Buying investments within a farm corporation is a common practice. It makes sense to seek higher returns when times are good and excess cash is available.
However, holding a large amount of non-farming assets such as investments within a farm corporation can have adverse tax consequences.
One such consequence is the loss of being able to use the lifetime capital gains exemption (CGE) of $800,000.
Another consequence is the loss of being able to use the rollover rules to transfer the farming corporation to the next generation.
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Options are available to trigger a capital gain that is eligible for the CGE, whether the reason is for estate planning, succession planning or selling the farm.
What you may not know is that the following criteria must be met to be eligible to use the CGE on the disposition of shares in your farm corporation:
- All or substantially all (typically more than 90 percent) of the fair market value of the farm’s assets are used in the active business of the farm at the time the shares are disposed.
- The shares of the farm have been held for more than 24 months.
- The assets have been used 50 percent of the time in active business in Canada in the 24 month period before the disposition.
An excess of non-farming assets is typically one of the most common reasons why farm corporations fail to meet all of these criteria.
An example of this would be a farm that holds assets with a fair market value of $1 million, of which $150,000 are investments, such as $150,000 in a GIC at the bank.
In this scenario, the investments would not be considered farming assets used in the active business, and the 90 percent or more criteria would not be met.
Cash held in a company’s Agri-Invest account will not throw it offside of these rules.
Several options are available to make sure your farm qualifies for use of the capital gains exemption:
- If there is a large amount of debt in the farm, those non-farming assets can be used to pay down debt.
- If there is no debt in the company, non-farming assets could be sold to buy more farming assets such as land and equipment, which could not only allow for the use of the capital gains exemption but also expand the farm.
- If buying additional farming assets doesn’t make sense, consider setting up a holding company to separate farming and non-farming assets.
The ability to use the full CGE room of $800,000 could save farmers in the western provinces as much as $156,000 to $185,000 of tax. As a result, it makes sense to ensure that your farm corporation shares qualify for this tax benefit.
Consider consulting a professional to ensure your shares qualify because every situation is unique and every situation will change over time.
