The Value of Voting Shares

Planning to address CRA policies

The Value of Voting Shares

Income tax considerations motivate the founder of a private corporation to allow family members to acquire common shares in the corporation. For example, a capital gain that is deemed to arise on the death of the founder will be reduced to the extent that the value of the corporation has accrued to shares held by surviving family members.

While founders may want family members to acquire shares, founders will frequently insist upon maintaining control of their corporations. For this reason, a founder will frequently hold all shares entitled to vote, while family members hold non-voting common shares. If the founder wishes to participate in the corporation’s growth in value, the founder will hold voting common shares or non-voting common shares and “skinny” voting shares – i.e. shares which do not carry any rights other than the right to vote. If the founder has sought to cap the value of his or her interest in the corporation by implementing an estate freeze, the founder will typically hold preferred shares and skinny voting shares.

For a family-owned corporation, all shareholders usually expect that shares will be valued in accordance with how the corporation’s articles require assets to be distributed on liquidation. Consistently with this expectation, the capital gain on a founder’s shares that arises on death may be calculated based on the shares’ entitlement on liquidation, without consideration of voting rights. Such a filing position may be disputed by the Canada Revenue Agency (the “CRA”).

In a 2007 policy statement, the CRA stated that it considered it appropriate to attribute value to a share’s voting rights when the holder of the shares can control the corporation. In a 2009 policy statement, the CRA narrowed the impact of the 2007 policy statement by advising that, in the context of an estate freeze, the CRA would typically not attribute value to a skinny voting share. However, the CRA did note that value could be attributed to voting shares if shareholders had acted in a manner that was consistent with the voting rights having value.

The 2009 policy statement is a positive indication that the CRA does not intend to begin challenging the estate freeze. However, the policy statement leaves open many circumstances in which the value of a voting right could cause unanticipated tax consequences.

Where necessary, steps can be taken to address the potential for value being attributed to voting rights. If one shareholder will hold shares that provide control of a corporation, this should not be accomplished through ownership of voting common shares. Instead, it is preferable that the shareholder hold non-voting common shares and skinny voting shares that are redeemable by the corporation. While value may still be attributed to the voting shares, the fact that the voting shares are non-participating and redeemable strengthens the argument that little value should be attributed to the voting shares.

Alternatively, a founder may hold voting shares as the trustee of a family trust. While this requires the founder to abide with fiduciary obligations, the trust will be treated as a separate taxpayer from the founder for income tax purposes. Accordingly, the voting shares will not be taxed as property of the founder.

If the founder of a family corporation insists on maintaining voting control of a corporation, it will not be possible to eliminate the risk of value being allocated to that voting control. However, careful planning can assist in addressing this risk.