SECTION 51(1) SHARE CONVERSION EXCHANGE

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A section 51(1) share conversion exchange permits you to exchange a convertible property issued by a corporation for shares of the corporation on the basis of a tax-free rollover. Convertible properties are capital property such as a share, bond, debenture or note of the corporation that contains a conversion privilege. In the course of an exchange of convertible property, you may be entitled to receive a fractional interest in a share.

The key elements that must be present for undertaking a section 51(1) share conversion exchange, include:

• Convertible Property: This typically includes:

  • Another share of the capital stock of the same corporation.

  • A bond, debenture, or note of the same corporation, provided its terms grant the holder the right to make the exchange (a conversion privilege).

• No Other Consideration: A crucial condition for Section 51(1) to apply is that the taxpayer must receive no consideration other than shares of the corporation for the convertible property. This means no cash or other property (with a minor exception for fractional shares, where cash in lieu of a small fractional share might be permitted).

• Tax Deferral (Rollover): When the conditions are met, the exchange is deemed not to be a disposition of the convertible property. This is the core of the tax deferral. Instead of recognizing a capital gain or loss at the time of the exchange, the adjusted cost base (ACB) of the original convertible property is essentially carried over to the newly acquired shares.

• Adjusted Cost Base (ACB) Carry-over: The cost (ACB) of the new shares acquired on the exchange is generally deemed to be the ACB of the convertible property immediately before the exchange. If multiple classes of shares are received, the ACB is allocated proportionally based on their fair market value.

TThe purpose and benefits of a section 51(1) share conversion exchange, include:

• Corporate Reorganizations: Section 51(1) is a valuable tool for corporate restructurings, allowing businesses to change their capital structure or ownership arrangements without immediate tax implications for shareholders.

• Succession Planning/Estate Freezes: It's frequently used in family-owned businesses to facilitate the transfer of wealth and control to the next generation in a tax-efficient manner. For example, a business owner might convert common shares (which appreciate in value) into preferred shares with a frozen value, allowing future growth to accrue to new common shares held by family members.

• Flexibility: It provides flexibility for shareholders to alter their form of ownership within a corporation (e.g., converting common shares to preferred shares) without immediate tax consequences.

Important considerations when looking to undertake a section 51(1) share conversion exchange, include:

• Not a Tax Elimination: It's important to remember that Section 51(1) is a tax deferral mechanism, not a tax elimination. The tax liability on any accrued capital gains is simply postponed until the newly acquired shares are eventually sold or otherwise disposed of.

• Relationship to Other Rollovers: While Section 51(1) is an automatic rollover, other tax-deferred rollover provisions in the Income Tax Act, such as Section 85 (transfer of property to a corporation) or Section 86 (exchange of shares on an amalgamation or winding-up), might be more appropriate or even supersede Section 51 in certain complex situations.

• Fair Market Value: Generally, for a successful Section 51 rollover, the fair market value of the converted property should be equal to the fair market value of the new shares received. If there's a discrepancy, especially if it appears a benefit is being conferred on a related person, subsection 51(2) might apply, potentially triggering a partial disposition or other adverse tax consequences.

For advanced corporate structuring and tax planning, contact our law firm to schedule a confidential initial consultation with a knowledgeable corporate tax lawyer at Chris@NeufeldLegal.com or 403-400-4092 / 905-616-8864.

 

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What is a Section 51(1) Share Conversion Exchange: A section 51(1) exchange permits you to exchange a convertible property issued by a corporation for shares of the corporation on the basis of a tax-free rollover. Convertible properties are capital property such as a share, bond, debenture or note of the corporation that contains a conversion privilege. In the course of an exchange of convertible property, you may be entitled to receive a fractional interest in a share. Read more . . .

  

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What is a Non-Eligible Dividend (Ordinary Dividend): A non-eligible dividend (also known as an ordinary dividend) is a taxable dividend that does not receive the benefit of the enhanced dividend gross-up and the enhanced dividend tax credit that is provided to eligible dividends. Read more . . .

 

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