Why You Shouldn’t Transfer Private Company Shares to a TFSA or RRSP
Transferring private company shares to a Tax Free Savings Account (“TFSA”) or Registered Retirement Savings Plan (“RRSP”) may not be efficient tax planning. Here are some reasons why:
1. The transfer may have tax consequences to you
If the company is a Canadian-controlled private corporation, and the shares you would like to transfer were acquired on the exercise of stock options, the employee benefit (the difference between the exercise price of the option and the fair market value of the shares on the day of exercise) would be subject to tax as a result of the transfer of the shares to a TFSA/RRSP.
If the value of the shares has increased since you originally purchased the shares, you will also realize a capital gain on the transfer of the shares into your TFSA/RRSP. This capital gain will be subject to income tax in the year of the transfer.
2. The tax treatment at exit may not be as favourable
Generally, a sale of shares to a third party on an exit would result in a capital gain in the hands of the shareholder. If the shares qualify, individual shareholders may be able to use their lifetime capital gains exemption, so that the first $800,000 of gain realized would be tax free. The capital gains exemption will not be available on the eventual disposition of the shares, and further, you will have converted capital gains (which have the most favourable tax treatment) to income when the funds are withdrawn from the RRSP.
3. The transfer will use up TFSA/RRSP contribution limits
In most cases, shares held in a private company shares are a highly speculative investment. If the company fails, you will have squandered the TFSA contribution limit or RRSP contribution room that was used to transfer the shares to the registered investment.
4. The investment must be constantly monitored
Once the shares are in your TFSA/RRSP, if at any time in the future you and other shareholders related to you collectively own a significant interest (>10% of any class) in the company, the investment will become a non-qualifying investment and penalties will be applied until the investment is removed from the RRSP/TFSA. In the case of removing the shares from the RRSP, the value of the shares removed from your RRSP will be taxed as income in the year they are removed.