Free CPA Canada Tax Practice Questions: Corporate Tax

CPA Canada means Chartered Professional Accountants of Canada. Use this focused CPA Canada Taxation page as a short practice test for Corporate Tax. The items are original Finance Prep sample exam questions built for scenario-based practice, not trivia, puzzle questions, official CPA Canada Taxation Elective questions, copied live-exam content, or exam dumps.

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These are original Finance Prep practice questions aligned to this topic area. They are not official CPA Canada Taxation Elective questions, copied live-exam content, or exam dumps. Use them to preview question style and explanation depth before continuing with topic drills, mixed sets, and timed mock exams in Finance Prep.

Question 1

Topic: Corporate Tax

Northstar Instruments Ltd. is a resident CCPC that manufactures standard lab equipment. For its December 31, 2025 year end, the controller proposes to claim SR&ED expenditures and investment tax credits for a failed project to develop a sensor housing that could withstand a new sterilization process. The draft tax schedule includes engineers’ salaries, prototype materials, and external testing fees. The general ledger has one account labelled R&D - sterilization housing, but the technical team says routine design work and experimental trials were mixed in the same cost centre. Management expects CRA may review the claim.

Which documentation package is most directly needed before finalizing the corporate tax position?

• A. The signed T2 SR&ED schedules, the general ledger trial balance, and a controller representation that all costs in the R&D account were eligible.
• B. Project notebooks, design-change logs, test protocols/results, time records, material usage records, and testing contracts/invoices that separate experimental work from routine design.
• C. The patent application, marketing launch material, and customer specification documents showing the sensor housing had commercial potential.
• D. Board approval of the project budget, financing documents, and monthly management accounts showing the company paid the project costs.

Best answer: B

What this tests: Corporate Tax

Explanation: A non-routine SR&ED position needs source documentation that supports both eligibility and quantum. The key support is contemporaneous technical evidence showing the technological uncertainty, the work performed, the testing or experimentation, and the results. Because routine design work was mixed with experimental work, the file also needs cost records that allocate salaries, materials, and external testing to the qualifying activities. A general ledger account and signed tax schedule help summarize the claim, but they do not prove that the work was eligible or that the costs were properly segregated.

• Tax schedules, general ledger totals, and management representations summarize the position but are weak source support for SR&ED eligibility and allocation.
• Patent or marketing documents may show commercial activity, but commercial potential does not establish qualifying experimental work or claimed expenditures.
• Board approvals and financing records show authorization and payment capacity, but they do not link the claimed costs to eligible SR&ED activities.

These records support both the technical eligibility of the SR&ED work and the amounts claimed by linking experiments and related costs to the tax position.

Question 2

Topic: Corporate Tax

Clearwater Holdco Ltd. owns 100% of the common shares of Maple Components Ltd., a Canadian-resident CCPC. Clearwater is also a Canadian-resident taxable corporation. An arm’s-length purchaser has offered to buy Maple’s shares but requires Maple to remove non-operating assets before closing.

The tax manager’s draft recommendation is to have Maple pay a $1.4 million dividend to Clearwater two days before closing, followed by Clearwater’s sale of the Maple shares. The draft states: “The dividend should be deductible as an intercorporate dividend, so there should be no corporate tax cost to removing the surplus.”

File notes include the following:

• Maple has operated a manufacturing business for 12 years.
• The purchaser’s share price will be reduced dollar-for-dollar by the dividend.
• The $1.4 million represents excess cash and the value of a marketable securities portfolio, including some unrealized gains.
• Maple’s financial statements show retained earnings of $2.0 million.
• The tax file includes only the current-year draft T2 and trial balance.
• No safe-income calculation, CDA, RDTOH, GRIP continuity, historical T2s, notices of assessment, or support for tax-paid retained earnings has been provided.
• Clearwater’s directors want a defensible plan and do not want a high-risk reassessment position.

Which additional information is most important before finalizing the recommendation?

• A. Historical tax returns, notices of assessment, and tax-account continuities needed to calculate safe income on hand and assess RDTOH, CDA, and Part IV tax effects.
• B. The ultimate individual shareholders’ LCGE usage and personal share ACB, because Clearwater must qualify for the capital gains exemption on the Maple share sale.
• C. The current financial statements and dividend resolution, because retained earnings and legal authorization are sufficient to support a deductible intercorporate dividend.
• D. The purchaser’s proposed asset allocation by CCA class, because the share purchase will give the purchaser a stepped-up tax cost in Maple’s assets.

Best answer: A

What this tests: Corporate Tax

Explanation: An intercorporate dividend may be deductible under subsection 112(1), but that does not automatically make the plan tax-free or defensible. A dividend paid shortly before a share sale, with the sale price reduced dollar-for-dollar, can reduce the capital gain on the shares and raise section 55 concerns unless the dividend is supported by safe income or another applicable rule. Financial statement retained earnings are not the same as safe income on hand; safe income must be supported using historical tax filings, assessed returns, earnings, taxes paid, losses, and other adjustments attributable to the shares. RDTOH, CDA, and Part IV tax information can also affect the tax cost and the appropriate dividend planning. The recommendation needs tax-source support before the amount and type of dividend can be finalized.

• Financial statement retained earnings and a dividend resolution help with corporate authorization, but they do not prove safe income or eliminate section 55 risk.
• A CCA asset allocation is relevant to an asset purchase, not to Clearwater’s sale of Maple shares.
• LCGE usage and personal ACB are individual-shareholder issues; Clearwater is a corporate shareholder and cannot rely on the LCGE.

A pre-sale dividend that reduces the share gain needs support for section 55 and related corporate tax-account consequences, not just accounting retained earnings.

Question 3

Topic: Corporate Tax

A CPA is reviewing the 2025 year-end tax file for North River Design Ltd., a Canadian-resident CCPC with a December 31 year-end. Dana owns all the common shares and works full-time as the general manager.

The file includes these notes:

• Dana received a $145,000 salary in 2025. The amount is consistent with market compensation for similar roles, and payroll withholdings were remitted.
• The corporation declared and paid a $40,000 dividend to Dana in 2025 and prepared a T5 slip.
• On July 1, 2024, the corporation advanced $60,000 to Dana for personal cottage renovations. The amount was recorded as a shareholder loan receivable, with no written repayment terms and no qualifying employment-purpose exception. No repayments were made, and the balance was still outstanding on April 30, 2026.
• Dana was reimbursed $3,200 for client meals supported by receipts and a business purpose noted in the expense report.

Which conclusion should be included in the tax memo?

• A. The $145,000 salary creates a shareholder benefit because compensation paid to an owner-manager is not deductible by a CCPC.
• B. The $3,200 reimbursement creates a shareholder benefit because all payments to a shareholder must be included in personal income.
• C. The $60,000 advance creates a shareholder-loan income inclusion issue because it was not repaid within the permitted period and no exception is indicated.
• D. The $40,000 dividend creates a shareholder benefit because a CCPC must treat all shareholder distributions as employment income.

Best answer: C

What this tests: Corporate Tax

Explanation: A loan or advance from a corporation to a shareholder can create an income inclusion where it remains outstanding beyond the permitted repayment period and no specific exception applies. Here, the loan was made in 2024 by a corporation with a December 31 year-end and was still unpaid after December 31, 2025, with no qualifying exception provided. That creates a shareholder-loan tax issue for Dana. By contrast, reasonable salary for actual services is normally employment income to the shareholder and deductible to the corporation if properly supported and remitted. A properly declared dividend is taxed as a dividend, not automatically recharacterized as salary or a shareholder benefit. A reimbursement for documented business expenses does not create a personal benefit merely because the recipient is also a shareholder.

• Reasonable owner-manager salary supported by services and payroll compliance is not a shareholder benefit merely because the employee is also a shareholder.
• A declared dividend reported on a T5 is a shareholder distribution with its own tax treatment, not employment income by default.
• A documented reimbursement for corporate business expenses is not a taxable shareholder benefit unless it pays or reimburses a personal expense.

The loan remained outstanding beyond one year after the end of the corporation’s taxation year in which it was made, so the shareholder-loan inclusion rules must be considered.

Question 4

Topic: Corporate Tax

Northern Panel Ltd. is a Canadian-resident CCPC with audited financial statements and a bank covenant based on after-tax earnings. The shareholders have told management to use supportable, low-risk corporate tax positions. The controller prepares the year-end tax provision and sends the tax return package to an external tax preparer after the audit is substantially complete.

During your review, you note the following items:

• The tax provision schedule deducted 100% of ordinary client meal costs, although the supporting invoices show no exception to the usual limitation.
• A capital gain on publicly traded shares was included in taxable income using the full accounting gain rather than the taxable portion of the capital gain.
• The controller did not obtain board minutes, legal invoices, or purchase agreements for non-routine transactions before finalizing the provision. There is no tax-sensitive transaction checklist, no documented sign-off that all relevant source documents were provided to the external preparer, and no review against the shareholders’ stated low-risk tolerance.
• All three items were corrected before the corporate income tax return was filed.

The audit committee asks which matter should be treated as a tax governance weakness rather than only a technical tax calculation error. What is the best interpretation?

• A. The lack of a documented process to identify, support, and review non-routine tax matters is a tax governance weakness.
• B. The deduction of 100% of ordinary client meal costs is a tax governance weakness because the shareholders prefer low-risk tax positions.
• C. The use of the full accounting gain as the taxable capital gain is a tax governance weakness because accounting income and taxable income differed.
• D. All corrected tax provision errors should be treated only as technical calculation errors because no incorrect return was filed.

Best answer: A

What this tests: Corporate Tax

Explanation: A tax governance weakness relates to the system used to manage tax risk: roles, documentation, review, escalation, source-document capture, and alignment with risk tolerance. Here, the absence of a checklist, sign-off, source-document process, and review against the shareholders’ low-risk position is a governance issue because it affects how tax-sensitive matters are identified and controlled. The meals and capital gain items are technical errors in applying tax rules to specific amounts. They may be symptoms of poor governance if they arise from a weak process, but the errors themselves are not the governance weakness. Correcting the amounts before filing reduces immediate compliance exposure, but it does not eliminate the underlying control problem that could cause future errors or financial-reporting tax misstatements.

• Treating the meals limitation error as governance confuses a specific tax adjustment with the broader control environment.
• Treating the capital gain inclusion error as governance misreads a technical reconciliation issue as a process failure.
• Treating all corrected items as only technical ignores that weak tax processes can exist even when a return is corrected before filing.

It points to a control and oversight failure that could repeatedly affect tax compliance, provisions, and risk alignment.

Question 5

Topic: Corporate Tax

Terrace Components Inc. (TCI) is a Canadian-resident CCPC that fabricates industrial parts. Its controller is preparing the T2 reconciliation and asks how to classify several amounts recorded in accounting income as “other income” for the year ended December 31, 2025.

Relevant facts:

• TCI charges customers interest on overdue trade receivables under its normal sales contracts. It collected $18,000 of this interest during the year.
• TCI holds $600,000 in marketable bonds purchased with cash from a land sale three years ago. The cash is not required for operations and may be distributed to shareholders. The bonds earned $30,000 of interest.
• TCI leases a vacant detached warehouse to an unrelated logistics company under a net lease. The tenant pays operating costs, and TCI provides no services other than ordinary landlord obligations. Rent earned was $96,000.
• TCI sold a CNC machine used in manufacturing. The machine’s original cost was $250,000, its UCC before disposition was $90,000, and proceeds were $280,000. It was the only asset in the CCA class.
• TCI received eligible dividends from publicly traded Canadian corporation shares held solely as investments.

Which interpretation best classifies these income sources and types for corporate tax purposes?

• A. Treat all amounts except the portfolio dividends as active business income because TCI is a CCPC and the receipts were earned inside the corporation.
• B. Treat the warehouse rent as active business income because TCI owns the warehouse, and treat the machine disposition as recapture only because depreciable property cannot produce a capital gain.
• C. Treat the overdue receivable interest as active business income; the bond interest, net-lease rent, and portfolio dividends as property or investment income; and the machine sale as $160,000 of recapture plus a $30,000 capital gain.
• D. Treat both interest amounts as property income and report the entire $190,000 excess of machine proceeds over UCC as a capital gain.

Best answer: C

What this tests: Corporate Tax

Explanation: Corporate income must be classified by its source and type, not simply by whether it was earned by a corporation. Interest on overdue trade receivables is connected to TCI’s normal customer sales, so it is incidental to the manufacturing business and is active business income. The bond interest, net-lease rent with no meaningful services, and portfolio dividends arise from investment or property sources. The CNC machine was depreciable property used in the business. Proceeds are first compared with UCC, limited to original cost for recapture: $250,000 cost minus $90,000 UCC gives $160,000 of recapture. Proceeds above original cost, $30,000, are a capital gain. These classifications are needed before applying later corporate tax rules such as CCA, dividend deductions, or refundable tax mechanisms.

• CCPC status does not convert passive investment or rental income into active business income.
• Interest on trade receivables can be business income when it is incidental to sales, while recapture is not calculated by treating all proceeds above UCC as a capital gain.
• Owning the warehouse is not enough to make passive net-lease rent active business income, and depreciable property can produce a capital gain when proceeds exceed original cost.

The classifications follow the connection to TCI’s manufacturing business, passive investment activities, and the separate recapture and capital gain treatment for depreciable property.

Question 6

Topic: Corporate Tax

North Peak Robotics Ltd. (NPR) is a Canadian-resident CCPC owned 100% by Maya. NPR manufactures equipment in Alberta and claims the small business deduction. It has $900,000 of after-tax cash not needed in operations, a $400,000 investment portfolio, and valuable product designs used in its existing business. No current loan covenants restrict dividends, and NPR would remain solvent after paying taxable dividends.

Maya plans to launch an equipment-leasing line with higher product-liability and environmental risk. A lender has indicated it can lend to a separate corporation if that corporation owns the leasing contracts and assets; the lender does not initially require guarantees from NPR or Maya. Maya wants to protect accumulated surplus and existing manufacturing assets, make the new venture easier to sell if successful, and avoid an unsupportable position to obtain another small business deduction limit.

A junior advisor proposes forming Holdco, owned by Maya, transferring Maya’s NPR shares to Holdco under an available rollover, incorporating VentureCo as a separate Canadian CCPC owned by Holdco, and paying dividends from NPR to Holdco over time after confirming creditor and corporate-law constraints. Which interpretation of the proposal is most appropriate?

• A. Use Holdco with NPR and VentureCo as sister operating corporations; it supports risk isolation and surplus planning, but the associated corporations must share the small business deduction.
• B. Reject Holdco because common ownership makes NPR and VentureCo one taxpayer, causing income, losses, and creditor claims to consolidate automatically.
• C. Keep one corporation because separate accounting for the new leasing line gives the same creditor protection as incorporating VentureCo.
• D. Own VentureCo personally because Maya’s direct ownership would avoid association, allowing both corporations to claim separate full small business deduction limits.

Best answer: A

What this tests: Corporate Tax

Explanation: A Holdco and sister operating company structure often fits owner-manager objectives when a new operation has different risk. Separate corporations can help contain liabilities in the corporation that signs contracts and borrows, although guarantees, security, and creditor-law constraints can reduce that protection. Holdco can receive after-tax surplus from NPR as intercorporate taxable dividends that are generally deductible in computing taxable income, with Part IV/RDTOH and solvency considerations reviewed. Holding surplus above operating companies can reduce exposure to future operating claims if implemented before problems arise and without prejudicing creditors. Because NPR and VentureCo will be controlled by Holdco, they are associated and must share the small business deduction; the structure should not be justified by multiplying that limit.

• Common ownership does not automatically merge Canadian corporations into one taxpayer or consolidate creditor claims.
• Direct personal ownership would not avoid association when the same person controls both corporations.
• Separate accounting inside NPR may help reporting, but it does not segregate legal liability from NPR’s assets.

The structure aligns with Maya’s objectives while recognizing that common control through Holdco makes NPR and VentureCo associated.

Question 7

Topic: Corporate Tax

Your firm is reviewing a distribution plan for Kestrel Automation Ltd., a resident CCPC wholly owned by Daniel, a Canadian resident individual in the top marginal tax bracket. Daniel needs $650,000 personally by March 31 to repay a short-term bridge loan. Kestrel has $900,000 cash and wants to keep at least $200,000 of working capital after any distribution.

Case note:

• Kestrel received a $520,000 life insurance death benefit after year-end as beneficiary of a policy on a former key employee. The policy’s adjusted cost basis was nil, and records support a $520,000 addition to the capital dividend account.
• Opening capital dividend account balance was nil, and no capital dividends have been paid.
• GRIP is nil. ERDTOH is nil; NERDTOH is $76,000.
• Any taxable dividend paid by Kestrel would be a non-eligible dividend and could generate a dividend refund only to the extent of the NERDTOH balance.
• Daniel already received a reasonable $180,000 salary this year; additional salary is not needed for RRSP or CPP objectives.
• Kestrel has $400,000 of non-capital losses and does not expect taxable income in the next two years.
• Finance can file the required capital dividend election before payment.
• Daniel wants a supportable, low-risk approach and has specifically asked to avoid an excessive capital dividend election.

Which recommendation is most defensible?

• A. Defer all distributions until Kestrel earns taxable income, because its losses make any current shareholder payment non-deductible.
• B. Pay a $650,000 bonus because it is deductible to Kestrel and avoids dividend characterization for Daniel.
• C. Pay the full $650,000 as a capital dividend because the insurance proceeds were tax-free and Kestrel has NERDTOH available.
• D. Pay a $520,000 capital dividend with the election filed on time, and pay the remaining $130,000 as a taxable non-eligible dividend if Daniel still needs the full $650,000.

Best answer: D

What this tests: Corporate Tax

Explanation: A capital dividend is only supportable to the extent of the corporation’s capital dividend account balance, and the required election must be filed properly. Kestrel has a supported $520,000 CDA addition from the life insurance proceeds and no prior CDA use, so a $520,000 capital dividend fits Daniel’s low-risk objective. Electing $650,000 would exceed the CDA and create avoidable tax risk. The remaining $130,000 can be distributed as a taxable non-eligible dividend if Daniel still needs the full amount; that may generate a dividend refund to Kestrel from NERDTOH, although Daniel will have personal tax on the dividend. The total $650,000 distribution also leaves $250,000 of cash, satisfying the working capital constraint.

• Treating all $650,000 as a capital dividend misreads the CDA balance; NERDTOH does not increase the CDA or protect an excessive election.
• A large bonus is weak tax planning here because Daniel already has reasonable salary, the payment would be fully taxable to him, and Kestrel already has losses.
• Deferring all payments ignores Daniel’s cash need and Kestrel’s available distributable cash; current losses do not prevent a properly supported dividend.

This uses the supported capital dividend account balance without over-electing and uses a taxable dividend for the excess, which may access NERDTOH subject to Daniel’s personal tax.

Question 8

Topic: Corporate Tax

Avant Kitchen Design Inc. is a Canadian-controlled private corporation with a December 31 year-end. It earns only active business income and has no capital dividend account balance. May owns all of the voting and common shares and is in the top personal tax bracket.

May’s spouse, Paul, owns no shares and has no other income. He handles bookkeeping, vendor payments, payroll records, and staff scheduling for 12-15 hours each week. A comparable outside bookkeeper would charge about $32,000 to $38,000 annually for the same recurring work. Avant has not paid Paul or remitted payroll source deductions.

May’s 22-year-old daughter, Emma, is a full-time student with unused tuition credits. Emma is not involved in the business and has not contributed capital. May also has an $80,000 personal draw recorded as a shareholder loan and expects it to remain unpaid for at least two years.

May asks for a low-risk tax planning opportunity that fits the family’s tax profile. Which interpretation is most supportable?

• A. Leave May’s personal draw in the shareholder loan account because Avant has not claimed a deduction for it.
• B. Record May’s personal travel as a promotion expense because she is Avant’s only shareholder-manager.
• C. Issue shares to Emma and pay dividends to absorb her tuition credits because she is an adult family member.
• D. Put Paul on payroll and pay a documented salary within the market range for his administrative services.

Best answer: D

What this tests: Corporate Tax

Explanation: The strongest planning opportunity is to compensate Paul for real work performed for the corporation. Because his duties are necessary, recurring, and comparable to services the corporation would otherwise buy from an outside bookkeeper, a salary within the market range can be supportable if Avant maintains records, withholds and remits payroll amounts, and issues proper reporting slips. This shifts income to a lower-income spouse in a way tied to actual services and gives the corporation a deduction. Dividends to an uninvolved adult child are much riskier because the tax on split income rules may apply. A long-term shareholder loan and personal expense reclassification do not create low-risk extraction planning.

• Dividends to Emma rely on her adult status but ignore her lack of involvement or capital contribution, creating tax on split income risk.
• A shareholder loan left unpaid for two years can create shareholder benefit or income inclusion issues; the absence of a corporate deduction does not make it tax-free.
• Personal travel is not converted into a deductible business expense merely because the shareholder manages the corporation.

A reasonable salary for actual services is generally deductible to the corporation and taxable to Paul at his lower personal rates when properly documented and reported.

Question 9

Topic: Corporate Tax

Northline Components Inc. (Northline), a profitable Canadian-controlled private corporation, is negotiating to acquire the business of Harrow Precision Ltd. (Harrow), an arm’s-length CCPC owned 100% by Maya. You are advising Northline. Northline wants the manufacturing equipment, inventory, customer contracts, and employees, but does not need Harrow’s legal name. Its lender wants the acquired assets held in a new subsidiary with first-ranking security. Maya wants to retire and prefers a share sale because Harrow’s shares appear to be qualified small business corporation shares and she has enough lifetime capital gains exemption room.

Key facts:

• Harrow’s operating assets have fair market value of $6.2 million and tax cost/UCC of $2.9 million.
• An asset sale would create taxable income and gains inside Harrow before Maya receives after-tax corporate distributions.
• Maya requested $5.8 million for a share sale or $6.2 million for an asset sale, plus some compensation for the extra tax cost of selling assets.
• Northline estimates the present value of the higher tax basis from an asset purchase at $350,000.
• CRA is reviewing a $450,000 SR&ED claim made by Harrow. Harrow’s support is weak. The share sale escrow and indemnity would be capped at $150,000 for 12 months.
• Harrow has $900,000 of non-capital losses from a moulding line shut down last year. Northline will not restart that line.
• Customer contract consents and employee offers can be completed before closing in an asset deal.

Which recommendation best balances tax result, risk, control, and Northline’s business objectives?

• A. Proceed with an asset purchase through a new subsidiary, and negotiate any seller gross-up within the value of the tax-basis benefit and avoided exposure.
• B. Use a tax-deferred section 85 transfer of Harrow’s assets to a new corporation at tax cost, then buy those shares as if Northline had acquired assets at fair market value tax basis.
• C. Proceed with the share purchase because Maya’s lifetime capital gains exemption makes the transaction tax-efficient and the indemnity covers the CRA review.
• D. Proceed with the share purchase because Harrow’s non-capital losses can be used to shelter Northline’s post-closing income.

Best answer: A

What this tests: Corporate Tax

Explanation: From Northline’s perspective, the asset purchase best aligns the tax and business facts. It gives Northline a higher tax basis in the acquired assets, lets it place those assets in a new subsidiary for lender security, and allows it to acquire the contracts and workforce without inheriting Harrow’s weakly supported SR&ED exposure. The seller’s preference for a share sale is understandable because the lifetime capital gains exemption may reduce Maya’s personal tax, but that benefit belongs to Maya, not Northline. A negotiated gross-up may be commercially reasonable, but it should be limited by the value Northline receives from the basis step-up and avoided exposure. A share purchase would leave Northline exposed to historical corporate tax issues, with indemnity protection below the estimated risk.

• A share sale may improve Maya’s after-tax result, but her exemption does not reduce Northline’s tax cost or eliminate Harrow’s historical tax exposure.
• Harrow’s losses are not a strong reason to buy shares because an acquisition of control and the discontinued moulding business restrict post-closing use.
• A tax-deferred rollover at tax cost does not give Northline fair market value asset basis; it adds complexity without meeting the buyer’s risk and control objectives.

An asset purchase gives Northline control over selected assets and liabilities, supports the lender’s structure, provides higher tax basis, and avoids unsupported pre-closing tax risk.

Question 10

Topic: Corporate Tax

Northline Tools Ltd. is a CCPC resident in Canada with a December 31 year end. It is not associated with any other corporation. For 2026, ignore provincial tax, refundable taxes, credits, and instalments.

Assume federal tax is 9% on active business income eligible for the small business rate and 15% on other active business income.

• Northline’s own active business income before any partnership allocation: $300,000
• Northline is a 40% partner in Maple Supply Partnership, which carries on an active business in Canada.
• Maple’s fiscal period ended November 30, 2026, and Northline’s allocated taxable active business income from the partnership was $250,000.
• Maple distributed $180,000 cash to Northline during 2026.
• Under the specified partnership income rules, only $160,000 of Northline’s partnership income is eligible for the small business rate.

What are Northline’s 2026 federal taxable income and federal Part I tax payable before instalments?

• A. Taxable income of $550,000 and federal Part I tax payable of $54,900
• B. Taxable income of $550,000 and federal Part I tax payable of $52,500
• C. Taxable income of $480,000 and federal Part I tax payable of $43,200
• D. Taxable income of $460,000 and federal Part I tax payable of $41,400

Best answer: A

What this tests: Corporate Tax

Explanation: A corporate partner is taxed on its allocated share of partnership income for the partnership fiscal period ending in the corporation’s taxation year. The cash distribution is not the taxable income inclusion. Northline therefore includes its own $300,000 active business income plus the $250,000 partnership allocation, for taxable income of $550,000. The specified partnership income limit affects the small business deduction, not the income inclusion. Eligible small business income is $300,000 of Northline’s own active business income plus $160,000 of eligible partnership income, for $460,000 taxed at 9%. The remaining $90,000 of partnership income is still taxable, but at the 15% general rate. Tax payable is $460,000 × 9% = $41,400, plus $90,000 × 15% = $13,500, for a total of $54,900.

• Using the $180,000 cash distribution treats cash received as the taxable partnership amount, but the allocated taxable income is the relevant amount.
• Taxing $500,000 at the small business rate ignores the separate specified partnership income limit on the partnership allocation.
• Reporting only $460,000 omits the partnership income that is taxable but not eligible for the small business rate.

Northline includes the $250,000 partnership income allocation in taxable income, but only $160,000 of that allocation is eligible for the small business rate.

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