Estate Freeze: Canadian Tax Course

A Holdco freeze crystallizes the capital gains exemption but costs the children excluded shares status for TOSI, and an Opco freeze does the reverse. Work through section 85, section 51 and 86 exchanges, note and drop down freezes, subsection 75(2), and section 74.4 imputed interest.

Michael Cadesky FCPA, FCA, FTIHK, CTA, TEP (Emeritus)

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Estate Freeze: Section 85, Section 86, Note and Drop Down Freezes, Subsection 75(2), Section 74.4, and TOSI Excluded Shares

Personally held rental property is rolled into a corporation and frozen. On death the preferred shares carry high ACB, the underlying real estate does not step up, NERDTOH defeats the pipeline, and the first year loss carryback trades a capital gain rate for a taxable dividend rate. The freeze reduced one tax bill and created two.

A freeze is a commitment to a post mortem plan made decades before the death it is designed for. Whether the estate can pipeline, whether the underlying assets can be bumped, whether the next generation holds excluded shares, and whether the trust is reversionary are all determined at implementation. After death the remaining options are a loss carryback that converts capital gain treatment into dividend treatment, or nothing.

check_circle Section 85, section 86, and section 51 freeze structures. The Holdco freeze, the Opco freeze, the drop down freeze into a Subco, and the note freeze, with what each one does to crystallization, association, land transfer tax, and voting control.
check_circle TOSI and the excluded shares test. Why interposing a holding company costs the children excluded shares status, when new common shares cross 10% of votes and value, and why an Opco freeze preserves what a Holdco freeze gives up.
check_circle The double tax problem on frozen passive assets. High ACB preferred shares with no step up in the cost of the underlying property, NERDTOH on the corporation's investment income, and the capital loss in the children's hands with no way to use it.
check_circle Post mortem repair. The wind up or amalgamation bump where substantial value can be allocated to land, the pipeline and where it fails, and the first year capital loss carryback and what it costs in rate terms.
check_circle Subsection 75(2) and section 74.4. The reversionary trust that prevents a later rollout, and interest imputed at the prescribed rate where a designated person holds or benefits from the common shares.
check_circle Capital gains exemption multiplication and remuneration by redemption. Crystallizing on the freeze, purifying the operating company, and switching salary to preferred share redemptions so the frozen value is redeemed down before death rather than sitting untouched.

What You'll Learn

Twelve sections, in the order the seminar builds them. What a freeze does and where it goes wrong first, then the choice between children and a trust, then the four structures and how to choose among them, then the rules that bite afterward.

expand_more What an Estate Freeze Is and Why It Is Done: Fixing Value at Death, Multiplying the Capital Gains Exemption, and TOSI Planning

The mechanism, and the five reasons it gets implemented.

The mechanism An exchange of a growth asset, usually shares, for a fixed value asset, so future appreciation passes to others.
Fixing value for the senior generation The gain on death capped at the freeze date value rather than the value at death.
Multiplying the capital gains exemption New common shares issued to children or to a trust for children.
Purification Freeze structures used to restore or maintain access to the exemption.
TOSI planning Designing the share structure so the next generation ends up holding excluded shares.
Non tax reasons Business succession, estate planning, and the transfer of management to the next generation.
The three components in every version Fixed value preferred shares, common shares, and voting control shares, which may be separate or built into the preferred shares.

expand_more The Double Tax Problem on Frozen Passive Assets: NERDTOH, High ACB Preferred Shares, and No Step Up in the Underlying Property

The fact pattern that looks like sound planning at the freeze date and produces a worse overall result than doing nothing.

The fact pattern Personally held rental real estate rolled into a corporation for preferred shares, common shares issued to children or a trust, land transfer tax accepted as a cost of entry.
NERDTOH The corporation now taxed under the refundable regime on its investment income.
TOSI on the parent Dividends on the preferred shares potentially caught, with excluded shares status unclear.
What the freeze does deliver A smaller capital gain on death, because appreciation after the freeze date accrues to the common shares.
The structural flaw High ACB on the shares in the estate with no corresponding step up in the cost of the real estate inside the corporation.
The second tax The corporation realizes its own capital gain when the property is later sold, on appreciation that has already been taxed once.
The stranded loss Children holding shares with ACB above value have a capital loss, and no obvious way to use it.
What to take from it Passive assets moved into a corporation create the double tax exposure, so the entire strategy including the post mortem step has to be modelled before the roll in.

expand_more Post Mortem Options After a Freeze: The Wind Up or Amalgamation Bump, the Pipeline, and the First Year Capital Loss Carryback

Three repairs, each of which works only where the freeze was built with it in mind.

Wind up or amalgamation The frozen corporation wound up into or amalgamated with a new holding company to step up the cost of the underlying land.
The condition on that bump Effective only where substantial value can be allocated to land, which rules it out for many asset mixes.
The pipeline The estate transfers the shares to a new holding company for a note, and the note is repaid out of corporate funds.
Why the pipeline fails on a passive asset freeze Paying off the note leaves NERDTOH unclaimed, or produces Part IV tax in the holding company.
The capital loss plan Redemption of the preferred shares in the first taxation year of the estate, creating a deemed dividend and a capital loss carried back against the deceased's gain.
What that plan costs Capital gain treatment on the deceased's terminal return replaced by taxable dividend treatment in the estate, at a materially higher rate.
The conclusion Post mortem tools repair a passive asset freeze badly, which is why the analysis belongs at implementation rather than at death.

expand_more Freezing an Active Business: The Pipeline, the Capital Gains Exemption Conflict, and Holdco's Effect on Excluded Shares

The same structure over an active business, where the post mortem plan works and the TOSI result does not.

The structure Parent exchanges common shares of the operating company for fixed value preferred shares, children take the new common shares.
The pipeline on death High ACB preferred shares transferred by the estate to a holding company for a note, with the note paid off out of the after tax active income of the operating company.
What that saves Personal tax at dividend rates replaced by tax at capital gain rates on the terminal return.
The conflict with the exemption The pipeline is not available to the extent the capital gains exemption is claimed or claimable, because a deemed dividend results instead.
The TOSI cost of the holding company Children holding through the estate holding company do not hold excluded shares, so dividends are caught.
The refinement Redeem the preferred shares over time and pay off the note, leaving the children holding common shares of the operating company directly.
Excluded shares restored Once each child's common shares represent over 10% of votes and value of the operating company.
What the pair of examples shows The result turns on the type of income the corporation earns, active income against refundable tax income, and TOSI applies in ways the freeze design did not anticipate.

expand_more Children or a Trust: Control, the Rollout, Subsection 75(2) Attribution, and the 21 Year Rule

The decision that has to be made before the new common shares are issued, because it cannot be reversed cheaply afterward.

What a trust buys Continued control, discretion in allocating among children, and the ability for the parent to remain a beneficiary.
The reversible freeze A parent who is a discretionary beneficiary can be brought back into the value, which is the practical answer to freezing too early.
The rollout Shares transferred out of the trust to children later on a tax free basis.
The TOSI cost Common shares held through a trust are not excluded shares, so dividends to inactive children are caught.
Subsection 75(2) Attribution arising out of how the trust is formed, which can prevent the later rollout entirely, so the risk is created at settlement rather than at distribution.
The 21 year rule Shares have to be moved out of the trust before the deemed disposition date.
Non tax protection Creditor protection where a child is sued, and partial protection on a family law claim, noting that a discretionary interest can still be valued.

expand_more Remuneration by Preferred Share Redemption: Grinding Down the Frozen Value Before Death

The most common failure after a freeze is that nothing further is done with the preferred shares.

The failure The freeze is implemented, the preferred shares are left intact and ignored, and the frozen gain sits in the estate untouched for the rest of the parent's life.
The change Remuneration switched from salary to redemption of the preferred shares, which produces a dividend.
Why the switch is close to free Where the parent is past the age of RRSP contributions, the overall tax on salary and on dividends is broadly comparable.
The effect over time Each redemption permanently removes frozen value from the estate rather than simply funding the parent.
Over a normal remaining life expectancy The preferred shares can be redeemed down to a residual balance, or to nothing.
Where the residual falls within the capital gains exemption Tax on death on the frozen value can be eliminated.
An early death The strategy is not all or nothing, since every year of redemptions reduces the gain.
Where it works Active business corporations and corporations generating refundable tax income alike.

expand_more Implementation Considerations: Price Adjustment Clauses, Section 74.4, Subsection 75(2), Association and the Small Business Deduction, and Control

The checklist that runs across every structure, before choosing among them.

The share components Fixed value preferred shares to the parent, common shares to the children or trust, and voting control shares, separate or built into the preferred shares.
Price adjustment Available on the rollover structures, and the reason valuation risk differs sharply between them and a sale for a note.
Section 74.4 Interest imputed at the prescribed rate to the parent holding the preferred shares.
Subsection 75(2) Attribution where a trust is used, and the care required at trust creation.
TOSI The excluded shares analysis run before the share classes are settled, not after.
Reversibility The parent as a discretionary beneficiary of the trust, and the TOSI consequence of that choice.
Association A new corporation can associate with existing corporations and limit the group to one small business deduction.
Control How the parent generation retains control after value has passed to the common shares.

expand_more The Holdco Freeze Under Section 85 and the Opco Freeze Under Section 51, Section 86, or Section 85

The two most common structures, and the crystallization against excluded shares trade off that separates them.

The Holdco freeze Operating company shares rolled to a new holding company under section 85 for fixed value preferred shares, with children or a trust subscribing for or being gifted the holding company common shares.
What it offers A tax free rollover, a price adjustment clause, straightforward implementation, and the ability to crystallize the capital gains exemption on the transfer.
What it costs An additional corporation to maintain, and common shares that are not excluded shares because of the interposed holding company.
The Opco freeze Existing common shares exchanged for preferred shares under section 51, section 86, or section 85, with children or a trust taking new common shares of the operating company.
What it offers A tax free rollover, a price adjustment clause, no additional corporation, and no election form to file where section 51 or section 86 is used.
The TOSI advantage The new common shares can be excluded shares where they carry over 10% of votes and value.
What it costs The capital gains exemption cannot be crystallized on the exchange.
How the choice is actually made Whether crystallization is needed now, or whether excluded shares status for the next generation matters more.

expand_more The Drop Down (Subco) Freeze and the Note Freeze: Association, Land Transfer Tax, HST, and the Five and Ten Year Reserve

The two structures that do something the other pair cannot, each with a specific cost attached.

The drop down freeze The net assets or business of the operating company transferred to a new subsidiary on a rollover basis for preferred shares, with children or a trust taking the subsidiary's common shares.
What it does that others cannot Selected assets only are transferred, so inactive assets stay behind and the new subsidiary is purified from the outset.
The association problem Subsidiary and parent associated unless shares of a prescribed class are used, which costs voting control.
The other costs More complex to implement, land transfer tax where real estate moves although the affiliate exemption may apply, and possible HST issues.
The TOSI position The subsidiary's common shares can be excluded shares at over 10% of votes and value.
The note freeze Parent sells the operating company shares to the children for a note, which is a taxable transaction rather than a rollover.
Why it is still done Tax free to the extent of the available capital gains exemption, excluded shares immediately where the operating company qualifies, and the parent keeps control through voting shares.
The reserve Gain spread over five years, extended to ten years on a sale of small business corporation shares to a child.
The exposures Sensitivity to valuation with a price adjustment clause that may not work on a sale, and diminishing effectiveness where the gain is large.
The stepped up ACB Children acquire cost, but cannot pipeline to the extent the parent claims or is able to claim the exemption.

expand_more Choosing the Structure: Crystallization, the Trust Sandwich, Excluded Shares at 10% of Votes and Value, and Incorporating a Partnership

Four fact patterns worked end to end, each pointing to a different structure.

A small business corporation that may cease to qualify Crystallize on the freeze, use a trust for control with the parent as a beneficiary, and add a trust sandwich for creditor proofing, deferral, and ongoing purification, with no TOSI issue where the children are active full time.
Where the shares are already excluded shares Freeze at the operating company level with common shares issued directly to children aged 25 or older, with the parent taking remuneration by redemption so the common shares appreciate.
How those shares qualify Votes over 10% from inception, and value over 10% per child reached as the preferred shares are redeemed down, with a gift of shares and an exemption claim as an accelerant.
An operating company holding excess investment assets Not a small business corporation, so the business is dropped into a subsidiary and the freeze is done at that level.
What that achieves Preferred shares redeemed out of the subsidiary's income shift value to the children's common shares and purify the subsidiary at the same time, multiplying the exemption.
An unincorporated business A partnership incorporated tax free, with no 24 month holding period requirement for the capital gains exemption on the resulting shares.
The note freeze that follows Shares sold to children for a note, the exemption claimed by each of two spouses, and the excess gain spread over the reserve period.
The note terms Interest at the prescribed rate, failing which dividends attribute back from the children, with the note capable of being left unpaid and forgiven on death.
The pipeline limit for the children Available only on the portion of the note not supported by an exemption claim, and taking it costs excluded shares status.

expand_more Section 74.4 Imputed Interest: The Designated Person Test, the Small Business Corporation Carve Out, and the Prescribed Rate Dividend

A rule that runs quietly in the background of a freeze in favour of minors or a spouse.

What the rule does Imputes interest at the prescribed rate to the parent holding the preferred shares.
The carve out Does not apply while the shares are small business corporation shares, which is why the rule surfaces as a corporation accumulates passive assets.
When it applies Only where a common shareholder is a designated person, or is a trust with a designated person as a beneficiary.
Who is a designated person A spouse, and a child, grandchild, great grandchild, niece, or nephew under 18, whether holding directly or benefiting through a trust.
The trust workaround A clause preventing a person from benefiting while that person is a designated person.
The dividend answer A taxable dividend paid on the preferred shares with a grossed up amount equal to the prescribed rate applied to fair market value.
The trap in that answer A deemed dividend arising on a redemption does not reduce the imputed amount.
Ongoing maintenance The prescribed rate moves, so the required dividend has to be recalculated rather than set once.

expand_more Timing, the Parent's Cash Needs, Family Law, Unequal Arrangements, Wills, and Life Insurance

The matters that decide whether a technically correct freeze holds up over the following two decades.

Freezing too early The parent runs out of funds, and too much value passes to the children too soon.
The answer to that risk A trust with the parent as a beneficiary so the freeze is reversible, accepting the TOSI consequence.
Freezing too late A large gain already accrued to the parent and a shorter runway for a redemption program, which limits how much the freeze can achieve.
Cash needs Projections over the parent's remaining period, the amount required, and the other financial resources available.
How the parent is funded Salary or bonus where still active, a fixed dividend on the preferred shares such as a non cumulative monthly rate, or redemptions of preferred shares.
The oppression exposure Minority common shareholders, including a trust, have rights where amounts paid to the parent exceed what is reasonable.
Family law A trust gives some protection but is not foolproof, since even a discretionary interest can be valued, and the gift after marriage strategy is likewise imperfect.
The child with matrimonial issues Often better left out of the freeze than included and unwound later.
Unequal arrangements Freezing in favour of the active child, equalizing with other financial resources, and the family harmony question that follows.
Wills and probate Where unredeemed preferred shares go on death and on the death of a spouse, where and when control goes, and the two will structure.
Life insurance Whether a policy exists and whether it should, where it is held, how it operates, and whether the form and amount actually fund the redemption of the preferred shares on death.

Learn Directly from Tax Experts

Michael Cadesky

FCPA, FCA, FTIHK, CTA, TEP (Emeritus)

Managing partner at Cadesky Tax, practising since 1980 and a Fellow of CPA Ontario. Past governor of the Canadian Tax Foundation, past chair of STEP Canada and STEP Worldwide, and past chair of the CPA Canada Tax Committee for Small and Medium-Sized Enterprises. Co-author of 11 books on tax subjects.

Hugh Woolley

CPA, CA, TEP

Independent tax consultant who has taught income tax for over 30 years. Hugh has written courses for CPA Canada and over 10 papers for the Canadian Tax Foundation and STEP Canada. From 1990 to 1992 he worked at the CRA's Rulings Directorate in Ottawa writing butterfly tax rulings, and is a past Governor of the Canadian Tax Foundation.

Frequently Asked Questions

Can I start right away? expand_more

Yes. Recorded live on December 8, 2020 and available on demand. Register and begin immediately at your own pace.

Does this course provide verifiable CPD? expand_more

Yes. You will receive a verifiable CPD certificate for 1.0 hour of instructional learning upon completion.

What is included with registration? expand_more

The full seminar recording and the slides with detailed notes, with one year of access from your date of registration.

Who is this course for? expand_more

CPAs and tax professionals advising owner-managed businesses and family enterprises, and anyone implementing a freeze, reviewing a freeze carried out years ago, drafting or reading a family trust, or dealing with an estate that holds fixed value preferred shares.

Is there a cost to register? expand_more

Registration is $150 CAD, a one-time payment with no subscription required.