Budget 2021: Professionals Must be Mindful of the Proposed Immediate Expensing Rules

Budget 2021 proposes to provide immediate expense deductions in respect of certain “eligible property” acquired by a Canadian-controlled private corporation. This immediate expense deduction will be available for eligible property acquired on or after April 19, 2021, and is available for use before January 1, 2024, up to a maximum amount of $1.5 million per taxation year. Generally, eligible property includes short-term assets such as equipment, furniture and fixtures, leasehold improvements, and computer hardware and software. Long-term assets such as goodwill and building improvements are not eligible property for the purposes of the immediate expensing rules.

It is important to note the above is subject to any changes that may be made once draft legislation is released. This article provides a few examples highlighting how the immediate expensing rules may impact professionals in different situations.    

Practice Sale            

Dr. D has an incorporated dental practice which he is ready to sell. Dr. D incurred significant capital costs after April 19, 2021 that were eligible for the immediate expensing rules.

Dr. D needs to be mindful that a share sale may be less appealing to purchasers because of the immediate expensing rules. For example, a potential purchaser will be acquiring a corporation with no capital cost in eligible practice assets purchased after April 19, 2021. As a result, the purchaser of shares will be challenged with the following: 

1. They will not benefit from ongoing deductions from taxable income on eligible capital costs incurred after April 19, 2021 because there will be no ability to claim tax depreciation; and
2. The immediate expensing proposals may result in significant recapture if the eligible capital costs that benefited from the immediate deduction proposals are later sold. For example, if Dr. D took a deduction of $200,000 in regard to equipment purchased, it is possible the purchaser would have to bring this amount into income if the same asset is later sold.

Professional practice purchasers will benefit from the proposed immediate expensing rules if they can purchase practice assets, as opposed to shares of a professional corporation, because this will allow the practice purchaser to effectively expense the purchase price (up to $1,500,000) as it relates to  eligible property such as dental equipment, furniture and fixtures, leasehold improvements and computer hardware and software.

Practice purchasers will also benefit from the immediate expensing rules if they need to invest in eligible property for the practice after the purchase. This would benefit purchasers that acquire practices needing improvements.

Lease versus Buy

Professionals may need to re-evaluate whether it makes sense to lease or purchase assets for their practice that would be eligible for immediate expensing if purchased. Traditionally, a financed asset acquisition is expensed over time as the asset is depreciated and interest is paid, whereas leasing the same asset allows for an immediate expense as the lease payments are made. The immediate expensing proposals may make the leasing decision less appealing as a purchased asset is subject to an immediate expense deduction.   

Timing of Capital Expenses

A challenge with the proposed immediate expensing rules is they don’t benefit professionals who invested in their practices early on in the pandemic. Rather, the immediate expensing proposals only contemplate investments in eligible property made after April 19, 2021. 

The table below demonstrates the tax savings attributable to a $100,000 investment in leasehold improvements made before and after the proposed effective date of the immediate expensing rules, April 19, 2021. It demonstrates significant Year 1 tax savings (over $10,300) for a professional who invested in eligible property after April 19, 2021, compared to a professional that made the same investment  prior to April 19, 2021.

*The tax savings in Year 1 are based on Dr. A’s corporation paying corporate income taxes in Ontario at a rate of 12.2%.

Building Improvements

The immediate expensing proposals impact professionals depending on whether they own their practice real estate in their operating company or separately in a holding company.

Let’s assume that Dr. B’s professional corporation owns the real estate utilized by her practice and the professional corporation invested $50,000 in eligible property renovations to the office on May 1, 2021 (after Budget 2021). Dr B’s upgrades are a betterment and are considered an addition to the cost of the building for tax purposes, such that the renovation costs will not be eligible for immediate expensing. 

However, if Dr. B held the real estate in a holding company and her professional corporation leased the office from the holding company, the same renovation made as a leasehold improvement by her professional corporation would qualify for the immediate expense deduction because leasehold improvements are eligible property for these proposed rules.

The table below demonstrates significant Year 1 tax savings (approximately $5,400) if the renovations are made as a leasehold improvement and qualify for immediate expensing, rather than as a betterment to the building that is capitalized and depreciated over time.

*it is assumed that Dr. B Professional Corp has a 10 Year Lease with the Holding Company including one renewal term. Costs related to leasehold improvements appear to be eligible for the immediate expensing proposals. It is also assumed that the corporate tax rate of 11.5% is applicable to both corporations in Nova Scotia.

Sole Practitioner/Partnership

The proposed immediate expensing rules are only available to Canadian-controlled private corporations. As a result, professionals who are operating their practices legally as a sole proprietorship or partnership should seek professional advice if they are contemplating a major investment in eligible property. 

MNP can help. Our team can help you navigate through the proposed tax rules introduced in Budget 2021. Please seek advice from your MNP advisor.