Taxing Circumstances

Because capital gains exemptions are not granted for intergenerational transfers, it ends up being more financially advantageous to sell the business to a non-family member. In addition to putting growing numbers of brokerage firms out of business and fuelling job losses, this situation could lead to economic decline in certain Quebec regions.

But there is some good news: recently tabled Bill C-691, An Act to amend the Income Tax Act (business transfer), if adopted, might reverse this trend.

Although this trend is disturbing for the brokerage industry, it is equally disturbing for all small and medium-sized enterprises (SMEs) in Canada. The federal Income Tax Act applies equally to all businesses wishing to carry out transfers between related persons. The problem, as Quebec brokers see it, is that the legislation is overly rigid when it comes to intergenerational transfers.

Capital gains exemptions are currently not granted in the case of intergenerational business transfers, even though the exemption is significant and can potentially amount to $813,600.

For example, if a brokerage owner wants to sell the business to one of his or her children (rather than to a non-related person), the owner could be penalized to the tune of several thousand dollars.

WHICH IS THE PREFERRED OPTION?

Within the insurance brokerage industry, family succession is still the preferred means of ensuring future business viability. Unfortunately, individuals wishing to hand the torch to the next generation often find themselves in a highly disadvantageous tax position.

Which option is a broker likely to choose: selling to a non-family member while qualifying for a capital gains exemption of as much as $813,600, or transferring the business to a child with zero capital gains exemption?

Brokers probably never asked themselves that question before, so their answers may well come as a surprise, particularly if, like many business owners, the broker in question needs this tax exemption to fund his or her retirement.

Whenever brokers face a dilemma of this kind, things tend to get complicated. Many business owners have had to make such a choice: it is not only difficult and unjust, but also, in most cases, heartbreaking.

NEED FOR CONSISTENCY

There is, in fact, a way to carry out an intergenerational transfer without having to pay a high penalty. However, business owners choosing this option will end up embarking on a long and complex process that requires the involvement of a tax specialist.

For owners of larger SMEs, this process is worth the effort. But for small businesses – many of which have annual revenues of less than $5 million – it is not a good idea to hire a tax specialist. In fact, it may be a non-starter since the gains obtained may end up being used to pay the specialist’s fees.

Since this option is not beneficial to most business owners, selling to a non-family member is much more profitable. Unfortunately, that is the conclusion that many brokerage owners come to and, needless to say, they are deeply discouraged by Canada’s tax policies.

With business transfers to family members, the federal government offers very little support, this despite Ottawa persistently describing SMEs as the cornerstone of Canada’s economy and as drivers of job creation. But depriving companies of financial support in this way clearly hampers economic output, not only in Quebec, but nationwide.

QUEBEC’S SITUATION

Here in Quebec, the brokerage industry is a prime example of the importance of small businesses and their economic impact. Data from Raymond Chabot Grant Thornton’s 2014 study of the brokerage insurance industry in Quebec shows that with annual revenues of $657 million, the industry is largely made up of SMEs, with 67.5% of firms having one to four certified employees/owners.

In addition, Quebec’s brokerage industry supports 10,356 direct and indirect jobs, including some 2,300 brokers operating in regions outside the three major population centres (Montreal, Quebec City and Montérégie).

The brokerage industry’s economic impact is real and continues to grow. The September 23, 2015 issue of the Journal de l’assurance reported more than 40 firms have been sold or merged in the brokerage industry since January 2014.

For the most part, these businesses were transferred to non-related persons as a result of the constraints imposed by the current tax regime. The issue of intergenerational business transfers is, thus, of great importance.

There is no doubt that the brokerage industry will be in serious trouble if the federal government proves unable to facilitate business transfers between family members, particularly since the industry is already facing staffing and demographic challenges. Consider the fact that 50% of brokerage owners in Quebec are 53 years of age or older.

This being the case, Quebec brokers argue the government should take concrete measures on an urgent basis with a view to facilitating intergenerational business transfers. There are two overriding goals: ensuring the future viability of brokerage firms and safeguarding local jobs.

If the government fails to take swift action, the situation will only get worse: there will be fewer and fewer firms as the local economy in certain regions takes a hit and begins to wind down.

COMING TO THE AID OF SMES

The adoption of Bill C-691 may well be the solution to this existential threat. It would authorize small brokerage firms to claim the capital gains deduction for intergenerational transfers.

Tabled by Liberal MP Emmanuel Dubourg, the bill is aimed at correcting a major gap in Canada’s tax rules governing business transfers. Proposed amendments would change Section 84.1 of the Income Tax Act to exclude transfers of small businesses to the children or grandchildren of owners. In other words, business owners would receive the same tax treatment as if they were selling to a non-related person.

For now, the bill offers owners planning to transfer their businesses to their children some hope that the government will take action. That hope is shared by the insurance brokerage industry as a whole.

As part of the fight against tax unfairness, the change could end up saving certain regions from economic disaster, along with the entire brokerage industry.

It is definitely a step in the right direction. But the draft legislation still must be adopted and the provinces must also follow suit: after all, without SMEs, Canada’s economy would grind to a halt.