Allowable Business Investment Loss (ABIL): A Comprehensive Guide

Introduction

An Allowable Business Investment Loss (ABIL) is a specialized tax provision under Canadian tax law that provides relief for certain capital losses. Unlike regular capital losses, an ABIL can be deducted against all sources of income, making it a valuable tool for taxpayers who invest in small business corporations. This article explains what constitutes an ABIL, how it is calculated, and the conditions under which it can be claimed.

What is an ABIL?

An ABIL is a tax deduction equal to 50% of a business investment loss, allowing taxpayers to offset taxable income from any source. If unused, an ABIL can be:

• Carried back up to 3 years.
• Carried forward up to 10 years.

After the 10-year carryforward period, any remaining ABIL converts to a net capital loss that can be carried forward indefinitely to offset future taxable capital gains.

Business Investment Loss: Types and Scenarios

A business investment loss can occur under the following scenarios:

1. Actual Disposition

A business investment loss arises when there is a capital loss from the actual disposition of:

1. Shares in the capital stock of a small business corporation.
2. Debt owed by a Canadian-controlled private corporation (CCPC) that meets one of the following conditions:
   • It is a small business corporation.
   • It is bankrupt and was a small business corporation at the time of bankruptcy.
   • It is insolvent, and a winding-up order has been issued while it was a small business corporation.

Small Business Corporation Criteria

A corporation qualifies as a small business corporation if:

• At least 90% of the fair market value of its assets are used:
  • In an active business carried on primarily in Canada by the CCPC or a related corporation.
• In the form of shares or debt obligations of other small business corporations (if the holding corporation owns more than 10% of the shares).

Additionally, a corporation is considered a small business corporation if it meets these criteria at any time in the 12 months preceding the disposition.

2. Deemed Disposition

Under Section 50(1) of the Income Tax Act, a deemed disposition may occur, where the taxpayer is considered to have:

• Disposed of shares or debt at nil proceeds.
• Immediately reacquired the property at a cost of nil.

Deemed dispositions occur in situations where:

• Debt is determined to be uncollectible (bad debt) at the end of the taxation year.
• Shares in a corporation are held in a company that:
  • Became bankrupt during the year.
  • Was issued a winding-up order due to insolvency.
  • Is insolvent with no business activity, and it is reasonable to expect that the corporation will be dissolved or wound up.

Key Considerations for ABIL Claims

Supporting Documentation

The Canada Revenue Agency (CRA) often audits ABIL claims to verify eligibility. Taxpayers must maintain comprehensive records, including:

1. Proof of the original investment or loan.
2. Evidence of the loss (e.g., bankruptcy filings, winding-up orders).
3. Documentation of the corporation’s small business corporation status.

Intention to Earn Income

To claim an ABIL, the taxpayer must demonstrate that the loan or investment was made with the intention to earn income. While interest charges on loans can establish this intention, other forms of expected income, such as dividends, may suffice if properly documented.

Loan Documentation

Taxpayers should:

• Draft written agreements for loans provided to corporations.
• Specify terms, including interest rates, where applicable.

CRA Scrutiny and Common Pitfalls

The CRA closely examines ABIL claims, particularly those involving:

1. Bad Debts: Ensure loans are documented as non-recoverable and linked to a small business corporation.
2. Eligibility of the Corporation: Confirm the small business corporation status within the relevant timeframe.
3. Guarantee Payments: Claims arising from guarantees must meet the criteria outlined in subsection 39(12) of the Income Tax Act.

FAQs

What is an ABIL?

An ABIL is a tax deduction equal to 50% of a business investment loss, which can offset taxable income from all sources.

What is a Business Investment Loss?

A business investment loss is a capital loss incurred from the disposition of shares or debt of a small business corporation or from guarantee payments made to honor the corporation’s debt.

Can ABILs be carried forward?

Yes, unused ABILs can be carried forward 10 years. After 10 years, they convert to net capital losses, which can be carried forward indefinitely to offset taxable capital gains.

Conclusion

The Allowable Business Investment Loss (ABIL) provision offers a unique opportunity for taxpayers to claim tax relief on eligible losses from investments in small business corporations. However, due to the stringent eligibility criteria and CRA scrutiny, proper documentation and professional guidance are essential. If you are considering an ABIL claim or need assistance with related matters, consulting a Canadian tax professional ensures compliance and maximizes the benefits.

This article is written for educational purposes.

Should you have any inquiries, please do not hesitate to contact us at (905) 836-8755, via email at [email protected], or by visiting our website at www.taxpartners.ca.

Tax Partners has been operational since 1981 and is recognized as one of the leading tax and accounting firms in North America. Contact us today for a FREE initial consultation appointment.