Corporate reorganizations are done for a number of reasons. There are a variety of ways to structure a company and every company’s structure may change over time as the owner’s needs evolve.
Your accountant should work closely with you to determine the most tax-effective structure for your corporation given your company’s current situation and future goals, and considering current and planned tax laws. Remember that some accountants are better versed in the Income Tax Act than others so ensure you have someone with tax expertise and experience with corporate reorganizations on your team of advisors. Many general accountants, for example, are not tax experts. Our firm has team members who have completed CPA Canada’s In-depth Tax course and advanced studies in owner-manager taxation and wealth preservation and regularly deal in complex tax matters. We are experts in both Canadian and U.S. taxation.
Reasons for Corporate/Business Restructuring
Income Splitting and Income Sprinkling
One of the main reasons for a corporate reorganization has been to include multiple family members in the ownership of the company for the purpose of allocating personal income among the family members to gain access to multiple family members’ marginal (and likely lower) personal tax rates. This practice has commonly been referred to as income splitting.
The 2018 Federal budget created perceived offenses with regards to previously accepted income sprinkling practices, making a large majority of pre-2018 income splitting plans obsolete. This means that many business owners who had previously undertaken tax planning to take advantage of income splitting should revisit their corporate structure to ensure it is still effective and perhaps undertake another corporate reorganization to ensure their company’s structure is in line with the new rules.
Sale of Your Business
A corporate restructuring can also be undertaken to increase the perceived value of your business or to maximize the after-tax amount the owners receive on a sale. Therefore it is essential to examine your corporate structure when you’re planning to sell your business. Here are some examples of how corporate reorganization can be of benefit when selling a business:
- An owner may wish to ‘purify’ the business structure by moving certain types of passive or other assets out of the operating company (the target company), making the target company more attractive to potential buyers by ensuring that arbitrary or unnecessary assets are not included in the transaction.
- In order for the shares of the target company to be eligible for access to an owner’s lifetime capital gains exemption, there are certain asset mix tests that require the target company to hold primarily active business assets (as opposed to passive assets). A corporate restructuring can be undertaken to ensure that the target company’s shares qualify.
- A business owner may wish to bring in other shareholders, like family members or employees, in contemplation of a share sale of the operating company. Bringing multiple family members into the ownership of a company will multiply the lifetime capital gains exemption, thereby maximizing the family’s after-tax proceeds received on the sale of the business. There are several detailed requirements that must be met in order for an individual to access their lifetime capital gains exemption. Please consult a tax expert to ensure you are eligible.
- Another reason for corporate restructuring is to separate your major assets into congruent bundles of assets or sellable companies.
- A company may want to purchase a substantial asset (such as a building or a large piece of equipment) and hold it in a sister company so the asset is not subject to the operating company’s liabilities.
Other Reasons for Corporate Reorganization
Reorganization may be necessary to ensure tax-efficient transitions when new shareholders enter or existing shareholders exit the company .
Multijurisdictional / cross-border issues can be another reason for a reorganization. For instance, a U.S. company may have a certain type of U.S. structure that allows for tax deferral. If that company moves into Canada, that structure may not have the same benefits and the company will be treated as a regular company. A new structure will be required so you’re getting the same tax treatment on both sides of the border.
If a company has several divisions that operate in competing markets, there may be marketing or branding reasons to separate the divisions into their own companies, making a corporate restructuring necessary.
One of the challenges for business owners is the impact of legislative changes on their businesses. Changes to tax legislation, for example, can mean that a highly effective structure no longer benefits the business owner. A corporate reorganization will need to take place to implement a new structure that will work more effectively.
Corporate Structure & Tax Planning
Consider revisiting your corporate tax structure each year in your annual tax planning discussion with your accountant. As your business grows and your circumstances change, and as new governments and new legislative changes take place (such as the 2018 changes to the income splitting and passive income rules), reorganization might be necessary to minimize taxes and bring you other benefits.