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January 2002

Tax-Free Rollovers for Small Business

In 2000 the Government of Canada introduced a measure that allows individuals to defer the tax on capital gains from the sale of shares in an eligible small business corporation where proceeds are reinvested in another eligible small business. Specifically:

• the tax-free rollover is available in respect of the first $2 million reinvested in shares of an eligible small business corporation; and

• to qualify for the tax-free rollover, the business may have no more than $50 million in assets immediately after the investment.

This measure is only one part of the Government’s Five-Year Tax Reduction Plan – the largest tax cut in Canada’s history. Under this plan, personal income taxes were reduced and other tax measures were put in place to reward entrepreneurship and stimulate economic growth (see below for a list of tax reduction measures).

Example – How the Tax-Free Rollover Works

Charles earns $65,000 per year and owns shares in an eligible small business corporation. He sells shares so that he can free up some cash to invest in shares of a new small business with some other partners. He realizes a $10,000 capital gain on the sale of the shares.

In 1999 three-quarters of the capital gain (i.e. $7,500) would have been taxed at the 29-per-cent top federal rate, plus the 5-per-cent federal surtax. This means that Charles would have paid $2,284 in federal income tax on the capital gain. In 2002, as a result of the rollover measure, tax on the capital gain would be deferred, which means that the entire $10,000 would be available to be invested in the new business.

For Further Information

For general information about federal tax cuts, visit the Department of Finance Canada Web site at www.fin.gc.ca. Information is also available from the Canada Customs and Revenue Agency (CCRA): visit the CCRA’s small business Web page at www.ccra.gc.ca/business; or phone the business enquiries section of your local tax services office (www.ccra.gc.ca/tso) or the CCRA’s toll-free business enquiries line at 1 800 959-5525.

About the Department of Finance Canada’s Tax Bulletin Series

This is part of a series of bulletins designed to give Canadians useful information about individual elements of the federal government’s Five-Year Tax Reduction Plan. Bulletins on tax measures and other publications may be viewed on the Web at www.fin.gc.ca, and copies may be obtained by calling the Department of Finance Distribution Centre at (613) 995-2855.

Below is a list of the tax measures included in the plan:

• Personal income tax rates have been reduced for all taxpayers, and the 5-per-cent deficit reduction surtax has been eliminated.

• The Canada Child Tax Benefit (CCTB) for low- and middle-income families with children has been substantially increased.

• Full indexation has been restored to the personal income tax system to protect taxpayers against automatic tax increases caused by inflation and to preserve the real value of benefits such as the CCTB and the goods and services tax/harmonized sales tax credit.

• The amounts on which the education tax credit is based have doubled.

• The amounts on which the disability tax credit, caregiver tax credit and infirm dependant tax credit are based have all increased.

• The 28-per-cent general corporate tax rate has already been reduced to 25 per cent, and has been legislated to fall to 21 per cent by 2004.

• As of January 2001 the 28-per-cent general corporate tax rate was reduced to 21 per cent on small business income between $200,000 and $300,000.

• The capital gains inclusion rate was reduced from two-thirds to one-half for dispositions after October 17, 2000. It had previously been reduced from three-quarters to two-thirds for dispositions after February 27, 2000.

• A tax-free rollover has been introduced to allow individuals to defer the tax on capital gains from the sale of shares in eligible small business corporations to the extent that the proceeds are reinvested in shares of another eligible small business.

• As of January 2001 self-employed individuals may deduct the portion of Canada Pension Plan and Quebec Pension Plan contributions that represents the employer’s share.