Understanding Tax on Transactions Between Related Corporations

If you’re an owner of multiple corporations, either individually or alongside family members, it’s crucial to understand the tax implications of transactions between these related entities. 

What Defines Related Corporations? For tax purposes, two corporations are deemed related if they’re owned by the same individual or by different individuals who are related by blood. Consider this scenario: Sam and Jill, a married duo, each own a corporation. Sam’s business deals with medical supplies in the greater Toronto area, while Jill is a cosmetic surgeon operating her own practice in the Greater Toronto Area (GTA). Sam contemplates selling medical supplies to Jill’s corporation at a significantly reduced price to boost her corporate earnings. 

However, is such an arrangement permissible? The straightforward answer is “No”. The Income Tax Act mandates that the pricing of goods and services should align with prevailing market rates. This means Sam must offer medical supplies to Jill at the same rate he would to any other client, adhering to the market value principle. 

Documentation Essentials Should there be an audit, you’d be required to present specific records, including: 

• Sales Invoices 
• Purchase Orders 
• Issued Cheques 
• Deposit Slips 

Moreover, the auditor might inquire about the rationale behind the pricing of related party sales. Evidence can be in the form of internet printouts showcasing competitor prices or invoices issued to unrelated clients. 

Common Transactions Among Related Corporations: 

• A management corporation offering support services to its related entity. 
• A corporation owning office space and leasing it to a related company. 
• One corporation selling supplies that another related corporation utilizes for product manufacturing. 

Key Takeaway: Always ensure that transactions between related corporations are conducted at market prices. Additionally, maintain all relevant documentation, as these might be crucial during audits.