What are the tax penalties of promoting a small enterprise I invested in to my son?

Article content material

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 honest market worth I actually consider it to be, so the Canada Income Company is not going to come again someday sooner or later and request extra capital positive aspects taxes. I assess it to be price $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 counsel I do? — Larry

Article content material

Article content material

FP Solutions: Transferring or promoting a enterprise to youngsters generally is a technique for enterprise homeowners to perform intergenerational wealth switch. Since franchisees are certain by franchise agreements, that’s possible the most effective place to begin reviewing any restrictions relating to a sale. A franchise settlement might dictate the phrases the franchisee should adjust to earlier than promoting their franchise. For instance, many franchises require pre-approval of recent patrons/franchisees with a view to permit the franchise to switch to that new possession.

Article content material

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

CBVs will verify objects similar to gear depreciation, gross sales, monetary ratios (for instance, value to guide and value to earnings), goodwill and stock turnover, amongst different objects. They might additionally evaluate your online business to related, not too long ago appraised companies to pretty worth your online business.

Article content material

Article content material

You made the purpose that figuring out your honest market worth for the enterprise can be vital for tax functions and that could be a right assertion. You can’t promote your online business or one other asset for a low worth to a member of the family to cut back tax. The disposition is usually thought of to be completed at honest market worth when transferring or promoting belongings to a non-arm’s-length recipient similar to a member of the family.

Acquiring a valuation can guarantee you’re approaching this a part of the transaction pretty. It might additionally are available in helpful for those who resolve to promote your online business to a 3rd social gathering or in case your son decides to not take over the enterprise.

Your shares might also qualify for the lifetime capital positive aspects exemption, which might assist you to have a capital acquire of as much as $1,016,836 upon the sale of shares in your online business 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 online business must cross a number of exams, together with:

• The certified small enterprise company check: Your online business should be a Canadian-controlled non-public company.
• The holding interval check: You could have held the shares for no less than 24 months previous the sale.
• The honest market worth asset check: 24 months previous to promoting your online business, no less than 50 per cent of its honest market worth should be used within the energetic enterprise. Additionally, on the time of sale, 90 per cent of the honest market worth of the belongings should have been used within the energetic enterprise.

Article content material

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

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

Even when your share sale qualifies for the lifetime capital positive aspects exemption, there is likely to be a must pay the choice minimal tax (AMT). The AMT is levied primarily based on a formulation and might apply in conditions the place somebody’s earnings tax payable is simply too low in any given yr, however they’d important earnings that was topic to preferential tax therapy.

Be aware that the AMT is a type of recoverable tax that may be carried ahead and claimed sooner or later to cut back tax in a subsequent yr. It could not apply to your state of affairs particularly, nevertheless it’s good to no less than 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 by any means. He could be reached at [email protected].

Article content material