Tax on Split Income Canada: What You Need to Know

Income splitting was once a popular strategy for Canadian families and business owners looking to reduce their overall tax burden. However, the Canada Revenue Agency (CRA) significantly tightened the rules through the Tax on Split Income (TOSI) legislation. These rules can result in income being taxed at the highest marginal rate if certain conditions are not met.

If you earn business, investment, or corporate income that is shared with family members, understanding TOSI is essential. In this guide, we’ll explain how TOSI works, who it applies to, and how expert planning with Madan CPA, a tax specialist at Madan CPA, can help you stay compliant while optimizing your tax position.

What Is Tax on Split Income (TOSI)?

Tax on Split Income (TOSI) is a set of rules designed to prevent individuals from shifting income to family members who are in lower tax brackets. When income is subject to TOSI, it is taxed at the highest personal marginal tax rate, eliminating the tax advantage of income splitting.

TOSI commonly applies to:

• Dividends from a private corporation
• Income from partnerships or trusts
• Capital gains from certain share dispositions
• Interest or other income related to a family business

The goal of the rules is to ensure that income is taxed based on the individual’s actual involvement and contribution to the business or investment.

Who Do the TOSI Rules Apply To?

TOSI applies to individuals who receive income from a related business. A related business generally includes a business operated by:

• A spouse or common-law partner
• Parents or grandparents
• Children (in certain cases)
• A corporation or partnership controlled by related persons

The rules apply to adult family members (18 and older), not just minors. This expansion, introduced in 2018, significantly increased the number of taxpayers affected.

If a family member receives dividends or other income but does not meaningfully contribute to the business, that income may be subject to TOSI.

What Income Is Considered Split Income?

The types of income that may fall under TOSI include:

• Dividends from a private company
• Shareholder benefits
• Income from a family partnership or trust
• Capital gains from shares of a family business (in certain situations)
• Interest from loans tied to a related business

Even if the payment appears legitimate, the CRA will assess whether the recipient’s role justifies the income received.

Key Exceptions to TOSI

Not all family income is automatically subject to TOSI. Several important exceptions may allow the income to be taxed at normal rates.

1. Excluded Business

Income is not subject to TOSI if the individual is actively engaged in the business on a regular, continuous, and substantial basis. Generally, working at least 20 hours per week during the year meets this requirement.

This exception is common for spouses or adult children who genuinely participate in daily operations.

2. Excluded Shares

For individuals aged 25 or older, dividends may be excluded from TOSI if:

• They own at least 10% of the votes and value of the corporation
• The company earns less than 90% of its income from services
• The corporation is not a professional corporation (such as medical or legal practices)

This rule often applies to family-owned operating companies but has limitations for service-based businesses.

3. Reasonable Return

If the income received reflects a reasonable return based on the individual’s:

• Work performed
• Capital contributed
• Risk assumed
• Past contributions

then TOSI may not apply. The CRA evaluates whether the compensation aligns with the person’s actual involvement.

4. Age-Based Exceptions

• Individuals 65 and older can split certain income with a spouse, similar to pension income splitting.
• Special rules apply to minors, where most business-related income is automatically subject to TOSI.

Common Situations Where TOSI Applies

TOSI issues often arise in the following scenarios:

• Paying dividends to a spouse who does not work in the business
• Issuing shares to adult children without meaningful involvement
• Splitting partnership income among family members without contributions
• Paying returns on capital that was gifted rather than invested independently

Without proper planning, these arrangements can trigger reassessments and additional tax liabilities.

Impact of TOSI on Family Businesses

For many family-owned businesses, TOSI has changed how owners structure compensation and ownership. Traditional income-splitting strategies using dividends may no longer provide tax savings unless the recipient meets the exclusion criteria.

Business owners should now focus on:

• Documenting hours worked by family members
• Structuring ownership carefully
• Ensuring compensation reflects actual contributions
• Reviewing share structures and dividend policies

This makes professional guidance more important than ever.

Planning Strategies to Manage TOSI

While the rules are strict, there are legitimate ways to manage TOSI exposure:

• Pay reasonable salaries instead of dividends for active family members
• Ensure family members meet the 20-hour per week active engagement test
• Consider ownership structures that qualify for the excluded shares exception
• Maintain proper documentation of roles, responsibilities, and capital contributions
• Review business structures annually as circumstances change

Working with an experienced tax professional ensures your strategy aligns with CRA expectations.

Why Work with Madan CPA?

TOSI rules are complex and highly fact-specific. A small mistake in ownership structure or dividend planning can result in income being taxed at the highest rate.

Madan CPA helps business owners:

• Evaluate whether TOSI applies to their situation
• Structure compensation and share ownership efficiently
• Identify eligible exceptions
• Maintain proper documentation for CRA compliance
• Develop long-term tax strategies for family businesses

With proactive planning, you can reduce risk while making the most of legitimate tax opportunities.

Final Thoughts

Tax on Split Income (TOSI) has significantly changed the landscape for income splitting in Canada. While the rules limit many traditional tax-saving strategies, careful planning and proper documentation can help ensure your family business remains both compliant and tax-efficient.

If you receive or plan to distribute income among family members, it’s essential to review your structure before the CRA does. For personalized guidance and expert support, connect with Madan CPA to develop a strategy tailored to your business and family situation.