Start planning for the sale of your company as soon as possible. Years before putting it on the market, you should; get an appraisal to determine the potential selling price identify, identify the drivers that increase company value, and come up with a plan of action to reduce tax liability.
Capital gains exemption.
Determining whether a sale of shares qualifies for an exemption can be complicated. However, one rule of thumb is that the corporation must be operating an active business and that at least 90% at its assets, at the time of sale, are directly related to the business. There are things that you can do prior to the sale to make sure that your business qualifies for the capital gains exemption. If there is a holding company between the operating company and the ultimate owner, the sale could only qualify if the individual sold shares of the holding company that in turn owns the operating corporation.”
There is usually a 24-month hold rule to claim the capital gains exemption. The exception is an entrepreneur selling an unincorporated business who first transfers the business to a corporation and then sells the shares of that corporation. A seller who accepts a balance de vente for part of the business purchase price, when the business will be paid for over a number of years, should be able to claim a capital gains reserve. This is so that the timing of the obligation to pay income tax on the portion of proceeds not yet received is matched with the actual receipt of cash. The capital gains reserve rules require a minimum of 20% of the capital gain to be recognized in the year of sale and the four following years. Keep in mind that the test in the reserve rules is not that an amount has not actually been received, but that it is not yet payable. If the note that a vendor takes back is payable on demand without restrictions, no reserve would be available. Why? The Canadian Revenue Association (CRA) would argue the whole amount is immediately payable.
Buyer’s should give careful consideration to using a newly incorporated corporation to acquire the shares of a target corporation. If you buy the founder’s shares that had an initial subscription cost of one hundred dollars, you can only get that amount back tax-free from the target corporation even though your cost to purchase the shares was at their current market value.
Ensuring interest deductibility on debt borrowed by an acquisition company to acquire shares is also an issue that requires analysis before proceeding. Proper planning may ensure the holding corporation will not incur interest expense in circumstances where it has no income against which to offset the expense.
Contact Mergex to make an appointment and learn more about this information.