Money From Parents Abroad: Loan, Gift or Shares in Canadian Books

Is money from my parents a gift, a loan or an investment?

It is whichever one you and your parents intended, shown by what was written down and what was actually done. No tax form decides it. In its shareholder-loan folio, the CRA says a loan can be shown by a written agreement or other convincing evidence, and that tax results follow what people actually did, not what they meant to do. The folio covers shareholder loans; the same proof suits a loan from your parents. The same wire can end up as any of three things.

A case is not simple when the money is already in the account with no paper, when a corporation plans to repay your parents or pay them interest, when a bank or the CRA has asked where the money came from, when your parents want a say in the business, or when you are a US citizen or green card holder. Gather the wire records, any messages showing what was agreed, and the corporation's minute book if it has one.

Do I owe Canadian tax on a gift from my parents abroad?

The CRA lists most gifts and inheritances among amounts that are not reported or taxed. "Most" is the CRA's word, so this is a general rule, not a promise for every gift. A gift of money to you personally is not business income: never record it as a sale.

If the money stays in an account outside Canada, foreign-property reporting can apply to a Canadian resident once specified foreign property, which includes funds held outside Canada, costs more than $100,000 at any time in the year. See foreign property and affiliate reporting.

Two questions are outside this page: tax rules in your parents' country, including any limit on sending money out, and how a gift made directly to a corporation, instead of to you, is taxed. Settle the second before the money is sent.

How do I book a gift or capital contribution into my business?

A sole proprietor books it as owner's capital, a capital contribution. If the gift went to you personally, a corporation books nothing until you put the money in as a loan or as shares.

Sole proprietorship. You and the business are one person, so the gift is yours and what you put in is a capital contribution (owner's capital), not income. Part 9 of Form T2125, "Details of equity", asks for capital contributions in the year (line 9933) and total business liabilities (line 9931). For money going the other way, see sole proprietor drawings.

Corporation. A corporation is a separate person, so a gift to you personally is not its money until you put it in. You then have two clean choices: lend it to the corporation, which credits a "due to shareholder" balance (a shareholder loan; see the shareholder loan account), or buy shares with it, which creates share capital (below). Neither is revenue.

If your parents wired it to the corporation's account. Do not book it as sales or share capital yet. Hold it in a liability account such as "funds received from parents, to be classified" until you have settled and written down what was agreed when it was sent: a loan, a gift or a share purchase. How a gift made directly to a corporation is taxed is outside this page: get that answered before you classify it.

What if my parents lend money directly to my business?

Sign a loan note, book the principal as a liability, and treat interest as a withholding question before the first payment. This holds for a sole proprietor and for a corporation.

Records: the wire record, a note signed by both sides (parties, date, amount and currency, interest rate or none, repayment dates) and, for a corporation, a directors' resolution approving the borrowing, which the CRA names as one form of evidence of a loan.

Sole proprietor. The loan is a business liability (T2125 line 9931). Interest on money borrowed for business purposes is deductible when you have a legal obligation to pay it, and only up to a reasonable amount (paragraph 20(1)(c)); the principal part of repayments is not.

Interest paid to parents who are non-residents of Canada for tax purposes is normally a Part XIII amount: where they live is not the test, their tax residence is. Parents and children are connected by blood, related persons are deemed not to deal at arm's length, and if you control the corporation, alone or with related people, your parents are related to it as well. Paragraph 212(1)(b) taxes interest paid to a non-arm's-length person who is not a Canadian resident.

A sole proprietor who misses it owes the tax personally. A corporation's directors can also be personally liable, with it, for the tax, interest and penalties if collection from the corporation fails or it is dissolved or bankrupt, unless they took the care a reasonably prudent person would have taken to prevent the failure. The CRA must begin recovery within two years after a person last ceases to be a director (section 227.1).

The treaty rate depends on the country where your parents are tax resident and the treaty's wording; this page gives no country's rate. To apply one, the payer needs proof that your parents are the beneficial owners and treaty residents: ask them to complete Form NR301 or give equivalent information (CRA).

Repaying principal is not interest, so Part XIII reaches only the interest. A loan on which no interest is charged has none to withhold on, and the note should say so. The same duty falls on a sole proprietor who borrows from parents abroad and pays interest: it applies to any Canadian resident who pays or credits the amount.

Interest may also be only partly deductible. Interest owed to a person you do not deal with at arm's length, such as a parent, and still unpaid at the end of the second year after the year it was incurred is added to income for the year after that, unless both sides file Form T2047 by the due date of the payer's return for that year (section 78). Filing it treats the interest as paid on that year's first day, so Part XIII applies then. And if the owner, alone or with people not at arm's length, holds 25% or more of the votes or value of the shares, a loan from the owner's non-resident parents is tested under the thin-capitalization rules: interest is not deductible to the extent the debt exceeds 1.5:1 debt to equity. Equity counts retained earnings at the start of the year and capital put in by non-resident shareholders who meet the same test, not the resident owner's paid-in capital, so a new corporation with no retained earnings has no room and all such interest is denied. Denied interest is treated as a dividend for Part XIII, and interest owed but unpaid is treated as paid just before year end for that rule (subsection 18(4), subsection 214(16), subsection 214(17)). Have the numbers tested before the first payment.

The route changes the withholding. If your parents lend to the corporation, it owes non-residents and Part XIII applies to the interest. If the money was a gift to you and you lend it on, the corporation owes you, a Canadian resident, and it does not. That works only if the money really was a gift to you first; if your parents lent it, the paper and the books should say so.

If the business's dealings with your parents and other non-arm's-length non-residents, such as loans from them, interest paid to them and shares issued to them, total more than $1,000,000 in the year, it also files Form T106 (section 233.1; CRA form). See foreign property and affiliate reporting.

What do I issue if my parents want shares?

A corporation issues shares only for full payment, records them in its securities register and adds the payment to stated capital. These rules are the federal Canada Business Corporations Act; a provincial corporation follows its own act.

Decide first whether parents abroad should hold shares at all: shares held abroad can change the corporation's tax status, not only its paperwork. A corporation controlled by non-residents is not a Canadian-controlled private corporation (CCPC), and the small business deduction is for a CCPC only (definition). Dividends paid to shareholders abroad are Part XIII amounts too. If the shares end CCPC status, the corporation's tax year also ends at that moment (subsection 249(3.1)); see losing CCPC status to foreign investors and non-resident owners of a Canadian corporation.

• Who decides. The directors decide when shares are issued and for what price, subject to the articles, by-laws and any unanimous shareholder agreement (section 25).
• Payment first. A share cannot be issued until it is fully paid in money, property or past services. A promissory note from the buyer, or from someone not at arm's length with the buyer, does not count as property. So your parents' money must arrive before the shares are issued.
• Stated capital. The corporation adds the full payment to the stated capital account for that class (section 26).
• Securities register. It records each holder's name and latest known address, the number of securities held, and the date and particulars of each issue and transfer (section 50). With shareholder minutes and resolutions, it is kept at the registered office or another place in Canada the directors choose, or abroad if it can be inspected from Canada, subject to the Income Tax Act (section 20); the CRA's rule on tax records is below.
• Register of individuals with significant control. Most corporations must keep one. It records each such individual's residential address, citizenship and jurisdiction of residence for tax purposes. If your parents' shares make them individuals with significant control, a federal corporation records the change within 15 days of becoming aware of it and files it with Corporations Canada within 15 days.

How do I record a family loan that has no paperwork?

Book it as what the money really was, whether it is a short or long-term family loan, then put the terms in writing now.

1. Gather the wire record, the bank advice and any messages showing what was agreed.
2. Confirm with your parents what was agreed when the money was sent: whether repayment was expected, whether interest applies and when repayment is due. If nobody expected repayment then, it was a gift, whatever the paper says now.
3. Write down what was agreed, as a gift letter or a loan note, and have both sides sign. Date the document the day it is signed and state the date the money arrived. Do not backdate it.
4. Book the money on the day it arrived, at its Canadian-dollar amount and as what it actually was: a loan as a liability, a gift as owner's capital or through you.
5. If interest will be paid, set up Part XIII withholding before the first payment.

Later paper records the terms from now on. It cannot change what was actually done earlier, which is what the CRA looks at.

What if the loan is forgiven or never repaid?

Forgiving a family loan used in a business can create taxable income for the borrower, so do not simply delete it from the books. The balance stays a liability until forgiveness is agreed in writing; what replaces it in the books, and the tax result, depend on the facts and should be checked first.

Section 80 applies when a commercial obligation is settled for less than its principal. It applies the forgiven amount first against the debtor's losses and other tax balances, and half of any amount left over can be added to income, after adjustments. A debt is a commercial obligation if interest was payable under a legal obligation, or if interest on it would have been deductible, so even a loan with no interest can be caught. Converting a loan to shares has its own rule: the debt is treated as paid at the fair market value of the shares issued.

A balance that is never repaid and never formally forgiven stays a liability until it ends. Leaving it year after year is a sign to decide: repay it, convert it or forgive it in writing, with the tax result checked first. Whether an old family debt has legally ended is a question under your province's law.

Why does my bank ask where the money came from?

Banks must monitor accounts, keep client information current and report large international transfers. FINTRAC defines source of funds as how the funds were acquired, and lists gifts as an example.

A financial entity reports to FINTRAC every international electronic funds transfer of $10,000 or more in a single transaction, whether it sends or finally receives it. Several transfers from the same sender, or to the same beneficiary, that total that amount within 24 hours can also trigger a report (FINTRAC). A smaller transfer can still prompt a question.

Answer from what the paper shows: what your parents intended and what was signed. The books should say the same thing: a bank file that says gift and books that say sales do not agree. The name on the wire record should match the person named in the gift letter or loan note; if a relative, a currency service or your parents' business sent it, say so in the paper. Have the wire record and the signed gift letter or note ready.

What records do I keep, and which rate converts the money?

Keep the paper that shows what the money was, and convert foreign money at the Bank of Canada rate for the day it arrived.

The CRA's folio says amounts in another currency are converted at the spot rate for the day the amount arises, and that this is the Bank of Canada rate; if none was quoted that day, the closest earlier day is used. The folio also generally accepts another widely available, verifiable source used consistently. Record the foreign amount, the rate and the Canadian-dollar amount, and reconcile to what the bank credited. A loan owed in a foreign currency can produce an exchange gain or loss when repaid; see foreign exchange on a US dollar account.

Generally keep records for six years from the end of the last tax year they relate to. The CRA says to keep records such as the share registry indefinitely when they concern long-term property or could affect a sale, liquidation or wind-up of the business. Keep them at your place of business or residence in Canada; records kept abroad and viewed from Canada do not count as kept in Canada unless the CRA permits it.

I am a US citizen or green card holder: does a gift from my parents abroad need an IRS form?

It can. A US person who receives more than US$100,000 in a year in gifts from a nonresident alien, combined with gifts from related foreign persons, files Form 3520 Part IV (IRS). Once over the limit, each gift above US$5,000 is listed separately. A foreign gift is one from a person who is not a US person, so a gift from parents who are themselves US citizens or green card holders is outside Part IV; see giving money or shares to family abroad.

The form is due April 15 for a calendar-year individual, or June 15 if you live outside the United States and meet the IRS conditions, before any extension. A late or incomplete form can bring a penalty of 5% of the gift for each month, up to 25%, unless there is reasonable cause, and the IRS may decide the income tax result itself.

The form covers amounts you treat as a gift and leave out of income. A genuine loan is different, but a label added later does not change what the money was, so have the facts reviewed before choosing a treatment. Paper a loan when it is made. Money sent through your parents' company, not from them personally, has a lower threshold of US$20,573, and the IRS may recharacterize it. For a US business, see money from family abroad in US books.

Example

These examples are illustrative. All figures are in Canadian dollars.

A gift to a sole proprietor

A sole proprietor in Mississauga receives the equivalent of C$40,000 from her parents in China to open a shop. It is a gift to her personally. She records C$40,000 as owner's capital, not as sales, using the Bank of Canada rate for the day it arrived, and keeps the wire records. On her T2125 the amount goes on the capital contributions line.

A loan from parents to a corporation

A corporation borrows C$100,000 from the owner's parents at 4% and keeps the loan all year. The owner controls the corporation and her parents are not tax residents of Canada, so the interest is paid to non-arm's-length non-residents. Interest is C$4,000 a year. Part XIII tax at the 25% statutory rate is C$1,000 unless a treaty lowers it. If the interest is paid once a year, the corporation pays the parents C$3,000, remits C$1,000 to the CRA by the 15th of the next month, and files NR4 slips with income code 62. This assumes the corporation's retained earnings at the start of the year are at least C$66,667 (C$100,000 divided by 1.5), so thin capitalization denies none of the interest. In a new corporation with no retained earnings, all C$4,000 would be non-deductible and treated as a dividend for Part XIII: still C$1,000 at the statutory rate, but reported as a dividend, not under code 62, and the treaty rate to use needs checking.

A gift lent on to the corporation

An owner receives a C$60,000 gift from her parents and lends it to her corporation. The corporation books C$60,000 owed to the shareholder, not revenue and not share capital. When the corporation repays her, the balance falls; the shareholder loan account guide shows how repayments run.

Different for you?

• A large foreign transfer sits in your books with no paper, went straight into the corporation's account, or the books call it something else: how it is classified needs settling first, entries may need correcting and a note or gift letter may need creating now. See rebuilding books from bank statements and get bookkeeping help.
• Your corporation plans to repay your parents or pay them interest: withholding, NR4 slips, treaty status and whether the interest is deductible need settling before the first payment. See non-resident owners of a Canadian corporation and get bookkeeping help.
• A bank or the CRA has asked where the money came from: the answer must match the paper and the books. Get bookkeeping help before replying.
• Your parents will hold shares: ownership and Canadian-controlled status are the question; see non-resident owners of a Canadian corporation. Get corporate tax help before issuing them.
• You took money out of your corporation instead of putting it in: see shareholder loans.
• You are a US citizen or green card holder: Form 3520 and the Canadian books need to agree. Get cross-border tax help.
• Your books are behind, or the corporation is new: see catching up on overdue books and books for a new CCPC.
• You want a Chinese-speaking bookkeeper: see what to check before you hire.