The capital dividend account is a notional tax account that lets a private corporation pay out certain amounts, mainly the tax-free half of capital gains, to shareholders completely tax-free.
When a corporation realises a capital gain, only the taxable portion is taxed; the remaining, non-taxable portion is tracked in the capital dividend account. The corporation can then elect to pay that balance to its shareholders as a capital dividend, which they receive entirely tax-free.
The CDA is one of the most valuable planning tools for a CCPC, but it is unforgiving: paying a capital dividend larger than the actual CDA balance triggers a heavy penalty tax. The balance must be confirmed and the election (Form T2054) filed correctly before the dividend is paid.
Your corporation sells an asset for a $100,000 capital gain. The taxable half is taxed; the other $50,000 flows into the CDA. You file the election and pay a $50,000 capital dividend to yourself completely tax-free.
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