Updated on July 15, 2021

Are you planning your succession and thinking about passing the torch to one of your employees? What are the financing options?

It can sometimes be difficult to find a buyer for your business, but the hidden gem could be right within your organization, among your employees. They have the advantage of being familiar with the organization’s culture and being involved in its daily operation. Several factors must be considered when choosing a buyer and this decision must be carefully thought out, just as the transfer must be well prepared. One of the most common obstacles to a transfer is the potential buyer’s ability to finance the purchase.

When the buyer’s financial resources are insufficient to finance a business purchase, there are several interesting options to consider that can compensate for or complement traditional institutional financing, namely:

• Stock option plan
• Estate freeze
• Low-interest loan
• Share-based bonus
• Employee trust

Stock option plan

This is a written agreement between an employer and an employee to allow the employee to become a shareholder and thus receive a portion of the company’s profits. One of the advantages is that it increases the employee’s sense of attachment and involvement in the organization.

The agreement is drafted by the employer and details the conditions which the employee in question must satisfy in order to acquire share capital, including the share price the employee will pay (equivalent to or less than the market value).

A stock option plan helps to foster employee loyalty and may also provide significant tax savings. In certain circumstances, the employee could benefit from a 50% deduction for federal purposes and 25% or 50% for Quebec purposes, as applicable. Additionally, the employee can defer the benefit provided by the organization.

Estate freeze

With an estate freeze, an employee can subscribe to the company’s participating shares with a minimum outlay.

Immediately before the employee subscribes to the shares, the value of the corporation’s participating shares is “frozen” at its fair market value (FMV) or, if preferred, transferred to a new class of preferred shares.

Accordingly, the corporation will issue new participating shares to the employee at a value that corresponds to the subscription price, at a lower price.

For example, an entrepreneur holding participating shares in the business with a cost price of $1 million and a current FMV of $5 million could transfer the value of the participating shares, i.e., $5 million, to non-participating preferred shares that will retain their $5 million value.

In exchange, the entrepreneur could issue new participating shares at a minimal cost to the employee wishing to become a shareholder.

Not only is the buyer obtaining shares at a lower cost, but he or she will benefit from any appreciation in their value over time. A comprehensive plan on how to purchase or redeem the preferred shares issued to the departing shareholder must be put in place.

This will allow an employee to participate in the future profits of the corporation and thus accumulate financial capital more quickly to eventually purchase the securities of an outgoing shareholder.

When properly carried out, a business transfer takes place over several years. It is therefore important to ensure the potential buyers’ interest and reliability. In general, it is recommended that employees who wish to succeed the seller make a minimal investment. A monetary commitment on their part will guarantee their retention and involvement in the transfer’s and organization’s success.

Low-interest loan

The company can provide a low-interest loan to an interested employee. Naturally, this loan would include a commitment with reasonable repayment terms, which would strengthen the employee-employer bond. Accepting a loan agreement demonstrates the potential buyer’s motivation and commitment.

Share-based bonus

It is also possible to offer the acquiring employee a share-based rather than a cash-based bonus. This approach, which has the same tax advantages as a stock option plan, is easier to implement because, instead of targeting a category of employees, it can be customized to a specific employee.

Employee trust

A trust may be created to hold shares to the benefit of the employees. In this case, the trust’s administrators are usually the business’s current managers. The employer thus retains management of the rights associated with the shares issued (the employee is not directly involved). Even if the shares are not personally owned by the employee, the latter benefits from all the tax advantages attributable to a shareholder who directly owns the shares.

In all of the cases presented above, it is important to review the shareholder agreement to take the arrival of these new shareholders into consideration.

In order to properly assess the impact of these different options on your personal situation, it is preferable to call on a tax specialist who is familiar with the laws and all the tax implications resulting from these choices and who will be able to guide you and suggest the best solution for your situation.

As a supplement to this article, we invite you to listen to Episode 6 of our Propulsion podcasts “J’aimerais intéresser mon directeur général à l’actionnariat” (in French only).

British Columbia

New registration requirements for Canadian and foreign sellers of software and telecommunication services

On February 18^th, 2020, British Columbia’s 2020 budget was delivered in which new registration requirements for Canadian and foreign sellers of software and telecommunication services as well as Canadian sellers of goods were announced. In essence, the new registration requirements are aimed at foreign businesses that operate in the digital economy or Canadian entities that sell goods in the province.

More information below.

Saskatchewan

New registration requirements for non-residents sellers operating in the digital economy

On May 30^th, 2018, the proposed amendments to the Provincial Sales Tax Act of Saskatchewan were given Royal Assent. These legislative changes require that non-resident vendors who make sales of tangible property and other taxable services to consumers in S.K. register for PST purposes.

These changes, effective retroactively to April 1^st, 2017, apply not only to vendors selling to unregistered persons (i.e. consumers) but rather to any end-user (i.e. business-to-business or business-to-consumer).

Electronic Distribution Platforms, Online Accommodation Platforms and Marketplace Facilitators

On July 3^rd, 2020, other proposed amendments to the Provincial Sales Tax Act of Saskatchewan were given Royal Assent. These legislative changes are effective retroactively to January 1^st, 2020.

Read our document below for full details.

March 11th, 2021

Protecting future generations: Innovative tax solutions to reduce public debt levels exacerbated by the pandemic.

Dealing with the pandemic took an extraordinary toll on public finances. Taxpayers are already overburdened with numerous forms of taxation coming from all levels of government. Transferring the burden to future generations simply is not sustainable. Québec and Canada must put people back to work and create the winning conditions conducive to unlocking our extraordinary natural wealth and full growth potential. It is in this context that, in anticipation of the federal and provincial budgets, Raymond Chabot Grant Thornton presents exceptional measures catered to the current equally exceptional times.

The Canadian and Quebec governments introduced several programs helping individuals and businesses get through the pandemic. We salute these measures, which were essential for preventing job loss, bankruptcies and, ultimately, a major economic crisis. However, they have led to substantial deficits—amounting to $400 billion and $15 billion for the governments of Canada and Quebec, respectively—and the numbers are still climbing! Decision makers must take action now to prevent a public finance crisis and protect future generations from having to carry a burden that would take decades to pay off.

In Quebec, we have the economic potential to bounce back stronger than most other countries. We have an educated and bilingual population, creative entrepreneurs and an abundance of natural resources and renewable energy. Vaccines will allow us to regain our freedom and reopen the economy. We can expect a flurry of activity when the public’s pent-up demand is unleashed. We’re all looking forward to going out, eating in restaurants, travelling, shopping, and interacting in a real world instead of a virtual one. The pandemic will nevertheless leave a legacy of extraordinary debt in its wake and our firm proposes innovative solutions to tackle the problem.

First, we recommend that the governments present two separate budgets: the first covering regular operations and the other covering pandemic-specific spending. In addition, our tax specialists have drawn up creative strategies to increase revenue inflows to reduce pandemic-related debt. Specifically, they’ve been looking at ways to incentivize taxpayers to accelerate taxes that would otherwise be owed later. These proposed measures include:

• For a period of 24 months:
  • Allow taxpayers to withdraw funds from their RRSPs at a combined tax rate of 15%.
  • Allow taxpayers to pay capital gains tax on assets (shares, income-producing properties, etc.) at a combined tax rate of 15%.
  • Allow Canadian taxpayers to withdraw funds from their holding corporations and pay a combined tax rate of 20% on dividends.
  • Allow corporations to increase their capital dividend account to 30% of expenses incurred on initiatives that benefit the health of their employees. By promoting better lifestyle habits, this investment from the private sector will ultimately lower healthcare spending. Corporations could therefore pay their shareholders tax-free dividends amounting to 30% of these eligible expenses.

We also believe this is a good time to reopen immigrant investor programs as this would increase foreign investment in Quebec and contribute to our economic recovery.

These bold measures are worth considering. Intergenerational equity and the stability of public spending are at stake. The federal and provincial governments have the opportunity to generate additional cash inflows without raising taxes. By reducing pandemic-related debt, we could balance the budget more quickly and reduce the burden on future generations.

This letter was written by Emilio B. Imbriglio, the firm’s president and CEO from 2013 to 2021.