Tuesday, August 11, 2009

Deferring Tax to the Next Generation

No doubt many independent business owners have seen their company's worth decline in the last year. However, chances are very good that the value will rise again. If the company owner thinks that the rise will be substantial over the next few years, there is a wonderful opportunity to take advantage of a unique tax savings and defer the capital gains tax on the projected growth to the next generation.

The method is known as an "estate freeze." Essentially, the "freeze” caps the share price of the owner. Any future growth in the share price is passed on to the next generation of shareholders.

The method is as follows: the owner of the business gives his common shares to the company and takes back an equal amount of preferred shares. These preferred shares can issue dividends to the owner, thus allowing him livable income. Meanwhile, the common shares are issued at nominal value to the future owners, whether it may be family members, employees, etc. From that point forward, growth in the company is accrued to the new shareholders. Should the owner die, calculation of the capital gains tax is based on the value at the time of the freeze, not the accrued, increased value. This can provide a substantial savings on capital gains. Numerous companies have become financially strapped having to pay large capital gains taxes. The estate freeze can greatly reduce that tax bite.

Some companies have already done "re-freeze" while others have added trusts that name beneficiaries who will own the common shares in the future. All these moves are intended to reduce capital gains taxes, now and in the future, as much as possible.

Incorporate in Canada with CorporationCentre.ca
Click. You're incorporated ®