Paying an eligible dividend and non-eligible dividend in the same year to 2 connected corps can convert ERDTOH to 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 eligible refundable dividend tax on hand (ERDTOH) of the payer may be converted to non-eligible refundable dividend tax on hand (NERDTOH) to a payee.

For example, Opco, which had ERDTOH and NERDTOH balances of $38,333 and $100,000, respectively, pays an eligible dividend of $100,000 to Holdco (its sole common shareholder) and, in the same year, a non-eligible deemed dividend of $500,000 to Investco on redeeming preferred shares. These dividends generate refunds of the entire ERDTOH and NERDTOH balances totaling $138,333. There is corresponding Pt. IV tax to the payees aggregating $138,333 – but this is allocated between them pro rata to the respective dividends, i.e., Pt. IV tax of 1/6 of $138,333 (or $23,055) for Holdco; and 5/6 of $138,333 (or $115,278) for Investco.

The only ERDTOH addition is to the ERDTOH of Holdco in the $23,055 amount. 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 Pt. IV tax of $115,278 paid by Investco is added to its NERDTOH, so that there is a loss of $15,278 of ERDTOH.

The effective conversion of ERDTOH to NERDTOH can be avoided by paying only one type of dividend in each taxation year.

Neal Armstrong. Summary of Marie-Pier Maheux, “Dividend Payment Trap: ERDTOH Converted to NERDTOH,” Canadian Tax Focus, Vol. 11, No. 1, February 2021, p. 3 under s. 129(4) - eligible refundable dividend tax on hand – subpara. (a)(ii).