Control: A Comprehensive Guide for Family-Owned Enterprises

Understanding control is essential for family-owned enterprises to navigate the complexities of corporate tax regulations effectively. Control determines how your business is taxed, impacts eligibility for certain tax benefits, and influences the overall tax liability. Whether it’s managing a Canadian-Controlled Private Corporation (CCPC), dealing with widely held shares, or understanding foreign ownership implications, mastering the rules of control can lead to significant tax savings and compliance assurance.

Application

Control rules apply in various scenarios, including ownership changes, acquisitions, and restructuring. Knowing these rules helps businesses determine their tax obligations, access benefits like the small business deduction, and ensure compliance with the Canadian Income Tax Act.

Summary

This guide covers essential provisions related to corporate control in the Income Tax Act. These rules are critical for determining how corporations are taxed and whether they qualify for specific tax benefits. We will focus on sections and subsections within Section 256, outlining the general rules, exceptions, and additional considerations for control and ownership.

Discussion and Interpretation

Some Basic Rules

Control of One Corporation by Another Corporation – Paragraph 256(1)(a): Two corporations are associated if one controls the other, directly or indirectly.

Control of Two Corporations by Same Person or Group of Persons – Paragraph 256(1)(b): Two corporations are associated if they are both controlled by the same person or group of persons.

Anti-Avoidance Provision – Subsection 256(2.1): This rule deems two or more corporations to be associated if their separate existence mainly aims to reduce income taxes or increase refundable investment tax credits.

Bankrupt Corporation Not Associated – Paragraph 128(1)(f): A corporation is not associated with any other corporation during the period it is bankrupt.

Corporations Can Be Related but Not Associated: Two corporations can be related under subsection 251(2) but not associated unless specific conditions in subsection 256(1) are met.

Dealings Between Corporations Not Required for Association: Association depends solely on control and share ownership, not on any dealings between corporations.

Corporations With Different Taxation Years: Corporations are only associated if they meet the association criteria on a common day within their respective taxation years.

Two Corporations Associated With the Same Corporation – Subsection 256(2): If two unassociated corporations are associated with the same third corporation, they are deemed associated with each other.

Exceptions

Indebtedness or Redeemable Shares – Subsection 256(3): Corporations are deemed not to be associated in specific situations involving indebtedness or redeemable shares.

Corporations Controlled by Same Executor or Trustee – Subsection 256(4): Corporations are not associated if controlled by the same executor or trustee due to the death of controlling shareholders.

Corporation Controlled by Corporate Trustee – Subsection 256(5): Corporations are deemed not associated if one controls the other as a trustee.

Indebtedness or Redeemable Shares – Control Deemed Not to Occur – Subsection 256(6): In certain cases involving financial control arrangements, control is deemed not to occur.

Control

De Jure Control: Refers to legal control, typically established by holding more than 50% of the voting shares, as defined in the Buckerfield’s Limited case and refined in subsequent rulings.

Voting Power to Wind Up the Corporation: The power to wind up a corporation, often held by common shareholders, is a significant factor in establishing control.

Beneficial Owners of Shares: Control is determined by the beneficial owners of shares, even if registered in another name.

Effect of Casting Vote: A chairperson’s casting vote does not constitute de jure control if it is a meeting-related privilege, not a shareholder right.

Indirect Control: Control can be exerted indirectly through ownership structures involving multiple corporations.

Effect of Special Provisions: Special provisions in a corporation’s constating documents or unanimous shareholder agreements can affect control.

De Facto Control – Subsection 256(5.1): De facto control goes beyond legal ownership and includes any direct or indirect influence over the corporation’s operations.

Group of Persons

Definition – Paragraph 256(1.2)(a): A “group of persons” refers to any two or more persons owning shares of the corporation’s capital stock.

Application of Paragraph 256(1.2)(a): This definition applies to subsections 256(1) to (5) but not to subsection 256(5.1).

Simultaneous Control of a Corporation – Paragraph 256(1.2)(b): A corporation can be controlled by multiple persons or groups simultaneously.

Control of Two Corporations by Related Persons or Related Groups of Persons – Paragraphs 256(1)(c), (d) and (e)

These paragraphs provide specific rules for associating corporations controlled by related persons or groups, with additional conditions involving share ownership.

Additional Rules

Deemed Control by the Fair Market Value Test – Paragraph 256(1.2)(c): A person or group is deemed to control a corporation if they own shares representing more than 50% of the fair market value of all shares.

Deemed Ownership of Shares by the “Look-Through” Rules – Paragraphs 256(1.2)(d) to (f): Shares owned by corporations, partnerships, or trusts are deemed owned by the respective shareholders, partners, or beneficiaries.

Parent Deemed to Own Shares of Child – Subsection 256(1.3): Shares owned by a child under 18 are deemed owned by a parent unless the child manages the business independently.

Options or Rights – Subsection 256(1.4): A person or partnership holding options or rights to acquire shares is deemed to own those shares for association purposes.

Simultaneous Control at Different Levels of a Corporate Chain – Subsections 256(6.1) and (6.2): These subsections address control in corporate chains, reversing the principle established in the Parthenon Investments Limited case.

Canadian-Controlled Private Corporation (CCPC)

A CCPC is a corporation that is not controlled directly or indirectly by one or more non-resident persons, public corporations, or a combination of both. Control plays a pivotal role in maintaining the CCPC status, which allows the corporation to benefit from the small business deduction, reducing the federal tax rate on the first $500,000 of active business income.

Widely Held Shares and Foreign Ownership

When a corporation is widely held, determining control can become complex, especially if foreign ownership is involved. Foreign-controlled corporations do not qualify as CCPCs and are subject to different tax rates. For example, the combined federal and Alberta corporate tax rate for a non-CCPC is approximately 23%, compared to about 11% for CCPCs on the first $500,000 of active business income.

Change in Ownership Control

Changes in ownership control can have significant tax implications, including the triggering of deemed taxation year-ends, realization of accrued gains and losses, and potential loss restrictions. Understanding the rules of control ensures that family-owned enterprises can navigate these changes effectively, maintaining eligibility for tax benefits and avoiding unintended tax liabilities.

Conclusion

Mastering the intricacies of control is crucial for family-owned enterprises to optimize tax outcomes and ensure compliance. The control rules in Section 256 of the Income Tax Act provide a detailed framework for determining control and association, with specific provisions for various scenarios. By understanding and applying these rules, businesses can navigate complex ownership changes effectively.

Navigating the complexities of control requires expertise and strategic planning. At Shajani CPA, we specialize in helping family-owned enterprises manage their tax obligations and optimize financial outcomes. Our team of experienced professionals is here to guide you through every step, ensuring compliance and maximizing tax savings.

 

This information is for discussion purposes only and should not be considered professional advice. There is no guarantee or warrant of information on this site and it should be noted that rules and laws change regularly. You should consult a professional before considering implementing or taking any action based on information on this site. Call our team for a consultation before taking any action. ©2024 Shajani CPA.

Shajani CPA is a CPA Calgary, Edmonton and Red Deer firm and provides Accountant, Bookkeeping, Tax Advice and Tax Planning service.

Trusts – Estate Planning – Tax Advisory – Tax Law – T2200 – T5108 – Audit Shield – Corporate Tax – Personal Tax – CRA – CPA Alberta – Russell Bedford – Income Tax – Family Owned Business – Alberta Business – Expenses – Audits – Reviews – Compilations – Mergers – Acquisitions – Cash Flow Management – QuickBooks – Ai Accounting – Automation – Startups – Litigation Support – International Tax – US Tax – Business Succession Planning – Business Purchase – Sale of Business