Intergenerational Tax
Budget 2023 proposes amendments to the previously enacted Bill C-208 which generally allows for intergenerational transfer of a business. The proposed amendments will restrict the rules in section 84.1 of the Income Tax Act to ensure only genuine intergenerational transfers take place. These are additional conditions that must be met to qualify for the private member’s bill than was enacted previously.
A genuine intergenerational transfer would include a transfer of shares of a corporation (the “Transferred Corporation”) by an individual (other than a trust) (the ”Transferor”) to another corporation (the “Purchaser Corporation”) where the following conditions are met:
- The shares of the Transferred Corporation are “qualified small business corporation share" or a "share of the capital stock of a family farm or fishing corporation" (both as defined in the Income Tax Act), at the time of the transfer.
AND
- The Purchaser Corporation must be controlled by one or more persons each of whom is an adult child of the Transferor.
Budget 2023 also proposes two alternatives that taxpayers may choose between to implement a genuine intergenerational transfer:
1) An immediate transfer (three-year test) based on arm’s length sale terms.
OR
2) A gradual transfer (five to ten-year test) based on traditional estate freeze characteristics.
Both alternatives would reflect the hallmarks of a genuine intergenerational business transfer. Outlined below are the relevant condition required under each alternative.
Immediate Business Transfer (Three-Year Test)
1. Transfer of Control of the Business: Parent immediately transfers majority of voting shares and factual control, and a transfer of the balance of voting shares within 36 months.
2. Transfer of Economic Interests in the Business: Parent immediately transfers a majority of the common growth shares, and transfer the balance of common growth shares within 36 months
3. Transfer of Management of the Business: Parent transfers management of the business to their child within a reasonable time based on the particular circumstances (with a 36-month safe harbour).
4. Child Retains Control of the Business: Child (or children) retains legal control for a 36-month period following the share transfer.
5. Child Works in the Business: At least one child remains actively involved in the business for the 36-month period following the share transfer.
Gradual Business Transfer (Ten-Year Test)
1. Transfer of Control of the Business: Parent immediately transfers the majority of voting shares and a transfer of the balance of voting shares within 36 months.
2. Transfer of Economic Interests in the Business: Parent immediately transfers a majority of the common growth shares, and transfers the balance of common growth shares within 36 months. In addition, within 10 years of the initial sale, parent reduces the economic value of their debt and equity interests in the business to:
a. 50% of the value of their interest in a farm or fishing corporation at the initial sale time, or
b. 30% of the value of their interest in a small business corporation at the initial sale time.
3. Transfer of Management of the Business: Parents transfer management of the business to their children within a reasonable time based on the particular circumstances (with a 36-month safe harbour).
4. Child Retains Control of the Business: Child (or children) retains legal control for the greater of 60 months or until the business transfer is completed.
5. Child Works in the Business: At least one child remains actively involved in the business for the greater of 60 months or until the business transfer is completed.
Common growth shares are defined to include any shares other than shares of a specified class as defined in subsection 256(1.1) of the Income Tax Act. The meaning of "child" for these purposes would include grandchildren, step-children, children-in-law, nieces and nephews, and grandnieces and grandnephews.
Where the above proposed conditions are met, an extended ten-year capital gains reserve is available to the Transferor.
Budget 2023 also proposes relieving rules for subsequent arm's length share transfers or upon the death or disability of a child as well as to remove the limit on the value of the shares transferred.
The Transferor and child (or children) would be required to jointly elect for the transfer to qualify as either an immediate or gradual intergenerational share transfer. The child (or children) would be jointly and severally liable for any additional taxes payable under section 84.1 of the Income Tax Act by the Transferor. The limitation period for reassessing the Transferor's liability for tax that may arise on the transfer is extended by three years for an immediate business transfer and by ten years for a gradual business transfer.
These changes will apply to transactions that occur on or after January 1, 2024.