Intercompany Loans and the CRA
If an individual owns multiple corporations, he or she will commonly transfer money from one corporation to the other. If one business makes more money, then it will loan funds to another corporation that could use the money. This is a very useful and common structure used in a family of companies that are related to each other or have the same ownership – whether it be through a holding company or is owned by individuals. CRA can be particular about these loans as they are not to an unrelated or third-party.
CRA can audit or review these loans and determine that they are not bona fide loans, and as such, the loan is reassessed as income to the debtor. This reassessment can have very significant financial consequences and may include penalties and interest.
However, there are ways to reduce or eliminate this risk entirely. When a company owned by you (either directly or indirectly through a holding company) loans money to another corporation of yours or someone related to you, you can implement these items:
- Loan Documentation – At the outset of the loan, document the loan with a written agreement that includes the amount to be loaned, the repayment terms, and the interest rate. The more details you provide in this document to make the loan look more bona fide and similar to a loan obtained from a third party, such as a bank, the better your chances are that CRA will view the loan as a legitimate loan.
- Loan Re-payments – In every year, initiate a transaction or transactions that will evidence repayment of a minimum payment or an interest-only payment on the loan. Having regular transactions over the years will add to the argument that the loan is active and the loan is a legitimate loan that is intended to be paid off by the debtor corporation.
- Interest Rate – The interest rate stated in the loan documentation and repaid by the debtor corporation has to be a realistic interest rate that would be charged on a loan between two unrelated parties. CRA publishes their view of what a realistic interest rate is in the form of its published prescribed interest rates. This can be viewed on their website and is updated every three months. For the period of October – December 2015, the prescribed rate was 5%.
The above steps will help evidence your intercompany loans as being active and bona fide. This will argue strongly in favour of the CRA accepting the loan arrangement and not assessing any negative tax consequences.