Windy inc. is a Canadian-controlled private corporation located in Tax City and incorporated under the federal law. The corporation was started in 1999 by Mrs Wendy Windy with an initial investment in common shares of $50,000. The corporation’s year end is December 31. Windy inc. suffered from the competition from the international market. As a consequence, Wendy Windy has decided to wind-up the corporation.
The following is a unaudited balance sheet prepared based on the tax values of its assets and liabilities as at the intended date of the winding-up:
Windy inc.
Balance Sheet
As at December 31, 20X1
Cash $15,000
Refundable Dividend Tax on Hand (RDTOH) 25,000
Accounts receivable (net of a $5,000 allowance for doubtful accounts) 75,000
Inventory 45,000 Land (capital cost) 150,000
Building (undepreciated capital cost) 350,000
Equipment (undepreciated capital cost) 90,000
$750,000
Liabilities $100,000
Common shares 50,000
Retained earnings 600,000
$750,000
Additional information:
1) The corporation pays tax at a combined federal and provincial rate of 14.5% on income eligible for the small business deduction, 27% on other active business income, and 50.67% on investment income, including for the last rate the 10 2/3% additional refundable tax on the investment income of CCPC. All dividends are non-eligible dividends, except those from capital dividend account.
2) The Retained earnings balance includes $60,000 in the capital dividend account. Without much liquidity, the corporation has paid no dividends in the last three years.
3) The corporation has Net income for tax purposes of $50,000 for the year ending December 31, 20X1, before consideration of any income from the winding-up.
4) The accounts receivable are to be sold to a factoring corporation. In 20X0, the corporation has deducted a tax reserve of $5,000. The tax reserve of the previous year is included in the Net income for tax purposes of for the year ending December 31, 20X1.
5) All the assets will be disposed of at their fair market value (FMV) on December 31, 20X1. Cost FMV Accounts receivable $80,000 $70,000 Inventory 45,000 65,000 Land 150,000 250,000 Building 480,000 570,000 Equipment 120,000 60,000
6) The adjusted cost base (ACB) of the shares is equal to the initial investment by the shareholder.
7) Windy inc. had the following tax account balances: - Dividend refund for 20X0 $0
8) Wendy Windy is single, with no child. Liquidation of Windy inc. will provide her sole income (loss) for the year 20X1. Assume a provincial tax at the individual level of 50% of net federal tax, including provincial personal tax credits but excluding provincial dividend tax credit (1/3 of gross-up).
9) Wendy Windy had the following tax account balances: - Tax paid by instalments for 20X1 taxation year $10,000
Required: Prepare an analysis of the income tax consequences of the winding-up. Determine the components of the distribution to the shareholder (Wendy Windy), identify them, but assume that appropriate elections will be made to minimize the taxes that will be paid by Wendy Windy. Assume no alternative minimum tax at individual level. Show in detail your calculation.