Canada: Creating Chaos In Corporate Reorganizations

Reorganizing private companies should be a simple task for corporate lawyers. Tax professionals design tax plans setting out the steps that have to be followed, and corporate lawyers follow the "step plan" and document the transaction. What could be simpler?

And, therein lays the problem. Corporate lawyers sometimes forget that nothing is really that simple and that following the road map laid out by the tax professionals without applying some critical thought to it can lead to commercial difficulties.

Let's discuss this in the context of a simple estate freeze in a family owned business intended to pave the way for the next generation of the family or employees to become shareholders. In a typical estate freeze, the holder of the common shares (often a founder) exchanges his or her common shares for fixed value shares, and a new person (often a family member or an employee) then subscribes for common shares.

I often tell my clients that since my knowledge of tax is conversational and relying upon anything that I say about tax is dangerous, they must obtain advice from a qualified and well-insured tax professional. However, as a corporate lawyer, I do have to be able to recognize the danger signs that indicate that the client's tax advisor may not be up to the job, or that although the tax advisor may be knowledgeable, he or she may not be looking beyond the tax issues.

Here are some examples of what I have seen in my practice:


Estate freezes often rely upon section 85 of the Income Tax Act to effect a tax-free rollover. The tax professional will usually require that the Articles of the corporation and/or an exchange agreement contain a "price-adjustment clause" which will be used to adjust the purchase price and the value of the consideration received in the event that CRA alleges that the purchase price does not represent the fair market value of the shares which are being frozen.

However, CRA will only allow the parties to rely upon a price adjustment clause if they have taken reasonable steps to value the shares which are being sold. There is room to disagree about the extent of the valuation exercise which must be conducted in order to be able to rely upon a price adjustment clause, but there is little doubt that some reasonable steps must be taken. I recently became aware of a transaction which was completed without any valuation being undertaken by the client's accountant. The accountant reported that the shares in question were valued "at what the client said they were worth". The corporate lawyer who implemented the tax plan should at least have raised the absence of a valuation as a danger sign.

Retractable Shares

In the typical estate freeze, common shares will be converted into fixed value shares. One of the features that make shares "fixed value shares" is that they are usually redeemable and retractable at a fixed value. All of this is fine and good from a tax perspective, but tax professionals sometimes do not address the commercial issue arising from holding retractable shares, which simply put is that the shareholder may demand his or her money at an inopportune time for the corporation, and that subject to the statutory solvency tests, the corporation will be obligated to pay.

One issue that should be addressed is how the Corporation's bankers are going to react to the common shares being converted into retractable shares, which may be to require that each shareholder sign a subordination agreement. Signing subordination agreements for the current bank and committing to sign subordination agreements for future banks should be addressed with the shareholders before they are allowed to hold retractable shares.

Another issue that should be addressed is whether, and the extent to which, limits can be put on the right of a shareholder to retract the shares at all so that a shareholder cannot put financial pressure on the corporation by demanding that his or her shares be redeemed.

I have seen retraction rights exercised by a disgruntled sibling in order to put pressure on management and by an aged father who "changed his mind" about what his cashflow requirements were and who he was going to leave his shares to in his will. I have also seen retractable shares come under the control of a disgruntled sibling exercising influence over a parent with Alzheimer's disease. The corporate lawyer has to look in the crystal ball and think about where these shares may end up and whether there is a way to limit the retraction rights while still satisfying CRA's requirements.

Voting Freeze Shares and Thin Voting Shares

Sometimes the tax professionals or corporate lawyers will suggest that frozen shares should be voting to allow a founder to be able to control the corporation until all of his or her frozen shares have been redeemed. However, as these shares are redeemed, the voting rights may fall below the 66 2/3 threshold required to pass a special resolution or the 51% threshold required to elect the board of directors. In order to address these issues, a class of non-participating shares without dividend rights but carrying sufficient votes to control the corporation and known as "thin voting shares" are sometimes used to preserve control with the founder.

As with retractable shares, the corporate lawyer has to consider who may one day be exercising the voting rights and how to bring them to an end when the frozen shares have been redeemed.

Shareholders Agreements

It doesn't even take a crystal ball to identify some other issues that could become a problem but which are often missed.

For example, since corporate reorganizations often result in a change in the shareholdings of the corporation, when the reorganization dust settles individuals who used to hold their shares directly often hold their shares through holding companies and family trusts may have subscribed for new common shares. The shareholders agreement which was drafted prior to these events may no longer fit the situation, and if it is not amended or replaced, there may be real legal issues as to whether the shareholders agreement continues in effect.

Price Adjustment Clauses

Here is another example of an issue which should be obvious, but is often missed. As mentioned above, price adjustment clauses are a feature of estate freezes. These provisions make perfect sense from the perspective of complying with CRA's requirements, and in a family situation may also be consistent with the objectives of the parties. However, it is not difficult to imagine situations where stakeholders may be troubled to find out that the corporation in which they have invested actually "owes" the holder of the frozen shares much more than the stakeholder thought. Some thought should be given as to what will happen if the price adjustment clause is invoked and how that situation will be managed.


A corporate reorganization may result in a change of ownership or a change in control within the meaning of a loan agreement, lease, license agreement, franchise agreement or other commercial agreement. Consents may be required from the other parties to such agreements.


The discussion above has all been about simple estate freezes. There are, of course, many other types of corporate reorganizations, and all of them raise commercial issues. Asset transfers will often require the financing to be looked at; transfers of real estate will raise land transfer tax issues; amalgamations may expose a strong company to the creditors of a weak company or even result in the "merger" of two parcels of real estate that had previously been severed.

My point, and I do have one, is that after the tax professionals do their job, the lawyers implementing the reorganization transaction must be more than just scribes.

They have to bring the same general commercial knowledge, experience and analytical skills to the transaction that they would bring to any other commercial transaction. And yet, sometimes they don't, as if the labels "tax plan" or "corporate reorganization" somehow result in an exemption from all of the usual rules.

Pallett Valo LLP Business Law Practice

Structuring your business, and business proposals, for success requires the right partnerships and specialized expertise. At Pallett Valo, we represent both growth businesses and established enterprises in all sectors. Our specific legal knowledge and wide-ranging experience will empower your business decisions - enabling you to act with confidence and decisiveness to take advantage of all opportunities. We bring a rarely-found enthusiasm, creativity and cost-effectiveness to both your day-to-day legal requirements and more complex strategic legal needs.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions