Harold Aucoin CPA Inc.

Selling your shares?
Your business being incorporated, you will likely want to sell the shares rather than have the company sell its assets. This potentially enables you to use your “capital gains deduction”. This reduces the taxes from that source of income. Most people erroneously believe that the sale of their shares results in no income taxes up to $850,000 of proceeds. I find this only rare cases. This deduction is available only where the company meets all of the conditions leaving the shares “qualified”. The conditions, beyond the scope of this article, are met for companies with “active” businesses holding “active assets”. These exclude activities such as renting, investing in “portfolio investments”, royalties, and other “passive” activities. The assets held by the company must also be of an “active” nature. It excludes excess cash, rental properties, and investments in “passive” businesses or assets. Portfolio investments are usually considered “passive” assets.

The buyer of your shares will require your company to be “cleaned-up” regardless if the assets and activities of your company are “passive” and regardless if you and your shares qualify for the “capital gains exemption”. No buyer will want to assume your debt and if the debt is to be assumed it will be the same as a refinancing of all debt by the company in a post purchase procedure. 

The seller of the shares receives the proceeds of disposition placing the funds in trust with a lawyer. The debts of the company are settled; usually from the lawyer’s trust account. The company now owes the selling shareholder the funds injected. This is usually indicated in a promissory note. At closing the promissory note and the debt to the selling shareholder is disposed of with the shares. The buying (new) shareholder receives the shares and the promissory note. Now the funds are owed to the buying shareholder. The funds equalling the promissory note becomes available to the buying shareholder tax free, because the taxes attributable to the promissory note have already been paid by the selling shareholder.

Any contemplated purchase price is dynamic because of the continual working of tax laws on any scenario. In addition to the expect cash flows from the newly acquired company, the buying shareholder along with the selling shareholder need to evaluate their positions carefully.