Beware of the Tax Man
One of the questions that we get asked most often is “When should I sell my practice?” or “How will I know when it’s time to sell?”. This is an excellent question and will ultimately be a function of a number of financial, professional, tax and personal matters. Your decisions with respect to the personal and professional elements will likely be under your total control. Assuming you can afford to sell, whether or not you continue to work as an associate will also be under your influence. What is not under your control however, is how the sale of your practice may be taxed in the very near future.
Whether you personally sell shares or assets, or whether your PC or any other corporation sells assets, you will optimistically have a very nice capital gain. Currently, 50% of any capital gain is tax free. The tax you pay on the taxable 50% will depend on whether the capital gain is yours or your corporations, and this is where the plot thickens. As of January 1, 2017, the tax virtually doubled on the taxable portion of the capital gain from the sale of assets by your PC. The overall tax on the sale of the goodwill inside your PC went (in Ontario) from 13.25% to 25%.
Granted, most of you never intend to have your PC sell assets anyways – you are planning to sell the shares of your PC when the time comes. If you still have your Lifetime Capital Gains Exemption available, you may be counting on paying no tax at all, and this is where in all likelihood, you will start to lose control. There are a couple of issues at stake here. Firstly, eliminating, or even drastically reducing the Lifetime Capital Gains Exemption, would result in significant new tax revenues for CRA. Secondly, modifying the excluded amount of the capital gain would also result in significant new tax revenues for CRA.
There has been little, if any, tax chatter regarding the Lifetime Capital Gains Exemption which is good. In their election platform, the Liberals seemed to take specific aim at professionals taking advantage of the ability to incorporate and be treated as small business’s. Changing the rules on the Lifetime Capital Gains Exemption would not only affect professionals (dentists for sure), but also a wider swath of Canadians, many in the middle class which the Liberal government has committed to support. So, it is conceivably doubtful that the Lifetime Capital Gains Exemption is at risk. However, I cannot say the same for the excluded portion of the capital gain.
In Canada, capital gains were first taxed in 1972 which was the last time the income tax laws were majorly overhauled. Initially, half of the capital gain was taxed much the same as it is today. In 1990 however, the exclusion rate was reduced to 25% which meant the tax payers paid tax on 75% of the capital gain. It stayed that way until October of 2000 when the exclusion rate was increased back to 50%.
While there has been virtually no tax chatter with regard to changes to the Lifetime Capital Gains Exemption, there has been plenty of talk and speculation about changes to the excluded portion of the Capital Gain. While this would also affect a wide swath of Canadians, it seems to be a more politically palatable change.
So, the question you are likely asking is what does this mean if you are thinking about selling your practice? For some time, and certainly since the last election, we have been advising dentists who have been thinking about selling their practices to seriously consider selling sooner rather than later. If all of your other “sell factors” are positive but you just haven’t decided to make the move quite yet, you should seriously think about taking action now. If you are within two to three years of selling it is likely that any potential market increase in value of your practice will actually be offset by the increased risk of health issues. This leaves taxes as your only potentially significant variable, and it would be a terrible bet to think the CRA is going to make things any easier for you in the future. Prudent wisdom says sell now.