Mr. X holds all the voting shares of Opco, a family trust (“Trust”) holds all the participating shares of Opco, and Child X (age 30 and not involved in the Opco business) holds all the voting participating shares of Holdco, which generated $150,000 of passive income in the prior year from stock market investments. Holdco (which along with Mr. and Mrs. X, and Child X, is a Trust beneficiary) also received in the prior year a $100,000 distribution of a dividend that Trust had received from Opco, and now wishes to pay a $75,000 dividend to Child X (the “Dividend”). Would it be possible for Holdco to pay the Dividend on the basis that it was derived from income on the stock market investments rather than from Opco, so as to avoid the split income tax?
After noting that Mr. X was a source individual respecting Child X, assuming that Mr. X satisfied the active engagement condition with respect to Opco’s business, and further finding that if “Holdco will pay the Dividend to Child X out of the funds from the $100,000 dividend received from Opco or from any dividends previously received from Opco, then … the Dividend would thus have come, directly or indirectly, from a related business - that of Opco - in respect of Child X.” so that the Dividend would be added to the split income of Child X, unless it constituted an excluded amount by virtue of another exclusion, CRA then stated:
[I]f it can be determined that Holdco will pay the Dividend to Child X out of its after-tax income from its stock market investments, then that dividend would be an excluded amount for Child X and would not be included in calculating the child’s split income.
…[I]f it were determined that Holdco carries on a business whose primary purpose is to earn income from its stock market investments, that business would not qualify as a "related business" …[as] no source individual in respect of Child X satisfies the active engagement condition or the ownership condition with respect to Holdco. Consequently, the Dividend would be an "excluded amount" in respect of Child X… .
On the other hand, if it were determined that Holdco does not carry on a business, then the Dividend would also be an "excluded amount" in respect of Child X by virtue of subparagraph (e)(i) of the definition … [since] there must be … a business carried on by an entity. …
Based on the foregoing, Holdco must adequately monitor its funds derived from stock market investments in order to determine whether those funds were used to pay the Dividend.