Analysis of rollover 85 in Canada

When a company restructures, the possibility of an embedded tax liability lying dormant in an asset that requires careful consideration before the restructuring exercise arises. Among the manifold provisions mentioned above is Section 85, otherwise known as “Rollover 85. ” Taxpayers use rollover 85 to defer part of or the entire embedded tax liability that arises when they elect to transfer eligible property to a taxable organization (Wolters Kluwer, 2016). The analysis presented in this paper focuses on Section 85 of Canada’s Income Tax. The discussion begins with a historical analysis of the section’s development, then shows its applicability. The rollover provision contained in Section 85 of the Income Tax Act enables businesspeople to defer paying taxes on transferred property. The section is widely used throughout Canada in tax planning as well as organizational restructurings (Wolters Kluwer, 2016).

It allows eligible transferors of assets to jointly elect with an eligible firm to transfer assets at an amount they agree upon. The amount is then used for tax purposes. The rollover provision allows both to suspend the apperception of a taxable gain that would otherwise be realized by transferring the property at an amount below its fair value. As such, they must be organizations incorporated in Canada under Section 250 (4) of the Income Tax Act and not tax exempt. The restriction ensures that subsequent transfers of the asset in question are taxable. Eligible transferors are people, companies, and trusts. They can either be residents or non-residents, but non-residents face some restrictions on the eligible property (Wolters Kluwer, 2016). Eligible property is discussed in greater detail in a section of this paper.

Since 1996, the recognition of price adjustment clauses would require the two involved parties to file an amended election and pay the late filing fine (Canada Revenue Authority, 1996). The fair market value and the elected amount should be interpreted as fixed and in specific figures at the date of transfer instead of formulas that can change or determine the amount at a later date. In June 2012, the Canadian Revenue Authority confirmed that it no longer uses the above provision. As long as the parties want to transfer property at its fair market value and they make reasonable efforts to determine that value at the time, the amended section does not apply. It shows that the revenue authority acknowledges that some of its rulings and interpretations do not reflect conventional assessing practice.

Dave will be required to discern whether any goodwill is attached to his practice, as this will also be transferred to DavCo at an elected transfer price. The elected transfer price for each property becomes Dave’s gains from the transfer of each asset. It also becomes DavCo’s tax cost of the property. In the table below, Dave transfers furniture, goodwill, and equipment in exchange for $20,000 worth of promissory notes and $20,000 in the form of common shares of the professional corporation. The accrued gain on the three is deferred and embedded in Dave’s common shares of DavCo. She would need to establish a new holding company, FitCo, and transfer her Signage shares to the new entity, taking back FitCo shares as consideration (Monaghan, Juneaja, Lamarre & Campell, 2012).

Doreen and FitCo would now need to elect jointly and choose an elected transfer price that activates a capital gain on the sale of Doreen’s Signage shares. Assuming that the adjusted cost base of Doreen’s Signage shares is $20,000, she would jointly elect with FitCo a transfer price of $855,716. The figure is a sum of the adjusted cost base of Doreen's shares ($20,000) and 2018 capital gains exemption of $835, 716. Since the elected transfer price is Doreen’s gains of disposition, she realizes capital proceeds of $835,716 which is tax exempt by claiming $835,716 of available capital gains exemption. Incorporating Sole Proprietorships Most people operate as sole proprietors in the early stages of development for their businesses. It is beneficial since it enables people to take advantage of initial business losses.

It also reduces administrative, legal, and accounting costs before the viability of a business has been determined (Satterthwaite, 2013). Assuming Ben has a small business. As the startup grows, many factors make incorporation preferable for Ben. Doing this freezes Ben’s share in the corporation at the value of the holding company’s fixed preferences shares. Ben’s children are now subscribed to the common shares of the corporation via the holding company (Satterthwaite, 2013). Doing this accrues all future gains to Ben’s children. Divisive Reorganizations Rollover 85 also facilitates butterfly transactions or divisive reorganizations. Supposing Ben had a business partner, and they now want to go their separate ways. However, a non-resident’s real property used for business is eligible as long as it meets the conditions stipulated in Section 85 (1.

1) (b) and (h) of the Income Tax Act. Cash, life insurance policies, pre-paid expenditure, unbilled disbursements, and trade receivables in the normal course of business do not constitute eligible property under rollover 85 (Wolters Kluwer, 2016). It is prudent to verify that an asset constitutes eligible property before carrying out a transfer of property to a corporation. Is the Development of Rollover 85 Beneficial or Detrimental? Rollover 85 is a great tool for businesspeople who wish to restructure their assets with the aiming for gaining substantial tax advantages. Small businesses also play a pertinent role in innovation and commercial development of new technologies. Small businesses have the propensity to lift people out of poverty, implying that they are effective instruments of expanding the middle class.

It is clear that small businesses create some special economic benefits that large firms struggle to replicate (Guenther, 2009). Such economic benefits are visible in the huge number of jobs and multitude of new technologies that small businesses in Canada generate. They have advanced, innumerable linkages to big corporations in the economic supply chain. The common uses of Rollover 85 in Canada have also been discussed, as has the crucial concept of eligible property for the provision. The opinion section determines that the development of Rollover 85 over time is beneficial as it encourages and facilitates the continuity of small businesses. References Canada Revenue Agency (1996). IC 76-19R3 – Transfer of property to a corporation under section 85. Retrieved 8th April 2018 from http://www. Taxation of Business Organizations in Canada.