How is the Lifetime Capital Gains Exemption used when selling a business?
There are two methods to sell a business:
- An asset sale where you keep control of the shares of a company, but sell the assets owned by the company including equipment, receivables, payables, inventory and goodwill.
- A share sale where you sell your shares in the company. All the assets and liabilities associated with the company go along with the shares. You retain nothing of the company.
An asset sale and a share sale will both generate taxable income.
With an asset sale if the sale proceeds are greater than the cost, the company will have a capital gain generated inside the company. Half this gain will be taxable and half can be paid out to the shareholders tax free through the capital dividend account. The remaining proceeds from the sale that do not qualify for the capital dividend will be taxed in the hands of the shareholder as they draw them out of the company. Please note that sale of property, plant and equipment may trigger recapture or terminal loss (see FAQ 165—What is a Schedule 8?).
With a share sale the shareholder will have a capital gain generated in their personal hands. However, if the company is a Qualified Small Business Corporation (QSBC) and the shareholder is an Individual Canadian resident then the shareholder may be able to claim an exemption.
A QSBC is a Canadian Controlled Private Company where:
- At time of sale, 90% of the fair market value of the assets are used in an active business carried on in Canada.
- Throughout the period of 24 months prior to sale, this ratio has to be more than 50%.
- Shares have to be owned by the same individual for 24 months prior to the sale.
The current Lifetime Capital Gains Exemption is $835,716 for 2017 and it is indexed every year for inflation. This basically means that at the high rate of personal tax the exemption saves approximately $199,000 in taxes.
If you plan to sell a company, please contact us below to determine the most appropriate structure so as to benefit from the Lifetime Capital Gains Exemption. There are other rules and qualifications that apply and should be reviewed in this planning.