the risk of tax reassessments.
If you would like to receive a free white paper describing the technical requirements of an ABIL, please contact the writer at firstname.lastname@example.org.
Invitation for Discussion:
If you would like to discuss this blog in greater detail, or any other tax or estate planning matter, please do not hesitate to contact one of the lawyers in the Tax & Estate Planning group at Nerland Lindsey LLP.
Note that the foregoing is for general discussion purposes only and should not be construed as legal advice to any one person or company. If the issues discussed herein affect you or your company, you are encouraged to seek proper legal advice.