If spouses have a corporation when they separate and one spouse intends to retain the corporation and buy out the other spouse’s interest, the corporation will have to be valued.

Usually it is necessary to retain a business valuator to review all of the corporate financial statements and tax returns and provide a value of the corporation.

An issue which can arise is whether or not the value of the corporation should be reduced by what we call “Distributive Taxes.” Distributive taxes recognize that the spouse who is retaining the business will eventually be required to either sell the business or take money out the business by way of salary or dividends. When this is done that spouse will have to pay tax.

The B.C. Supreme Court recently dealt with this issue in a decision McKenzie v. McKenzie 2015 BCSC 241. The court stated:

Distributive Taxes

[4]             The result of the decisions aforesaid is that the shares in Comaxco are a family asset in which the respondent has a 10% interest. A 10% interest in Comaxco is valued at $607,000. The Court of Appeal noted at para. 118 that the 10% interest in Comaxco “may need to be reduced on account of distributive taxes”. The question before me is whether it should be reduced and, if so, by what amount?

[5]             The most recent decision of the Court of Appeal on the issue of compensation payments and distributive taxes is Weintz v. Weintz, 2014 BCCA 118. Madam Justice Smith in Weintz at para. 1 referred to the question there as “the vexing issue of how to give effect to a division of assets pursuant to s. 66 of the Family Relations Act, R.S.B.C. 1996, c. 128 [FRA] that includes shares in a closely held corporation”. The same question arises here.

[6]             In Laxton v. Coglon, 2008 BCCA 414 at paras. 52-54, 58 R.F.L (6th) 1, Madam Justice Saunders usefully summarized the issue there:

[52] I am persuaded, however, that the personal tax consequences to the party selling the shares should have been deducted from the compensation award. While s. 66 of the FRA gives the court a broad discretion to “determine any matter respecting the ownership, right of possession or division of property,” the court must consider relevant factors that alter valuation. The tax consequences attracted by the sale an asset in order to realize the amount of the compensation is a relevant factor. This factor relates to Southin J.A.’s characterization in Blackett, at 343, of the “cash in hand” advantage. If an asset must be sold in order for the non-owning spouse to realize his or her interest in that asset, then the tax consequences arising from the sale of that asset must be taken into account when determining the amount of the compensation order.

[53] Madam Justice Huddart in Kowalewich v. Kowalewich (1998), 50 B.C.L.R. (3d) 12 (C.A.), also recognized the relevance of this factor when she stated, for the Court, at para. 12:

[12] … As this court explained in Blackett v. Blackett (1989), 40 B.C.L.R. (2d) 99 (B.C.C.A.) and Halpin v. Halpin (1996), 27 B.C.L.R. (3d) 305 (B.C.C.A.), the cost of borrowing, the tax consequences of a transfer of ownership, and any other costs to effect an in specie division, must be taken into account in determining the amount to be paid to adjust the division under section 66(2)(c) of the Family Relations Act. As Madam Justice Southin reminded us in Blackett, section 66 is not an expropriation provision. It is a mechanism to adjust matters between spouses who do not wish to continue in their joint ventures as joint owners.

[54] In this case, the compensation order was predicated on a finding that, if Mr. Coglon had made the appropriate disclosure at the material time, Ms. Laxton would have exercised the options and sold her 20% interest in the Heartland Public shares between June 2003 and August 2003. In the alternative, if Mr. Mericle’s evidence is accepted, the share options could have been disposed of by either party. Had either party done so, they would have paid capital gains tax on the sale of the shares. Blackett and Kowalewich are authority for the principle that, in these circumstances, a compensation order should reflect the tax consequences that the disposing party would have incurred. This would have yielded the sale proceeds net of the option exercise price and the capital gains tax.

[Emphasis added.]

[7]             Not all compensation orders include disposition costs or tax consequences arising from a transfer of property. In Ouellette v. Ouellette, 2012 BCCA 145 at paras. 27-32, the Court declined to take hypothetical and speculative disposition costs into account where no sale was contemplated and funds were available wholly from the sale of the matrimonial home. In Ouellette, however, the only issue at trial was the appropriate amount of the compensation to pay Mrs. Ouellette, not whether it would be fair to Mr. Ouellette to pay compensation in any particular manner or at all.

[8]             In my view the principles arising from Weintz, Laxton, Ouellette, Blackett, and Halpin are:

(1) where there is sufficient evidence to satisfy the Court of tax consequences or other costs inherent in a compensation order the Court should take these into account in setting the compensation amount;

(2) the onus is on the payor to provide the trial judge with the necessary evidence of the tax consequences arising from the division of assets or other consequences of having to acquire the funds to pay the payee;

(3) there is no absolute rule as to how the compensation order might be calculated, depending, as it does, on the type of assets to divided, timing, the parties involved and other orders in the action;

(4) the matter should be considered as of the date of trial, not as of the date the matter comes back before the court; and

(5) the overriding principle is fairness.

[9]             The respondent argues first that the claimant has the resources to fund the amount of the compensation payment related to Comaxco from other assets, and as a result he has not met the threshold required by Weintz of showing that paying the compensation order in full would impose on him negative consequences. Therefore, the respondent submits that the full amount of $607,000 should be paid. As the claimant notes, the respondent’s position would require the claimant to fund the entire amount of the compensation payment out of after tax dollars. The claimant says that would be unfair, and argues that he is currently unable to do that.  Although the claimant currently may be unable to do this, I am satisfied that the authorities require that the matter be considered as of the date of trial.

[10]         Alternatively, the respondent says I should effect a pay out of her interest in Comaxco based on the principles set out in an accounting opinion dated October 26, 2012. That is based on the liquidation of some of the property owned by Comaxco, and the subsequent payment of available dividends, an option that is not preferred by the claimant who says he should not have to liquidate any of the assets of Comaxco to effect the division.

[11]         That option, selling the Douglas Street Property and the Oak Street Property (the “Sales Option”), would produce the following taxes and result:

0% tax on dividend income of $393,027 at 0% $                0
25.78% tax on dividend income from $393,027 – $450,147 $  14,725.54
33.71% tax on dividend income from $450,147 – $607,000 $  52,875.15
Total tax on dividends of $607,000 $  67,600.69
Total payable to Ms. McKenzie: ($607,000 – $67,600.69) $539,399.31

[12]         The claimant says that he does not have the resources to fund the pay out of the respondent’s interest in Comaxco without attracting distributive taxes, and he does not want to sell properties. He submits the proper calculation is based on Comaxco paying out dividend income after refinancing (the “Refinancing Option”). Under the calculations based on refinancing, dividends up to $57,120 attracted tax of 25.78%. Dividends on the remainder would be taxed at 33.71%. The total amount of tax paid, and the available funds to the respondent would be:

25.78% tax on the first $57,120 $  14,725.54
33.71% tax on the next $549,880 $185,364.54
Total tax on dividends of $607,000 $200,090.08
Total payable to Ms. McKenzie ($607,000 – $200,090.08) $406,909.92

[13]         I am not convinced that I should look beyond Comaxco to other assets of the claimant to determine the distributive taxes in this case. Here the parties have agreed on certain assets being family assets, have agreed upon their division prior to trial, and have acted on those agreements, while the Court has made other determinations with respect to other disputed assets. By agreement some funds were distributed, it seems to fund this litigation.

[14]         I do not think the Court should be looking to fund the division of a family asset which is a closely held corporation wholly from after tax dollars derived from other sources. To fund the compensation payment wholly from after tax dollars would unfairly visit the tax consequences of the compensation order solely on the claimant. In my view that would not share the burden of distributive taxes appropriately.

[15]          On the other hand, I do not think that a party can select a method of funding the division of a family asset in a way that reduces the amount payable to the payee based on his or her own particular preference. In this case that is what selecting the refinancing option would do, although it may have other consequences.

[16]         In my view selecting the Sales Option achieves the dual objectives of sharing the burden of taxation and accomplishing the goals of achieving a fair division of the family asset. In the result, I order that the claimant pay the respondent $539,399.31 on account of her 10% interest in Comaxco.


Deborah A. Todd
Deborah A. Todd