Updated: Jul 23, 2021
By Anna M. Cook, Partner, Cox & Palmer
Anyone who has been through the sale of a business will know how reassuring it is to have solid legal and accounting advice throughout the process. Done right and with advance planning, the transaction can be structured in such a way as to achieve the goal of selling, while at the same time facilitating significant tax savings for the selling shareholder.
One good example of this is ensuring the sale constitutes a sale of “qualified small business corporation shares” (“QSBC Shares”) as defined in the Income Tax Act (the “ITA”). Simply put, when a shareholder that is an individual sells QSBC Shares, they may be able to claim lifetime capital gains exemption (“LCGE”). This means paying much less personal tax on the proceeds of that share sale.
Certain legislated tests in the ITA need to be satisfied so that the designation “QSBC Shares” can apply. In part, these tests require (i) that the business be incorporated (more specifically, it must be a “small business corporation,” as defined in the ITA); and (ii) unless certain specific requirements are met, the selling shareholder must have held shares for 24 months prior to the sale.
This can be an obvious hurdle in the case of a new or young business. Often the owner is operating as an unincorporated sole proprietor/partner or, even if they did incorporate, the business has not been incorporated for a sufficient period of time.
However, with proper planning, there may be ways around these pitfalls. Depending on the circumstances, if the selling shareholder was operating the business prior to the date of incorporation (which is quite common with new business start-ups) then it may be possible to avail of certain sections of the ITA to effectively roll back the clock on the required 24-month threshold. Essentially, assets used in the pre-incorporation business can be transferred into a corporation in such a way that it is exchanged for shares of equivalent value, thereby enabling the shares to qualify as QSBC Shares if the other tests are met. Even if the shareholder has a sale arranged for an unincorporated venture, it may be possible to incorporate immediately prior to the sale. Completing the transfer of the assets used in the pre-incorporation business to the new corporation as set out above means that these would still qualify as QSBC Shares.
The analysis and tax planning associated with this process are complex, but that preparation can offer a powerful tool that would result in substantial tax savings for the seller. Here’s the catch: this type of corporate reorganization, and the necessary analysis and tax planning by the business’s accounting and legal advisors, must be completed prior to finalizing a share sale and sometimes well in advance of the contemplated share sale. Therefore, anyone selling a new business would be well advised to get proper tax planning advice and get it early. To quote British economist John Maynard Keynes, “The avoidance of taxes is the only intellectual pursuit that still carries any reward.”
Anna Cook is a partner at Cox & Palmer,
St. John’s, where her practice focuses
primarily on corporate and commercial,
employment and labour, and privacy
law. She handles matters including
commercial financings, commercial real
estate purchases, financing and leasing,
share sales, asset sales, mergers and
acquisitions, and joint ventures. She has
extensive experience acting for clients
ranging from small-business start-ups
to large multinational and international
corporations and has advised businesses at every stage of the business cycle. A strong supporter of women in business, Anna is an active NLOWE member and a
presenter for the NLOWE Entrepreneur
of the Year Awards.