Debit Balances on Shareholder Loans & Prescribed Interest: What Your Business Needs to Know!
As we approach year-end, it’s a great time for corporations to review their financials - especially shareholder loan debit balances. These accounts can have significant tax implications if not properly managed, and the Canada Revenue Agency (CRA) has specific rules that every business should be aware of.
At our firm, we’re here to help you navigate these rules and avoid any surprises during the year and when it’s time to file.
What Is a Shareholder Loan?
A shareholder loan occurs when a corporation lends money to a shareholder or a related party. While this is a common practice, it’s important to understand how the CRA views these transactions - especially if the loan isn’t repaid promptly or lacks proper documentation.
Inclusion in Income
In many cases, the CRA may require the loan amount to be included in the shareholder’s personal income, unless it meets certain exceptions. This could result in additional tax owing if not handled correctly.
Exceptions to Income Inclusion
Your corporation may avoid income inclusion if the loan meets one of the following conditions:
The loan is repaid within one year after the end of the corporation’s tax year (meaning the loan can be outstanding for more than one year - but not two)
Issued in the ordinary course of business, with standard commercial terms.
Used for specific purposes such as:
Buying a home
Acquiring shares of the corporation
Purchasing a vehicle for employment use
Each of these exceptions requires proper documentation and clear intent, so it’s important to keep detailed records.
CRA’s “Series of Loans” Rule
The CRA may disregard repayments if they appear to be part of a pattern - such as repaying a loan just before year-end and borrowing again shortly after. This is known as a series of loans or repayments, and it can lead to the loan being taxed as income even if it was technically repaid.
Interest Implications: What You Need to Know
If your corporation provides a loan to a shareholder at 0% interest or at a below-market interest rate, the CRA may consider the difference between the prescribed rate and the rate charged as a taxable benefit to the shareholder.
Here’s what to watch for:
Prescribed interest rates: The CRA sets quarterly prescribed interest rates. If your loan charges less than this rate, the shareholder may owe tax on the benefit.
Reporting requirements: The benefit must be reported as part of the shareholder’s income.
Corporate impact: The corporation may also face scrutiny if interest income is not properly recorded.
To avoid this, ensure that:
Interest is charged at or above the CRA’s prescribed rate.
Interest is paid annually and documented.
Loan agreements clearly outline terms and repayment schedules.
Interest Benefit: A Hidden Tax Trap
If your corporation provides a loan at a below-market interest rate, the shareholder may be considered to have received a taxable benefit. This benefit must be reported and could result in additional tax liability.
Year-End Action Items for Your Business
To stay compliant and avoid penalties, we recommend the following steps before closing your books:
Review shareholder loan accounts for proper documentation and repayment timing.
Ensure any favourable loan terms are properly disclosed and reported.
Consider repayment strategies to avoid income inclusion and interest benefit issues.
Maintain clear records of loan agreements, repayment schedules, and the purpose of each loan.
Check that interest is being charged and paid according to CRA guidelines.
If you have shareholder loans or debit balances on your books, now is the time to review them. Our team can help you assess your situation, ensure compliance with CRA rules, and develop a strategy that minimizes risk and maximizes clarity. We’re here to help!