I have a client who willed his company to his son. However, the company has done nothing but hold investments for the last several years (at least five years, looking at the history), and the son only found out about it in reading the will. I haven’t dealt with this kind of thing before, so any advise on how to proceed would be appreciated. This looks like a tax nightmare to me right now.
Sounds … fun?
No issues inside the company really as the corp continues its “life”. (Yes, there will be a change of control, but that’s a separate issue.)
Establishing the value of the shares of InvestCo at the DOD is a different problem, but may be easier than you think, assuming all corporate holdings are traded securities and have an established FMV. That at least would be a place to begin work.
Determining the value would be easy, as it is all investments. Doesn’t this all get taxed as dividends to the deceased, though? That’s the issue. If it does, then there is a huge loss on the accounts and company value. I was hoping there was a way that it could roll through to the son so that he only gets taxed if the investments are cashed out and he withdraws from the company, but I can’t seem to find anything regarding this. Ugh!
Why? If the investments are held in a corp, the corp is the owner. The only thing that is disposed of are the shares of InvestCo held by the deceased…hence the need to determine a value for those to determine the appropriate Cap Gain/Loss at DOD.
Can’t think of a reason why anything in the corp would need to be dealt with at the DOD. The deceased didn’t own the investments…just the shares of InvestCo. Am I missing something?
1 Like
Does this not mean the corporation is a financial services corporation with income taxed at the highest rate?
A financial services is an institution offering banking or other financial products and services. So no. It is just a holding company holding investments. But because it is investment income, it is taxed at the highest tax rate.
2 Likes
Thanks, @Rein; I wasn’t sure that I was using right terminology, but I I thought I understand the tax consequences.
Ah! The light goes on… The estate (son) gets the company at the current value (whatever the investments are), and that becomes his inheritance and the value of the company for when he disposes of the assets.
Then, I’d have to somehow determine what the original owner put into the company and it basically gets “sold” at the current value and the capital gain to the estate is what determines the taxes. I wonder if there are any issues with that, then. Would he (the deceased) be able to claim the lifetime capital gains exemption?
I sure wish that they had talked to me long ago about this and it could have been dealt with better. I think it’s foolish to have these kind of investments in the corporation.
Yes. It would be called a “specified investment business”, and is not eligible for the small business deduction.
Depending on the wording of the will the tax man could walk away with the bulk of the value of dad’s holding company.
When dad dies the shares of his corporation are valued and this amount is reported as proceeds of disposition on his final return. Presumably the ACB of his shares is nominal, and if the holding company simply holds investments the value of the corporation will be close to the Fair Market Value of the Investments. Lets say dad’s holdco owns $500,000 worth of investments and he paid $100 for his shares upon incorporation. Dad has a capital gain of 499,900 attracting lets say 125k worth of income tax.
Now the shares are transferred from the estate to the son. The son inherits the shares in the holding company at an ACB of 500,000. Big deal.
Lets say the son doesn’t want to keep the investments; the corporation will pay tax on any accrued capital gains as the corporate investments are liquidated into the company bank account. Then, the son would normally need to take taxable dividends (perhaps some CDA) in order to get the funds out of the corporation. He can’t just take the funds because they belong to the corporation. If the holding company purchases and cancels his shares he has a deemed dividend for the proceeds.
Heck… it’s possible that investments may need to be sold and shares redeemed simply to pay dad’s income tax.
Essentially, the father pays tax on the value of the corporation, the corporation pays tax on the capital gains on the portfolio investments as they are liquidated, and the son (or estate) pays income tax again as funds are removed from the corporation. After all is said and done the CRA has ended up with most of the value of the corporation and the son ends up with a huge capital loss because at some point he will end up with shares worth nothing but with a large ACB.
The only remedies to the double and triple taxation are perhaps subsection 164(6) if the shares of the holding company can remain in the estate and the holdco can be effectively wound up within the first year of the estate… or maybe a full or partial pipeline could be done depending on the amounts involved and whether the will provides for tax efficient decision making.
Post mortem tax planning can be quite challenging.
This could be a mess if there is some real value in the holding company.
2 Likes
@snowplowguy has it right - and that is a tragic financial possibility for sure!
Best choice for the son (depending on values and how much of the estate needs to be liquidated to pay the tax, and if permissible under the Will etc) could be:
- leave the investments in the corp
- leave the investments intact (ie do not sell) for the time being
- arrange an LOC to pay any tax due
- liquidate the shares over some period of time, if necessary, to let values recover or increase, pay dividends or whatever.
Time may be his friend and ally.
1 Like
Income Tax Act 256(7) provides that inheritance from a related person is one of the exceptions that does NOT cause an acquisition of control that would result in a deemed fiscal year-end and the other consequences that are triggered by an acquisition that does qualify for exemption. Accordingly, that “separate issue” does not exist.
3 Likes
@keith1 Ha! Thanks for that…have never had occasion to look at that circumstance - which on reflection seems odd in 40+ years of tax work with small businesses.
1 Like
Run, don’t walk, to a good tax lawyer. RUN.
I have done a dozen of these (investment co willed to child) in the last ten years, and what you’re looking for is commonly called a “Pipeline” transaction. And given the changes in the rules on Jan 1 you need to try to get it started before then.
This is well above the pay grade for most accountants, and you don’t want to mess around with it or you can end up with double taxation (the capital gain in the deceased’s return plus paying out the value of the company to the kid. It has to be done right, and doing it right takes at least a year, you can’t rush it.
Good discussion here:
4 Likes
I absolutely agree with @jglass
You’ve mentioned that your clients did not even have the curtosey to speak to you on this before they’ve done it. Something complex like this and they don’t have the audacity to get a professional’s advice? That right there is a huge red flag. Tell me, does a patient get their lung removed without notifying their own family doctor?
I get that this is a public forum but if there is something that you aren’t aware of or have never done it in practice, then you are making the right move to walk away. There is no shame on that. I guess we all have to learn from somewhere but this is a bit too extreme.
It is better to specialize on certain industries, that way you become a recognized professional in assisting clients in that industry, you end up learning more from it. However if you’re planning to do something that you’ve never done before where there may be serious intended financial consequences, you should not do it at all. Better to sleep peacefully at night knowing that you won’t be sued into oblivion. 
3 Likes
I really want to learn how to do this kind of thing now.
Now I’m a little confused…
I thought “Pipeline” referred to active corporations that were still carrying on business as usual, not those that only held investments (i.e. holding companies).
As well, can’t the estate use the father’s LCGE to reduce or eliminate the taxes on the disposal of his shares, just as if he sold it to the son?
The CGE may not be available depending on how large the investment assets are in relation to the value of the assets of the company both at the date of death and within the last 24 months. The assets being valued include those on the balance sheet and those not necessarily on the balance sheet (such as goodwill).
It’s only about $300k in assets.