Buying a Business: Basic Tax Considerations

So, you have identified a business that you would like to acquire, but you are not sure which method you should use to do so, and how to best structure the deal to best avoid the tax man.

There are essentially three options available to you: purchase the assets of the business; purchase all the shares of the company; or amalgamate the company with a company that you already control. The latter method is much less common and has many implications contingent upon the particular structure being adopted, therefore this article will focus on the choice between an asset purchase and a share purchase.

Asset Purchase. When purchasing assets, you will be able to pick and choose just those ones that you would like to acquire, and you can take comfort in knowing exactly which obligations and liabilities will be incurred. From the buyer’s perspective, an asset purchase has the following advantages:

1. The buyer can select just the assets it wants to acquire;
2. The buyer does not inherit the tax issues of the business;
3. The seller will be responsible for distributing the net after-tax proceeds out of the corporation;
4. The buyer can write off a portion of the purchase price attributable to goodwill; and
5. The buyer can write up assets to their fair market value, thereby establishing a higher depreciable cost base on which to claim capital cost allowance (“CCA”).

A detailed review of every asset and their “cost amounts” will need to undertaken in order to best distribute the purchase price amongst the various assets, as well as the resulting capital gains and recaptured income or loss.

The Canada Revenue Agency (“CRA”) may attempt to use Section 68 of the Income Tax Act (the “Act”) to reallocate the price in accordance with what it concludes is commercially reasonable, but transactions concluded at arm’s length are generally deemed reasonable and escape this extra scrutiny.

Share Purchase. In a share purchase, unless the parties make provision before closing to strip the company of certain assets, all the assets, liabilities, and obligations of the company are the indirect subject matter of the transaction and must carefully be scrutinized in order to determine the true cost of the deal.

Tax obligations for the previous six taxation years are potentially the subject matter of the transaction, therefore a great degree of due diligence must be performed in order to be comfortable with what exactly is being acquired. Holding back part of the purchase price is an ordinary method for the buyer to ensure there are no hidden liabilities that only come to fruition after the closing date.

Individuals often prefer share deals when selling their businesses because the lifetime capital gains exemption available on the disposition of “qualified small business corporation shares” greatly enhances the net yield to the seller.

Generally then, buyers prefer purchasing assets, while sellers prefer to sell shares. This preference will usually be reflected in the purchase price, with the seller offering a more favourable price tag for a share purchase. The calculation of the taxes payable by the seller on an asset deal and the calculation of the value to the buyer of the step-up in cost case usually prove to be the determinative aspects of the transaction.

Any tax practitioner moving from T1 personal tax preparation to T2 corporate tax preparation is required to understand these rules. There are three ways to come up to speed with Knowledge Bureau:

• Take an online certificate tax course – T1 Professional Tax Preparation–Proprietorships or T2 Corporate Tax Preparation–Basic
• Attend the Corporate Tax Bootcamp, which provides an exemplary instructor-led experience in Toronto, Winnipeg, Calgary and Vancouver.