A holding company is a company that owns shares in another company. If the holding company owns the majority of shares of another company, it is also referred to as a parent company. It generally does not produce goods or services itself. The sole purpose of a holding company is usually to own shares in another company.
The reasons for establishing holding companies are diverse. They may be created to operate for a short period of time or as part of a long-term plan. Whether it is better to form a holding company to hold your shares rather than you holding them personally requires significant consideration of your individual circumstances and proper advice from qualified professionals. Factors to consider include the nature and revenue of the business, the jurisdiction in which the business owner resides, and the business owner’s long term goals. In this article I have outlined some of the benefits and drawbacks associated with creating holding companies.
If you happen to own a corporation that carries on an active business, give some thought to setting up your affairs to allow for a deferral of tax. How? By establishing a holding company to own the shares of your active business corporation (ABC). You see, if you own the shares of your ABC directly, then any payment of dividends from that corporation to you will be taxable in your hands personally in the year you receive those dividends. If, on the other hand, you have a personal holding company that owns your shares in your ABC, you can pay a dividend to your holding company that will, in most cases, be tax free to your holding company.
It’s subsection 112(1) of our tax law that allows, in most cases, your holding company to claim a deduction for taxable dividends received from your ABC. And, as long as your holding company and ABC are “connected” under our tax law (which will be the case in the vast majority of situations), you’ll avoid another tax called the Part Four tax.
By passing some of those earnings from your ABC to your holding company, you’ll defer tax, which is essentially the difference between the tax paid by your ABC on its profits, and the amount of tax you would have paid had the profits been paid out immediately to you as a bonus. The tax deferred is approximately 30 per cent of the taxable income in most provinces for someone in the highest tax bracket.