It is December of 2020 and Frankie and Kensley Nguyen have come to you to discuss their 2020 tax situation and some changes they are proposing for the future. They are a married couple and have no children.

Frankie works for an engineering firm and earns an annual gross salary of $85,000. He has been promised a ten percent raise in 2021, and will also receive a $20,000 bonus for exceptional contributions to the company, to be received in February of 2021.

Kensley works part-time for a law firm and earns an annual gross salary of $50,000. Her net pay cheque is $3,000 each month. Kensley’s employer contributes $40 per month towards Kensley’s provincial health care plan, and $45 per month towards a group life insurance plan.

Kensley reported the following transactions from her stock portfolio this year:

• Receipt of $1,200 in eligible dividends
• Sale of shares in Day Co. for $10,000 (The brokerage fee for the sale was $200. Kensley originally paid $7,000 for the shares four years ago.)
• Sale of shares in Night Co. for $2,000 (The ACB of the shares is $3,000.)

(Both Day Co. and Night Co. are public corporations.)

Frankie and Kensley have been investing in their RRSPs for the past five years and would like to do so again for their 2020 tax returns. Frankie plans to contribute $4,000, and Kensley will contribute $2,000 to her RRSP and $2,000 to a TFSA. (All of these amounts are within the allowable limits.)

Frankie has been operating a small retail proprietorship (Rite Co.) which earned $145,000 in revenues in 2020. Cost of goods sold were $80,000, and operating expenses were $20,000 which included a golf membership for employees valued at $8,000. $2,000 of amortization was reported for the vehicle used solely for the business. The tax account from 2019 showed an ending UCC balance for the Class 10 vehicle of $5,500. The company’s net income from the financial statements was correctly calculated at $43,000, but the net income for tax purposes has not been calculated. Frankie does not require any personal income from the company.

Frankie is considering purchasing an old warehouse in 2021 at a cost of $60,000 in order to expand the company. (The warehouse will qualify as a Class 1 – 6% asset.) Frankie predicts this purchase will result in an increase in sales and costs of goods sold of 25% each. Frankie estimates that each of Rite’s operating expenses (including the golf membership) will increase by 15%, in addition to an increase in amortization costs from $2,000 to $8,000.

Frankie has heard that incorporating the business might save money on taxes, but he is not sure if this is accurate information. He is not concerned about limited liability issues at this point in time, so plans to incorporate only when a tax saving can be recognized.

Kensley would like to resign from the law firm in 2021 and start a small proprietorship which is predicted to generate revenues of $20,000. Allowable expenses for tax purposes are estimated to be $25,600. Profits are not expected until 2022. Kensley is worried that the 2021 $5,600 loss will be lost for tax purposes since she won’t have any other income during 2021.

Required:

1. Prepare the calculations (in accordance with Section 3 of the Income Tax Act) to determine the minimum net income for tax purposes for both Frankie and Kensley for 2020. (

2. Prepare projected income statements for 2021 for Rite Co. for both financial and tax purposes.

3. Based on his predictions, advise Frankie whether or not Rite Co.’s tax liability would decrease if incorporated in 2021. Support your answer with calculations to indicate how cash flow would be affected. (Frankie’s marginal tax rate is 45%. The CCPC rate on income under $500,000 is 13%.)

4. Advise Kensley with regards to her question regarding the proposed business loss.

Answer rating: 100% (QA)

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