CRA notes that a parent may not access the intergenerational transfer rules where the parent remains a director too long, retains special voting shares or staggers dispositions

A parent wishes to access the s. 84.1(2.31) or (2.32) rules regarding a transfer of the shares of Parent Inc. (which are qualified small business corporation shares) to a holding company controlled and owned by the parent’s adult children, who have been actively engaged in the business of Parent Inc. As a result of an estate freeze, the parent now held voting preferred shares (the “Control Shares”) according voting control, as well as retractable preferred shares (the “Freeze Shares”) of Parent Inc.; and Parent’s adult children hold its voting common shares.

CRA indicated that there is no requirement in the intergenerational transfer rules that shares sold by a parent to a corporation controlled by one or more children be common shares or voting shares, so that preferred shares (such as the Freeze Shares) would not per se be excluded from the s. 84.1(2)(e) exception to the application of s. 84.1 (the “Exception”).

However, retaining the Control Shares would prevent the parent from benefiting from the Exception both because (i) they would entail the parent still controlling the subject corporation subsequent to the disposition of the Freeze shares, contrary to ss. 84.1(2.31)(c)(i) and 84(2.32)(c)(i), and (ii) they would not qualify as non-voting preferred shares as defined in ss. 84.1(2.31)(d)(i) and 84(2.32)(d)(i).

Regarding the requirements in s. 84.1(2.31)(g) or s. 84.1(2.32)(h) for a timely transfer of business “management” to the children (specified in s. 84.1(2.3)(i) to refer to the direction or supervision of business activities) CRA stated:

[W]here the parent remains a director of Parent Inc. and steps are not taken to completely and permanently cease to hold such office, within the time periods stipulated by paragraphs 84.1(2.31)(g) and 84.1(2.32)(h), including any longer period that is reasonable in the circumstances, the requirements of subparagraphs 84.1(2.31)(g)(ii) and 84.1(2.32)(h)(ii) would not be satisfied … regardless of whether the parent is the sole director or one of the directors, and regardless of whether the direction of the day-to-day activities is in the hands of the children.

Regarding where the parent sold the Freeze Shares (assumed to qualify as “non-voting preferred shares”) in three annual tranches, and retained the Control Shares until the third such sale (or, alternatively, sold them in three tranches, with the Freeze Shares), CRA noted that since the Exception, by virtue of s. 84.1(2.31)(a) or 84.1(2.32)(a), can only apply to the first disposition of shares by the taxpayer for which it is claimed, the second and third dispositions of the Freeze Shares could not qualify for the Exception. Furthermore, the Exception would not be available for the first disposition if the parent retained the Control Shares (as discussed above).

CRA indicated that if, in the case of a gradual (rather than immediate) transfer, the children’s corporation instead purchased all of the parent's shares but paid only for 20% over the following 10 years, and given that the shares sold on the first disposition were QSBCS, s. 84.1(2.32)(f)(ii) would not be satisfied because, at the end of the 10-year period, the parent would still hold a claim against the purchaser corporation having a FMV equal to 80% (i.e., over 30%) of the FMV of all of its interests held immediately before the disposition for which the Exception was claimed.

Neal Armstrong. Summaries of 10 October 2024 APFF Roundtable, Q.2 under s. 84(2.32)(c)(i), s. 84.1(2.3)(i), s. 84(2.32)(a), and s. 84.1(2.32)(f)(ii).