Family-owned businesses passed down from generation to generation may be impacted by new tax regulations and legislation shortly.
On Tuesday, June 29, the Royal Assent was granted to Bill C-208. BC-208 is a private member’s bill that was introduced with a clear objective in mind. Taxpayers who transfer ownership of their business often face a financial disadvantage. It amended the Income Tax Act (ITA) to offer tax advantages to households that would like to give their children ownership interests in small businesses or family farms and fishing organizations, among other things.
‘It is feasible to use the provisions of Bill C-208 to allow inter-generational transfers of shares in small businesses, family farms, and fishing groups as early as reasonably possible,’ as per the press release issued by the Finance Department on July 19, 2021.
According to a press release published on June 30, the Department of Finance announced its desire to delay implementing these amendments until January 1, 2022, citing concerns with the bill’s language.
Amendment of the Law
With the support of all of the main political parties, the Houses of Parliament approved legislation. Canadian Chamber of Commerce, Canadian Federation of Agriculture, and Canadian Federation of Independent Business have all voiced strong objection to the news release, which has received extensive coverage in the media and other organizations.
According to the News Release, Finance will propose modifying legislation to “clarify” that the changes in the bill would take effect on January 1, 2022, rather than January 1, 2021. It is because the law does not specify an “application date.”
Some observers decided that the news release represents financing by delaying legislation transgressing legislative and federal norms. However, this is not the case. The legislation became law and came into effect when Royal Assent was granted. The Federal Interpretation Act states that “where no law provides for the date of start, the date the Act begins is the day of approval.”
Practical obstacles will also be overcome if legislation to be proposed, passed, and implemented amended. As of the time of writing, both Houses of Parliament is on summer vacation. There is a strong probability that the present government will call an election in the fall of 2021, meaning there can be no further parliamentary sessions.
Even though Parliament is sitting and the government is introducing modifying legislation, Canada presently has a minority government, which needs the cooperation of other major parties to become law.
Given that members of the main opposition parties (and a few members of the ruling party) voted in favor of the legislation itself, it seems doubtful that the government will get the necessary support to alter the law. Possibly, future majority administrations will be the only ones with authority to pass legislation that would fundamentally change the current status of the legal system.
Technical Shortcomings
Within the law, there are several technical shortcomings, including:
- There are significant drafting flaws in the current version of the legislation. Therefore, it will need to be revised in the coming years to address issues that have been identified. It is important to ensure that its overall standards are maintained. If there are no procedural limitations in effect at the time, it makes absolutely no difference.
- As a private member’s bill in the House of Representatives, the idea was introduced to the chamber. Some may argue that it fills the legislative vacuum created by the Department of Finance’s inability to act promptly. This meant that Finance neither developed it nor adequately scrutinized it by the department’s policy and legislative specialists. Tax laws are usually drawn out with the most excellent care and accuracy; this law has not been exposed to such rigors that inevitably lead to technical flaws.
- The LCGD “grouping” in new section 84.1(2.3) appears not to be effective, for the sake of subsection 84.1(2)(e) only – which is not the relevant provision for calculating the deductive amount. − The formula in 84.1(2.3)(b) does not work to obtain the intended outcome. This can be achieved by ensuring that the child or grandchild holds only nominal-value shares without good equity in the purchasing company. There is no need for the child or grandchild to be involved in the company; much alone have real operational management of the buying corporation.
- The new regulations may allow excess transactions that may not constitute genuine intergenerational transfers. A person may be entitled to arrange the selling of shares using the “LCGD” deduction, enabling the person to extract funds from a company with little or no tax payable. And this may be done in a non-armed situation, which would have previously translated tax-free (or tax-reduced) capital gains into taxable dividends. The requirements outlined in the new subsection 84.1(2.3)(a) seem to relate to a company’s death, a legal impossibility.
- Even though it is unlawful for the purchasing business to sell the acquired shares for five years following a purchase, this would not prevent the child or grandchild who manages the purchasing company from selling its holdings in the acquiring company during that time. It does not prevent the buying company from selling the underlying business that it has bought once the transaction is completed.
What Are the Next Steps in the Process?
Many taxpayers may see the new legislation as a chance to engage in transactions that are not actual intergenerational transfers, which may lead to a spike in the number of transactions that have taken place. The ultimate objective is to save money on income taxes. On the other hand, these taxpayers may find themselves in a difficult financial situation in the future. What will happen if the inevitable modifying law impacts these retroactive transactions? Retroactive legislation is neither undesirable nor uncommon in today’s political climate.
The government’s June 30 News Release might be seen as an unambiguous declaration or threat to introduce soon retroactive future modifying legislation. At the same time, taxpayers who are lawfully involved in intergenerational transfers of family companies should not be penalized for taking action due to adequately enacted and enforced laws just because of the timing of their actions.
It is recommended that such transactions be structured not to provide a relief valve if retroactive legislation is applied to even those legal transactions driven by taxes in the future. For instance, it could be advisable for the parent transferor to consider re-sale in the form of preferred high-paid capital shares (“PUC”) rather than a promissory note.