Tax Time: Tax Planning Using Private Corporations

Tax Time: Tax Planning Using Private Corporations

AUTHOR: Greg Kauffeldt

On July 18, 2017, the Department of Finance released a consultation document and draft legislation containing proposals that, if enacted, will significantly affect many private companies and their shareholders. Here is a brief summary of the proposed changes and how they will impact business owners.

Changes to Reporting Principal Residence Sales for 2016

AUTHOR: Trevor Smithers, CPA, CMA

While the thrust of their proposals was directed towards preventing the use of the principal residence exemption (“PRE”) by non-residents as well as limiting its use for properties owned by certain trusts, all taxpayers who own a residence and use it (or a portion thereof) for their personal use will be affected by these proposals.

Prior to this announcement, the Canada Revenue Agency (“CRA”) had a long-standing administrative position which allowed the majority of home sales to go unreported where there was no capital gains tax owing on the sale.

With this announcement, all principal residence sales must now be reported, regardless of whether they are fully exempt from tax. This applies to sales which occur in the 2016 and subsequent taxation years. Taxpayers will have to report the sale on schedule 3 of their tax return for the year in which the property is sold.  If the property was your principal residence for every year that you owned it, you will make a principal residence designation on schedule 3. The CRA has indicated that you will need to include the following information when reporting the sale of a principal residence:

  • The year that the property was acquired;
  • The proceeds of disposition and related selling costs of the sale;
  • A description of the property that was sold.

For the sale of a principal residence in 2016 or later tax years, the CRA will only allow the PRE if you report the sale and designation of the principal residence in your income tax return. The proposed changes will allow the CRA to reassess a return after the end of the normal reassessment period for a gain on disposal of a property where the taxpayer did not initially report the disposition.  The CRA may accept a late filed principal designation but penalties may apply. These penalties can range from $100 for each month that the designation is late up to a maximum of $8,000. Therefore, accurately reporting the sale of a principal residence is now of utmost importance.

This change also applies to deemed dispositions of property including situations where you change all or part of your principal residence to a rental or business operation or vice versa.

The required schedule 3 reporting of all residence sales will allow the CRA to more easily identify and audit those sales that might not qualify for the PRE, such as;

  • Claiming a PRE on sale of a second residence, such as a seasonal cottage property where those particular years of ownership have already been designated towards another principal residence,
  • Home builders or renovators (“flippers”) who may have taken advantage of the PRE to shelter short-term profits on sale of those residences which should have been reported as business income.

The CRA has provided more information for individuals on this important change on their website.

If you have any questions about how these changes may impact your tax situation, please contact your McCay Duff advisor.

Should I Incorporate My Business?

Two Sales Assistant At Vegetable Counter Of Farm Shop
Two Sales Assistant At Vegetable Counter Of Farm Shop

AUTHOR: April Wheeler, CPA, CGA, B.COMM

This is a question accountants and lawyers are asked often and the answer - is almost always - “it depends”.

A corporation is a separate legal entity which means the corporation pays corporate income tax which is calculated completely separate from the owner’s personal income tax.  In addition, if the corporation pays wages to the shareholders, income tax, CPP premiums and possibly EI premiums, must be deducted and remitted to the Canada Revenue Agency.

No matter whether or not your business is incorporated, spouses and children can be employed by the business, which effectively is income splitting. However, amounts must be reasonable based on the services provided and must actually be paid to the spouse and/or children.

To determine whether incorporation makes sense for your business you need to look at the advantages and disadvantages of incorporation and determine whether or not the advantages outweigh the disadvantages.

Advantages of incorporation:

Limited Liability

Unlike a sole proprietorship, where the business owner assumes all the liability of the company, when a business is incorporated the liability of the shareholders of the business is usually limited to the amount they invested in the corporation.  If you are a sole proprietor, your personal assets, such as your house and car can be seized to pay the debts of your business; as a shareholder in a corporation, you can’t be held responsible for the debts of the corporation. There are a couple of exceptions. The first being often small corporations are not able to get bank loans without a personal guarantee of the shareholders, which means the advantage of limited liability is eliminated. Second shareholders who are directors of the corporation can be held legally liable for payroll taxes and HST in certain circumstances.

Tax Advantages

A Canadian controlled private corporation pays a much lower rate of tax on its first $500,000 of taxable income relative to what would be paid by an unincorporated business owner.  In 2016, the current combined federal and Ontario tax rate on the first $500,000 of active business income in a corporation is 15.5%.  By contrast, a sole proprietor in Ontario with business profits pays tax on the first $220,000 of profits at rates between 20% and 50%.  While business profits in excess of $220,000 attract a personal tax of 53.53%.

If you do not need all your business’ earnings to pay for personal living expenses, you can leave the earnings in the corporation and defer personal taxes until the earnings are withdrawn from the corporation.  For an Ontario business owner paying personal tax at the top marginal rate – this tax deferral is approximately 38%.

As a shareholder of the corporation, you are entitled to a capital gains exemption of $813,600 upon the sale of your shares – provided your business meets the definition of a qualified small business corporation and certain other requirements are met prior to sale.

A corporation allows the shareholder flexibility and the ability to choose the most tax-efficient way to pay yourself, including dividends, salary, bonus or a combination. Dividends can be used to as a way to split income with your spouse if he/she is a shareholder of your corporation.

Corporations Carry On

Unlike a sole proprietorship, a corporation has an unlimited life; the corporation will continue to exist even if the shareholders die, leave the business or the ownership changes.  Selling a corporation is more straightforward than attempting to sell a sole proprietorship.

Disadvantages of incorporation:

Set up costs

Incorporation can be a complicated structure and it is important to seek professional advice on the proper classes of shares, who the shareholders will be (spouses, children) and which shareholders will have voting control.

Business losses cannot be written off against other income of the shareholders.

Administrative Costs

More administrative costs are incurred due to annual financial statement and corporate tax return fillings required in addition to the shareholder’s personal tax returns.

In very general terms, if you need all the profits of your business to live on, then you don’t need to incorporate because you have no income to shelter.


Tax Time

Tax Time

AUTHOR: Trevor Smithers, CPA, CMA


When the new government said last year that it would return Canada to deficits, few expected the numbers to jump to nearly $30 billion this year and next and add $100 billion in debt over the next five years. But lower-than-expected revenues have forced the government’s hand, according to Finance Minister Bill Morneau, requiring increased spending to stimulate the sluggish economy and support the middle class. Despite failing to make good on “key election promises relating to fiscal management,” there are enough positive indicators in the budget that CPA Canada is taking a wait-and-see approach, calling it a “down payment on a long-term fiscal plan that charts a course to strengthen the Canadian economy.” Among the positive signs are efforts to close tax loopholes, reduce tax evasion and increase tax compliance.

Building — and Spending — for Growth

In part, the Federal Government hopes to build its way to economic growth, spending $12 billion over five years on a range of infrastructure projects including public transit, affordable housing, water management for First Nations communities, climate change mitigation, early learning and childcare. The government predicts these investments will increase Canada’s GDP by 0.2 per cent this year and 0.4 per cent in 2017.

The Liberals initially proposed $120 billion in infrastructure spending over 10 years. The plan for the remaining funds is expected later this year.

The bulk of the proposed additional program spending in the 2016 budget focuses on families, seniors, veterans, health care, post-secondary education, innovation and clean energy. These measures also aim to encourage growth or restore benefits eliminated by the previous government.

To balance all this spending, the government plans to close a number of domestic and international loopholes that permit organizations and individuals to avoid or defer tax, and provide the Canada Revenue Agency with $800 million over five years for compliance initiatives.

On top of these preliminary measures to limit tax evasion and deferral, the government has proposed a review of the tax system to reduce or eliminate inefficient tax measures.

Key Budget Measures for Business

The small business tax rate will remain at 10.5 per cent. The former government had scheduled regular decreases in the rate over the next few years, but Morneau has put those changes on hold. Business owners will also face stricter rules with regard to using partnerships or corporations to multiply access to the small business deduction and avoid tax.

The Eligible Capital Property (ECP) regime will be repealed and ECP will fall under a new Capital Cost Allowance class with a 100 per cent inclusion rate and 5 per cent annual depreciation rate. The transition will begin January 2017.

Key Personal Measures

As noted in the government’s December 2015 update, the second marginal income tax rate has decreased from 22 per cent to 20.5 per cent and a new top tax rate of 33 per cent has been added for incomes above $200,000.

The government also returned the TFSA contribution limit to $5,500 (from $10,000) and promised to index the limit to inflation. Beginning July 2016, the new Canada Child Benefit (CCB) will provide up to $6,400 for each child under age 6 and up to $5,400 for children aged 6–17. Only families with incomes below $30,000 per year will receive the full benefit. The CCB will replace the Canada Child Tax Benefit and Universal Child Care Benefit. The family tax cut credit for families with at least one child under 18 at home and the children’s fitness and arts tax credits will also be eliminated.


Small Business Tax Rate

The federal small business reduction will remain at 17.5 per cent for 2016 and subsequent taxation years, which provides for a federal small business tax rate of 10.5 per cent, down from 11.0 per cent in 2015. Of course, the provincial rate must be added to determine the actual rate.

The related dividend gross-up of 17 per cent for other than eligible dividends and the dividend tax credit of 21/29 of the gross-up will remain for 2016 and subsequent taxation years. Consequently, the prior proposals to further increase the SBD rate and reduce the related small business tax rate for 2017 and subsequent taxation years, along with the consequential changes to the dividend gross-up and dividend tax credit, will not be going ahead.

Multiplication of the Small Business Deduction

The current specified partnership income rules are intended to prevent the multiplication of the SBD where a corporate partnership is utilized since each corporate partner is only entitled to an SBD equal to its share of the partnership’s active business income multiplied by $500,000. Structures have been implemented to circumvent these rules through the utilization of a separate Canadian-controlled private corporation (CCPC) which is not a member of the partnership. Such corporation (which would be owned by the shareholder of one of the corporate partners or by a person who is not at arm’s-length with the shareholder) would be paid by the partnership for services provided.

The Budget proposes to deem this separate CCPC to be a member of the partnership, which in effect, causes the active income earned by this CCPC from services billed to the partnership to still be subject to its prorated share of the annual SBD.

Similar rules will apply where a CCPC provides services or property to certain private corporations rather than to a partnership as in the above example. The income so earned by the CCPC will be ineligible for the SBD where, at any time during the year, the CCPC, one of its shareholders or a person who does not deal at arm’s length with such a shareholder has a direct or indirect interest in the private corporation.

These proposals generally apply to taxation years which begin on or after Budget Day. In addition, these proposals do not apply to a CCPC all or substantially all of the active income of which is from providing services or property to arm’s-length persons other than the partnership.

Currently, certain investment income, such as rent or interest, earned by a CCPC, from an associated CCPC that deducts the payments from its own active income, is treated as active income rather than investment income. In addition, two CCPCs, which are not normally associated with each other are considered to be associated by being associated with the same “third” corporation. Although these two CCPCs can elect not to be associated for SBD purposes, the above rule which treats certain investment income to be active rather than passive still applies.

The Budget proposes to retain the character of the investment income in the hands of the recipient as investment income rather than deeming it to be active income where the “third company” election not to be associated is utilized. In addition, where the “third company” election not to be associated is utilized, the third company will continue to be associated with each of the other two CCPCs for purposes of applying the $10 – 15 million taxable capital limit for SBD purposes.

Tax on Personal Services Business Income

Effective January 1, 2016, the federal tax rate on personal services business income will be increased by 5 per cent (from 28 per cent to 33 per cent) to correspond with the increase in the top federal marginal personal tax rate to 33 per cent on taxable income over $200,000 for 2016 and subsequent years. The rate increase will be prorated for taxation years which straddle January 1, 2016.

Consultation on Active versus Investment Income

The consultation resulting from the 2015 Budget to review the circumstances in which income from property should qualify as active business income was completed in August 2015. The Budget did not introduce any changes to these rules.

Distributions Involving Life Insurance Proceeds

The Budget proposes measures to ensure that the addition to the capital dividend account (CDA) for private corporations and the adjusted cost base for partnership interests, on the death of an individual insured under a life insurance policy, is reduced by the adjusted cost basis of the policy. This will be the case whether or not the corporation or partnership that receives the policy benefit is the policyholder and therefore the premium payer. In addition, information reporting requirements will apply where a corporation or partnership is not a policyholder, but is entitled to receive a policy benefit. This measure will apply to policy benefits received as a result of a death that occurs on or after Budget Day.

Transfers of Life Insurance Policies

Currently, where a policyholder disposes of their interest in a life insurance policy to a non-arm’s-length person (to a corporation for example), the policyholder’s proceeds are deemed to be equal to the cash surrender value (CSV) of the policy at the time notwithstanding the fact that the fair market value (FMV) of the policy, and therefore the consideration received by the transferor, might be higher. The policyholder would be taxable only to the extent that the CSV exceeds the adjusted cost basis of the policy at the time; any excess of the FMV of the policy over the CSV is not currently taxable. In addition, this excess of FMV over the adjusted cost basis can later be effectively extracted through the corporation’s CDA. Similar concerns arise in the partnership context and where a policy is contributed to a corporation as capital.

The Budget proposes that the policyholder’s proceeds in the above scenario would be the FMV of the policy rather than its CSV. Consequently, any excess of the FMV over the adjusted cost basis would be taxable. This measure will apply to dispositions on or after Budget Day.

The Budget also proposes to amend the CDA rules for private corporations and the adjusted cost basis computation for partnership interests where the interest in the policy was disposed of before Budget Day for consideration in excess of the CSV of the policy. This amendment, which in essence amounts to retroactive taxation, will reduce the addition to the corporation’s CDA or adjusted cost base of an interest in a partnership by the amount of such excess which will result in tax when the funds are withdrawn from the company. Consequently, additional funds would be required to pay these taxes, a cost not anticipated when the policy was transferred to the company. This measure will apply in respect of policies under which policy benefits are received as a result of deaths occurring on or after Budget Day.

Eligible Capital Property

The 2014 federal budget announced that the existing rules that related to both the acquisition and disposition of eligible capital property (ECP) (such as goodwill) would be reviewed.

At the present time, 75 per cent of the cost of ECP is added to the cumulative eligible capital (CEC) pool which is amortized at the rate of 7 per cent per annum of the declining balance. The proceeds of disposition of ECP are first credited to the CEC pool, if any, and previous deductions are recaptured. 50 per cent of the balance is treated as active business income (and 50 per cent falls into the CDA). The effective tax rate is therefore half of the small business rate and/or half of the general rate applicable to active business income.

Note that each of the provinces imposes its own provincial rate. So, for example, in Ontario, the rate applicable to the small business income portion would be 7.50 per cent (50 per cent of 15.0 per cent) and 13.25 per cent (50 per cent of 26.5 per cent) on the non-small business portion; in British Columbia, the rate applicable to the small business income portion would be 6.50 per cent (50 per cent of 13.0 per cent) and 13.00 per cent (50 per cent of 26.0 per cent) on the non-small business portion.

Ignoring the lack of a reserve for deferred proceeds on the sale of goodwill, this treatment has, initially, been more attractive than the result of treating the gain as a capital gain which is taxed at 50 per cent of the high corporate rate applicable to investment income resulting in an effective rate of approximately 25 per cent.

The Budget introduces a new regime that will be effective on January 1, 2017.

The new rules will add 100 per cent of the cost of what has heretofore been classified as ECP to a new capital cost allowance (CCA) class, Class 14.1, which will be depreciated at the rate of 5 per cent of the declining balance per annum. 100 per cent of the proceeds of disposition of this type of property will be credited to the pool in accordance with the existing rules applicable to dispositions of depreciable property.

Transitional rules will transfer December 31, 2016 CEC pool balances to Class 14.1. For 10 years, pre-2017 balances will be depreciated at the rate of 7 per cent of the declining balance per annum. Small businesses will benefit from more generous write-offs for minor expenditures. For example, the first $3,000 of the cost of incorporation will be deductible as a current expense.

Accelerated Capital Cost Allowance

The Budget proposes to expand CCA Classes 43.1 and 43.2 to include electric vehicle charging stations and electric energy storage equipment acquired on or after Budget Day that would otherwise be included under CCA Class 8. This would provide tax deferral as Classes 43.1 and 43.2 provide for CCA at rates of 30 per cent and 50 per cent, respectively, on a declining-balance basis, while Class 8 only provides a declining-balance rate of 20 per cent.

Charging stations that supply less than 90 kilowatts of power would be included in Class 43.1, while stations that supply 90 kilowatts or more would be included in Class 43.2.

Electric energy storage equipment that is part of an electricity generation system that is eligible for Class 43.1 or 43.2 will be included in the same class as the system. Standalone electrical storage equipment may also be eligible for Class 43.1 or 43.2 treatment if certain criteria are met.


There were a number of international tax measures implemented in this budget. Please contact your McCay Duff advisor for more information if you feel that these would impact you or your business.


Canada Child Benefit

The non-taxable Canada Child Benefit (CCB) will replace the Canada Child Tax Benefit (CCTB) and Universal Child Care Benefit (UCCB) assistance programs effective July 1, 2016.

Akin to the CCTB and UCCB, the new CCB will provide financial assistance in the form of monthly payments to families with children under the age of 18. A maximum benefit of $6,400 will be provided for each child under the age of 6 and $5,400 for children aged 6 to 17. These maximums begin to phase out where the adjusted family net income is between $30,000 and $65,000. The phase-out rates in this threshold range from 7 per cent for a one-child family up to 23 per cent for a family with 4 or more children. Once adjusted family net income exceeds $65,000, any remaining benefit is phased out at slower rates ranging from 3.2 per cent to 9.5 per cent.

The Budget broadens the definition of an eligible individual for purposes of the CCB to include an Indian within the meaning of the Indian Act provided that all other criteria under the definition are met.

Also beginning July 1, 2016, the children’s special allowance is proposed to be increased to the same level as the CCB so that families with children in child protection agencies are treated consistently.

Family Tax Cut Credit

For the 2016 taxation year and beyond, the Budget proposes to eliminate the Family Tax Cut Credit that currently permits limited income splitting for couples with at least one child under the age of 18.

This credit allows a higher-income earning spouse or common-law partner to notionally transfer up to $50,000 of taxable income to their spouse or common-law partner in order to reduce the couple’s combined tax liability by a maximum of $2,000.

Children’s Fitness and Arts Tax Credits

The government proposes to halve the maximum eligible expenditures on which the 15 per cent refundable Children’s Fitness and Art Tax Credits can be claimed in the 2016 taxation year, and will eliminate the credits in 2017.

In particular, the Budget proposes to reduce the Children’s Fitness Credit maximum eligible amount from $1,000 to $500 in 2016 and eliminate it in 2017. The maximum eligible amount for the Children’s Arts Tax Credit would be reduced from $500 to $250 in 2016 and, again, eliminated in 2017.

Education and Textbook Tax Credit

Effective January 1, 2017, the Budget proposes to eliminate the 15 per cent non-refundable Education and Textbook Tax Credits. Unused education and text book credits carried forward from prior to 2017, will remain available to be claimed in 2017 and subsequent years.

Teacher and Early Childhood Educator School Supply Tax Credit The Budget proposes to introduce the new Teacher and Early Childhood Educator School Supply Tax Credit, a 15 per cent refundable credit based on the amount of expenditures, up to a maximum of $1,000, made for eligible supplies purchased on or after January 1, 2016.

The credit is available to eligible educators who are teachers or early childhood educators that hold a valid certificate recognized by the province or territory in which they are employed. The credit cannot be claimed on expenditures claimed under any other provision of the Income Tax Act.

Top Marginal Tax Rate — Further Consequential Amendments On December 7, 2015, the government announced that it will reduce the personal income tax rate in the second bracket from 22 per cent to 20.5 per cent in the 2016 taxation year. A new top tax bracket of 33 per cent on taxable income over $200,000 will be introduced as well.

The Budget proposes consequential amendments further to those already included in Bill C-2 which was tabled on December 9, 2015. These include the following:

  • Personal services business income earned by corporations will be subject to a 33 per cent tax rate, up from the previous rate of 28 per cent;
  • A reduction of the “relevant tax factor” under the foreign affiliate rules from 2.2 to 1.9;
  • On donations in excess of $200, a 33 per cent donation tax credit will be available to trusts that are subject to the 33 per cent rate on all their taxable income;
  • Excess contributions to employee profit sharing plans will be subject to the 33 per cent tax rate.
  • The above amendments are proposed to take effect in the 2016 taxation year.

Ontario Electricity Support Program

This program, which took effect on January 1, 2016, provides relief to low-income households for the cost of electricity via a monthly credit on a taxpayer’s electricity bill. The Budget proposes to exclude such credits from a taxpayer’s income so that other benefits subject to income threshold tests are not adversely impacted.

Northern Residents Deductions

The Budget proposes to increase the maximum Northern Resident Deduction from $8.25 to $11 per day for each member of a household that resides in a Northern Zone for at least six consecutive months beginning or ending in a particular taxation year. In cases where only one member of a household claims the deduction, the increase is proposed to be from $16.50 to $22 per day.

Taxpayers resident in an Intermediate Zone can only deduct half of the aforementioned amounts.

Mineral Exploration Tax Credit

Eligibility for the Mineral Exploration Tax Credit is proposed to be extended for one year under the Budget. That is, the credit will apply to flow-through share agreements entered into on or before March 31, 2017.

Labour-Sponsored Venture Capital Corporation (LSVCC) Tax Credit

The Budget proposes to reestablish the 15 per cent tax credit for a purchase of shares of a provincially registered LSVCC for the 2016 taxation year and beyond. However, the Budget does not reestablish the tax credit for a federally registered LSVCC; the credit will remain at 5 per cent in 2016 and will be eliminated in 2017.

Taxation of Switch Fund Shares

In general terms, a mutual fund corporation that is a “switch fund” allows its shareholders to exchange their shares for another class of shares in order to change their economic exposure to a different fund of the corporation. The provisions of the Income Tax Act currently deem such an exchange to not be a disposition. The Budget proposes to treat such an exchange after September 2016 as an FMV disposition.

Sale of Linked Notes

A linked note is a debt obligation that provides its holder with a return based on the performance of an index or reference asset. The underlying index or reference asset is normally unrelated to the business activities of the linked note issuer.

Investors that hold link notes as capital property have used a strategy whereby they sell their linked notes in advance of their maturity in order to get capital gains treatment on any appreciation as opposed to fully taxable deemed interest. The logic behind this strategy is that there is no deemed interest accrual rules that govern prescribed debt obligations because the maximum amount of interest is not determinable at the time of the sale. That is, interest can only be accrued and included in income when the amount becomes determinable, which is usually very near to maturity.

The Budget proposes to amend the prescribed debt obligation provisions to deem any gain on the sale of linked notes after September 2016 to be interest income.

For more information on how the budget changes impact on you or your business, please contact your McCay Duff advisor.

Tax Time: 2016 Rate Changes

AUTHOR: Trevor Smithers, CPA, CMA

Last month Federal Finance Minister Bill Morneau issued a Notice of Ways and Means Motion that implemented a number of tax changes which were promised in the Liberal partyplatform:

  • Effective January 1, 2016, the federal personal tax rate on income between $45,283 and $90,563 will decrease from 22 per cent to 20.5 per cent and the tax rate for income over $200,000 will increase from 29 per cent to 33 per cent Charitable Donations made after 2015 that exceed $200 will be eligible for a tax credit rate of 33% to the extent the individual has income that is subject to the new 33% personal income tax rate
  • The 2016 Tax Free Savings Account contribution limit will drop back to $5,500 effective January 1, 2016 and will be indexed thereafter Canadian-controlled private corporation (CCPC) investment income surtax will be increasing from 6 2/3% to 10 2/3%, raising the overall tax on investment earned in a CCPC by 4 percentage points, for taxation years ending after December 31, 2015 (pro-rated for taxation years straddling this date)
  • Part IV tax rate for corporations will be increasing from 33 1/3% to 38 1/3%, for dividends received after 2015
  • The dividend refund rate on taxable dividends paid by a corporation will be increasing from 33 1/3% to 38 1/3%, for taxation years ending after December 31, 2015 (pro-rated for taxation years straddling this date)

For more information on how these changes impact you or your business, please contact your McCay Duff advisor


AUTHOR: Trevor Smithers, CPA, CMA

Just around the corner a series of new tax rules kick in that will impact the taxation of trusts and estates. These new rules will result in significant changes to existing and future tax planning arrangements. The current rules allow estates, testamentary trusts and grandfathered inter-vivos trusts indefinite access to the same graduated tax rates as an individual taxpayer. This often results in a lower overall tax liability where trust beneficiaries have access to more than one set of graduated rates.

The new rules come into effect January 1, 2016. With the exception of Graduated Rate Estates (GRE) and Qualified Disability Trusts, all testamentary trusts including estates as well as grandfathered inter-vivos trusts will now be taxable at a flat rate equal to the top federal personal tax rate. Additional changes include a mandatory December 31 year-end, quarterly instalment requirements, and no access to the $40,000 AMT exemption. The ability to retain and tax income inside a trust will only be allowed to the extent that losses are realized or carried forward. The loss carry-back provisions of subsection 164(6) of the Income Tax Act, which are widely used to reduce estate taxes, will now be restricted to those estates designated as a GRE. Finally, income and capital gains arising from the deemed disposition of trust assets upon the death of the life tenant of certain life interest trusts will now be included in the income of the deceased individual and taxed in the terminal tax return and not the trust.

Graduated Rate Estates (GRE):

As noted above, these changes will not apply to GRE’s and Qualified Disability Trusts. A GRE is an estate that arose upon the death of an individual. It qualifies as a GRE if no more than 36 months has passed since the date of death. The GRE is considered a testamentary trust for tax purposes. These trusts will have access to graduated tax rates, a $40,000 AMT exemption, and will not have to pay tax instalments for the period it remains as a GRE. If the estate is not wound up within 36 months of death, it loses its GRE status at which point the estate will then be taxed at the top marginal tax rate. Only an estate can qualify as a GRE and it must be designated as such in its first post 2015 year-end income tax filing.

Items to Consider:

  • Trustees will have some additional compliance requirements resulting from the new rules. As noted above, new and existing GREs will need to be designated as such in the first T3 Trust tax filing after December 31, 2015. While GREs will be able to file using a non-calendar year end, non-GREs and other testamentary trusts having non-calendar year-ends will be required to file a stub period tax filing in order to comply with the mandatory calendar year-end.
  • In circumstances where individuals may have set up multiple wills with differing executors and residual beneficiaries, it will be important to review the wills to ensure that the desired tax planning objectives can still be achieved with the ability to name only one estate as a GRE.
  • Going forward, will planning resulting in multiple testamentary trusts being created strictly to access the graduated tax rates will no longer be possible. However a discretionary testamentary trust that is used as an income splitting device still has merits. Furthermore, testamentary trusts still offer a number of non-tax benefits, such as independent control and management over the capital from beneficiaries who may be minors or spend thrifts, or possibly to shield trust assets from the beneficiary creditors.
  • Life Interest Trusts will be impacted by the new changes. Take for example a spousal trust where the life interest beneficiary (the surviving spouse) has subsequently remarried. Under the old rules, the spousal trust was deemed to have disposed of its’ property upon the death of the surviving spouse and the resulting capital gain was taxed inside the spousal trust. The spousal trust would pay the tax and the net assets distributed to the residual beneficiaries, typically being the children from the first marriage. Under the new rules, the deemed capital gain will now be taxed in the deceased individual’s estate. The assets that could be liquidated to pay the deceased’s tax liability are still in the spousal trust. The spousal trust cannot pay the tax of the life beneficiary since this would taint that estate and its GRE status. Difficulties could arise where the spousal trust and deceased estate’s residual beneficiaries are not the same parties.
  • Also, effective January 1, 2016, there are new donation rules for gifts made by will which will provide greater flexibility to the executors in terms of the timing and location of the claim. For non-GREs charitable donations can only be claimed in the first five years of the estate whereas GREs have several different options for claiming the donation including taking the credit as part of the terminal tax filing. Also, only a GRE can take advantage of the zero capital gains inclusion rate for an in-kind donation. All non-GREs will be taxed on the capital gain that arises from the disposition of the in-kind asset.

In light of these significant changes we recommend that you revisit your wills to determine their impact with your current tax planning arrangements. Please don’t hesitate to contact your McCay Duff representative to discuss your particular situation in further detail.

Beware of new telephone scams


The following article appears originally on the CRA website and was posted originally on June 10th, 2015.

The Canada Revenue Agency (CRA) is noting an increase in telephone scams where the caller claims to be from the CRA but is not, and is asking Canadians to beware—these calls are fraudulent and could result in identity and financial theft.

Some recent telephone scams involve threatening taxpayers or using aggressive and forceful language to scare them into paying fictitious debt to the CRA. Victims receive a phone call from a person claiming to work for the CRA and saying that taxes are owed. The caller requests immediate payment by credit card or convinces the victims to purchase a prepaid credit card and to call back immediately with the information. The taxpayer is often threatened with court charges, jail or deportation.

If you get such a call, hang up and report it to the Canadian Anti-Fraud Centre.

These types of communication are not from the CRA. When the CRA calls you, it has established procedures in place to make sure your personal information is protected. If you want to confirm the authenticity of a CRA telephone number, call the CRA by using the numbers on its Telephone numbers page. The number for business-related calls is 1-800-959-5525. The number for calls about individual concerns is 1-800-959-8281.

To help you identify possible scams, use the following guidelines:

The CRA:

  • never requests prepaid credit cards;
  • never asks for information about your passport, health card, or driver's licence;
  • never shares your taxpayer information with another person, unless you have provided the appropriate authorization; and
  • never leaves personal information on your answering machine or asks you to leave a message containing your personal information on an answering machine.

When in doubt, ask yourself the following:

  • Is there a reason that the CRA may be calling? Do I have a tax balance outstanding?
  • Is the requester asking for information I would not include with my tax return?
  • Is the requester asking for information I know the CRA already has on file for me?
  • How did the requester get my email address or telephone number?
  • Am I confident I know who is asking for the information?

The CRA has strong practices to protect the confidentiality of taxpayer information. The confidence and trust that individuals and businesses have in the CRA is a cornerstone of Canada's tax system. For more information about the security of taxpayer information and other examples of fraudulent communications, go to

Canadian Anti-Fraud Centre

For information on scams or to report deceptive telemarketing contact the Canadian Anti-Fraud Centre online or toll free at 1-888-495-8501.If you believe you may be the victim of fraud or have given personal or financial information unwittingly, contact your local police service.

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Tax Time

Tax Time

Tax Time

AUTHOR: Trevor Smithers, CPA, CMA

There are legislative and administrative changes which you should be aware of which will impact the filing of your 2014 income tax returns and challenge both current and future estate planning strategies using testamentary trusts.

Bell Aliant Privatization Transactions

On October 3, 2014, BCE announced the successful completion of its offer to purchase all outstanding Bell Aliant publicly held common shares. The privatization of Bell Aliant was completed on November 3, 2014.

This will have tax consequences for Bell Aliant shareholders who held their Bell Aliant shares outside of a registered plan such as an RRSP, RRIF, TFSA or RESP accounts.

If you received cash for the shares then you will either have a capital gain or a capital loss and you will have to report the transaction in your 2014 income tax return.

If you received a combination of cash and BCE shares or strictly BCE shares as part of the privatization transaction then you have the option to file a tax election with the Canada Revenue Agency (“CRA”) to defer any capital gain that you would otherwise be subject to.

The first step is to determine the adjusted cost base (ACB) of your Bell Aliant shares. If the value of the BCE shares and any cash consideration is greater than the ACB of your Bell Aliant shares then you would be eligible to file the tax election to defer the capital gain.

If the value of the BCE shares and any cash consideration is less than the ACB of the Bell Aliant shares then you would have a capital loss and the tax election would not be required.

Some shareholders may choose not to file the election to take advantage of capital losses that have been carried forward from prior tax years or to offset current year capital losses.

To assist shareholders with the filing of the tax election BCE has created an internet tool located here.

Since the tax election is a joint election that requires a signature by BCE, the completed election form must be sent to BCE by January 5, 2015. Once BCE has signed the tax election it will be sent back to you for signature. The tax election must be filed with the CRA by your tax filing due date. This would be April 30, 2015 for most personal tax filers. For self-employed individuals the filing due date for the election is June 15, 2015.

If you have any questions on the Bell Aliant Privatization transaction and how it will impact your 2014 tax return, please contact your McCay Duff advisor.

Foreign Property Reporting Update

Once again the CRA has updated the information requirements for taxpayers who are subject to the reporting of specified foreign property.

The CRA has worked with various interest groups to try to make the latest version of form T1135 more user friendly while still allowing them to accumulate the information that they require to administer the Canadian tax system.

The CRA requires taxpayers who hold specified foreign property to disclose details on these assets if the aggregate cost exceeded $100,000 at any time in the tax year.

Specified property includes assets such as:

  • foreign stocks, mutual funds and bonds held outside of Canada or within a Canadian non-registered investment account;
  • funds deposited in foreign bank accounts;
  • foreign rental properties;
  • other assets that are located outside of Canada (i.e. gold and silver bullion)

The reporting requirements for 2014 and later taxation years are as follows:

For assets held in an account that is managed by a Canadian Registered Securities Dealer (i.e. a broker’s account or discount brokerage account) the following information must be disclosed on a country by country basis for each account that holds foreign securities:

  • the name of the registered security dealer/Canadian trust company;
  • the country where the asset is located (i.e. for shares of Adidas - the country would be Germany; for shares of Microsoft – the country would be the United States);
  • the maximum fair market value of foreign property held during the year on a country-by-country basis – the CRA has indicated that you can use a monthly account statement to determine the maximum value per country during the year;
  • the fair market value at year-end on a country-by-country basis (this would be the December 31, 2014 value);
  • the gross income (or loss) from the assets on a country-by-country basis;
  • the gross gain (or loss) on disposition from the assets on a country-by –country basis

This only covers the information requirements for assets that are held in an account with a Canadian registered securities dealer or a Canadian trust company. Foreign assets that are physically located outside of Canada require additional reporting that usually takes time and effort to accumulate by either the taxpayer or their investment advisor.

The Investment Dealers Association of Canada continues to work on strategies to minimize the effort that needs to be taken by account holders in obtaining relevant information to assist in the preparation of T1135 filings.

As noted above, the T1135 information reporting can be quite onerous and time-consuming. The change for 2014 results in more detailed reporting than 2013 and now must be done on a country by country basis. If you owned specified foreign property during 2014 and you think that you have to file the T1135 form, please contact your McCay Duff advisor for more information.

New Rules for Testamentary Trusts

Starting with the 2016 taxation year, testamentary trusts, estates and grandfathered inter vivos trusts will be taxed at a flat rate equal to the top marginal tax rate.

Other changes include:

  1. All trusts must have a calendar year-end,
  2. All trusts must remit quarterly instalments,
  3. All trusts cannot claim the $40,000 basic exemption when calculating alternative minimum tax.

The above changes do not apply to:

  1. A “graduated rate estate” (“GRE”) which is defined to be an estate that is a testamentary trust, for the first 36 months after the date of death.
  2. A “qualified disability trust” (“QDT”) which is defined to be a testamentary trust with a beneficiary who qualifies for the disability tax credit.

For both of these exceptions an estate must designate itself as a GRE and the trust and a beneficiary must jointly elect for the trust to be a QDT.

Surprises for Estates and Trusts

Taxable capital gains that arise in spouse trusts, joint partner trusts or alter ego trusts on the death of certain individuals will be deemed to be payable by the deceased individual in the year of death. This could be an advantage if the deceased individual’s marginal tax rate is lower than the trust’s top marginal tax rate. However, there appear to be many negative implications as follows:

  1. It initially appears that net capital losses of the trust cannot be carried forward or back to the taxation year of the deemed disposition to reduce the deceased’s deemed capital gain.
  2. Many post mortem tax plans rely on the ability to use capital losses on the wind-up of corporations after the death of the deceased shareholder. These plans may no longer be effective.
  3. If the trust does not permit a distribution to the deceased individual’s estate to fund the tax resulting from the deemed payment of the taxable capital gain, the deceased individual’s other assets will have to be liquidated to fund the tax. This could create inequities if the estate and trust beneficiaries are not the same.
  4. No grandfathering has been provided in the proposals for trusts or estates which currently exist. It may be difficult to change the provisions of these trusts and estates to address inequities that may arise.

Commencing in 2016, there will be more flexibility in the tax treatment of charitable donations made upon an individual’s death after 2015. Donations made under a Will, will now be deemed to have been made by the individual’s estate at the time the property is transferred to a charity. If the donation is made by a GRE, the trustee will have the flexibility to allocate the donation among:

  • The taxation year of the estate in which the donation is made,
  • An earlier taxation year of the GRE,
  • The last two taxation years of the individual.

We recommend that you review your current Wills or the provisions that govern trusts and estates currently in existence to assess the impact these changes will have. Please contact your McCay Duff advisor if you require our assistance with this review.

Eight Tips for Preventing Fraud in Not-For-Profit Organizations

AUTHOR: April Wheeler, CPA, CGA, B.COMM

Many organizations feel that, due to their small size, they are not susceptible to fraud. Unfortunately, this is not true.

Even the smallest of organizations have been, and can be, targets of fraud.

In fact, smaller organizations have disproportionately large losses from asset misappropriation, and are much less likely to recover from a fraud. This is due to the fact that they often employ friends, family and other “trusted individuals,” and rely on trust rather than internal controls to minimize their exposure to fraud. Trust, without verification in the form of internal controls, is ineffective and provides the opportunity for employees to commit fraud.

There are several simple and inexpensive steps that every not-for-profit organization can implement to prevent fraud. They are as follows:

  • Perform background checks on employees – Obtain information on a potential employee from an independent third party. About 15% of employees who commit fraud are repeat offenders.
  • Create an environment where honesty is practiced.
  • Maintain current and accurate accounting records – Accurate accounting records makes hiding fraudulent activity more difficult.
  • Periodically test to determine whether the internal controls are being followed – This lets employees know that others are watching and may deter them.
  • Insist employees take time off and cross-train employees – This will reduce an organization’s reliance on one individual and make it more difficult for an individual to hide fraudulent activities.
  • Physically secure the organization’s premises and assets.
  • Limit access to accounting software – Access should be limited to job functions and include offsite back-ups.
  • Use electronic payments – This will eliminate the use of cheques and reduce the likelihood of an individual passing a fraudulent cheque through the system.

Fraud and employee theft will always be concerns for an organization. Nothing can eliminate the possibility of an organization being a victim of fraud. However, a few simple policies and controls can minimize this risk by reducing the opportunities for fraud to be committed.

To Buy or To Lease – That is the Question

Author: Paul Spare, CPA, CA

One of the questions that we get asked a lot by clients is whether it is better to lease or to buy a vehicle. The tax consequences are quite different depending on what option you choose:


If you purchase a vehicle then you can only claim a percentage of the vehicle’s cost as capital cost allowance (i.e. depreciation) each year. The first year you are entitled to claim 15% of the cost and in subsequent years you are entitled to claim 30% of the remaining portion of the unamortized cost. For certain vehicles that the Canada Revenue Agency considers “luxury vehicles” the amount that you can capitalize and amortize is capped at $30,000.

If you financed the purchase, you are able to claim the interest costs subject to an annual maximum amount that is set out in the tax legislation. The annual maximum interest deduction is the lesser of the interest paid for the year and $10 multiplied by the number of days for which interest was payable in the year (i.e. a maximum of $3,650 unless it’s a leap year!). The other benefit to owning the vehicle is that if you are a GST/HST registrant you may be able to claim some or all of the Input Tax Credits (ITC) when you purchase the vehicle.


Some people prefer to lease vehicles so that they can enjoy a new vehicle every couple of years. The lease payment is claimed as a deduction (again subject to annual limits set by the government – currently $800 + Sales Tax). If you are a GST/HST registrant the GST/HST that is included in the monthly lease payment can be claimed on that period’s HST return as an ITC.

While one option may result in a higher tax deduction in the first year or two – the overall tax impact will usually be pretty close under each option.

There are other factors that come into play in the lease vs. buy decision:

  • How many kilometres do you expect to put on the vehicle each year? Lease agreements specify the number of kilometres that can be accumulated over the term of the lease and there are penalties for excess kilometres driven. If your life is spent commuting and you drive over 20,000 kilometres a year then a lease may not be cost-effective due to those penalty provisions.
  • How much do you want to spend on a monthly basis? Usually, lease costs are much lower than monthly payments on a car loan.
  • Will the vehicle be purchased or leased by a company for use by an employee? A taxable benefit would have to be reported by the employee each year for their use of the vehicle. The amount if the benefit depends on the value of the vehicle, the kilometres driven each year and the mix of business vs. personal use by the employee.
  • For some, the bottom line is whether you want to own something outright in the end or whether you like something new to drive every couple of years.

What is your preference? Lease or buy?

Internal Controls Even the Smallest Not-for-profit Can Implement

Author: April Wheeler, CPA, CGA, B.COMM

We’ve all heard the term “internal control.” Simply put, it involves anything that controls risks to an organization, by ensuring reliable financial reporting, and compliance with laws, regulations and policies.

Implementing suitable internal controls in larger not-for-profit organizations with active boards is seldom an issue. For smaller organizations with only a few staff, or that lack an active board, however, it can be far more challenging, if not almost impossible.

So what can these organizations do to reduce the opportunities for fraud and errors?

The first and most important step is to set the “tone and the top.” This is the ethical atmosphere created by an organization’s leadership, be that a board, a single management executive or group of executives, or both.

How do you set the tone at the top? By creating, implementing and adhering to policies and procedures that are ethical and promote integrity. A board of directors and management team that adheres to the organization’s policies and procedures will set an example of the behaviour expected from employees. However, if a member of the board or management consistently makes an exception for themselves, they are setting an unethical tone at the top.

Most employees will mirror the behaviour and actions of their superiors. Thus, it is important to set the correct tone. Members of the board or management who are seen not providing receipts for reimbursement, failing to use timesheets, or failing to get approval for travel expenses, are highlighting opportunities for their employees to defraud the organization.

Thus, it is important to emphasize the importance of ethics and controls at staff meetings and demonstrate that compliance is expected of everyone – board members, management and staff – at all times.

Succession planning: Don’t blame the taxman if you failed to prepare

Two Sales Assistant At Vegetable Counter Of Farm Shop
Two Sales Assistant At Vegetable Counter Of Farm Shop

Author: Paul Spare, CPA, CA

Your retirement plan is to sell your business.

Fair enough. But will the proceeds be sufficient to support your desired standard of living in retirement?

This is my last post on the subject of succession planning. In my previous post, I presented some of the considerations and options that pertain to passing on a business to heirs that may be children or other family members.

Selling to a third-party outside of family can be more challenging. As my colleague Rick Evans has written before, some businesses, and some industries, simply do not lend themselves to a profitable sale that will support a retirement plan.

A long-term planning horizon is crucial to determine the best way to unlock value from your business, and put all the necessary pieces in place. This takes years – I can’t emphasize that enough.

If you do have a worthy asset to sell …

There are a few different paths to take.

One option is to sell shares in an incorporated business rather than its assets. This will result in a capital gain or loss, only half of which is taxable to the business owner. The after-tax proceeds can be used at your discretion to invest or as income.

Another option is to have the operating business owned by a holding company, and then sell assets or shares of the operating business. This results in sale proceeds being taxed within the corporation. Different tax implications kick in depending on the type of asset being sold, and whether the income generated is active business income or investment income.

Either way, the owner ends up with a corporation that holds the after-tax proceeds of the sale. The choice is to then either close down the corporation or continue it. Both options open up a host of new possibilities in terms of how to derive monetary value, create income and minimize the tax implications for the owner and their heirs.

Look out for the fine print of capital gains

Regardless of what path you take, always be mindful of potholes that could trip up your eligibility to claim the capital gains exemption.

A well-designed succession plan can save you well above $100,000, depending on your individual circumstances.

Over the course of its existence, however, your business can acquire a number of assets that may throw a possible claim for the capital gains exemption offside. For example, only 10 per cent of your business’s assets can be non-active assets. These include surplus cash that may be in GICs or term deposits, and any investment properties that don’t contribute to the growth or operation of the business.

It may take time to liquidate or transfer these assets to ensure that you qualify for the capital gains exemption.

Time is not on your side

Successfully navigating all this requires a trusted team of advisors to maximize your net after-tax proceeds. Otherwise, you could find yourself paying tens, or even hundreds of thousands, of dollars in excessive tax.

As I said in my first post on the subject of succession planning, a robust and comprehensive succession plan is a three-to-five-year exercise, regardless of how you want to exit your business. Take a moment to consider that. If you want to retire in 2019 or 2020, the time to start planning is now.

Succession planning: Keeping it in the family, without starting a feud

Author: Paul Spare, CPA, CA

In my previous post, I emphasized the importance of long-term and comprehensive planning to ensure that a business succession is as trouble-free as possible, and will leave the most after-tax dollars in your pocket.

When that succession plan involves passing the business to a child or other family member, a host of considerations come in to play. Many of these have nothing to do with dollars and cents. Interpersonal relationships can quickly complicate, even sink, any business transaction.

But, regardless of who is involved, this is a business transaction. The best way to minimize the potential for conflict and financial loss is to develop a plan that addresses all of the possible tax, income and legal issues that can arise.

Cap your expectations

In a majority of cases, business owners are accustomed to pulling whatever available cash from the business they want, for whatever purpose, at their discretion. But that cash is an asset of the business, and your successor(s) may have something to say about how it’s expended.

Your successor(s), on the other hand, must appreciate that you will likely maintain some ownership in the business. This stake may represent a source of passive retirement income on which you will depend for a number of years. They are obligated to ensure the business decisions they make don’t put that in peril.

It’s vital for both parties to appreciate that a relationship of give, take, and mutual consideration and respect, must reign for years, if not decades, to come.

Then cap your tax liability

The next step is to consider how this transfer of ownership will take place. Will it be in the form of a gift, a sale at fair market value or an estate freeze? There is no one right answer. Each scenario has its own considerations and implications for you and your successor(s). This is where you need that group of trusted tax, legal and financial advisors to help you clarify your needs and identify the most beneficial course of action.

One approach is an estate freeze. In most instances, the owner will exchange their existing common shares for fixed-value preferred shares. The company then issues common stock to the successors. This allows the current owner to “freeze” the value of their shares and their ultimate tax liability, while continuing to control the asset. The successors, meanwhile, can benefit from (and be liable for the taxes payable on) the increase in value of the asset after the date of the estate freeze.

To decide which course of action is best, everyone must be at the table. Clear and honest communication among all your business’s stakeholders and advisors is crucial.

And remember – if your intent is to pass the business on to your children, you must have a plan in place now, regardless of how far off that transition may be. Tragedy strikes when we least expect it. Take the time to sort out your will and consider the role that family trusts can play in your estate planning.

In my final post on the subject, I’ll discuss the options and challenges related to a third-party sale.

7 reasons why an up-to-date valuation is an asset to your business



Many business owners only obtain a valuation of their business when they are considering a sale, or reacting to an unforeseen situation. But there are benefits to always having an up-to-date valuation in hand. It’s a proactive measure that ensures you are acting from a position of strength when the unexpected does happen.

Here are some reasons why you should have a current valuation of your business:

  1. You are ready if you receive a purchase offer for your business that has to be acted on quickly.
  2. Value changes over time. A business valuation helps you to understand, on a timely basis, the impact of variables such as changes in the economy, your industry, your expense structure and staffing.
  3. A business valuation will highlight areas of strength and weaknesses in your business relative to your industry peers.
  4. Further to points 2 and 3, this gives you the insight you need to take appropriate corrective action.
  5. You understand your capacity to borrow if business opportunities present themselves.
  6. Your business can be quickly put up for sale if family tragedy or other misfortune demands a fast exit.
  7. A valuation can help separate individual goodwill and business goodwill.
  8. Individual goodwill is transferable, if you recognize it and take the time to substitute other people with similar skills and experience into your role.

An up-to-date business valuation prepares you for when opportunities present themselves, helps you understand how to create value in your business and reveals changes in the value of your business over time.

Most importantly, it gives you the power of choice, and protects you from becoming a victim of circumstance when the unexpected happens. An up-to-date business valuation allows you to act in your best interests, as well as those of your family, employees, customers and fellow shareholders.

How do you pass the torch without getting burned?

How do you pass the torch without getting burned?

SuccessionPlanning A succession plan that leaves the most dollars in your pocket is years in the making

By Paul Spare Two years ago, the Canadian Federation of Independent Business found that about 54 per cent of its members planned to exit their businesses within five years, but only nine per cent had any formal written exit plan.

Around the same time, KPMG, on behalf of the Canadian Association of Family Enterprise (CAFE), found that only 11 per cent of 322 family businesses surveyed had succession plans for their CEOs.

This is a problem, and one that only worsens with each passing year. Considering that most of these owners and chief executives are aging baby boomers, the proportion of them nearing retirement age is growing by leaps and bounds. In its 2012 report, CAFE emphasized how this lack of planning is a root cause of why only 30 per cent of family businesses survive to the second generation and only 15 per cent reach the third.

As a business owner, you must ask yourself three questions:

  1. “When do I want to retire?”
  2. “How am I going to exit the business?”
  3. “What must I do between now and retirement to ensure I exit the business in a manner that allows me to maintain my standard of living?”

A robust and comprehensive succession plan is a three-to-five-year exercise. Take a moment to consider that. If you want to retire in 2019 or 2020, the time to start planning is now.

Why? Consider these questions:

  • First of all, whom are you going to pass the business on to?
  • If it’s children, are they willing and ready? What will it take to prepare them to pick up the ball and run with it?
  • Do you want to sell to a third-party? If so, who? Where do you find potential buyers? What shape must your business be in to solicit the best price?
  • How do you determine the value of the business? This of course requires a professional valuation, the domain of my colleague, Rick Evans.
  • In either scenario, how do you engage in the process in a manner that does not cause under stress or uncertainty for key employees, partners or clients?
  • Most importantly, how do you exit the business in a manner that maximizes your financial gain without leaving you stung with a huge tax bill?

These are all considerations that emphasize the need to begin the process years out, with the assistance of trusted legal and tax planning advisors.

But the devil is in the details. The options that are available to maximize your proceeds from the business, and reduce your tax burden as much as possible, differ depending on whether your intent is to pass the torch to the next generation, or sell to a third-party.

In my next post, I’ll discuss the options and challenges related to preparing to hand off the business to family, before looking at the scenario of a third-party sale.

When tragedy struck, these shareholders were prepared



In my last post, I presented a case study about Howard, the owner of a successful manufacturing company.

When Howard passed away without a suitable buy-sell clause to ensure an orderly transfer of his ownership interest, all of the business’s stakeholders were caught in the crossfire. These included the other shareholders, his wife and his children.

Today, I have another case study that ends on a more positive note. Why? Because these shareholders did it right at the outset.

Chris and Tom were equal partners and shareholders in an electrical contracting company. When they commenced operations, they instituted a shareholders agreement that included a clear and comprehensive buy/sell clause.

This clause stipulated that, should one shareholder, or his estate, want to sell or transfer their shares in the company, the other shareholder had the right of first refusal. This ensured that no shares would be sold to an unknown third party. It also ensured there would be a market for selling or transferring the shares.

The clause that leaves nothing to chance A key element of a sound buy/sell clause is a defined mechanism for determining how the purchase price of the business’s shares will be determined. In this instance, Chris and Tom had agreed to use the adjusted book value of the company, plus goodwill. Goodwill was defined as one year of the company’s average earnings before interest, taxes, depreciation and amortization (EBITDA).

In addition, the buy/sell clause stated that:

  • The purchase price would be calculated by an independent valuation professional.
  • The valuation report would be paid for by the company.
  • The purchase price would be paid for with life insurance policies on the shareholders that listed the company as the beneficiary.
  • In the event there was not enough insurance in place, the remaining balance of the purchase price would be paid in 60 equal instalments of principal and interest.
  • To insure the partners remained adequately insured to cover the purchase price, a valuation of the company was performed every two years.

Put to the test Tragedy struck after Chris and Tom had been in business for over 20 years.  Tom lost his son in an automobile accident.

The loss had a profound impact on Tom. His focus on, and performance in, the business deteriorated to the point where Chris was bringing in most of the contracts and managing most of the projects.

The partners agreed it was time for Tom to exit the business. Because they had a clear and understandable buy/sell clause, Chris was able to quickly buy Tom’s shares. The only point of contention was the value of some of the machinery and equipment, and they agreed to defer to a valuation by a professional appraiser.

A year after the buyout, Chris decided he didn’t want to be a business owner any longer. With the advice of a valuation expert, Chris spent the next two years marketing the business to potential buyers, and ultimately sold it to a general contractor that had decided to open an electrical contracting division. As part of the deal, Chris was hired as vice-president of that division.

Tom got the quick exit he needed, under fair and equitable terms. Chris, at 52 years old, was able to finance his retirement, budget for his kids’ post-secondary education, and land a new job with the general contractor that paid $200,000 a year.

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In the absence of a buy/sell clause, everyone gets caught in the crossfire



In my previous post, I talked about what is arguably the most important, but often most overlooked, component of a shareholder agreement – the buy/sell clause. This mechanism establishes the ground rules for the orderly transfer of an ownership interest.

I’ve seen a lot of unfortunate situations in my work—shareholders who pass away, become ill, succumb to substance abuse, endure personal crises that derail their business focus, or simply fail to fulfill their obligations to their business partners. Without a well-written buy/sell clause, any of these scenarios can cause undue hardship and financial loss for all of a business’s stakeholders.

Take Howard, for example. He is the successful owner of a manufacturing company that makes products using composite technology. He owns 40 per cent of the shares in the company. Three other shareholders each hold 20 per cent.

Howard and his wife have three children. His wife doesn’t work, and depends on the income generated from Howard’s ownership interest in the company.

Then Howard dies, without a buy/sell clause in the shareholder agreement. This leaves his wife with his 40 per cent ownership interest in the company, but she has no intention of actively participating in the operations the company. She needs the proceeds from the sale of Howard’s 40 per cent interest to provide for herself and her children.

The other shareholders don’t want some unknown party acquiring Howard’s shares, but they do not have the funds available to buy Howard’s interest. They also have the added challenge of finding someone with Howard’s expertise to take over his role with the company.

Fifty per cent of the company’s revenue comes from a single customer. Seeing how uncertain the future of the company has become, this customer is considering taking its business elsewhere.

Without this customer, the company’s value could plummet. Employees could be out on the street. The potential loss of value may result in Howard’s wife having to sell her shares for a fraction of what they were worth when Howard was alive.

How much value will Howard’s wife lose? How will this impact her ability to provide for herself and her children?

Now, if there had been a proper buy/sell agreement, it would have:

  • Provided a mechanism for how and when the remaining shareholders could purchase Howard’s shares.
  • Defined how the other shareholders could have funded a purchase of Howard’s shares to ensure liquidity for his wife. Funding is often accomplished through a life insurance policy.
  • Ensured the shareholders would have agreed on the method that would be used to determine the purchase price of the shares.

In my next post, I’ll recount the outcome of a more positive scenario, in which the shareholders did it right from the outset, to their mutual benefit.

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A buy/sell clause helps prevent business divorces from getting messy



Business partners set up shop with the best of intentions. It’s a relationship that must be built on mutual trust and respect. But no matter how strong a personal or professional relationship is at the outset, shareholder conflicts and other events may occur that can affect the continuity of the business operations. A mechanism and process that establishes the ground rules for the orderly transfer of the businesses shares caused by unforeseen conflicts or events is important. A suitable buy/sell clause in the shareholder agreement that is understood by the parties is an important tool to ensure this orderly transfer and the continuity of the business operations.

A buy/sell clause is often the most neglected feature of a shareholder agreement, either because it’s set forth in an arbitrary and confusing manner, or because it’s neglected altogether. It can be an uncomfortable subject to raise when fellow shareholders are close friends or family, since it‘s analogous to asking a fiancé to sign a pre-nuptial agreement. However, the lack of a buy/sell clause often results in disputes, costly legal proceedings, long delays in transferring of ownership and disruption in the business operations.

The buy/sell clause provides a mechanism for how and when the remaining shareholders can purchase a departing shareholder’s shares due to a triggering event, such as a shareholder retirement, disability, death or dispute. It also defines how that purchase will be funded to ensure liquidity. Funding is often accomplished through a life insurance policy.

Most importantly, it forces shareholders to agree on the method that will be used to determine the purchase price of the shares Here are some examples of methods used to determine price in a buy/sell agreement:

  • Price is determined by a business valuator.
  • The parties to the agreement negotiate a fixed price and update annually.
  • The price is determined by a formula.
  • Price is determined by a shotgun clause.
  • Price is determined by the right of first refusal.

Each of the methods has its advantages and disadvantages. To determine which is in the best interests of all shareholders, a business valuator should be consulted during the drafting of the buy/sell clause.

In my next two posts, I’ll feature two case studies that put this in perspective.

The first will explore the legal nightmare that arose in a business when a majority of shareholders wanted to force the rest to accept a buyout offer, without the guidance of a buy/sell clause. The second will examine a business that did it right from the outset, and how this ultimately played out to the benefit of all shareholders.