The Capital Dividend Account or CDA, is a notional tax account that tracks certain tax free amounts earned or received by a private Canadian corporation. A private corporation can use its CDA to pay capital dividends that are generally tax free to Canadian resident shareholders.
The CDA is not a bank account. It does not hold cash. It is a tax calculation that determines how much a corporation can distribute as a capital dividend.
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Who Can Use a Capital Dividend Account?
Private corporations resident in Canada can use a Capital Dividend Account. Public corporations cannot use the CDA to pay capital dividends.
The account may be relevant to an incorporated business owner, professional corporation, holding company or other private Canadian corporation that has accumulated qualifying amounts.
What Amounts Are Added to the Capital Dividend Account?
The CDA tracks specific tax free amounts. Common additions include:
- The non-taxable portion of capital gains
- Capital dividends received from other corporations
- Net proceeds from life insurance received after the death of an insured person
- Certain capital gains distributions from trusts
The CDA balance can also be reduced by amounts such as the non deductible portion of capital losses and capital dividends previously paid. The calculation should be completed immediately before the corporation pays a capital dividend.
How Does Life Insurance Affect the Capital Dividend Account?
Life insurance proceeds can increase a private corporation’s CDA if the corporation receives the proceeds because of the insured person’s death. The CDA credit is generally the death benefit received less the policy’s adjusted cost basis immediately before death.
For example, if a corporation receives a $1,000,000 life insurance death benefit and the policy’s adjusted cost basis immediately before death is $50,000, the corporation may receive a CDA credit of $950,000.
CDA credit from life insurance=Death benefit−Adjusted cost basis
This is one reason corporate owned life insurance can be used in business succession, debt protection and
shareholder planning.
What Is a Capital Dividend?
A capital dividend is a dividend paid by a private Canadian corporation from its available CDA balance. The corporation must make a valid election under subsection 83(2) of the Income Tax Act for the dividend to be treated as a capital dividend.
A capital dividend is different from a regular dividend. A regular dividend is generally taxable to the shareholder. A properly elected capital dividend is generally tax-free to Canadian resident shareholders.
Are Capital Dividends Tax-Free?
Yes. A properly elected capital dividend is generally tax-free to a shareholder who is resident in Canada. The corporation must have a sufficient CDA balance immediately before the dividend becomes payable.
The tax-free treatment depends on completing the election correctly. A payment that is not properly elected or that exceeds the available CDA balance may have different tax consequences.
How Does a Corporation Pay a Capital Dividend?
A corporation pays a capital dividend by declaring the dividend and filing Form T2054, Election for a Capital Dividend Under Subsection 83(2), with the Canada Revenue Agency. The election must include a calculation of the CDA balance immediately before the dividend becomes payable.
The election deadline is generally the earlier of the day the dividend becomes payable and the day any part of the dividend is paid.
Because the CDA balance must be calculated precisely, corporations should coordinate the declaration, payment and filing with their accountant or tax advisor.
What Happens If a Corporation Pays Too Much?
A corporation that elects to pay more than its available CDA balance may face a penalty tax on the excess amount. The CRA describes this as an excessive capital dividend.
The corporation may have limited options to make a late election or elect to treat an excessive amount as a taxable dividend. These options have strict conditions and deadlines.
A corporation should confirm its CDA balance before declaring or paying a capital dividend.
Does Every Private Corporation Have a Capital Dividend Account?
Yes. Every private Canadian corporation has a CDA calculation, but it may have a balance of zero.
A corporation only has an amount available to distribute as a capital dividend when it has accumulated qualifying CDA additions, such as the non-taxable portion of a capital gain or net life insurance proceeds.
A corporation can request verification of its CDA balance from the CRA. CDA balances may also be available through CRA My Business Account for corporations that have requested verification or filed Form T2054.
