Avoiding Inadvertent Associated Status: A Guide to Wasting Freezes and Mature Trusts
In today's world of wealth planning, a strategic and well-informed approach is key to ensuring the financial stability and future growth of private companies. One popular tactic employed by many successful private company founders is the wasting freeze. When combined with a mature trust, this can be a powerful tool for effectively managing your assets and ensuring a prosperous legacy for your children.
However, it's important to be aware of the potential pitfalls and tax implications associated with this method. In this blog, the expert at Derek Dalsin, CPA, CA will discuss the concept of wasting freezes and mature trusts and how to avoid inadvertent associated status for Canadian tax purposes.
Understanding Wasting Freezes and Mature Trusts
A wasting freeze is a wealth planning strategy that involves freezing the founder's private company shares and having a family trust subscribe to common shares. This allows future growth to accrue to the trust, which is typically established as a discretionary trust with children as beneficiaries. When a mature trust is involved, the children (now adults) may own companies of their own, while the trust may control the private corporation.
Under the wasting freeze, then the founder's shares are redeemed in tranches over time, reducing the founder's voting shares and equity holdings of the company over time.
Potential Tax Implications
If the wasting freeze has matured to the point that the trust controls the private corporation, the successful private corporation may be associated with any company owned by the beneficiaries. This results in sharing the Annual Business Limit and the Capital Tax limit and potentially recharacterizing certain inter-corporate charges. This occurs because of a rule that deems each individual related beneficiary to own all the shares held by the trust, which is now in control of the private company.
Avoiding Inadvertent Associated Status
To avoid this inadvertent associated status for Canadian tax purposes, it is crucial to reorganize the private company shares held by the trust into a specified class of shares. These shares are deemed to be debt rather than equity for relevant Canadian tax purposes, effectively removing the control tax fact and eliminating the associated status. As a result, the children's companies become entitled to their respective Annual Business Limits and Capital Tax thresholds.
Wasting freezes and mature trusts can be effective tools for managing your assets and ensuring a prosperous legacy for your children. However, it's crucial to be aware of the potential tax implications and take the necessary steps to avoid inadvertent associated status for Canadian tax purposes. By reorganizing the private company shares held by the trust into a specified class of shares, you can maintain the control you need while maximizing tax benefits for your children's companies.
If you need assistance with wealth planning strategies, such as wasting freezes and mature trusts, reach out to me at Derek Dalsin, CPA, CA. I can provide tailored advice and guidance for your unique situation.