All About Estates

Valuation for Estate Planning – Some Hard Lessons

In a recent case in Tax Court, Lauria v HMQ 2021 TCC 66, the taxpayers, both officers and directors of a company held shares in the company as a result of employee share option agreements granted to them.  In early 2006, the company founders decided to pursue an initial public offering (“IPO”) of the company and hired an underwriter for that purpose. Apparently upon the advice of the company’s chief financial officer, all the shareholders were encouraged to do some estate planning. The taxpayers, along with some other shareholders, formed family or spousal trusts and transferred their shares based on formulae used previously in share transactions between the founders and with other employees. A price adjustment clause was included in the share exchange agreement in case of reassessment after a finding by a competent tribunal if there is no agreement on the issue.

The IPO was completed a day after the reorganization. Nevertheless, the taxpayers reported the share exchanges on their personal tax returns for 2006 according to the values set out in the share exchange agreements. After the IPO, the company’s price per share was approximately 12 times the price set out in the share exchange agreements.

About 8 years later, the Canada Revenue Agency (“CRA”) commenced audits of the taxpayers’ 2006 taxation returns within a few months of one another, resulting in reassessments issued in 2017, beyond the normal assessment period, whereby both taxpayers’ taxable capital gains were substantially increased leading to substantial additions to income taxes payable. The CRA relied on an internal valuation at first but then turned  to external valuator  who used a market approach (comparing share prices for similar businesses in the public market0 and applied a discount for company size. The CRA reassessed the taxpayers almost 10 years beyond the normal reassessment period on the basis the non-arm’s length share transfers did not occur at fair market value.

The taxpayer appealed the reassessments on the basis that they were statute-barred, several years after the normal re-assessment period. The CRA argued the valuation used to support the taxable gains reported in 2006 was in effect a misrepresentation borne out of carelessness or neglect.

The Court found for the CRA on both its determination of value and its ability to reassess. The Court agreed with the CRA that the taxpayers were negligent and careless in making the misrepresentation.  I quote from the Judgment: ” It is not credible that the [taxpayers] would consider the effect on the value of their equity state resulting from the IPO for the purposes of their estate planning or cashing out purposes but ignore it for the purposes of filing their tax returns”.  

I have been writing about valuations for estate plan agreements, highlighting that they should be based on fair and reasonable methods, prepared in good faith, properly supported and documented at the time of valuation. Regrettably, the Court found had not met several of these criteria, resulting in a painful outcome. I suspect the price adjustment clause would have failed for the same reasons. Finally, it appears the taxpayers were not well advised or in some circumstances surrounding this matter, not advised at all.

This matter contains some good lessons (albeit hard ones) on the do’s and dont’s in such matters.

Happy Reading and be safe!

About Steven Frye
Baker Tilly WM LLP is a leading, independent audit, tax, and business advisory firm based in Vancouver and Toronto, serving clients across Canada. Drawing on well-trained teams across a variety of disciplines, we ensure the alignment of our professional’s skills and experience with client requirements, resulting in exceptional service and business outcomes.


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