How does CRA View a “Debit” Balance?

Excerpt from MFA™ - Corporate Tax Services Specialist Program

Avoiding red flags with CRA is always a good idea, but for many small business owners, the shareholder’s loan account presents such a threat.  Here’s how a taxpayer can get into tax audit trouble:

A “debit” balance in a shareholder loan account creates a tax problem or issue for the shareholder and the company.  The Act sets out rules in subsections 15(1) and 15(2) which can result in punitive tax consequences.

Subsection 15(1) considers that the “debit” balance is an appropriation of corporate property and, if the amount is not repaid by the shareholder to the corporation by the end of the first taxation year following the taxation year in which the balance arises, the amount will be added to the shareholder’s income and will not be deductible to the corporation.  This results in a “double-tax” since the amount must still be repaid, and will require the shareholder to use tax-paid funds to do so, or to take additional income to offset the outstanding debit.

Subsection 15(2) considers that the “debit” balance is a loan made by the corporation to the shareholder and, if the “loan” is not repaid by the shareholder to the corporation, by the end of the first taxation year following the taxation year in which the loan arises, the amount will be added to the shareholder’s income.  However, unlike 15(1), repayment of the “loan” will be deductible against the shareholders income, in the taxation year of repayment. This effectively avoids the “double-tax” issue created by virtue of a subsection 15(1) tax assessment.

A good “rule-of-thumb” is to never file a corporate tax return with a debit balance in the shareholder loan account.  Remember that the shareholder loan account balance must be reported on Schedule 100 of the T2 return.  A debit balance in the field is a “red flag” alerting CRA of a potential tax problem for the taxpayer.

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