Tax-Deferred Rollovers Under Section 85: A Complete Guide for Ontario Business Owners

ByManan Patel

Tax-Deferred Rollovers Under Section 85: A Complete Guide for Ontario Business Owners

By Bader A. Chowdry, CPA, CA, LPA | Insight Accounting CPA

For business owners across Ontario, transferring assets to a corporation typically triggers immediate capital gains tax. But Section 85 of the Income Tax Act (ITA) provides a powerful mechanism to defer that tax — potentially saving hundreds of thousands of dollars. Whether you’re restructuring a Mississauga manufacturing company, reorganizing a GTA technology startup, or planning succession for a family business in Toronto, understanding Section 85 rollovers is critical.

This comprehensive guide explains how Section 85 works, when to use it, common pitfalls, and strategic applications for Canadian business owners.

What Is a Section 85 Rollover?

Section 85 of the ITA allows taxpayers to transfer eligible property to a taxable Canadian corporation at an elected amount, effectively deferring capital gains tax that would otherwise be triggered on the transfer.

Key Characteristics:

  • Tax-deferred: Capital gains are deferred, not eliminated
  • Elected transfer price: Transferor and corporation jointly elect a transfer price between the tax cost and fair market value (FMV)
  • Share consideration: Transferor must receive at least one share of the corporation
  • Joint election: Both parties must file Form T2057 within the prescribed deadline

Example:

A Mississauga business owner transfers rental property with a $200,000 ACB (adjusted cost base) and $1,000,000 FMV to a holding company. Without Section 85, this triggers an $800,000 capital gain. With a Section 85 rollover electing at $200,000, the capital gain is deferred — the property’s cost to the corporation is $200,000, and the owner’s shares have an ACB of $200,000.

When Should You Use a Section 85 Rollover?

1. Incorporating a Sole Proprietorship

Transferring business assets from a sole proprietorship to a corporation without triggering immediate tax. Common in GTA professional services, construction, and healthcare practices.

2. Estate Freezes

Transferring growth assets to the next generation while crystallizing the current owner’s value. Frequently used in Ontario family businesses for succession planning.

3. Corporate Reorganizations

Moving assets between related corporations to optimize tax structure, creditor-proof assets, or facilitate investment.

4. Income Splitting

Transferring assets to a family trust or corporation owned by family members (subject to TOSI rules).

5. Preparing for Sale

Reorganizing assets before a business sale to maximize Lifetime Capital Gains Exemption (LCGE) eligibility.

Eligible Property for Section 85 Rollovers

Not all assets qualify. Eligible property includes:

| Eligible | Not Eligible |

|————–|——————|

| Capital property (land, buildings, equipment) | Cash |

| Shares of a corporation | Personal-use property |

| Partnership interests | Inventory held for resale |

| Goodwill and intangibles | Most depreciable property below UCC (triggers recapture) |

| Bonds and debt instruments | Real property inventory (developers) |

Tip: While depreciable property is eligible, electing below UCC triggers recapture (taxed as income, not capital gain). Careful planning is essential.

How Section 85 Elections Work: Step-by-Step

Step 1: Determine Fair Market Value (FMV)

Obtain an independent valuation of the property being transferred. For real estate, land, or business interests, professional appraisals are often required.

Step 2: Choose the Elected Amount

The elected amount must fall within a safe range:

  • Minimum: Greater of (a) the property’s ACB, and (b) any non-share consideration received (e.g., cash, promissory notes)
  • Maximum: Fair market value (FMV) of the property

Example:

Property ACB: $300,000

FMV: $1,000,000

Non-share consideration: $100,000

Minimum elected amount = $300,000 (ACB is greater than $100,000)

Maximum elected amount = $1,000,000 (FMV)

Electing at $300,000 defers the $700,000 capital gain.

Step 3: Structure the Consideration

The transferor must receive:

  • At least one share (common or preferred)
  • Optional non-share consideration: Cash, promissory notes, or assumption of liabilities (limited to ACB to avoid triggering gain)

Pro Tip: For maximum flexibility, use preferred shares with retractable features. This allows the transferor to withdraw funds in a tax-efficient manner over time.

Step 4: File the Election

Both the transferor and the corporation must file Form T2057 (Election on Disposition of Property by a Taxpayer to a Taxable Canadian Corporation) by the earlier of:

  • The transferor’s tax return due date for the year of transfer
  • The corporation’s tax return due date for the year of transfer

Missed deadline? Late-filed elections may be accepted with penalties, but CRA is strict. Work with a CPA in Mississauga or GTA to ensure compliance.

Common Pitfalls and How to Avoid Them

1. Electing Below ACB

Electing below the adjusted cost base triggers an immediate capital loss (non-deductible on a transfer to an affiliated corporation). Always elect at or above ACB.

2. Exceeding the Boot Limit

If non-share consideration (boot) exceeds the ACB, a capital gain is triggered immediately. Limit boot to ACB or less.

3. Mismatched Elections

The transferor and corporation must elect the same amount. Inconsistencies lead to reassessments and penalties.

4. Ignoring General Anti-Avoidance Rule (GAAR)

If the rollover lacks commercial substance or is solely tax-motivated, CRA may invoke GAAR. Document legitimate business purposes (e.g., creditor protection, financing, succession).

5. Late Filing of Form T2057

Missing the deadline can void the entire rollover, triggering full capital gains tax. Set calendar reminders and engage your CPA early.

Strategic Applications of Section 85 Rollovers

Estate Freezes

Lock in the current value of growth assets for the original owner while transferring future appreciation to the next generation.

Example:

A Toronto manufacturing business owner transfers shares worth $5 million to a holding company in exchange for $5 million in fixed-value preferred shares. Common shares (with future growth potential) are issued to a family trust for children. The owner’s estate is “frozen” at $5 million; future growth accrues to the trust.

Multiplying the LCGE

Each Canadian can claim up to $1,016,836 (2024 limit, indexed) in lifetime capital gains exemption on qualified small business corporation (QSBC) shares. Section 85 can facilitate income splitting to multiply this exemption.

Example:

A Mississauga tech entrepreneur transfers QSBC shares to a holding company, then subscribes family members for new common shares. Upon sale, each family member can claim their own LCGE (subject to TOSI and attribution rules).

Creditor Protection

Transfer operating assets to a holding company, insulating them from creditors of the operating entity.

Corporate Simplification

Consolidate multiple operating companies or subsidiaries under a single holding structure for cleaner financials and easier sale preparation.

Tax Implications Post-Rollover

For the Transferor:

  • No immediate tax if elected at ACB
  • Deferred gain embedded in the shares received
  • Future disposition of shares triggers the deferred capital gain

For the Corporation:

  • Property’s cost base = elected amount
  • Future sale by the corporation triggers capital gain based on the elected amount

Example:

Property transferred at elected amount of $300,000 (ACB).

Corporation later sells property for $1,200,000.

Corporation’s capital gain: $1,200,000 – $300,000 = $900,000.

Section 85 vs. Section 85.1: What’s the Difference?

| Feature | Section 85 | Section 85.1 |

|———|————|————–|

| Property type | Any eligible property | Shares only |

| Election required? | Yes (Form T2057) | Automatic (if conditions met) |

| Flexibility | High (elect any amount in range) | Low (automatic rollover at ACB) |

| Use case | General asset transfers | Share-for-share exchanges |

Section 85.1 is ideal for corporate amalgamations and share exchanges, but Section 85 offers more control and broader application.

Documentation and Compliance Checklist

Before executing a Section 85 rollover, ensure you have:

  • [ ] Independent valuation or appraisal of transferred property
  • [ ] Legal agreement outlining transfer terms
  • [ ] Share certificates issued to transferor
  • [ ] Completed Form T2057 signed by both parties
  • [ ] Supporting schedules and calculations
  • [ ] Documentation of commercial purpose (for GAAR defense)
  • [ ] Promissory notes or boot consideration agreements (if applicable)

Work with a CPA in Ontario experienced in corporate tax and restructuring to ensure all technical requirements are met.

When NOT to Use Section 85

1. No Future Growth Expected

If the asset won’t appreciate, deferring tax may not be worthwhile (especially if current tax rates are lower than future rates).

2. Low ACB Property with LCGE Eligibility

If you can claim the LCGE now, triggering the gain may be more beneficial than deferring.

3. Short-Term Holding

If the corporation will sell the asset shortly after transfer, the administrative cost may outweigh the tax deferral benefit.

4. Non-Arm’s Length with Attribution Concerns

Transfers to spouses or minor children can trigger attribution rules, negating tax benefits.

Real-World Case Study: GTA Real Estate Developer

Situation:

A Mississauga real estate developer owns rental properties personally (ACB $2 million, FMV $8 million). He wants to transfer properties to a holding company for creditor protection and estate planning.

Solution:

Section 85 rollover:

  • Elected amount: $2,000,000 (ACB)
  • Consideration: $1,900,000 in preferred shares + $100,000 promissory note
  • Deferred capital gain: $6,000,000

Outcome:

No immediate tax. The developer can redeem preferred shares over time to extract cash tax-efficiently. Upon death, the shares can be transferred to heirs, and the estate freeze locks in his value.

Frequently Asked Questions (FAQs)

1. Can I use Section 85 to transfer assets to a US corporation?

No. Section 85 applies only to taxable Canadian corporations. Cross-border transfers may qualify for other rollover provisions (e.g., Section 85.1 for certain share exchanges).

2. What happens if CRA rejects my elected amount?

CRA may reassess and impose the FMV as the deemed proceeds, triggering immediate capital gains tax plus penalties. Always work with a CPA to ensure your election is defensible.

3. Can I elect a different amount for different assets in a single transfer?

Yes. You must file a separate Form T2057 for each distinct property transferred, and you can elect different amounts for each.

4. Does Section 85 apply to depreciable property like equipment?

Yes, but electing below the undepreciated capital cost (UCC) triggers recapture (taxed as income). Careful planning is required.

5. How does Section 85 interact with the TOSI (Tax on Split Income) rules?

Section 85 itself doesn’t trigger TOSI, but subsequent income or capital gains from transferred property may be subject to TOSI if paid to family members without reasonable contribution.

6. Can I reverse a Section 85 rollover if I change my mind?

Not easily. Once the election is filed and the transfer completed, reversing requires unwinding the transaction (potentially triggering tax). Plan carefully before executing.

How Insight Accounting CPA Can Help

At Insight Accounting CPA in Mississauga, we specialize in complex corporate tax planning, including Section 85 rollovers, estate freezes, and business reorganizations. Our services include:

  • Pre-rollover tax modeling to quantify tax savings
  • Independent valuations and appraisal coordination
  • Form T2057 preparation and filing
  • Post-rollover compliance (minute books, share certificates, CRA filings)
  • Integration with estate planning and succession strategies

Whether you’re a family business owner in the GTA, a real estate investor in Toronto, or a tech entrepreneur in Ontario, we’ll ensure your Section 85 rollover is structured correctly and defensibly.

Call us today at (905) 270-1873 or visit insightscpa.ca/services/tax-planning to schedule a consultation.

Final Thoughts

Section 85 rollovers are one of the most powerful tools in Canadian tax planning, enabling business owners to defer capital gains, reorganize corporate structures, and plan for succession — all while maintaining flexibility and control. But the technical complexity and strict compliance requirements mean that professional guidance is essential.

With the right CPA partner in Mississauga or the GTA, you can unlock significant tax savings and position your business for long-term success.

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About the Author:

Bader A. Chowdry, CPA, CA, LPA, is the founder of Insight Accounting CPA Professional Corporation, a Mississauga-based firm specializing in tax planning, corporate finance, and AI-driven governance solutions. With deep expertise in Section 85 rollovers, estate freezes, and business restructuring, Bader helps Ontario business owners navigate complex tax strategies with confidence.

Contact: (905) 270-1873 | insightscpa.ca | Mississauga, Ontario

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