If you plan on selling your business to someone outside your family, there are several strategies available to minimize tax from the sale, many of which allow you to claim the capital gains exemption to reduce taxes.
Selling shares versus assets – One of your most critical decisions is whether to sell your business shares or your business assets. This is because the capital gains exemption can only be claimed on capital gains resulting from the sale of business shares, not from the sale of business assets.
If your prospective purchaser is interested in the shares, make sure that your shares will qualify for the exemption. To qualify, 90 per cent or more of your business assets should be active assets used in your day-to-day business activities at the time of the sale. Assets such as investment portfolios, which are not used in day-to-day business activities, are considered non-active. Purifying your shares by converting non-active assets into active assets or by moving non-active assets out of your company can help get you above the 90 per cent threshold, if required.
If your prospective purchaser would be interested in the shares, but your business is not currently incorporated, consider doing so in advance to take advantage of the capital gains tax exemption.
If your prospective purchaser is only interested in purchasing your business assets, not your shares, consider asking for a higher price to compensate for the additional tax that you will likely incur from losing the exemption.
There are many other strategies to help minimize tax on the sale of your business. Here are just a few:
Make a charitable gift – Consider using some of the sale proceeds to make a charitable gift, either directly to a registered charity, or to your own charitable foundation in the year of sale. The donation tax credits can help reduce the tax on the capital gain from the sale of the business.
Establish an estate freeze – If the sale is not imminent and you expect the value of the business to increase, consider reorganizing the company (e.g. estate freeze) so that some or all of the future capital gain can accrue to other family member shareholders. This can have the effect of multiplying the use of the capital gain exemption if the shares qualify.
However, keep in mind that the future capital gain allocated to the family members would no longer belong to you.
Pay yourself a retiring allowance – Another strategy to consider before selling your company is paying yourself a retiring allowance. If you had years of service prior to 1996, then all, or a portion of, the retiring allowance can be transferred to your Registered Retirement Savings Plan (RSP) on a tax-deferred basis without affecting your unused RSP deduction limit. However, if it’s a share sale and you continue working for the purchaser, the payment will not qualify as a retiring allowance.
Do it right – The sale of your business and the strategies you choose to minimize taxes need to be carefully evaluated before being implemented. Speaking to a qualified advisor will help ensure that you are making the right choices and following the right procedures in order to qualify for tax benefits.
Kirbey Lockart is an investment advisor with RBC Dominion Securities. This article is provided for information purposes only. Please consult with a professional advisor before implementing a strategy.