Buy Sell Agreements In Canada And Their Impact On Preserving The Tax Favored Status Of Canadian Resident Controlled Private Corporations

By: Jerald David August

Canadian Controlled Private Corporations

In a recent article written by lawyers in the Aird & Berlis LLP law firm in Toronto, which was just published in Tax Notes International, U.S. international tax practitioners and business lawyers can obtain valuable insights on drafting issues and problems with Canadian controlled private corporation (CCPC) shareholder agreements. The idea is to preserve favorable tax attributes of a Canadian private corporation by ensuring that de jure and de facto control of the CCPC is maintained by Canadian persons throughout.

Shareholders Agreements in General

Shareholders agreements are critically important for owner-shareholders of a privately owned business such as a C or regular corporation, as well as an S corporation. Owner operating agreements must also be carefully negotiated, drawn up and executed, as well as effectuated, with respect to unincorporated entities such as limited liability companies, limited partnerships and limited liability limited partnerships.

Important issues to be resolved in such documents include (but are not limited to): (i) buy-sell procedures including price, terms and rights of first refusal; (ii) whether the buy-sell transactions involve a redemption of shares or a redemption of shares plus a cross-purchase of stock at the shareholder level; (iii) special provisions relevant to Subchapter S corporations; (iv) corporate governance issues and questions; (v) where supermajority votes of the shareholders must be taken in order to approve of a fundamental change in the business of the company including a sale of substantially all of the company’s assets, division or split-off, merger or acquisition, etc.; (vi) election of board of directors; (vii) voting rights, including provision for cumulative voting; and (viii) a potential host of other issues.

Oh Canada! You Have the Unanimous Shareholders Agreement Provision

The article referred to above for shareholders agreements in Canada was written from several perspectives, including tax. The term “unanimous shareholders agreement” (USHA) is introduced as a “a written agreement among all the shareholders of a corporation, or among all the shareholders and one or more non-shareholders, to restrict, in whole or in part, the power of the corporation’s directors to manage, or supervise the management of, the corporation”. Canada Business Corporations Act, R.S.C., 1985, c. C-44, §146(1). The types of provisions in a Canada shareholders agreement are essentially the same as those deemed necessary to be part of a shareholders agreement with respect to a U.S. privately owned corporation.

A special concern applies with respect to avoiding Canadian-controlled private corporation status. In particular, buy-sell agreements must avoid inadvertantly causing a Canadian-controlled private corporation (CCPC) from falling into the category of being controlled by nonresident persons for Canadian income tax purposes.

A CCPC is a “private corporation” that is not controlled directly or indirectly by nonresidents, public corporations, or any combination of the two. A “private corporation” is essentially a corporation that is resident in Canada, does not have shares listed on a prescribed stock exchange in Canada, and is not controlled by a public corporation. Where 50% of the shares of a private corporation are held by a Canadian resident and 50%  of the voting shares are held by a nonresident, CCPC status may still be available unless special rights are held by the nonresident. It should be noted that a Canadian-controlled private corporation (CCPC) will have some appeal to foreigner investors since a CCPC is entitled to a variety of preferential tax benefits including reduced rates of tax on a specified amount of active business income.

Benefits of achieving and maintaining CCPC status include:

  1. Ability to claim, as mentioned, the small business deduction; [1]

  2. Shareholder lifetime capital gains exemption on the disposition of qualified small business corporation (QSBC) shares; [2]

  3. Additional investment tax credits for qualified expenditures on scientific research and experimental development;

  4. Extension of time to pay the balance of certain taxes due under parts of the federal Income Tax Act (Canada) for the year;.

  5. Reduce statute of limitations on assessment of tax of three years  compared with four years for a corporation that is not a CCPC; and 

  6. The deferral of an employee’s taxable benefit under section 7 of the ITA arising from the exercise of stock options granted by a CCPC.

The above-described benefits are allowed only if the CCPC retains such status for the entire taxable year.  Under §125(7) of the ITA a private corporation is a Canadian corporation provided: (i) it is not controlled, directly or indirectly, by one or more nonresidents; or (ii) it is controlled by a nonresident person by application of attribution rules and control under a de jure or de facto determination. [3] In this regard the USHA takes on added significance. Indeed, the Supreme Court of Canada in Duha Printers held that a USHA should be considered when determining de jure control of a corporation. However, external agreements, like a shareholders’ agreement that is not a USHA, have no place in the de jure test for control. Instead, they are relevant only for the purposes of de facto control.

Note that if a Canadian corporation is controlled by another corporation resident in Canada, which is itself controlled by a nonresident person or group of persons, the Canadian corporation cannot qualify as a CCPC because it is indirectly controlled by a nonresident. Similarly,  if a Canadian private corporation is controlled by a nonresident corporation that is, in turn, controlled by a CCPC, the corporation will not qualify as a CCPC since it is directly controlled by a nonresident corporation.

Section 256(5.1) of the ITA provides that a corporation is “controlled, directly or indirectly in any manner whatever,” when another corporation, person, or group of persons has any direct or indirect influence that, if exercised, would result in control in fact of the corporation. De facto control, therefore, extends beyond de jure control and includes the ability to control “in fact” through direct or indirect influence. Importantly, de facto control may exist even without the ownership of any shares. [4]

There is a fair amount of coverage of this area in the article on this subject which was published in Tax Notes International, June 26, 2017. For those who work cross-border into Canada, it is an important article. Thank you Messrs. Bernstein, Bollefer and Nainifard.


[1] The small business deduction is a preferential rate of federal and provincial tax (15% in Ontario) afforded to CCPCs on the first $500,000 of active business income. A corporation that is not a CCPC is taxed at the higher general corporate tax rate (26.5% in Ontario). 

[2] The lifetime capital gains exemption is tax on $835,716 (for 2017, indexed annually) of capital gains from the disposition of QSBC shares by an individual. To qualify as a QSBC share, the share must be of the capital stock of a corporation that is a CCPC for the 24 months immediately prior to the sale. Loss of CCPC status will disqualify a share from being treated as a QSBC share and 50% of any gain that arises on the disposition will be fully taxable. 

[3] Buckerfield’s Ltd. et al. v. MNR, 64 D.T.C. 5301 (de jure control); Duha Printers, 98 D.T.C. 6334 (SCC)(de jure control).  See Interpretation Bulletin IT-458R2, “Canadian-Controlled Private Corporation” (5/17/2000). 

[4] There is a proposal pending in Canada to expand the definition of de facto control which would provide that all factors that are relevant must be considered in making this determination. This analysis would not be limited to whether a taxpayer has a legally enforceable right or ability to change the composition or powers of a corporation’s board of directors, or to exercise influence over the shareholders who have that right or ability.


"Disclaimer of Use and Reliance: The information contained in this blog is intended solely for informational purposes and the benefit of the readers of this blog. Accordingly, the information does not constitute the rendering of legal advice and may not be relied upon by the reader in addressing or otherwise taking a position on one or more specific tax issues or related legal matter for his or her own benefit or the for the benefit of a client or other person.” ©Jerald David August for Kostelanetz & Fink, LLP”