Dividend Payment Trap: ERDTOH Converted to NERDTOH
Changes to the taxation of investment income in 2018 replaced the single
refundable dividend tax on hand (RDTOH) account with two accounts:
eligible refundable dividend tax on hand (ERDTOH) and non-eligible
refundable dividend tax on hand (NERDTOH). Where, in the same taxation
year, a corporation pays eligible dividends to one corporation and
non-eligible dividends to a second corporation, a portion of the opening
ERDTOH account balance in the payer corporation may be converted to a
NERDTOH account balance in a payee corporation. This results in
overtaxation when the dividend is ultimately received by a personal
Consider the following example:
- Opco is a private corporation. Holdco owns all of Opco’s common
shares and Investco owns all of Opco’s preferred shares. Holdco and
Investco are related to Opco.
- Before the payment of dividends, Opco had a general-rate income pool
(GRIP) of $100,000, an ERDTOH account balance of $38,333, and a NERDTOH
account balance of $100,000.
- During its taxation year, Opco paid an eligible dividend of $100,000
to Holdco. It also redeemed preferred shares held by Investco,
resulting in a non-eligible deemed dividend of $500,000.
Under subsection 129(1), the eligible dividend paid by Opco entitles
Opco to a refund of the entire ERDTOH account balance. In turn, the
deemed dividend triggers a refund of the entire NERDTOH account balance.
The part IV income tax that Holdco and Investco have to pay is
determined on the basis of the aggregate dividends that Opco paid and
the total dividend refund that it received during its taxation year.
Specifically, the part IV tax payable by Holdco and Investco amounts to 1⁄6
respectively, of Opco’s total dividend refund, since those are the
proportions of Opco’s total dividends that the two corporations received
($100,000/$600,000 and $500,000/$600,000). The total dividend refund is
$138,333 ($100,000 + $38,333). Calculating the 1⁄6
fractions of $138,333 results in part IV tax amounts of $23,055 for Holdco and $115,278 for Investco.
The next step involves determining the type of RDTOH account to which
the part IV income tax paid should be added. Under subsection 129(4),
all the part IV tax that Holdco paid should be added to its ERDTOH
account, because the tax is payable as a result of a dividend received
from a payer corporation that obtained an ERDTOH dividend refund.
However, no amount may be added to Investco’s ERDTOH account, because
the dividend Investco received did not entitle Opco to receive an ERDTOH
dividend refund. Thus, the entire amount of part IV income tax that
Investco paid is added to its NERDTOH account.
As a result, the only non-zero RDTOH balances in the corporate group
after the dividends are an ERDTOH balance of $23,055 for Holdco and a
NERDTOH balance of $115,278 for Investco. Thus, at the corporate group
level, the effect of the dividend payments is to move $15,278 from
ERDTOH to NERDTOH, which increases the amount of tax to be paid by the
This result could have been avoided if the redemption of preferred
shares had been made in the following taxation year or if the total
dividends paid had not exceeded 38.33 percent of Opco’s total NERDTOH
and ERDTOH account balances.
In policy terms, the problem results from the fact that paragraph
186(1)(b) does not establish any link between the type of RDTOH account
that generated Opco’s dividend refund and the type of dividend that
Holdco and Investco received.
This type of problem currently comes up more frequently because of the
transitional measures accompanying the 2018 changes. However, the
problem will continue to occur in the future for companies that have
both ERDTOH and NERDTOH account balances.
Groupe RDL Québec inc., Quebec City