The 2016 Federal Budget proposed changes to the Income Tax
Act (Canada), expected to come into force effective January 1,
2017, that will alter the manner in which the sale of certain
intangible property, such as goodwill, is taxed. Specifically, a
Canadian-controlled private corporation (CCPC) that is selling its
business by way of an asset sale will incur an increased immediate
tax liability upon the disposition of such intangible property.
As such, business owners contemplating a sale of their business
should consider the advantages of (i) completing the sale of such
assets prior to these legislative changes coming into force; or
(ii) crystallizing certain gains accrued on such intangible
property through a corporate reorganization.
Under the current tax regime, there are certain expenditures of
a capital nature incurred by a corporation that are neither
deductible as a business expense, nor treated as a capital property
subject to depreciation pursuant to the capital cost allowance
rules. These expenditures are incurred by a corporation to acquire
certain types of intangible property for the purpose of earning
business income. This type of asset is referred to as eligible
capital property (ECP), which includes goodwill, customer lists,
franchise rights, and other intangibles.
Current ECP regime
Under the current tax regime:
75 percent of ECP is included in a
cumulative eligible capital (CEC) pool.
An annual deduction of 7 percent of
the CEC pool on a declining balance basis is allowed to be deducted
from the active business income related to such ECP.
50 percent of any gain resulting from
the disposition of ECP is taxable at the lower corporate business
tax rate applicable to active business income, while the remaining
50 percent of any gain is captured in the CCPC's capital
dividend account and can be paid out to shareholders tax free.
Under the proposed tax regime:
100 percent (rather than 75 percent)
of ECP acquired on or after January 1, 2017, will be included in a
new class of depreciable property (class 14.1).
An annual deduction of 5 percent
(rather than 7 percent) will be applicable to the ECP on a
Any gains resulting from the
disposition of ECP will be taxed as capital gains and as a result,
subject to the higher tax rate applicable to investment income
rather than the lower tax rate applicable to active business
Loss of tax-deferral advantage
Although billed as a simplification of the ECP rules, the repeal
and replacement of the existing ECP rules, the creation of this new
category of depreciable property, and the rules applicable thereto,
and will result in a CCPC paying as much as 10 percent in
additional refundable tax upon the disposition of goodwill. This is
because under the present regime, income from the sale of goodwill
is treated as active business income and not subject to refundable
tax whereas, under the proposed regime, the sale of goodwill or
intangibles will be treated as a taxable capital gain that is
considered to be investment income which is subject to higher tax
Because the proposed rules are intended to take effect on
January 1, 2017, we encourage business owners who may otherwise be
selling a business to consider the advantages of executing the sale
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