What are the tax consequences of selling a small business I invested in to my son?

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By Julie Cazzin with Andrew Dobson

Q: I need to promote our franchise to my oldest son. The revenue yr after yr is $75,000 to $100,000, however gross sales are greater than $2 million. We don’t personal the constructing; we lease it from a big firm. We solely personal the gear inside and the signage. I want to promote it to my son on the truthful market worth I personally consider it to be, so the Canada Revenue Agency won’t come again someday sooner or later and request extra capital good points taxes. I assess it to be value $400,000 to $450,000. The switch of the franchise rights to my son is free from the franchise proprietor and the gear is about $250,000. Will the CRA be OK with this or will there be issues? What do you recommend I do? — Larry

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FP Solutions: Transferring or promoting a enterprise to kids is usually a technique for enterprise house owners to perform intergenerational wealth switch. Since franchisees are sure by franchise agreements, that’s possible the most effective place to begin reviewing any restrictions relating to a sale. A franchise settlement may dictate the phrases the franchisee should adjust to earlier than promoting their franchise. For instance, many franchises require pre-approval of recent consumers/franchisees with the intention to enable the franchise to switch to that new possession.

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A enterprise proprietor contemplating the sale of their enterprise ought to contemplate acquiring a enterprise appraisal to evaluate the worth previous to the sale. Chartered enterprise valuators (CBVs) are consultants on this discipline and will guarantee your enterprise is correctly valued, which is necessary for a sale involving a non-arm’s-length member of the family.

CBVs will verify gadgets akin to gear depreciation, gross sales, monetary ratios (for instance, worth to ebook and worth to earnings), goodwill and stock turnover, amongst different gadgets. They could additionally evaluate your enterprise to related, lately appraised companies to pretty worth your enterprise.

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You made the purpose that figuring out your truthful market worth for the enterprise can be necessary for tax functions and that may be a appropriate assertion. You can’t promote your enterprise or one other asset for a low worth to a member of the family to scale back tax. The disposition is mostly thought of to be accomplished at truthful market worth when transferring or promoting property to a non-arm’s-length recipient akin to a member of the family.

Acquiring a valuation can guarantee you might be approaching this a part of the transaction pretty. It may additionally are available helpful in the event you determine to promote your enterprise to a 3rd occasion or in case your son decides to not take over the enterprise.

Your shares may qualify for the lifetime capital gains exemption, which may permit you to have a capital acquire of as much as $1,016,836 upon the sale of shares in your enterprise and qualify for an offsetting deduction on your taxes. This might make the sale proceeds tax free.

With the intention to qualify for the exemption, your enterprise must go a number of checks, together with:

• The certified small enterprise company check: Your corporation have to be a Canadian-controlled personal company.
• The holding interval check: You will need to have held the shares for at the very least 24 months previous the sale.
• The truthful market worth asset check: 24 months previous to promoting your enterprise, at the very least 50 per cent of its truthful market worth have to be used within the energetic enterprise. Additionally, on the time of sale, 90 per cent of the truthful market worth of the property will need to have been used within the energetic enterprise.

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There are a couple of further issues about how a enterprise is taxed upon its sale. For instance, you could have insurance coverage insurance policies, a car or accrued financial savings you need to extract from the enterprise previous to the sale which will end in tax payable to you.

Or your purchaser, whether or not your son or in any other case, may provide to purchase the property of the enterprise, akin to gear, goodwill and the lease, as an alternative of the shares. In case your company sells the property of the corporate, the sale wouldn’t be tax free and the corporate would pay capital good points tax.

Even when your share sale qualifies for the lifetime capital good points exemption, there is perhaps a must pay the choice minimal tax (AMT). The AMT is levied primarily based on a system and might apply in conditions the place somebody’s revenue tax payable is just too low in any given yr, however they’d important revenue that was topic to preferential tax remedy.

Be aware that the AMT is a type of recoverable tax that may be carried ahead and claimed sooner or later to scale back tax in a subsequent yr. It might not apply to your scenario particularly, however it’s good to at the very least point out it for others within the context of this dialogue.

Andrew Dobson is a fee-only, advice-only licensed monetary planner (CFP) and chartered funding supervisor (CIM) at Goal Monetary Companions Inc. in London, Ont. He doesn’t promote any monetary merchandise in any way. He could be reached at adobson@objectivecfp.com.

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