If your clients are charitably inclined and looking to sell their businesses, they may be able to get a tax break.
The 2015 Federal Budget proposed a new capital gains exemption when someone sells private company shares or real estate, and donates the proceeds to charity within 30 days of the sale. The purchaser must be someone who deals at arm’s length with the donor.
“This would give business owners another way to exit a business in a tax-efficient manner,” says Frank Di Pietro, vice-president of tax and estate planning at Mackenzie Investments.
Adam Aptowitzer, a partner at Drache Aptowitzer, warns that since the budget says the purchaser must be at arm’s length to the seller, business owners who sell their shares to siblings or children likely won’t be eligible for the proposed exemption. Business partners are usually considered arm’s length, he adds, unless they are blood-related.
Aptowitzer adds that if a client owns a qualified small business corporation, and her share gain falls under the lifetime capital gains exemption ($813,600 for 2015; if the corporation has more than one shareholder, multiply the exemption by the number of shareholders), there’s no tax incentive to donate since she wouldn’t have taxable capital gains anyway.
As for real estate, Di Pietro says, “in many cases it’s a big part of a person’s net worth. For those who are looking to make sizable donations, sometimes all they have is real estate. This proposal makes it easier for them to achieve their philanthropic objectives.”
Aptowitzer points out that people with only one residence would be able to shelter their gains using the principal residence exemption, so there wouldn’t be a tax incentive to donating the sale proceeds.
But it’s different for people with two or more properties, Di Pietro says. “Now, we can potentially shelter one residence under the PRE, and deal with the [second] tax issue by thinking about donating the real estate proceeds.”
Nuts and bolts
The generated donation credit would be subject to the same rules as all other charitable donations and carry forward for five years. “The donation could be sizable,” says Di Pietro. “Advisors want to make sure the person can make full use of the credit over the next five years.”
He adds the budget documents say people can make partial donations, and the capital gains exemption would fall accordingly (e.g., if you donate half the proceeds, you’d get half the exemption).
“Part of the planning could involve deciding how much to donate, and how much to retain, and how much is needed to offset the capital gain on the money they’re going to keep.”
What about donations on death?
What happens if the shareholder dies, and directs her shares to be donated after death? The budget didn’t specify whether the capital gains exemption would apply to donations made by an estate’s executor, rather than the shareholder herself. So, watch for draft legislation. “So far, the budget document talks about the shareholder selling the share,” says Di Pietro, “or the owner of the real estate selling the real estate.”
But, if an executor could donate the share proceeds, it might solve a double-tax problem that many small business owners face on death.
Currently, when someone who owns CCPC shares dies, her shares are deemed disposed in her terminal return. This could create a capital gain. Winding up the corporation later triggers corporate tax, causing double taxation.
While there are provisions to avoid this double taxation (Read: The importance of post-mortem planning), some require the corporation to wind up within a year of the shareholder’s death.
If the draft legislation for private shares and real estate includes a provision allowing executors to donate those assets on behalf of the deceased, “it will change the landscape of planning for business owners, because it will provide them with another way to deal with the double tax issue.”
“In a perfect world,” he says, “the executor would take the shares or real estate in the estate, sell them, and then the provision we hope will come into play will allow the executor to claim the exemption against the capital gain that was triggered on death in the terminal return.”
This could occur in conjunction with the new estate donation rules coming into effect in 2016, which let an executor choose whether to claim the donation tax credit in the estate or on the terminal return.