Question
At the Canadian Tax Foundation’s 2007 annual conference, the Canada Revenue Agency (CRA) said that, to value different classes of shares in a company, it generally determines the en bloc fair market value (FMV) and then allocates the value to each class of shares in isolation. The CRA said that the FMV of each class of shares must be determined on its own merits according to the individual rights and restrictions of each class. The CRA’s opinion is that a hypothetical purchaser would be willing to pay some amount for the voting control of a company, and therefore the FMV of voting non-participating shares is more than nominal. The CRA conceded that the value of the pure voting right may be difficult to ascertain.[Footnote 1]
At the Canadian Tax Foundation’s 2007 British Columbia conference, a practitioner reported that the CRA was attributing 30 to 50 percent of the value of a company to voting non-participating shares.[Footnote 2] At the 2009 British Columbia conference, the CRA stated that
“non-participating controlling shares have some value and may therefore bear a premium. However, in the context of an estate freeze of a Canadian‑controlled private corporation, where the freezor, as part of the estate freeze, keeps controlling non‑participating preference shares in order to protect his economic interest in the corporation, the CRA generally accepts not to take into account any premium that could be attributable to such shares for purposes of subsection 70(5) of the Income Tax Act at the freezor’s death.”[Footnote 3]
Dustan v. The Queen [Footnote 4] involved the allocation of purchase price on a sale to third parties. The CRA’s position, as expressed in the pleadings, is that shareholders owning voting, non-participating shares have control over the amount and timing of any economic benefit received by other shareholders and therefore the voting shares have an FMV much greater than a nominal amount.
Can the CRA explain the methodology used to arrive at the FMV of such shares? Does it make a difference if the voting shares control only the timing of payments on the non-voting shares and do not control the value accruing on those shares? Does it follow that, to the extent that the voting shares have value, any separate class of frozen shares will have a value less than its retraction amount? Does the same logic apply in determining the value of being a trustee of a discretionary trust that owns shares?
Response
The question arises in the context of estate freezes of private corporations, where the freezor desires additional security for the value of the freeze shares taken back. Provided that the owners of all the shares of the corporation act in a manner consistent with the assumption that no value attaches to the voting rights, and the rights are eventually extinguished for no consideration, the CRA will generally not attribute value to the rights. If the holder of the rights uses them to run the corporation in conflict with the common shareholders or seeks or is offered consideration for them, it would be difficult for the CRA to ignore this evidence of value.