New rules will make it easier to transfer family businesses

April 26, 2024

The 2023 Federal Budget (the “Budget”), tabled on March 28, 2023, proposes amendments to certain provisions of the Income Tax Act (ITA) that would make “genuine” intergenerational business transfers no longer subject to the anti-avoidance rules of section 84.1 and allow the transferor to benefit from their capital gains exemption.

To do so, the Budget establishes new general conditions that the parties must meet, as well as specific conditions that apply to “immediate” transfers, or those made over a period of no more than 36 months, and “gradual” transfers, or those that take five to ten years to complete.

The general conditions that the parties must meet when disposing of a company may be summarized as follows:

The vendor must be an individual other than a trust.
Immediately prior to the transfer, the vendor, alone or with their spouse, must control the currently operating company.
At the time of the transfer, the purchasing company must be controlled by one or more of the vendor’s children, who must be at least 18 years of age. The notion of “child” also includes stepchildren, grandchildren and nieces and nephews.
The shares of the company being transferred must be qualified small business corporation (QSBC) shares or shares of the capital stock of a family-farm or family-fishing corporation (QFFP).

The specific conditions relate to the transfer of control, economic interests and management of the company, and vary from case to case.

FOR AN IMMEDIATE TRANSFER (36-MONTH TEST)

In the case of immediate transfers, de jure control (being the holding of the majority of shares having voting rights), and de facto control (which includes the economic influence making effective control of the company likely), must be transferred at the time of sale. Voting and participating shares not transferred to the purchasing company at the time of sale must be transferred within the following 36 months, such that after this period, the transferor may hold only preferred shares, that is, non-voting or non-participating shares for an indefinite period (vs 10 years in the case of a gradual transfer). Also, the child, or at least one member of the group of children, must participate in the family business on a regular, significant and continuous basis for a minimum period of at least 36 months after the transfer is made. Lastly, the transferor must take reasonable steps to transfer the business’s administration and know-how and completely cease to manage the business before the 36^th month after the transfer was made.

FOR A GRADUAL TRANSFER (FIVE–TO–TEN–YEAR TEST)

If the transfer is gradual, only de jure control must be transferred at the time of disposition. The balance of the voting and participating shares not transferred at the time of disposition must be transferred within 36 months of the first transfer. However, under the rules respecting gradual transfers, the transferor will only be bound to transfer de facto control of the business within 10 years of the initial transfer. In the case of a transfer of economic interests, the vendor is expected to significantly reduce the value of the equity and advance they have invested in the business within 10 years of the initial sale. The same requirement for a child’s active participation in the company and transfer of the management of the business apply, but this time for a period of 60 months after acquisition.

PREVIOUS RULES (Bill C-208)

The provisions of the 2023 Federal Budget have the effect of setting aside certain requirements of Bill C-208 applicable to the realization of a capital gain. Under Bill C-208, for the transferor to benefit from their capital gains exemption, the operating company and the purchasing company could not be amalgamated within 60 months of the sale. The bill also required that an independent assessment of the fair market value of the company’s shares be filed with the Canada Revenue Agency, along with an affidavit signed by the vendor.

However, as of January 1, 2024, these criteria are no longer applicable. An assessment will no longer be required, although under section 69 of the ITA, the transfer will still have to be made at fair market value.

The 2023 budget (reinforced by the 2024 Federal Budget) also introduces new rules for the alternative minimum tax, a temporary tax that the transferor in an intergenerational business transfer often has to pay. To avoid having this temporary tax becoming permanent, it’s important to understand the subtleties of these new rules.

Our team of tax professionals will be happy to help you and answer any questions you may have about these new legislative changes.

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Written by

Julie Aubin-Perron
Lawyer

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September 19, 2024

Financing Quebec’s Energy Transition: Unlocking the Potential of Flow-Through Shares

Quebec has set ambitious energy transition and industrial decarbonization targets. The shift to greener practices has to be taken in a context where our energy consumption could rapidly grow under the combined effect of a number of factors, such as the reindustrialization of our economy, population growth, transport electrification and the potential for artificial intelligence to consume vast amounts of energy. Investing in the development of energy infrastructure is therefore critically important, as an abundance of energy is key to economic prosperity. The problem is that public finances are already stretched to the limit with the need to renovate our aging infrastructure, among other things. Encouraging private equity investment is thus vital, and tax incentives can be very effective in this respect. The American example In 2022, the United States passed its Inflation Reduction Act (IRA), with the goal of stimulating investment in the renewable energy sector, in particular. More specifically, the IRA altered or created a number of tax credits to encourage private investment.1 Over the past two years, US businesses have announced a total of almost US$276 billion in new investments in clean energy generation and the capturing or elimination of carbon dioxide and other forms of industrial decarbonization, an increase of 34% on the two years previous.2 The IRA is effective in that it takes the respective situations of various energy sector stakeholders into account in a creative, flexible and pragmatic way, especially where taxation is involved. Energy project promoters often have to wait many years for their projects to generate income and profits, even though the banks and other investment funds they solicit financing from can be presumed to be operating profitable businesses. The tax losses that occur in the years during which such projects are designed and built are therefore of little interest to developers, but of immediate interest to investors. And so, a tax equity market has emerged, in which businesses subject to taxes can invest in the shares of entities set up to develop such projects so as to benefit from tax credits and faster depreciation. Typically, the entity that cashes in the investment and develops the project distributes 99% of income, losses and tax credits to investors until a predetermined return is achieved. Once that return is achieved, the investor’s share of the benefits decreases, and the developer has the option of buying out the investor’s residual share. The IRA has transformed how federal clean energy tax credits are monetized, and it is now possible to buy and sell such credits without having to make a long-term investment. For businesses, this new way of doing things is an additional and attractive way to participate in the growing tax credit market.3 In 2023, the volume of the tax equity market for American projects was around US$20 to 21 billion, up about US$18 billion from the previous year.4 It appears that the trend will continue. It is estimated that the value of the current market, which is particularly attractive to banks, is set to double to US$50 billion a year by 2025.5 The equivalent of flow-through shares The Quebec and Canadian tax deductions mechanism that most closely resembles the US tax equity market is probably flow-through shares. 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However, because tax incentives cannot be transferred, our mechanism is more rigid than the American one, and it can only be applied to mineral exploration and development expenses and certain specific expenditures related to renewable energy and energy conservation projects, such as electricity generation using renewable sources like wind, solar energy and geothermal energy.8 With ambition and innovation comes the need to take action Quebec could draw inspiration from the IRA to increase the attractiveness of flow-through shares and broaden their scope of application, thereby creating a new tool to finance the energy transition. The renewable energy sector is similar to the mining sector in many respects, not least in terms of the considerable amount of capital required to build the infrastructure needed to operate a mine or energy generation facility. The flow-through share mechanism, which is well-established and popular with investors,9 could be just as successful in our energy transition context. Making such incentives easier to transfer would also drive the emergence of a market similar to the US tax equity market. A number of Québec flagship companies, such as Hydro-Québec,10 Innergex11 and Boralex,12 are also very ambitious when it comes to developing large-scale energy projects. They face major financing challenges, as do those in the industrial decarbonization and infrastructure renewal sectors. Innovation is necessary to meet these challenges and make the transition to a more sustainable, but just as prosperous, world, and to do so in good time.13 Link Rhodium Group and MIT’s Center for Energy and Environmental Policy Research (CEEPR), Clean Investment Monitor, link Brandon Hill, How to take advantage of tax credit transferability though the Inflation Reduction Act, Thomson Reuters Institute, April 16, 2024, link Allison Good, Renewables project finance to keep pace in 2024, but tax equity rule looms, S&P Global, January 12, 2024, link Lesley Hunter and Mason Vliet, The Risk Profile of Renewable Energy Tax Equity Investments, American Council on Renewable Energy, December 2023, link Link, page in French only Link Link Prospectors & Developers Association of Canada, Flow-through shares & the mineral exploration tax credit explained, link Link Link Link The authors would like to acknowledge the participation and the work done by Sophie Poirier in this publication

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Tax opportunities under the Indian Act

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The Government of Canada extends the Mineral Exploration Tax Credit for an additional year

On March 28, 2024, the Department of Finance Canada announced a one-year extension to the 15% Mineral Exploration Tax Credit (“METC”) available to investors in flow-through shares. The extension means that the METC will be effective until March 31, 2025. This announcement came at a time when uncertainty loomed over the industry and some stakeholders feared that the government would not renew the METC. Over time, this tax credit has become a key component of flow-through share financings. It is intended to enhance the tax deductions already available to flow-through share holders and ultimately help companies raise capital for mineral exploration. The METC was last renewed in 2019 for a five-year period, indicating the government’s long-term commitment to the sector at that time. And while this renewal is welcome news for exploration companies, it should be noted that the shorter one-year horizon of the extension does not provide the same assurance regarding the incentive’s future. It is possible that this one-year renewal reflects the government’s intention to promote the new 30% Critical Mineral Exploration Tax Credit (“CMETC”) instead, on which more information can be found here: Federal Budget 2022: Good News for Mining Exploration Companies! In closing, it is important to note that the one-year extension to the 15% METC will not affect the period during which the 30% CMETC is available for critical mineral exploration, which will end on March 31, 2027, and is subject to renewal. If you were planning on financing non-critical mineral exploration, you may want to complete this transaction in the coming year in order to benefit from the 15% METC. Our team of professionals specializing in securities, mining law and taxation is available to answer any questions you may have concerning this new measure and to guide you in arranging a successful flow-through financing.

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New corporate transparency requirements in Canada, Québec and the U.S. – What Canadian and Québec companies need to know

Over the last several years, member countries of the OECD, including Canada and the U.S., have committed to various international undertakings dealing with corporate governance. In keeping with these commitments, since 2019, the Canada Business Corporations Act (CBCA) has required business corporations incorporated under the CBCA to prepare and maintain a register of individuals with significant control over the corporation. Nearly all Canadian provinces, including Québec, have also amended their legislation to make control of companies incorporated in their jurisdiction more transparent. For instance, since March 31, 2023, companies registered with the Québec Enterprise Register (REQ) must report their ultimate beneficiaries to the REQ. Providing greater transparency in the control of Canadian businesses is a continuing process, and additional provisions that apply to federal business corporations came into force on January 22, 2024, and others, applicable to businesses registered with the REQ, will come into force on July 31, 2024. The provisions of the Corporate Transparency Act of the United States requiring companies to report beneficial ownership information came into force on January 1, 2024; some of these provisions are of interest for Canadian companies. Canada – Public register of individuals with significant control Since June 2019, business corporations incorporated under the Canada Business Corporations Act have been required to maintain a register of “individuals with significant control” (ISCs) containing the following information: the name, date of birth and last known personal address of each ISC the citizenship, country or countries where the ISCs are residents for tax purposes the date on which each of these individuals became an ISC the manner in which the individual is an ISC and any other information required by the regulation.1 Although federal corporations must make this register accessible to the Director tasked with administering the Canada Business Corporations Act, to shareholders and creditors of the corporation and to investigative bodies, the register was not accessible to the public until recently. On November 2, 2023, the federal legislator amended the provisions of the Canada Business Corporations Act to, among others: allow ISCs to provide an address for service in addition to their personal address provide that a portion of the ISC information compiled by federally incorporated businesses must be sent to the Director tasked with administering the CBCA provide that the Director must make the following information on ISCs accessible to the public: their name their address for reporting purposes if such an address is provided or, failing which, their personal address the date on which they became an individual with significant control and a description of the manner in which each one is an individual with significant control Note that even if the date of birth, citizenship, country or countries where the ISC is a resident for tax purposes and their personal address (if they provided an address for reporting purposes) must be provided to the Director overseeing the Canada Business Corporations Act, this information will not be made public. The Director may, however, in turn provide to any police force, the Canada Revenue Agency and any provincial body that has responsibilities similar to those of the Canada Revenue Agency, bodies that have investigative powers in relation to certain offences, a provincial enterprise register or provincial agency enforcing corporate law in that province all or part of a corporation’s ISC information, which goes beyond the information it makes available to the public. A corporation must send its ISC information electronically through the Corporations Canada website, at incorporation (if incorporated after January 22, 2024), annually and concurrently with the filing of its annual declaration, within 30 days following its merger with another CBCA corporation, within 30 days of the date on which it becomes subject to the CBCA after incorporating under the laws of another jurisdiction, and within 15 days following any changes made to its register of ISCs. These amendments came into force on January 22, 2024. To assist federal corporations in drawing up a list of their ISCs, the Director tasked with administering the Canada Business Corporations Act posted a letter template on its website that federal corporations may send to their shareholders, their ISCs and to anyone who could reasonably be expected to have the relevant knowledge to identify their ISCs.2 The purpose of that letter is to help the corporation in identifying its ISCs. It is mandatory for shareholders to respond to the corporation’s request and failure to respond may result in significant fines and even imprisonment. Québec – Search a natural person by last name and first name Since April 1, 2023, most private businesses that required to register in Québec must report to the Registre des entreprises du Québec the names, residential address and date of birth of each of their ultimate beneficiaries, and the type of control exercised by them or the percentage of shares or units of the corporation owned by these ultimate beneficiaries or of which they are the beneficiaries. In general, an ultimate beneficiary of a business is a natural person who owns or is the beneficiary of 25% or more of the voting rights for that business, who owns or is the beneficiary of 25% or more of its fair market value or who has an influence that could result in de facto control over the business. The information reported on ultimate beneficiaries is accessible to the public and free for anyone consulting the REQ. The requirement to report ultimate beneficiaries applies to almost all businesses registered in Québec and is not limited to businesses incorporated under Québec law nor to business corporations. Therefore, any foreign legal person that is required to register in Québec must report its ultimate beneficiaries. The same applies to partnerships, such as general partnerships and limited partnerships, and some trusts. As of July 31, 2024, it will be possible to search the REQ using the last name and first name of a natural person. Accordingly, from that date, it will be possible to obtain the list of all businesses registered in the REQ of which a person is a director, officer, one of the three shareholders controlling the greatest number of votes and an ultimate beneficiary by searching by his or her last name and first name. The last and first name of the natural person and his or her residential address will appear in the search results. However, if a work address was reported to the register for that person, only the work address will appear. Federally incorporated businesses registered with the REQ A federally incorporated business that does business in Québec must maintain a register of its ISCs under the Canada Business Corporations Act and report information on its ultimate beneficiaries to the REQ. Although most ISCs of a federally incorporated business will also be the ultimate beneficiaries under the Act respecting the legal publicity of enterprises and vice versa, the two acts do not define an ISC and ultimate beneficiary in exactly the same way. A person may be an ultimate beneficiary under the Act respecting the legal publicity of enterprises without necessarily being an ISC under the Canada Business Corporations Act (and vice versa). Consequently, the content of the register of ISCs for a federally incorporated business — and thus information it will have reported to the Director in charge of the Canada Business Corporations Act — may not be identical to the ultimate beneficiary information it will have reported to the REQ. However, federally incorporated businesses that do not do business in Québec are not required to register under the Act respecting the legal publicity of enterprises. All other provinces, except for Alberta,3 have now incorporated provisions into their business corporations legislation requiring corporations registered under the laws of that province to maintain a register of individuals with significant control. As a result, these provisions only apply to business corporations incorporated under the law of the province and, therefore, do not apply to business corporations incorporated under the Canada Business Corporations Act or under the business corporation act of another province. Corporate Transparency Act in the United States coming into force – Impact on Canadian businesses On January 1, 2021, the Corporate Transparency Act, part of the U.S. Anti-Money Laundering Act of 2020, came into force. Just like the amendments made to the Canada Business Corporations Act and to the Act respecting the legal publicity of enterprises (Québec), the aim of the Corporate Transparency Act is to prevent and fight against money laundering, terrorism financing, corruption, tax fraud and other illicit activities, among others, by increasing the transparency of private companies incorporated in or registered in the United States. On January 1, 2024, the reporting requirements in the Corporate Transparency Act to identify “beneficial owners,” which are basically equivalent to ISCs under the Canada Business Corporations Act and “ultimate beneficiaries” under the Act respecting the legal publicity of enterprises (Québec), came into force. Businesses covered by the act and incorporated before January 1, 2024, have until January 1, 2025, to file their first Beneficial Ownership Information Report. Businesses incorporated after that date must file their first report no later than 30 days after the date they first register with a U.S. government authority. Reports on beneficial ownership of businesses are filed with the Financial Crimes Enforcement Network, an agency of the U.S. Department of the Treasury, better known by its acronym FinCEN. Reporting businesses must submit an updated report within 30 days of any change in information previously reported to FinCEN. Reports on beneficial ownership are not accessible to the public and are not subject to the U.S. Freedom of Information Act. The information contained in these reports will be, however, generally accessible to United States law enforcement agencies and United States federal tax authorities. Foreign law enforcement authorities may also be granted access in certain circumstances through United States federal intermediary agencies. Provided they have received the consent of their clients, financial institutions will also have access to the information to facilitate compliance with customer due diligence requirements under applicable law. All corporations incorporated in the U.S. must file beneficial ownership information reports unless they are legally exempt. Exempt businesses include: most businesses whose securities are registered under the Securities Act of 1934 large businesses, i.e., businesses with more than 20 full-time employees in the U.S., having a facility in the U.S., and having reported over U.S.$5 million in gross revenues or sales in the previous reporting period. It follows that in most cases, unless it is exempted, usually because it will qualify as a “large business” due to the number of its employees and its revenues, a U.S. subsidiary of a Canadian corporation will have to comply with the act and report the identity of its Canadian beneficial owners. A reporting business must, among other things, report the full name, the date of birth and the address of all its beneficial owners. The U.S. subsidiary of a Canadian corporation must also submit a copy of the Canadian passport (or from the country of citizenship of the person in question) for each of its beneficial owners. A person is deemed a beneficial owner of a corporation if he or she is a natural person who, directly or indirectly, exercises substantial control over the reporting corporation, or owns or controls at least 25% of the corporation’s ownership interests (shares, units or others), in voting rights or in value. The definition of “substantial control” for the purposes of the Corporate Transparency Act is much broader and more specific than what is found in equivalent Canadian legislation. An individual has “substantial control” over a reporting corporation under the Corporate Transparency Act if such individual (i) is a senior officer in the corporation, (ii) has authority to appoint or remove certain officers or a majority of the directors (or similar body) of the reporting corporation, (iii) is an important decision maker of the reporting corporation or (iv) has any other form of substantial control over the reporting corporation. The Corporate Transparency Act imposes serious penalties on individuals who willfully fail to file or update beneficial ownership information or who willfully file false information. These penalties include civil penalties of up to U.S.$500 per day of violation, fines of up to U.S.$10,000, as well as potential; imprisonment for a period up to two years. Note that the act contains a presumption against senior officers in respect to reported information that is false, incomplete or not up to date. These officers could therefore be held personally held liable for civil penalties and fines and could be subject to imprisonment if the reported information proves to be false or incomplete or not up to date. Senior officers must therefore be especially vigilant and ensure that the reporting requirements under the Corporate Transparency Act are met. The Director tasked with administering the Canada Business Corporations Act has posted a template for the register of ISCs on its website. This register can be found at: https://ised-isde.canada.ca/site/corporations-canada/sites/default/files/documents/2023-12/04.3_isc-register-template_en.xlsx This template can be found at: This template can be found at: https://ised-isde.canada.ca/site/corporations-canada/sites/default/files/documents/2023-12/06.1_request_for_information_template_isc_en.pdf The three territories, Yukon, Northwest Territories and Nunavut, still have yet to amend their legislation to require a register of individuals with significant control to be maintained for business corporations incorporated under the business corporation acts of those territories.

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