Part of the ideal of Canada is that it is a country of fairness. Whether you agree of not, there is a process in place that allows anyone to challenge an existing law or statute based on the constitution.
That’s exactly what’s happening with Bill C-208 right now. It’s a case that is being watched by many private business owners, who don’t feel there is fairness in the under tax code. More specifically, owners of small businesses are currently taxed at a higher rate when selling that business to a family member than they would be in selling it to a 3rd party.
Our CLU Comment article looks into the state of the case which may effect some of our business owner clients.
Drilling Down on Bill C-208
by Kevin Wark
Bill C-208, an Act to amend section 84.1 of the Income Tax Act to provide an exception for
intergenerational transfers of shares, has been on quite the roller-coaster ride. While the bill’s bumpy
journey is not quite over, there now appears to be greater clarity about its current and future status.
Section 84.1 is an anti-avoidance provision, originally intended to prevent the stripping of surplus from a corporation on a tax-free basis by using the lifetime capital gains exemption. A reduction in the paid-up
capital of the shares received on the transaction (or substituted shares) and/or a deemed dividend can result
depending on the transactions involved.
The deemed dividend rules in section 84.1 will generally apply where an individual shareholder (the taxpayer)
disposes of shares in a Canadian-controlled private corporation to another corporation controlled by a
person with whom the taxpayer does not deal at arm’s length (for example, a spouse, sibling, or child). Other
rules will apply where a family member acquires the shares directly from the business owner, and the capital
gains exemption is claimed on the sale.
The following example illustrates the negative impact that section 84.11 can have on the transfer of shares in a private business:
Ms. Smith owns 100% of the common shares of XYZ Co., and those shares qualify for the lifetime capital
gains exemption. Jane, her daughter, has been working in the business for a number of years and is interested in
acquiring her mother’s shares when her mother retires. The shares are independently valued at $1.2 million, with a nominal ACB and paid-up capital.
Ms. Smith is subject to a 47% tax rate on dividends from XYZ Co. and a 26% tax rate on capital gains.
Ms. Smith is entitled to claim a lifetime capital gains exemption in respect of $800,000 of capital gains on the
disposition of the shares.
Ms. Smith is approached by an arm’s-length corporation (“ArmCo”), which is interested in purchasing all her
shares for $1.2 million. Should Ms. Smith accept this offer, she would realize a capital gain of $400,000 after utilizing the lifetime capital gains exemption. The resulting tax liability would be $104,000, leaving her
with after-tax proceeds for her retirement of just under $1.1 million.
Ms. Smith advises Jane of the offer, and Jane indicates that she is prepared to match the terms. Jane plans to
set up a corporation to purchase the shares in XYZ Co. as she’s been told this would allow her to use the future
profits of XYZ Co. to finance the buy-out on a more tax-efficient basis.
However, after speaking with her accountant, she learns that using this structure will result in the application of section 84.1, with the result that Ms. Smith will be deemed to have received a taxable dividend of $1.2 million (rather than a capital gain). As a consequence, Ms. Smith will not be entitled to claim the lifetime capital gains exemption and will have a resulting
tax liability of $564,000. By selling her shares to Jane, Ms. Smith’s after-tax proceeds will be reduced by more
than 40% from $1.1 million to $636,000.
To avoid the application of section 84.1, Jane could directly purchase the shares from her mother. In this case, Ms. Smith’s tax bill would be equal to what would arise on the sale of the shares to ArmCo. However, section 84.1 results in Jane not having “hard basis” for $800,000 of the purchase price for the shares (the
amount of Ms. Smith’s capital gains that are offset by
the lifetime capital gains exemption). This means that
although Jane has paid $1.2 million for the shares, she
cannot implement steps to get a return of $800,000 of
that investment tax free (unlike ArmCo, which will be
able to do so).
If Jane needs to borrow the $1.2 million to pay for the
shares of XYZ Co., XYZ Co. would need to distribute
more than $1.9 million in non-eligible dividends to
Jane to enable her to net $1.2 million after tax to repay
the loan. This represents a 60% increase in cash flow
requirements in relation to an arm’s-length purchaser,
since XYZ Co. could otherwise flow profits to a
corporation controlled by ArmCo on a tax-free basis to
repay the amount owing to Ms. Smith.
As demonstrated by the example, section 84.1 either penalizes Ms. Smith or Jane, as compared to an arm’s-
length sale, through the imposition of significantly higher taxes on Ms. Smith if the shares are sold to a
corporation controlled by Jane, or significantly higher costs to Jane in financing the purchase where the shares
are purchased directly.
The bill was supported by small business organizations and other stakeholders, including the Conference for Advanced Life Underwriting (CALU), and subsequently by a majority of members in the House of Commons and Senate on the basis that it would facilitate bona fide intergenerational business transfers by retiring business owners, supporting family ownership of small businesses and continuity of those businesses in local communities.
Bill C-208 Amendments to Section 84.1
After much debate and discussion, Bill C-208 received Royal Assent on June 29, 2021. This was a significant
accomplishment given the opposition this bill faced from the federal government in both the House of Commons
and the Senate. The opposition was based on Finance Canada’s concerns that the bill could facilitate corporate
surplus stripping arrangements, resulting in the loss of significant tax revenues.
Those supporting Bill C-208 (including CALU) recognized that while it was not perfect, the bill successfully addressed the existing unfair tax treatment
caused by section 84.1, which penalized business
owners who wished to transfer their business to
children and grandchildren. Proponents of the bill
noted that, despite promises to modify section 84.1,
the federal government had failed to act in addressing
these inequities. It was further suggested that to the
extent there were concerns with Bill C-208, Finance
Canada could make the appropriate legislative changes
once the bill had been enacted.
Below are the various requirements in the bill that must
be satisfied to qualify for the exemption from section
84.1, and certain concerns with the amendments that
have been identified by Finance Canada and the tax
a) Criteria to qualify for the exception
The new rules will deem the selling shareholder
(the “taxpayer”) and the purchaser corporation “to
be dealing at arm’s length” (and not subject to the
anti-avoidance rules in section 84.1) in the following
a. the shares being sold (referred to as the “subject
shares”) are qualified small business corporation
shares or shares of the capital stock of a family
or fishing corporation;2
b. the purchaser corporation is controlled by one
or more children3or grandchildren of the
taxpayer who are 18 years of age or older; and
c. the purchaser corporation does not dispose
of the subject shares within 60 months of their
Discussion: Finance Canada officials have expressed
several concerns with the broad nature of the
exception to section 84.1. For example, the purchaser
corporation is not required to control the subject
corporation after the sale. Thus, it is possible for the
taxpayer to directly (by retaining shares in the subject
corporation) or indirectly control and profit from the
business being sold, which arguably conflicts with
the goal of facilitating the retirement of the business
owner by passing the family business to the next
generation. As well, there is no requirement that the
children/grandchildren be engaged in the business
b) Sale of subject shares by
purchaser corporation within 60 months
As noted, the exception to section 84.1 is not available
where the purchaser corporation disposes of shares
in the subject corporation within 60 months from the
date of purchase. In these circumstances, except where
the disposition was “by reason of death,”5
for the purposes of paragraph 84.1(2)(e) the following rules
The requirement that the purchaser corporation not
dispose of the shares of the subject corporation within
60 months of their purchase may also be considered
problematic by Finance Canada, as it does not restrict
the children/grandchildren from selling shares in
the purchaser corporation (which owns the subject
shares) to non-arm’s-length purchasers. It is also not
clear what the effect would be if there was a partial
disposition of the subject shares in the 60-month
a. the exception to section 84.1 contained in
paragraph 84.1(2)(e) is deemed to have never
b. the taxpayer is deemed, for purposes
of section 84.1, to have disposed of the
subject shares to the person who acquired
them from the purchaser corporation; and
c. the 60-month period applicable to the sale
under b) above is deemed to have begun when
the taxpayer disposed of the subject shares
to the purchaser corporation.6
Discussion: Both the underlying intent of this
provision and related tax implications are unclear.
Arguably, if the shares of the subject corporation are
sold back to the taxpayer (or persons related to the
taxpayer) within the 60-month period, it is possible
that the original transaction was not entered into for
bona fide purposes, and section 84.1 should have
applied to the original sale. However, if the sale
of the shares is to an arm’s-length third party, this
should not trigger adverse tax consequences to the
taxpayer, as section 84.1 would not have applied had
the taxpayer originally sold those shares to the new
Also, as previously noted, this provision
does not apply where the shares in the purchaser
corporation are sold. Greater drafting clarity (or an interpretation of these provisions by the Canada
Revenue Agency (CRA) would be helpful to ensure
that the taxpayer and other parties to the sale
transaction understand the tax impact of a future sale
within the 60-month period.
c) Reduction in capital gains exemption
An additional provision appears to be intended to
reduce the taxpayer’s access to the lifetime capital
gains exemption (presumably only for the purpose of
a sale transaction that falls under the new exemption
to section 84.1) where the subject corporation has
taxable capital employed in Canada exceeding
Discussion: There is a technical drafting issue in
relation to the interaction of this provision with
other sections of the Act.9
It is also important to
note that while a taxpayer may lose the ability to
claim the lifetime capital gains exemption where the
subject corporation’s taxable capital employed in
Canada exceeds $10 million (assuming the provision
is appropriately modified), any gain arising on the
sale of those shares could continue to be treated as a
capital gain, rather than being deemed to be a taxable
dividend, by virtue of paragraph 84.1(2)(e).
d) Sale reporting requirements
The new legislation requires the taxpayer to provide
the CRA with an independent assessment of the
fair market value of the subject shares, as well as an
affidavit signed by the taxpayer and by a third party
attesting to the disposal of the shares, where the
taxpayer is relying on the exemption to section 84.1.
Discussion: There are several interpretative and
compliance-related issues with this requirement. For
example, does the party making the independent
assessment need to be an accredited valuator or
would an assessment by the taxpayer’s accountant
be sufficient? What type of valuation information, if
any, needs to be provided to back up the independent
assessment? Who can be a “third party” for purposes
of the affidavit? When does the assessment and
affidavit need to be provided to the minister and how?
What are the implications if a taxpayer does not
provide the independent assessment or affidavit (or it is
deficient in any respect)?
As is evident from the above discussion, while Bill C-208
deals with the main concern of tax inequities under
section 84.1 that arise on the sale of shares in a private
corporation to children and grandchildren, there is a
great deal of ambiguity for business owners in terms
of how the “anti-avoidance” rules apply in certain
circumstances. In turn, the bill appears to open the
door to certain transactions that would permit business
owners to benefit from capital gains treatment while still
retaining a significant interest in the business.
Implications for Small Business
Owners and Their Advisors Bill C-208 took effect as of June 29, 2021 (Royal
Assent), and applies to business transfers taking place
on or after that date. A Finance Canada press release
has confirmed that the federal government plans
to bring forward amendments to the Income Tax Act
that would “honour” the spirit of Bill C-208 while
safeguarding against any unintended tax avoidance
loopholes that may have been created by the bill.
As well, Finance Canada has stated that future
amendments are not intended to be retroactive in
effect. This provides additional comfort to business
owners who plan to rely on Bill C-208 in transferring
their business to children and grandchildren.
However, business owners still need to be concerned
with the lack of clarity in the new legislation, and in
particular the negative tax impact that can arise from
the subsequent sale of shares in the 60-month period.
There is also significant uncertainty for business owners
contemplating the sale of their business in the future,
as it is unclear how the rules will be further amended
to prevent surplus stripping, and when such rules will
Finally, the result of the fall federal election could
possibly result in totally different government dynamics.
Therefore, it’s even more important for business owners
to consult with their professional tax advisors before
entering into any business transfer arrangements with
family members. ©
Kevin Wark, LLB, CLU, TEP, is a CALU tax advisor.
He can be reached at firstname.lastname@example.org. Reprinted with
permission from CALU.
1 As it applied prior to the enactment of Bill C-208.
2 The definition of these terms can be found in subsection
110.6(1) of the Income Tax Act (Canada) (the “Act”). Note that
there is no requirement that the taxpayer still have access to
the lifetime capital gains exemption for this condition to be
3 Refer to the extended definition of child in subsection 252(1)
of the Act, which includes a spouse or common-law partner of
4 New paragraph 84.1(2)(e) of the Act.
5 Presumably, this is a reference to the death of the child or
grandchild who controls the purchasing corporation, but this
is not clear. Curiously, only paragraph 84.1(2.3)(a) is impacted
where the subject shares are disposed “by reason of death,”
not the condition in paragraph 84.1(2)(e) that the subject
shares not be disposed within 60 months of their purchase. It is
assumed that the intention was to remove the 60-month hold
condition in paragraph 84.1(2)(e) where the subject shares are
disposed by reason of death; however, as currently worded,
if the subject shares are sold by reason of death within the
60-month hold period, the conditions in the paragraph 84.1(2)
(e) exception cannot be met.
6 New paragraph 84.1(2.3)(a).
7 This may in fact be the intent of subparagraph 84.1(2.3)(a)(ii)
described in paragraph b) above.
8 The exemption will be fully lost once the subject
corporation’s taxable capital in Canada reaches $15 million.
9 An amendment to the Act is required to ensure that this
provision applies for purposes of determining the amount that
can be claimed under the lifetime capital gains exception in
subsection 110.6(2) or (2.1).