Deemed taxation year-end
First, there is a deemed taxation year-end of the corporation immediately before the acquisition of control. Then there is a deemed beginning of a new taxation year at the time of the acquisition of the control. The deemed year-end will typically result in a short taxation year. The corporation will have to file a tax return for that short year within the normal time frame (6 months after the yearend). It will have to pay the balance of its tax owing for the year within 2 months after the year-end (or 3 months, for certain Canadian-controlled private corporations).
The short taxation year will require a pro-rating of certain deductions. For example, the corporation’s deduction of capital cost allowance (tax deprecation) will have to be pro-rated to account for the short year. As well, one more year is used up for rules that “count” taxation years.
Perhaps more significantly, the change of control will trigger income tax consequences that do not apply to a “regular” year end. Most of the rules limit the extent to which certain tax losses and other attributes can be carried over or back beyond the change of control. The significant rules are summarized below.
Restriction for net capital loss and non-capital loss carryovers
There is a blanket restriction for the carryover of net capital losses (unused allowable capital losses – generally half of capital losses) beyond the change of control. In other words, net capital losses from years before the change of control cannot be used to offset capital gains after the change of control. Similarly, net capital losses from years after the change of control cannot be carried back to offset capital gains from before the change of control.
For non-capital losses (generally, business and property losses), the same restriction applies, but not in all cases.
Non-capital losses from a business before the change of control may be carried forward to years after the change of control, but only if the same business is carried on after the change of control with a reasonable expectation of profit, and only to offset income from that business or a similar business. Similarly, non-capital losses after the change of control from a business can be carried back to years before the change of control only if the same business is carried on with a reasonable expectation of profit, and only to offset income from that business or a similar business.
Otherwise, non-capital losses cannot be carried forward or back beyond the change of control.
Write-down of accrued capital losses
Immediately before the change of control of the corporation, all of the accrued capital losses of the corporation are triggered and the cost of each property with an accrued loss is reduced to its fair market value. The accrued capital losses are recognized in the taxation year that ends upon the change of control. This rule, in conjunction with the carryover restrictions, ensures that capital losses cannot be carried over to taxation years beyond the change of control.
However, the corporation can elect to trigger accrued capital gains in respect of other property owned at the change of control. The triggered capital gains can then be offset by any accrued losses recognized as noted above. More specifically, the corporation can elect that a capital property with an accrued capital gain is deemed to be disposed of for any amount between its cost and its fair market value. The corporation will have a deemed re-acquisition cost of the property at the same elected amount.