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For many family-owned enterprises, the dream is clear—passing a thriving business onto the next generation. This transition is more than an inheritance; it is a legacy, a symbol of shared values, and a route to sustained success across generations. However, the process of intergenerational business transfers has long been fraught with financial and regulatory challenges, often resulting in significant tax burdens when transferring ownership.
Enter the revised Section 84.1 of Canada's Income Tax Act (ITA), which offers family business owners new tax-efficient pathways to fulfill these dreams. Whether you're a first-generation founder looking to retire or a second-generation executive eager to take the reins, understanding these new tax rules is critical to a seamless transition.
In this article, our trusted advisors at Crowe MacKay explain the importance of Intergenerational Business Transfers, the new rules and conditions, and how to go from theory to practice.
Family businesses are a pillar of the Canadian economy, generating roughly 50% of the country's private sector gross domestic product (GDP). Yet, studies reveal that many family businesses have been unsuccessful in transitioning to the second generation, while even fewer continue into the third. Why? Challenges often arise in balancing financial considerations, succession planning, and family dynamics.
Until recently, the Canadian income tax system worked against family business owners choosing to sell or transfer the family business corporation to a corporation owned by their child(ren), leading many to contemplate selling to third parties instead. With updates to ITA Section 84.1, however, family businesses finally have practical solutions to retain ownership within the family without facing an unfair tax result.
This change isn't just about new tax rules—it's a fantastic opportunity for family businesses to grow and succeed across generations.
The updated ITA Section 84.1 introduces flexibility and fairness to the transfer process, explicitly addressing challenges with tax during ownership changes from one generation (G1) to the next (G2). Here's what you need to know about the two primary transfer types available under the new updated rules:
Careful preparation and planning are essential to leverage these new tax-efficient options. The ITA changes outline five specific conditions families must meet before, during, and after the initial transfer of the company’s shares.
For clarity, note that under these rules, a "child" can include an adult niece, nephew, grandniece, and grandnephew.
To ensure genuine transfer of control:
Additionally:
The remaining transition process enforces the following timelines:
An added condition applies to a GBT: The parent(s) must divest any remaining debt or equity tied to QSBC or FFFC shares within ten years from the disposition date.
During and after the transition period:
Bob and Susan jointly own a business, Opco, which operates two distinct divisions:
Ownership details:
Separate the businesses into two entities: Flooring Inc. and Blinds Inc.
Sell one business to each of their adult children:
Challenge: Sally and John lack the funds to purchase the businesses outright. To complete the transfer, they plan to use the businesses' operational income to repay loans issued.
Solution: Use the new intergenerational transfer rules to structure the sale efficiently, leveraging the Lifetime Capital Gains Exemption (LCGE).
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The businesses are separated into two corporations:
Bob and Susan's ownership structure:
Sally creates a new corporation, Sallyco, to purchase Flooring Inc.
Conditions:
Compliance with IBT rules ensures:
John creates a new corporation, Johnco, to purchase Blinds Inc.
Conditions:
Compliance with GBT rules ensures:
Sally (Year 3):
John (Year 10):
While the new tax rules lay a solid foundation, every family business is unique. The Three Circle Model offers a framework to guide decision-making balancing:
By proactively addressing challenges—such as power struggles, valuation disagreements, or succession disputes—family businesses can align all three groups' emotional and financial interests.
To understand the Three Circle Model better, read our article on family business succession planning.
Change is challenging, but with the revisions to ITA Section 84.1, the opportunity to secure your business's future has never been more achievable. Planning effectively for an intergenerational transfer requires strategic conversations today to avoid complications tomorrow.
At Crowe MacKay, our team of tax advisors specializes in guiding family businesses through transitions. Contact us to discuss your unique challenges, discover tax-efficient solutions, and ensure that your legacy endures for future generations.
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