As a business lawyer, I work with entrepreneurs and
business owners on a daily basis. For the vast majority of them, their most
valuable asset is their corporation. For obvious reasons, their number one
priority is on income earning activities, such as generating sales. Attention
to such activities is, of course, a practical necessity and a hallmark of
success. However, the utilization of a proper corporate structure to reduce tax
exposure is, unfortunately, often overlooked. Remember, as the old saying goes,
“It is not what you make, but what you keep.” Business owners must realize that
a proper structure can save a substantial amount of taxes, which will greatly
benefit themselves, their family and their business. Further, the costs of
implementing these types of structures are usually easily justified by the
annual tax savings. The purpose of this article is to explain to you the
benefits of a corporate reorganization and to help you determine if you are a
good candidate for implementing such structure.
What is a Corporate Reorganization?
A Corporate Reorganization is a legal way to reorganize and
restructure your company so that you can reap the rewards of the existing tax
regulations - often resulting in annual tax savings in amounts upwards of tens
of thousands of dollars. Why do I need a Corporate Reorganization? As a
business lawyer, I sometime see situations where businesses are set up with a
certain structure to take advantage of particular circumstances that were
relevant at the time they were set up. But as we all know, situations change
over time. It is common that the conditions which resulted in a particular
corporate structure no longer reflect what is best for the corporation or its
owners, resulting in a somewhat cumbersome and inefficient structure,
particularly from a tax point of view. Every day, I work with companies, who
are in this situation and help them to reorganize and restructure their
affairs, which, in turn, allows them to save a substantial amount of money.
There are many situations where a corporate reorganization
is recommended, such as, corporate tax planning, creditor proofing or in order
to reach other organizational goals. Sometimes this process will even involve
the transfer of assets on a tax-deferred basis from one entity to another, or
from one corporation to another. Every person and corporation is different.
Accordingly, when analyzing whether or not a corporate reorganization is
appropriate, it is important to investigate all relevant options thoroughly.
Given the complexities and technicalities of such an undertaking, it is highly
recommend one obtains qualified profession help. This ensures the business
owner obtains proper advice and implements the best possible plan to meet the
their objectives.
Based on my experience, there are many reasons companies
may need to be reorganized. Some of the common reasons, which may apply to you,
are as follows:
(1) To implement a proper share structure; Having the
right structure allows flexibility in terms of tax planning. While you are only
required, by law, to have one class of shares (common), it is always best to
provide for the possibility of additional classes of shares. This allows a
corporation the flexibility to modify its ownership structure, should the need
arise. For example, in order to save on taxes, you might want to take advantage
of income splitting available to eligible family members. Or you might need to
issue a new class of shares in order to attract new investors. Or you might
want to make use of a family trust, discussed further below.
(2) To establish and implement a Family Trust; If you
have children and/or are married, serious consideration should be given to
owning the shares of your business through a discretionary Family Trust. The
benefits of a family trust include: (a) Income splitting: A well-structured
family trust allows for the splitting of income earned by the trust among the
various beneficiaries; (b) Funding of children’s education at a potential tax
rate of 15.5% instead of 48% (a savings of up to $34,500 per $100,000 of profit);
and, (c) Multiply uses of the one-time capital gains exemption, should you sell
your company, allowing the $750,000 capital gains exemption to be multiplied by
the number of family members who are beneficiaries of the trust, without direct
share ownership.
(3) To create holding companies for tax and
creditor-proofing reasons; Generally, a “holding company” is a corporation
which is placed between a business, the “operating company”, and the individual
shareholder. One of the foremost principles of Canadian taxation is that
dividends are allowed to flow on a tax-free basis from one corporation to
another. Accordingly, after-tax profits accumulated in the operating company
can be distributed to the holding company as tax-free dividends. Funds transferred
to the holding company in this manner are better protected from claims made by
any of the operating company’s creditors. No one ever expects to face such a
claim; however, the reality is that, for a variety of different reasons,
creditor claims are made on a daily basis. As a result of these claims, many
unprepared business owners have seen a lifetime of accumulated profits vanish,
often due to a single claim. It is for this reason that use of a holding
company is especially attractive to companies where the risk of lawsuits or
litigation is significant. Additionally, if necessary, funds held in a holding
company can be lent back to the operating company on a secured basis in order
to retain protection from creditors.
(4) To carry out and implement a succession plan
through an estate freeze (by using Section 86 of the Income Tax Act). For
business owners, tax minimization is central to any plan. One popular tool is
an estate freeze. An estate freeze is part of a corporate reorganization that
allows business owners to freeze the value of the company at today's value. As
a result, future increases in the value of the company can be transferred to
the benefit of children, key employees or a trust. Such a freeze allows
business owners to minimize capital gains tax due under the deemed disposition
rules upon their death and provides a deferral mechanism of taxes. A freeze in
combination with the creation of a discretionary trust can provide a flexible
framework that can lead to further tax minimization.
If you think you are a candidate for a corporate
reorganization or would like to know more, please feel free to contact me. I
can advise on whether a corporate reorganization is required and the benefits
of such reorganization, as well as manage its implementation and execution. As
you can imagine, a corporate reorganization has many tax and legal implications
for companies and their owners, so anyone considering it should seek
professional help.
For more information on the above, call and/or email
our Founder & CEO and Business Lawyer, Hugues Boisvert at
hboisvert@hazlolaw.com or +1.613.747.2459 x 304
