The exact same question often arises a second time, years later, when a business has been successful and the shares of the corporation have been held by the client and/or their spouse directly and the client is now contemplating whether it makes sense to introduce a holding company or family trust into their corporate ownership structure, for creditor proofing and/or estate planning purposes.
I have discussed utilizing a holding company and introducing a family trust as a shareholder of a private corporation in prior blogs. Today I will discuss these alternative structures in context of a newly incorporated business and a mature business.
When a person decides to start a new business and incorporates (see my blog on whether to start a business as a proprietorship or corporation ) there is often a level of uncertainty as to whether the new venture will be successful and cost control is often paramount. Thus, most people opt to keep their corporate structure simple (which really means, they do not want to spend money on lawyers and accountants to set-up holding companies and trusts) which is very understandable.
However, if you have the resources upon incorporation, you may wish to consider having a family trust own the shares of the private corporation rather than directly owning the shares or using a holding company from the outset. The two reasons you may wish to consider this corporate structure are as follows: (1) you can have a holding company as a beneficiary of a family trust which can provide all the benefits of a direct holding company; and (2) a family trust provides the ultimate in tax planning flexibility.
There are several benefits to having a family trust as a shareholder of your private company (I am assuming your corporation is an active company, not an investment company, for which the above is problematic). If the company is eventually sold, a family trust potentially provides for the multiplication of the $750,000 lifetime capital gains exemption on a sale of qualifying small business corporation shares. That is, it may be possible to allocate the capital gain upon the sale to yourself, your spouse, your children or any other beneficiaries of the trust, resulting in the multiplication of the exemption and creating substantial income tax savings. For example: where there are four individual beneficiaries of a family trust, the family unit may be able to save as much as $700,000 in income tax if a corporation is sold for $3,000,000 or more. In addition, where your children are 18 years of age or over, the family trust can receive dividends from the family business and allocate some or all of the dividends to the children. The dividends must be reported in the tax return of the child, but in many cases, the dividends are subject to little or no tax (if a child has no other income, you can allocate almost $40,000 in dividends income tax-free).
Finally, where you have surplus earnings in a corporation and you wish to creditor proof those earnings, but do not want to allocate those funds to your spouse or your children, you may be able to allocate those funds tax-free to the holding company if it is a beneficiary of the trust. This provides for an income tax deferral of the personal taxes until the holding company pays a dividend to its shareholders.
So you may be asking “Mark, why would I ever not choose a family trust? Some of the reasons are as follows:
1. The initial accounting and legal costs may be as high as $7,000 - $10,000.
5. There are some income tax traps beyond the scope of this blog post when a holding company is a beneficiary.
As discussed in the opening paragraph, once a business is established and has become successful, clients often again raise the issue of whether they should introduce a holding company or a family trust into the corporate ownership structure. At this stage, a holding company can easily be introduced as a shareholder. The mechanics are beyond the scope of this blog but the transaction can take place on a tax-free basis. However, the holding company essentially only serves one purpose, that being creditor proofing. A holding company is also often problematic, as the level of cash the holding company holds can put it offside of the rules for claiming the $750,000 lifetime capital gains exemption if the business is sold in the future. Thus, you may wish to consider utilizing a family trust, unless you do not have children or do not anticipate being able to sell the corporation.
If one waits until the business is successful to introduce a family trust, as opposed to introducing one as an original shareholder when the business is first incorporated, the value of the business as at the date of the reorganization must first be attributed to the original owner(s) utilizing special shares (typically referred to as an estate freeze). This means the beneficiaries of the trust only benefit from the future growth of the corporation (ie: if the corporation is worth $2,000,000, the parent(s) are issued shares worth $2,000,000 and the children will only benefit on any increase in value beyond the $2,000,000). The costs of introducing a family trust with a holding company beneficiary as part of an estate freeze could be as high as $15,000 -$20,000 as a business valuation is often required.
The above discussion is very complex. The key takeaway should be that having a holding company as a direct shareholder of an operating company, may not always be the most tax efficient decision. A family trust with a holding company beneficiary may be the more appropriate choice depending upon the circumstances.
In any event, believe it or not, the above discussion has been simplified and you should not even consider undertaking such planning without consulting a professional advisor to understand the issues related to your specific fact situation to ensure the planning makes sense and that you are not breaching any of the hidden income tax traps.
Top Canadian Investing Blogs
If you are still reading at this point (yes, I know, I break every rule about having a maximum of 400 words per blog), Jeremy Biberdorf of www.modestmoney.com has been kind enough to nominate my blog in his poll for the top Canadian Investing Blogs (not sure my blog fits that category, but I appreciate the consideration anyways). If you have a minute, please visit this link and vote for me. My goal is to escape last place :).
The blogs posted on The Blunt Bean Counter provide information of a general nature. These posts should not be considered specific advice; as each reader's personal financial situation is unique and fact specific. Please contact a professional advisor prior to implementing or acting upon any of the information contained in one of the blogs.
Please ignore any "400 words per blog" rule. If the topic is interesting, people will be happy to read it (within reason).ReplyDelete
This was a very interesting post, and I'm particularly please with the cost estimated you provided.
One annoying problem with trusts (in Quebec anyways) is the need to find a "third party" (ie: non beneficiary, non settlor) to act as trustee. This can be the wife or a child, but then this means that they cannot be beneficiaries. You're then forced to set up two or more trusts with cross-beneficiaires, or finding a true third party who you really trust.
In Ontario, the trustees can be beneficiaries, however, it is recommened to have at least one arms length trustee (assuming mom and dad are also trustees) and to ensure that person would form the majority for any decision.
Just to clarify, for the benefit of your readers:Delete
"C.c.Q. 1275. The settlor or the beneficiary may be a trustee but he shall act jointly with a trustee who is neither the settlor nor a beneficiary."
So a common option is to have mom set up the trust (settlor), dad to fund the trust (no standing), mom and kids to be beneficiaries, and dad+mom being named trustees.
This becomes a problem when dad passes away and there is no longer the required "third party" present.
I wonder if it would be possible and worthwhile to set up a trust in Ontario that would have it's "mind and management" and own property in another province (say Quebec).
Why is it recommended to have an arms length trustee? For legal/tax reasons, or some other reason?
Anon, thx for the Quebec clarificationDelete
The mind and management issue has been addressed in a couple cases recently, I will blog on one of them in the near future. The cases tend to rule out province shopping for trusts.
Arms length is mostly for legal reasons, but also for a couple potential technical tax reasons.
My brother and I want to invest in revenue producing real estate in Alberta. We are already taxed heavily on salary, capital gain and rental income. Is it tax effective to set up a holding company or a family trust for each one of us to invest in a company or a joint venture?ReplyDelete
A corp maybe useful for creditor protection, but with passive rental income neither a corp or trust will likely prove to be tax effective
If we decide to take the holding company route, all the legal and accounting fees associated with the restructuring be deductible/ECE in the holding company or in the operating company?ReplyDelete
Mark - any thoughts?Delete
Sorry, I missed your question, some days too many and I lose track.Delete
Technically the fees should be billed to you personally as you are transferring your shares to a holdco and thus, the fees are not deductible. Probably not the answer you want, speak to your advisors sometimes they can help.
Thanks Mark. Great blog!Delete
I am a partner at a privately owned IT Consulting firm in Toronto and we are looking to reestructure from individually owned shares of our OpCo. to a structure that uses both HoldCo. and Family Trust.
Our accountant and tax lawyers suggest the following:
- using a HoldCo. as a shareholder of our OpCo. (section 85 rollover)
- using a Family Trust to own preferred shares of the HoldCo.
- Optionally, he suggests having an InvestCo. as a beneficiary of the Family Trust to park excesso funds, which becomes a more viable RRSP-replacement option.
The main objective is to have dividend payments from OpCo. flow tax-free into the HoldCo., then into the Family Trust, then eventually into InvestCo. Note that HoldCo. and OpCo. must be "connected" for the tax-free flow-through of dividends between them.
I would love to get your insights on this structure, since you've talked about using a HoldCo. and a Trust, but not structured like this.
Keep up with the great postings.
I dont provide specific personal or corporate tax planning advice, especially when you already have an accountant and lawyer and I dont know your specific details.
That being said, I would have them explain why the suggested new strucutre is not a Family trust owning the IT firm, with the holdco being a beneficiary of the family trust. They probably have a reason for their suggestion, but I would want to know why they have or have not considered this structure.
Can a corporation that has yet to be incorporated be a beneficiary of a family trust? In other words, say a beneficiary sets up holdco - can I make my trust document pay out directly to the holdco as a beneficiary?
I have seen lawyers draft such a clause. However, it is very important to have a lawyer who deals with trusts and tax draft the clause so it does not cause income tax or trust issues. So if you are considering such a clause, ensure you obtain proper legal advice.
Thanks for your info. I have a question about the structure utilizing both holdco and trust. If trust owns all common shares of the opco, how come holdco and opco are connected? Shouldn't Holdco own some common shares of opco for taxfree dividend purposes??
Good question, in some ownership situations (small arms length control positions) they may not be connected and you need and intermediary holdco. Typically in control situations the Act deems them connected. Speak to your advisor first if undertaking this to ensure they are connected.
hello sir! good day... i have a question, is your knowledge about business law or about corporation applicable to Philippines? cause i'm from Philippines.ReplyDelete
I'm not sure of this question.ReplyDelete
I have sold my 334 Class A Common Voting Shares in a Family Company, and my Brothers tell me that I therefore lose my Class B Preferred Shares + My 1/3 share of land-property owned + Deferred Income etc. Is that true? That was never my understanding or my intent. I need to understand this, even if I was Suckered...!!
I have no idea. Each corporation has its own articles of incorporation and share rights.
In general you would have to sell each class of shares to lose those shares.
You should ask your company's lawyer these questions or maybe even get independent legal advice if you think you have been taken advantage of.
The brothers had changed the company lawyer in November, but the new lawyer stated that he would get back to me regarding a meeting. It should now lead to further problems. Nevertheless, many thanks. I never did get a full constitution, however am I correct in thinking that my deferred incomes, a shareholder loan and 1/3 of a land property are still owned regardless of the decision on my shares?Delete
U need to get an independent lawyer to help here. I cannot give you a definitive answer, as I would need to see your articles of incorporation. In general , your shareholder loan should still be yours, however, the 1/3 land depending upon the attributes of your Class B shares may not belong to you anymore. Really, got get a lawyer to understand what is happening to you. You should have gotten independent advice before you sold your shares. If the original lawyer did not tell you to get independent advice you may have a claim, but speak to a lawyer!!!
In estate planning, what is the best way of transferring rental properties? Via a corporation, using 85 roll over, and would that trigger capital gains, or gifting or a combination thereof. The properties have never been depreciated for tax purposes so original ACB values remain in effect and FMV is almost double the ACB. What is the most effective way of completing such a transaction. For the record I have been in contact with CRA tax experts and corporate lawyers and they disagree with each other so I'm hoping you can clarify things for me!ReplyDelete
Your question is way to generic, it depends upon the facts and what you are really trying to achieve. In general, the use of a section 85 would ensure there is no tax owing. A gift will almost always create tax.
What tax experts have you contacted at CRA, I was not aware they had such people available to the public. A CRA phone rep is not a tax expert.
Just engage a tax accountant or tax lawyer and they will guide you and provide you options.
Dear Blunt Bean Counter,ReplyDelete
First off, excellent article and blog! Thank you! I am not sure if you can answer this question, but I will give it a shot. I am looking into introducing a holdco as a shareholder of an opco that has been operating for several years with minimal tax impact/money invested. Any read you can recommend? Thanks!
Type in holding company in the search function (top right) in the blog and you will get a couple blogs to read.
In estate planning will Holdco owning frozen preferred shares and Family trust owning the common shares of Opco will make sense or Family Trust having the Holdco as beneficiary? What can be the advantage or disadvantage of both paths of planning?
Sorry, question is too complex for a blog . Speak to your accountant,
Great post. Thanks!
Seeing as most marriages end in divorce, would it be wise to steer away from a family trust if you anticipate a nasty divorce or a family break up, or is it possible to maintain control of funds through the holdco that would be the main beneficiary?
That's a positive outlook :)
A potential marriage breakdown is an issue whether using a family trust or not. You would have to work through the issues with your advisors. I am not a family law lawyer, but I think the Holdco would still be problematic, since even if you owned the shares 100%, they would be family property.
Thanks for the reply Mark. I did a bit more research and that certainly appears to be the case.Delete
Ha, yes, well, positive but also pragmatic - hoping for the best but preparing for the worst. After all, we are talking about asset protection.. .
I formed a farm corporation with my Brother and my Dad, to buy and sell in bulk in 1974. However, my Dad sold his $1. Class A Common Voting Shares to my Brother and I for $700. per share in 1997 (to stop my brother's scams and pressure). However now my Brother is saying that my Dad gave up his Class B Shares, his share of hundred of thousands of dollars in Incomes and Equipment, as well as his shareholder loans which are all deferred or withheld incomes. Is this true? Especially when my Brother says that we don't owe Dad anything, even after Dad had paid taxes on the Class A Share Sale when he never got a penny for them. This can't be fair, or even real.ReplyDelete
You questions is way too complicated and fact specific for a blog. you need to engage an accountant or lawyer to sort this out
What I really want to know is if Dad sold his Class A Shares, if he lost everything else he owned in our company.Delete
I cant answer that, I would need to review all the facts. As i said, get proper advice, this is not an answer for a blog. sorryDelete
My thanks, I have a meeting set up with a chartered accountant.ReplyDelete
I am in the process of setting up a beneficiary holdco for tax free dividend flow from the recently established family trust. My question is do i have to be the sole owner of this holdco or can I do a 51% / 49% split in ownership with my common-law spouse on the new holdco.ReplyDelete
In general you should be able to split the ownership, however speak to your accountant or lawyer who can confim based on your specific fact situation, that is advisable or doable.
Thanks for your response. It is nice to get some "outside" opinions from someone in the know on this matter. To be more clear, My parents have set up the trust for our currently successful companies of which I am a shareholder but my spouse is not. Instead of taking a salary from the companies my income will be in the form of dividends flowing from the trust to the beneficiary holdco...for tax/investing purposes. My spouse and I have a rental house that we would like to sell to the holdco thus why we would like to share ownership in the holdco. If I were to share ownership with my spouse in the holdco would this effect the tax free flow of dividends from the trust since he is not a shareholder in the main companies/trust.Delete
I do not provide personal tax planning advice on this blog, especially when you have an accountant already and are opinion shopping. Sorry.
I can appreciate what you are saying. By "outside" I merely meant outside the family/companies, outside the family/company lawyer, outside the family/company accountant. I was not opinion shopping so much as looking for a direct answer to may last statement of my last post after I was more clear about the background. At any rate no need to respond....I would like to thank you for your blog...It is quite interesting.Delete
thx, your question is not necessarily simple and thus I cannot answer on a blogDelete
A simple question: what does the family trust accomplish that can't be accomplished by having family members as direct non-voting shareholders? Doesn't this achieve the same income splitting goals? Are creditor protection and LCGE multiplication the only added benefits of a family trust?ReplyDelete
The main benefit besides creditor protection and LCGE is that a family trust is discretionary and it allows the trustees to allocate to the various beneficiaries as they see fit. So if you have a child that becomes a black sheep for any of a multiple of reasons, you do not need to allocate anything to them, whereas if they own shares, that may not be the case.
How does this differ from discretionary shares which I think you have discussed in another excellent post?Delete
Good question. Depending upon the circumstances, discretionary shares may work in lieu of a trust. Speak to ur accountant to determine what is best for you specific fact situation.Delete
Just wondering if you can clarify the statement "I am assuming your corporation is an active company, not an investment company, for which the above is problematic".ReplyDelete
If I have an opco that is a professional corporation in which retained earnings are invested, and there is no opportunity to sell the company to anyone or to take advantage of the LCGE as it will eventually hold only passive investments once I cease the professional practice, is a family trust worthwhile in this case?
You would need to speak to your accountant who is aware of all the facts. It may be more problematic, but not necessarily fatal.Delete
5 investors would like to purchase a company but 4 of the five investors do not want to maintain anonymity. One of the investors will be the one managing the business being bought. How can the 4 silent partners maintain anonymity.ReplyDelete
Your question is more legal than tax, you would need to ask the question to a lawyer.
If the shares of the operating company sold, but common shares held by family trust, would the family trust qualify for basic capital gain exemption?ReplyDelete
I was wondering if you've got any post on the site to expand on the case that this article is not addressing?
"(I am assuming your corporation is an active company, not an investment company, for which the above is problematic)"
ie, what could be a good structure if we are thinking about operating an investment company?
Many thanks in advance!
How do I put this-- there is no tax benefit for operating an investment company and thus that is why I have not written on the topic.
Your message is really valuable.
Me and my friend are planing to set up an Investment Company in the form of a Holding Company where we both are Directors. And want to create a company under that to invest in a Condo Construction Project which is already functioning with 4 Share Holders/Directors. If we join them our company will be another Share Holder and we both will become Directors too. We hope to get $1 M profit share in 3 years time for our investment of 500k. Since we are new and dont have much net assets, we dont like to set up any Trust now.
Could you please tell if this Holding Company and Investment Company may be Tax efficient for our size and capacity.
647 709 1536
I do not provide specific personal tax planning advice on this blog, just general advice. You should engage an accountant. What I would suggest is that you consider whether it is necessary for you to set up both a holdco and investment co if this is a one time investment in the construction project. But again, u should discuss this with ur accountant as it may make sense depending upon your future plans.
If someone is already in a legal dispute (ownership/debt) over a company, is setting up a family trust to protect the home estate(mortgage not fully paid-off yet) a smart move? Would the trust be valid? Would it likely be cost-effective?
You need legal adviceDelete
It is possible the transfer could be challenged under law
Thank you Mark.Delete
You may be interested to know that your article seems to have been copied, modified, and utilized in this blog. Almost word for word.
If it is, will not be the first time or the last. Thx for pointing out, but I gave up long ago worrying about how often my blogs are used without my permission.
Can an existing trust(Holdco) own a business Corporation (Opco)?ReplyDelete
Yes, but it would have to subscribe for shares either from inception or as part of a reorganization. Speak to your accountant to review your specific situation.
My friend is selling the shares of his active business corp to his younger brother. My friend is retiring and his younger brother will take over running the company 100%. My friend was told he is not eligible for the LCGE. To me it seems unfair that you can sell to your kids and claim but not another family member. Is this the case? Thanks!
I don't comment on advice given by an accountant who is aware of all the facts of a specific situation. However, I would ask him/her for the specifics as to why and if you are not convinced, get a second opinion from a tax specialist since this is a large transaction with significant tax consequences.
If a new family member is added to a holding company can those shares be sold/bought at a nominal value, or is there some sort of market assessment of the share value with the 'revenue' for the sale of the new share being considered part of the income of the original shareholdersReplyDelete
Hi Anon. There are tax consequences if the shares are bought/sold. please speak to your accountant first.Delete
Hi Mark - I'm thinking of moving my rental properties (currently owned personally) into newly formed opco's (one for each property for liability/creditor protection) via section 85 rollover. Then I'd have one holdco own all opco's and holdco would employ at least 5 people full-time employees to manage the properties. Would holdco qualify for the small business deduction/QSBC status?ReplyDelete
I dont provide specific corporate tax planning advice. I would speak to your accountant. He or she should discuss potential advantages of your plan (lower tax rate if qualifies, asset protection, tax free loans created by transferring personal assets) versus costs to do so (HST on management fees, legal and acct fees on transfer, large increase in accounting fees for multiple corps, potential land transfer fees, double taxation down the road (can typically be avoided but again large tax fees upon death to avoid the double tax) etc etc.
Hi Mark, great blog. I am an IT consultant in Ottawa and am the sole shareholder of my corp. My accountant mentioned that setting up a holding company or trust may be worth my while as I currently am investing funds from the operating corp directly, but she said she'd need to research it more.ReplyDelete
I am married and don't have kids. My thought was to set up a holding company as the sole shareholder of the operating corp, and then have me the sole shareholder of the holding company. Does that make any sense, or should I get some more advice? My goal is to invest and build up funds in my company to pay myself in retirement.
I assume your accountant has already made you aware of the Liberal tax proposals that may kill this type of planning. If not, read my blog of July 24th
I have a Opco and did a rollover(sec 85) of my shares to holdco. If i need to create a family trust now, can i include my holdco as beneficiary, can i still claim the capital gain exemption?Any insights would be greatly appreciated.
First of all this post is dated with all the changes in legislation, so read it for a general understanding only. Secondly, you would need to freeze the value of the corporation before bringing in a trust as a shareholder and a corporation could be a beneficiary of the trust when you create the trust. In any event, you need to discuss this with your accountant or a tax expert to understand whether a trust would make sense still with the Tax On Split Income rules and to navigate these rules and many others.