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2017
Recent Developments in
Corporate TaxationPost-Mortem Tax Planning – A Case Study
Pamela Cross, Borden Ladner Gervais, LLP
David Mason, Deloitte
June 7, 2017, OTTAWA
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Agenda - Post Mortem Planning
1. Why is it important?
2. What are the “tools in the tool-box” and how do they work?
3. The Case Study
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Post-Mortem Planning – Why is it important?
• To ensure that assets cannot be passed from one generation to the next, there is
a deemed disposition of assets on death (subject to certain exceptions and/or
deferrals such as the spousal rollover)
• For the vast majority of individuals, the deemed disposition is a one time event,
and little or no post-mortem planning is necessary. The most common exception
is where assets decline in value after death
• For individuals holding private company shares, there is a potential for double (or
worse) taxation on the same value (tax on the deemed disposition, tax in the
company on a liquidation of its assets, and tax on a deemed dividend extracting
value from the corporation)
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Post-Mortem Planning: Tools in the Tool Box
• Surprisingly, given the significance of the issue, there is no specific post-mortem
regime in the Income Tax Act (the “Tax Act”) to deal with private company shares
• Three main strategies are used (all statutory references are to the Tax Act):
• S. 164(6) Loss Carryback
• Pipeline Transaction
• Para. 88(1)(d) Bump Planning (for certain capital property owned by the
company other than “ineligible assets”)
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S. 164(6) Loss Carryback - Mechanics
• Deemed disposition of shares on death, increasing adjusted cost base of shares
to Estate
• Shares held by Estate of Deceased are redeemed before first year-end of the
Estate, triggering deemed dividend to Estate (ss. 84(3))
• Deemed dividend excluded from proceeds of disposition of shares (para. 54(j)),
resulting in capital loss to Estate (subject to stop-loss rules)
• Carryback of capital loss to terminal return to eliminate capital gain reported on
deemed deposition
Result: Double tax avoided, but tax paid on dividend (at dividend rates), not capital
gain (at capital gains rates)
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S. 164(6) Loss Carryback – Selected Considerations
• Corporate tax attributes (capital dividend account (CDA), refundable dividend tax
on hand (RDTOH), ability to pay eligible dividends can reduce the effective tax
cost of the rate differential (dividends/capital gains)
• Creating additional tax attributes?
• Corporate owned life insurance: confirm adjusted cost basis of policy and
amount available to be added to CDA.
• Consider limiting capital dividend to 50% of full dividend to avoid grind of capital
loss under ss. 112(3.2).
• Will Estate be affiliated with Corporation after redemption (ss. 40(3.6) & (3.61)).
• Spousal “roll and redeem” strategy available?
• Redemption of shares or wind up of company (IT-126R2)
• One taxation year deadline.
• Estate must be a graduated rate estate
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Pipeline Transaction - Mechanics
• Deemed disposition of shares on death, increasing adjusted cost base of shares
to Estate
• Estate transfers shares to new holding corporation (“Newco’), taking back debt
or high paid-up capital Newco shares up to the FMV of the shares on death.
• Wind-up company (or amalgamate Newco and company).
• Resulting company can repay debt or reduce paid-up capital
Result: Double tax avoided, tax paid at capital gains rates.
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Pipeline Transaction – Selected Considerations
• Anti “surplus stripping” rule #1 (s. 84.1), applies where:
• Taxpayer (Estate) disposes of shares
• Taxpayer is resident in Canada and not a corporation
• Shares were capital property to taxpayer
• Shares are shares of a resident Canadian corporation (subject corporation)
• Shares are disposed of to another corporation (purchaser corporation)
• Taxpayer is non arm’s length with purchaser corporation
• Immediately after disposition, subject corporation is connected with
purchaser corporation (ss. 186(4))
• Implications:
• Paid up capital of purchaser shares reduced to extent of “soft ACB” (i.e.
look for capital gains exemption and V-Day value issues). Hard ACB can
be converted to debt or paid-up capital.
• Taxpayer deemed to receive a deemed dividend for excess
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Pipeline Transaction – Selected Considerations
• Anti “surplus stripping” rule #2 (s. 84(2)) applies where:
• The corporation is resident in Canada
• The corporation is winding-up, discontinuing or reorganization its business
• A distribution or appropriation of the corporation’s funds or property (in any
manner whatever)
• The distribution or appropriation is to or for the benefit of the corporation’s
shareholders
• Implications:
• Amount of distribution/appropriation deemed to be a dividend
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Pipeline Transaction – Surplus Stripping Issues
• Does (should?) the specific rule in s. 84.1 supersede s. 84(2)?
• CRA position: both can apply to same transaction (2011-0401861C6 2011
STEP National Conference)
• Is Estate a “creditor” or a “shareholder”?
• What does on the “winding up, discontinuance or reorganization” mean?
• Fact specific. See 2006-0170641E5 which suggested continuance of
business for at least 1 year and distribution over a further period of time
• 2011-0426371C6 where CRA indicates these “conditions” are not “required”
but may be evidence that there is no discontinuance of business
• 2010-0389551R3 (ruling withdrawn) Cash company – CRA may apply 84(2)
• Surplus Stripping Jurisprudence:
• Most involve “accommodation” party transactions, not post-mortem planning
• No “general scheme” in the Act against surplus stripping
• Should there be specific post mortem rules?
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The 88(1)(d) Bump
• Permits increase in adjusted cost base of certain property of corporation where
there has been an arm’s length acquisition of control
• Para. 88(1)(d.3) deems control to have been acquired by an estate from an
arm’s length person in a post mortem context
• May have limited application:
• Rules technical and complex
• Only certain capital property can be bumped
• Same mechanics as a Pipeline, so often used in combination.
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The Case Study
• Harry owns preferred shares in an operating company
(OpCo)
• ACB and PUC are nil
• FMV = $2M
• Harry is a widow and has three adult children: Ron, Lily
and Phoebe. They currently own all issued common
shares of OpCo in equal parts.
• He passed away on December 31, 2016
• The children do not wish to carry on their father’s business
• The corporation had the following tax attributes:
• GRIP of $500K
• CDA of $400K
• RDTOH of $25K
*Assumption: Harry and his children are taxed at the highest marginal
income tax rate
Harry
OpCo
1,000 Preferred Shares
ACB = nil
PUC = nil
FMV = $2M
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Scenario #1: No Tax Planning (if Opco has cash only)
Harry’s Terminal Tax Return
Deemed disposition on death $2,000,000
Less adjusted cost base -
Capital gain 2,000,000
Taxable capital gain 1,000,000
Personal tax rate 53.53%
Harry’s income tax payable $535,300
OpCo
1,000 Preferred Shares
ACB = $2M
PUC = nil
FMV = $2M
Harry’s
Estate
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Scenario #1: No Tax Planning (cont.)
On the wind-up of OpCo, the Estate will receive deemed dividend on which personal tax
liabilities are created.
Deemed dividend on distribution of assets
Eligible dividend $500,000
Capital dividend 400,000
Non-eligible dividend 1,100,000
Total deemed dividend 2,000,000
Personal tax on eligible dividends (39.34%) 196,700
Personal tax on non-eligible dividends (45.30%) 498,300
Total personal tax payable 695,000
Less: corporate dividend refund (25,000)
Net income tax liability $670,000
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Scenario #1: No Tax Planning (cont.)
Note: A capital loss of $2M would be created on the wind-up. Stop loss rules may apply to postpone
the availability of the capital loss.
Harry
$535,300
Children
$670,000
Total
$1,205,300
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Scenario #2: Pipeline Transaction
Harry’s Terminal Tax Return
Note: OpCo’s RDTOH and CDA balances may not be
fully utilized in the pipeline transaction
Deemed disposition on death $2,000,000
Less adjusted cost base -
Capital gain 2,000,000
Taxable capital gain 1,000,000
Personal tax rate 53.53%
Total income tax payable $535,300
HoldCo
100 Common Shares
Harry’s
Estate
OpCo
1,000 Preferred Shares
ACB = $2M
PUC = nil
FMV = $2M
Promissory
note of $2M
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Scenario #3: S. 164(6) Loss Carryback
Estate Tax Return
Deemed dividend on redemption of shares
Eligible dividend $500,000
Capital dividend 400,000
Non-eligible dividend 1,100,000
Total deemed dividend 2,000,000
Personal tax on eligible dividends (39.34%) 196,700
Personal tax on non-eligible dividends (45.30%) 498,300
Total personal tax payable 695,000
Less: corporate dividend refund (25,000)
Net income tax liability $670,000
Proceeds of disposition $2,000,000
Less deemed dividend (2,000,000)
Less adjusted cost base (2,000,000)
Capital loss $2,000,000
Total Tax
$670,000
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Scenario #3: S. 164(6) Loss Carryback (cont.)
Harry’s Terminal Tax Return
Deemed disposition on death $2,000,000
Less adjusted cost base -
Capital gain 2,000,000
Less loss carryback (2,000,000)
Taxable capital gain -
Personal tax rate 53.53%
Harry’s income tax payable -OpCo
Harry’s
Estate
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Scenario #4: Hybrid Approach
The hybrid approach consists of redeeming sufficient shares to use the CDA and RDTOH
balances, and performing a pipeline with the remaining shares held by the Estate
Estate Tax Return
Deemed dividend on redemption of shares
Eligible dividend (2.61 x RDTOH balance) $65,250
Capital dividend 400,000
Total deemed dividend 465,250
Personal tax on eligible dividends (39.34%) 25,670
Total personal tax payable 25,670
Less: corporate dividend refund (25,000)
Net income tax liability $670
Proceeds of disposition $465,250
Less deemed dividend (465,250)
Less adjusted cost base (465,250)
Capital loss $465,250
Total Tax
$456,243
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Scenario #4: Hybrid Approach (cont.)
Harry’s Terminal Tax Return
Deemed disposition on death $2,000,000
Less adjusted cost base -
Capital gain 2,000,000
Less loss carryback* (297,875)
Adjusted capital gain 1,702,125
Taxable capital gain 851,063
Personal tax rate 53.53%
Harry’s income tax payable $455,574
HoldCo
100 Common Shares
Harry’s
Estate
OpCo
1,000 Preferred Shares
ACB = $1.5M
PUC = nil
FMV = $1.5M
Promissory
note of $1.5M
*Stop-loss rule applies to grind down capital losses
available for loss carryback
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Summary of Scenarios
No Tax
Planning
Pipeline
Transaction
Loss
Carryback
Hybrid
Approach
Tax owing on
Terminal T1$535,300 $535,300 - $410,775
Tax owing by the
corporation- - - -
Tax owing by the
Estate670,000 - 670,000 670
Total Tax $1,205,300 $535,300 $670,000 $411,445
Available CDA - 400,000 - -
Available GRIP - 500,000 - 434,750
Available RDTOH - 25,000 - -
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Scenario #5: Asset Liquidation
The asset liquidation approach consists on selling all
of OpCo’s assets to a newly incorporated
corporation (“NewCo”)
• This transaction resembles a 88(1)(d) bump with
less restriction on the type of assets on which it
can be performed
• If the assets are sold within a year, the capital
loss realized on the redemption of shares may
be carried back to Harry’s terminal return but
may be subject to the stop-loss rules
OpCo
100 Common Shares
Harry’s
Estate
NewCo
1,000 Preferred Shares
ACB = $2M
PUC = nil
FMV = $2M
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Scenario #5: Asset Liquidation (cont.)
Old ECP Rules New ECP Rules
With tax
attributes
Without tax
attributes
With tax
attributes
Without tax
attributes
Accrued gains on assets $2,000,000 $2,000,000 $2,000,000 $2,000,000
Taxable capital gain 1,000,000 1,000,000
Total business income 1,000,000 1,000,000
Corporate income tax payable $265,000 $265,000 $501,700 $501,700
Available cash for distribution 1,735,000 1,735,000 1,498,300 1,498,300
CDA balance 1,400,000 1,000,000 1,400,000 1,000,000
RDTOH balance 25,000 - 331,700 301,700
GRIP balance 1,220,000 720,000 500,000 -
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Scenario #5: Asset Liquidation (cont.)Old ECP Rules New ECP Rules
With tax
attributes
Without tax
attributes
With tax
attributes
Without tax
attributes
Deemed dividend on distribution of
assets
Eligible dividend $335,000 $720,000 $98,300 -
Capital dividend 1,400,000 1,000,000 1,400,000 1,000,000
Non-eligible dividend - 15,000 - 498,300
Total deemed dividend $1,735,000 $1,735,000 $1,498,300 $1,498,300
Personal tax on eligible dividends 131,790 283,250 38,670
Personal tax on non-eligible
dividends- 6,795 - 225,730
Less corporate dividend refund (25,000) - (37,680) (191,015)
Net income tax liability $106,790 $290,045 $990 $34,715
Un-utilized RDTOH - - 294,020 140,685
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Scenario #5: Asset Liquidation (cont.)
Old ECP Rules New ECP Rules
With tax
attributes
Without tax
attributes
With tax
attributes
Without tax
attributes
Tax owing on
Terminal T1$535,300 $535,300 $535,300 $535,300
Tax owing by the
corporation265,000 265,000 501,700 501,700
Tax owing by the
Estate106,790 290,045 990 34,715
Total Tax $907,090 $1,090,345 $1,037,990 $1,071,715
Available CDA - - - -
Available GRIP 885,000 - 401,700 -
Available RDTOH - - 294,020 140,685
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Other Elements to Consider
• A hybrid approach, combining the pipeline transaction and loss carryback
strategy, typically yields the lowest overall tax to the estate
• The CRA has accepted the use of the pipeline transactions for investment type
corporations so long as the property distributed to the estate’s beneficiaries is
equal to the cost basis of the shares as a result of the deemed disposition on
death (i.e. the fair market value on time of death)
• Time is of the essence when performing post-mortem tax planning