Grocery insights: Business owners looking to sell face big tax hit with ECP rule changes
Canada’s private business owners may want to accelerate plans to sell their businesses or other qualifying assets before new Canadian tax rules around eligible capital property (ECP) take effect.
Rule changes could double tax cost on sale of eligible capital property
The Federal government’s March 2016 budget revealed that Canada’s existing tax regime for ECP would be repealed effective January 1, 2017, and rolled into existing rules for depreciable capital property. ECP includes goodwill and intangibles such as customer lists, trademarks, franchise rights and certain licences.
While the change affects all Canadian businesses, its impact is particularly significant for owners of Canadian-controlled private corporations (CCPCs) that sell assets rather than shares.
Under current rules, the gain on the sale of ECP is taxed as active business income at a rate of roughly 13% to 15.5%, depending on the province. Under the new rules, that same gain will instead be taxed as a capital gain—at a rate of around 25% to 27%, depending on the province.
For example, a CCPC that sells assets including $10 million of goodwill in 2016 would pay approximately $1.4 million in tax. But in 2017, the company would pay nearly double that amount—approximately $2.6 million. This isn’t necessarily a tax cost to the individual shareholder, however, since a portion of the initial tax paid in 2017 by the corporation will be refundable.
Owners may need to accelerate transactions, business transitions
The ECP tax rule changes may drive many business owners to rethink the timing of asset sales or other transactions. Owners nearing retirement may want to accelerate their succession plans and transition the business to new owners far sooner than originally planned. If a sale or business transition was planned for 2017 or 2018, business owners should think about trying to get a deal done before the end of 2016.
Moving a transaction forward by such magnitude can be challenging—yet it’s also doable. The Canadian dollar’s low value against the US dollar makes Canadian companies a relative bargain for US and even other international buyers. And in the intensely competitive grocery sector, a well-structured and effectively integrated acquisition can be a way to achieve revenue and margin growth. Yet since completing a sale or transition typically takes several months or more, business owners keen to get the deal done before December 31 need to get moving now.
“A significant amount of small-business assets are expected to change hands over the next several years,” says Joanna Gibbons, Managing Director of Deloitte Corporate Finance Inc. “With the upcoming ECP rule changes, now is the time for business owners to step back and seriously assess their successions plans. The key to successful business succession is to start planning early, which includes tax planning and structuring.”
If the sale of the business—or other ECP asset—is imminent, but can’t be completed by December 31, then CCPCs should consider performing a reorganization by that date instead. A reorganization can allow the company to crystallize the gain before the new rules are effective and potentially defer some of the tax on the sale.
With ECP changes just months away, it’s time to act
Tax considerations alone should never drive a decision to sell an asset or business. But with the ECP tax rule changes coming into force in a matter of months, business owners planning a transaction or business transition in the short-to medium-term should act fast to decide whether they should move up the sale. Start by assessing the impact of the ECP tax rule changes on the proceeds of the deal, and then decide whether the business is truly ready to sell and capable of doing so on an accelerated timeline. If you’re ready, and it’s worth the effort, then the time to get started is now.