Why Use a Holding Company?

When we consider undertaking the estate planning process, the preparation of a Will to direct and manage the transfer of assets between a person and their beneficiaries is often the primary focus. What is not always considered by many is the role proper estate planning plays in the preservation of wealth and the minimization of taxes on the transfer of those assets.

One component of wealth preservation and the tax-efficient transfer of assets that is often overlooked is the important role that a holding company can play in the estate planning process. This blog highlights reasons to use a holding company in proper estate planning.

What is a holding company?

A holding company is a company that is incorporated for the purpose of holding assets, as opposed to engaging in an active business. Assets held by a holding company could include investments (including shares in publicly traded companies), real estate and shares in private operating companies. Any income or gains earned from these assets are also owned by the holding company.

The shares of the holding company are owned by an individual who, through these shares, essentially owns the value of the company’s underlying assets. When an individual passes away, these shares are then transmitted to his or her estate and are dealt with pursuant to the terms of their Will (or Secondary Will, discussed further below).

Why use a holding company as part of proper estate planning?

There are many advantages to using a holding company as part of proper estate planning including, but not limited to:

1. Asset/Creditor Protection
   If used properly, a holding company can insulate you from certain creditors and help mitigate the depletion of personal assets that are to be eventually passed on to your beneficiaries.

   To the extent that claims relate directly to the assets held by the company itself, the use of a holding company to own the assets would generally limit the amount of the claim to the value of the corporate-owned assets, not the value of the overall assets owned by the individual shareholder.

2. Succession Planning
   Upon death, rather than transferring individual assets to a beneficiary which often entails a lengthy and complicated probate and transfer process, the estate would only have to transfer ownership in the shares in the company. This could significantly streamline the time and cost involved in the transfer of assets on your death.
3. Estate Freezes
   By undertaking what is commonly known as an estate freeze, it may be possible for you (during your lifetime) to freeze the value of your assets at a predetermined current value and pass on the future growth in value of the assets to the next generation.

   This has the dual benefit of (i) providing a level of certainty regarding your ultimate tax liability at death and (ii) deferring taxes on the future growth of the assets then held by the next generation. As they say, “tax deferred is taxed saved”.

4. Control/Flexibility of Distributions
   By owning the assets through a holding company and transferring the shares, rather than individual assets to your beneficiaries, a level of both control and flexibility is maintained.

   If assets are owned personally, it is difficult to control what will be done with the assets once they are inherited, as the beneficiary will own the assets outright. If the ownership of shares in a holding company is combined with a unanimous shareholder agreement, your intentions regarding the use, depletion or transfer of the underlying assets (and associated distributions to shareholders) may be controlled even after death.

   In addition, owning assets through a corporation, rather than personally, during your lifetime allows for greater flexibility in “smoothing” your own income and allows for the potential deferral and minimization of taxes on an annual basis.

5. Minimization of Probate
   Under Ontario law, most assets held by an individual will be subject to the Estate Administration Tax (“EAT”) when their Will is probated unless they plan to avoid it. Depending on the value of the assets, the tax may be considerable at approximately 1.5%. Since shares in a private company generally do not require a probated Will to transfer them, using a multiple Will strategy can avoid EAT on the value of the assets held by the holding company.
6. Avoidance of U.S Tax Issues
   In many cases, non-U.S. persons resident in Canada, with no connection to the United States, may still be subject to U.S. taxation and/or filing requirements if they directly hold U.S securities upon their death.

   Even if no U.S taxes are owed, the filing requirements and professional fees alone will pose a considerable burden on the executors of the estate. By transferring these securities to a Canadian holding company prior to death, these U.S taxation and/or filing requirements may be avoided.

Post-Mortem Planning Considerations
One additional issue to consider when utilizing a holding corporation as part of the estate planning process is the potential for ‘double tax’ when you pass away.

At a high-level, this double tax will apply when a shareholder passes away owning shares of a private company and is comprised of (i) at the personal level, the capital gain tax that arises on the deemed disposition of the shares at the time of death and (ii) at the personal and corporate level, the tax associated with paying out the value of the corporate assets by way of a dividend to the new shareholders (your beneficiaries).

However, through proper post-mortem tax planning, it is possible to eliminate a portion of this double tax.If you own Canadian assets or U.S. securities, worry about creditor risk or the future use or depletion of your assets in the hands of your beneficiaries, or simply want to enhance your succession planning and minimize taxes, the use of a holding company as part of a proper estate plan can offer you many significant advantages.

Of course, these advantages must be balanced against the costs, regulatory compliance and additional complexity that come with owning a holding company. It is important to discuss the use of a holding company with your legal and tax advisors who will help you determine if a holding corporation is right for you and your overall estate plan.

— Michael A. Selchen