Bill C-208 Aims to Level the Playing Field for Intergenerational Business Transfers

On June 29, 2021, the Private Member’s Bill C-208 received Royal Assent. The event garnered a little media attention, but you could be forgiven if you missed it – after all, there’s been a lot going on. However, if you are the owner of a family business, Bill C-208 is worth your attention. The Bill represents a significant positive change in favour of family business succession in Canada.
Previously, a long-standing anti-avoidance rule in the Income Tax Act (ITA) treated intergenerational transfers of a business as a dividend rather than a capital gain. This meant that if you were planning on selling your business, you would be better off from a tax standpoint selling it to an unrelated party that within your family! Bill C-208 finally changes that rule to allow owners access to the lifetime capital gains exemption when selling to family members. The result should be a more level playing field which encourages, rather than discourages intergenerational family business transitions.

When qualified farm property like orchards and vineyards are in play, the lifetime capital gains exemption can represent up to $250,000 in tax savings per individual. For example, consider a husband and wife that own the shares of a company that operates a winery, and the shares are worth $3 million. If they sell the shares of the company to an unrelated party, they can shelter up to $1.78 million with their lifetime capital gains exemptions (assuming they have not previously used any). However, under the old rules, if they were to instead sell their shares to their daughter and son-in-law and the selling price was to be funded from the company’s cashflow, the entire $3 million would be taxed as a dividend. Not only do dividends carry a higher tax rate than capital gains, the parents would not be able to use their lifetime capital exemption on the sale. The new legislation corrects this inequity, allowing the proceeds to be treated as a capital gain and the lifetime capital gains exemption to be used.

The Bill that passed this summer has some significant shortcomings – “loopholes you can drive a truck through” according to some observers. Strategies have quickly surfaced suggesting ways the legislation can be used to “surplus strip” – removing excess cash from a company tax free. Not surprisingly, the government doesn’t like this. They have announced their intention to bring forward legislative amendments to the ITA that honour the spirit of Bill C-208 while safeguarding against any unintended tax avoidance loopholes that may have been created by Bill C-208. In the meantime, the Canada Revenue Agency has the tools and ability to reassess and apply anti-avoidance provisions where a transaction does not meet the object, spirit, and purpose of the ITA. Clearly, the intent of the new legislation is to permit intergenerational family business transfers the same tax treatment as arm’s length sales in situations where there is a legitimate transfer of operational and legal control of the company.

The Government has indicated these forthcoming amendments to Bill C-208 will address the following:

• The requirement to transfer legal and factual control of the corporation carrying on the business from the parent to their child or grandchild;
• The level of ownership in the corporation carrying on the business that the parent can maintain for a reasonable time after the transfer;
• The requirements and timeline for the parent to transition their involvement in the business to the next generation; and
• The level of involvement of the child or grandchild in the business after the transfer.
The draft legislative amendments will be brought forward for consultation. Final legislative proposals would be introduced in a bill and apply as of the later of either November 1, 2021, or the date of publication of the final draft legislation.
Over the past few months since the legislation was announced, we have had time to do some analysis and discuss the new legislation with many of our family business clients. Here are some key points to consider:
• Taxpayers must provide the Canada Revenue Agency (CRA) with an independent assessment of the fair market value of the shares transferred and an affidavit signed by the taxpayer and by a third party attesting to the disposal of the shares. Business owners planning to use this legislation to affect a sale of their business to a family member should be prepared to have the transaction reviewed by CRA. Careful documentation will be critical.
• The company needs to be a qualified small business corporation as defined in the ITA. This basically means substantially all the fair market value of the company’s assets are employed in an active business. Inactive assets like investments and excess cash can put the company offside.
• The company’s shares should have enough value to take advantage of the shareholders’ lifetime capital gains exemption. If the company has limited value, tax savings may not justify the cost of planning and executing the transfer.
• Do the current owners have a need for substantial cash from the company in their retirement? Is the business capable of generating this cashflow? If the answer is no, or not sure, then delaying the transfer and using more traditional tax planning may be a better option.
• Bill C-208 tax planning should be a consideration in situations where there is a documented succession plan in place and a legitimate intention to transfer full operational and legal control of the business within a reasonable period of time.

Farming business owners often have a strong affinity for their land and a desire to transfer their businesses to the next family generation. Some of the oldest multi-generational businesses in the world are wineries. In the past, the tax cost of selling within the family forced many business owners to look at a third-party sale, where lifetime capital gains exemptions could be used. The introduction of Bill C-208 is a significant positive step towards making the intergenerational transfer of Canadian family farms a more affordable and viable option.

SOURCE: Geoff McIntyre, accountant – MNP