When a corporation undergoes a change in control, there are various income tax restrictions that can apply to the corporation. Most of the restrictions relate to the use of certain tax attributes after the change in control.
Upon the change of control of a corporation, there is a deemed taxation year end for the corporation. This will normally result in a short taxation year, with pro-rated CCA and certain other expenses. It also means that carryforwards of losses and other amounts can expire one year sooner. A separate tax return must be filed for that “short” year.
Other notable rules and restrictions:
- Net capital losses incurred before the change in control cannot be carried forward after the change of control, and those incurred after cannot be carried back to years before the change of control. (A net capital loss for a year is the allowable capital losses in excess of the taxable capital gains for the year.)
- Capital properties with accrued losses are subject to a write-down of cost to fair market value on the acquisition of control. Those triggered losses cannot be carried forward. However, an election can be made to deem dispositions of other capital properties with accrued gains in order to step up their cost bases, and the triggered losses can be used to offset those triggered gains.
- Non-capital losses incurred before the change in control can be carried forward, but only to offset income from the same or a similar business to that carried on by the corporation prior to the change in control. Otherwise, the losses cannot be carried forward. A similar restriction applies to post-control losses carried back to pre-control losses.
- Restrictions also apply to the carry-forward or carry-back of investment tax credits and scientific research and development expenses.
For purposes of these restrictions, “control” means so-called de jure (legal) control by a person or group of persons. Generally, this means the ownership of shares with more than 50% of the votes required to elect the corporation’s board of directors.
There are some exceptions where a change in control does not occur, even if a person acquires more than 50% of the voting shares. For example, if you acquire shares from a person related to you, the acquisition of the shares will not, in itself, result in a change in control of the corporation.
In addition to the change in de jure control of a corporation, amendments introduced in 2013 deem that control of a corporation is acquired in certain share acquisitions. The amendments deem an acquisition of control of a corporation to occur when a person or group of persons acquires shares of the corporation that have more than 75% of the fair market value of all the shares of the corporation (without otherwise acquiring de jure control of the corporation). However, these new rules apply only if it is reasonable to conclude that one of the main reasons that de jure control of the corporation was not otherwise acquired (i.e. more than 50% of voting shares were not acquired) was to avoid the above-noted change in control restrictions.
Similar rules apply to trusts
Similar tax restrictions apply to trusts. However, instead applying upon the change of control of a trust (since a trust is controlled by its trustees), they apply when a person or group becomes a majority-interest beneficiary or majority-interest group of beneficiaries of the trust. Typically, this entails the acquisition of more than 50% (on a fair market value basis) of the income interests or capital interests in the trust.
As with the corporate rules, there are some exceptions where the trust rules do not apply, even if you acquire more than 50% of such interests. For example, they normally do not apply if you acquire the interest from an “affiliated person”, such as your spouse or controlled corporation, among others.