It may be bad tax planning to try to reduce the passive-income grind

Under s. 125(5.1)(b), when a CCPC, together with any corporations associated with it, earns more than $50,000 of adjusted aggregate investment income (AAII), access to the small business deduction (SBD) is eliminated as the AAII for the group increases from $50,000 to $150,000.

Although the effect of loss of the SBD is to reduce the tax deferral benefit of corporate earning of the active business income (ABI), Ontario and New Brunswick did not adopt a matching AAII rule – so that in Ontario, for example, a CCPC earning ABI of $500,000 and AAII of $150,000 can still obtain a tax-deferral benefit at the Ontario level of up to $41,500 annually.

Furthermore, in those two provinces, the integrated taxes for ABI, subject to the passive income business limit reduction rules and fully distributed to the top-rate individual shareholder, generates a saving compared to the situation where the AAII grind does not apply - since the CCPC can pay dividends as eligible dividends. For example, on ABI of $500,000, the corporate income tax in Ontario is higher ($91,000 v. $61,000), but the personal tax (at an effective rate of 39.34% v. 47.74%) on a dividend of the after-tax income is lower ($160,901 v. $209,579), for a net saving of $18,678. In the other provinces, the difference between the integrated taxes paid in the two scenarios is minimal.

This suggests:

A shift in investment strategies or the extraction of funds from the corporation to avoid the application of the passive income business limit reduction rules may not be advisable.

Neal Armstrong. Summary of Jeanne Cheng, “The Small Business Deduction and the AAII Grind: Is It a Real Problem?”, Tax for the Owner-Manager, Vol. 21, No. 3, July 2021, pp. 1-2 under s. 125(5.1)(b).