What Business Owners Selling Shares Need to Know About Canada’s 2024 Federal Budget
Canada’s 2024 federal budget introduced the most significant restructuring of capital gains taxation in a generation. Business owners who have spent years building value in a private corporation now face a materially different tax landscape on exit one that raises the cost of selling for some, reduces it for others, and introduces entirely new exemption regimes with strict eligibility conditions. If you are contemplating a business sale, the changes effective June 25, 2024, deserve careful attention before you sign a letter of intent.
The Capital Gains Inclusion Rate Increase
Before the 2024 budget, capital gains were included in taxable income at a uniform 50% rate under section 38 of the Income Tax Act (Canada) (the “ITA”). A business owner who sold shares and realized a $2,000,000 capital gain included $1,000,000 in income and paid personal tax on that amount. Budget 2024 changed that fraction for individuals but not uniformly.
Effective June 25, 2024, the inclusion rate increases from one-half to two-thirds (66.67%) for capital gains realized by an individual in a taxation year above $250,000. The first $250,000 of net capital gains in any calendar year continues to be included at the historical 50% rate. For corporations and most trusts, the 66.67% inclusion rate applies to all capital gains with no annual threshold.
The practical effect on a typical business sale is substantial. Consider a Canadian-controlled private corporation (“CCPC”) founder who sells shares and realizes a $3,000,000 capital gain that does not qualify for any exemption. In Ontario, the top marginal rate on ordinary income is approximately 53.53%. At a 50% inclusion rate, the effective tax on that gain was approximately $801,450. Under the new regime, assuming the first $250,000 is taxed at 50% inclusion and the remaining $2,750,000 at 66.67%, the effective tax increases to approximately $914,000, a difference exceeding $112,000 on a single transaction. The impact compounds quickly on larger exits.
For corporations holding investments that have appreciated in value, the 66.67% rate applies to every dollar of gain without threshold relief, which directly affects holdco structures used by many business owners and increases the passive income grind calculation under ITA s. 125(5.1) for associated groups sharing the small business deduction.
The Enhanced Lifetime Capital Gains Exemption
Budget 2024 simultaneously increased the Lifetime Capital Gains Exemption (“LCGE”) under ITA s. 110.6 from $1,016,836 to $1,250,000, effective June 25, 2024, for dispositions of qualified small business corporation (“QSBC”) shares and qualified farm or fishing property. The LCGE shields capital gains from inclusion in income entirely up to the exemption limit. From 2026 onward, the enhanced $1,250,000 ceiling will be indexed annually to inflation.
The QSBC share conditions under ITA s. 110.6(1) remain unchanged. To qualify at the time of sale, the corporation must be a CCPC, at least 90% of the fair market value (“FMV”) of its assets must be used principally in an active business carried on primarily in Canada, throughout the 24 months before the sale, the corporation must have been a CCPC with at least 50% of the FMV of its assets used in an active business, and the shares must not have been held by anyone other than the seller or a related person throughout that 24-month period. The asset versus share sale analysis is therefore partly driven by whether QSBC share eligibility can be preserved a question that demands review well before the sale closes.
Each eligible individual including a spouse or adult child who holds shares in the corporation may claim their own $1,250,000 LCGE, making estate planning and share structure decisions in the years preceding a sale highly valuable. An estate freeze under ITA s. 86, implemented when the company’s value is still manageable, can effectively multiply the family’s aggregate LCGE access by bringing in additional shareholders who will each accumulate their own future gains.
The Canadian Entrepreneurs’ Incentive
The most complex new measure in the 2024 budget is the Canadian Entrepreneurs’ Incentive (“CEI”), designed to reduce the effective capital gains inclusion rate for qualifying founders. The CEI cuts the inclusion rate on eligible gains from 66.67% of the new general rate to one-third (33.33%), effectively making qualifying founder gains more lightly taxed than they were even under the pre-budget 50% inclusion rate.
The CEI operates through an annual limit that grows over time. In 2025, a taxpayer may claim CEI treatment on up to $200,000 of capital gains. That limit increases by $200,000 each subsequent year until it reaches $2,000,000 in 2034, where it is capped permanently. The CEI applies per taxpayer and is therefore not multiplied across family members the way the LCGE can be. Critically, the CEI stacks with the LCGE, a founder may apply their $1,250,000 LCGE to eliminate the first portion of a gain from income entirely and then apply the CEI’s 33.33% inclusion rate to a further $2,000,000 (once fully phased in). The combined effect substantially reduces and in some cases nearly eliminates the personal tax on a successful founder exit.
To qualify for the CEI, the taxpayer must meet all of the following conditions. First, the shares must be shares of a QSBC satisfying the same active asset tests described above under ITA s. 110.6(1). Second, the taxpayer must be the founding investor, the shares must have been acquired from the corporation’s treasury (not from another shareholder), and FMV consideration must have been paid at the time of issuance. Third, the taxpayer must have held the shares throughout a minimum five-year period prior to the disposition and throughout that period must have directly owned shares representing at least 10% of the votes and 10% of the FMV of all issued and outstanding shares of the corporation. Fourth, throughout any five years of share ownership (not necessarily immediately preceding the sale), the taxpayer must have been actively engaged in the business on a regular, continuous, and substantial basis.
The “regular, continuous, and substantial” engagement standard echoes the language used in the prior “key employee” tests under the ITA and is expected to be interpreted consistently, part-time or purely passive involvement will not satisfy the requirement, while a founder working full-time in the business plainly will.
CEI Excluded Sectors
The CEI explicitly excludes businesses operating in certain sectors, regardless of how well the founder otherwise meets the eligibility criteria. Excluded categories include professional corporations in law, medicine, accounting, engineering, and similar regulated professions, financial services and insurance, real estate (including property management and development), food service and accommodation, arts, recreation, and entertainment, consulting businesses, and personal care services. Parliament’s rationale appears to be that the incentive is intended to reward founders who create scalable, innovation-oriented enterprises rather than those operating regulated professional practices or service businesses whose value derives primarily from the owner’s personal relationships and reputation.
For business owners in these excluded sectors, the budget’s capital gains changes mean a net increase in cost on exit. The higher 66.67% inclusion rate applies without the partial offset of the CEI, leaving the enhanced LCGE as the primary tax shelter available on a share sale.
Employee Ownership Trusts
Budget 2024 also formalized and expanded the Employee Ownership Trust (“EOT”) regime by introducing a $10,000,000 capital gains exemption on qualifying business transfers to an EOT. The exemption applies to transactions completed between January 1, 2024, and December 31, 2026.
An EOT is a trust established for the benefit of employees who work in a business. When an owner transfers shares to a qualifying EOT, employees gain beneficial ownership of the business and its future value, typically without an immediate out-of-pocket purchase price. The $10 million capital gains exemption available in addition to the LCGE represents a meaningful incentive for business owners who wish to sell to their workforce rather than to a strategic acquirer or private equity fund.
The conditions for a qualifying business transfer are strict. The business must not be a professional corporation under a governing statute. The acquiring trust must be a newly created EOT an existing EOT cannot qualify as the acquirer. The transferring owner must have held the shares for at least 24 months before the transfer, and the corporation’s assets must have been used primarily in an active business with at least 50% active business assets throughout that period. The seller must have been actively engaged in the business on a regular, continuous, and substantial basis during the 24 months immediately preceding the transfer. At least 90% of the beneficiaries of the EOT must be Canadian residents. Finally, no “disqualifying event” such as a sale of the business out of the EOT, a change in the trust’s beneficiaries that violates the residency requirements, or certain distributions, may occur within 36 months after the qualifying transfer, or the exemption is clawed back.
Given the three-year hold requirement and the 90% Canadian beneficiary test, the EOT structure works best for established businesses with a stable, predominantly Canadian workforce and an owner who is committed to a genuine employee ownership transition rather than a liquidity event in the near term. A business lawyer experienced in both trust law and corporate tax should be involved early, given the complexity of the conditions and the consequence of disqualification.
Interaction Between the LCGE, CEI, and Inclusion Rate Change
Understanding how these three measures interact on a specific transaction requires careful modelling. The inclusion rate increase raises the base cost of an unshielded gain, the enhanced LCGE reduces the taxable gain on the first $1,250,000, the CEI reduces the inclusion rate on up to $2,000,000 of additional qualifying gains (phased in over 10 years), and the EOT provides a separate $10 million exemption regime for employee-transition transactions.
For a founder who qualifies for both the LCGE and the CEI, the combined relief on a fully phased-in basis (from 2034 onward) could exempt or greatly reduce personal tax on up to $3,250,000 of capital gains from a share sale. The extent of relief available in 2025 and the years immediately following depends on the annual CEI phase-in limit, meaning that business owners who are in a position to defer a sale for several years may capture materially more relief than those who must sell in 2025.
The timing of a sale is therefore a significant strategic variable. Founders approaching an exit should engage in a modelling exercise that accounts for their expected proceeds, the CEI limit available in the projected sale year, LCGE eligibility, any accrued adjusted cost base, and the tax treatment of deal structure elements such as earnouts (which are subject to the ITA s. 40(1)(a)(iii) reserve election) or vendor take-back notes. A business purchase or sale transaction structured without this analysis can result in a preventable tax cost measured in hundreds of thousands of dollars.
Planning Implications Before the Sale Closes
For business owners who have not yet initiated an exit, several planning steps are worth considering in light of the 2024 changes. Ensuring QSBC share eligibility is the most fundamental a review of the corporation’s asset composition should confirm that active business assets exceed 90% of FMV, and any passive or investment assets should be purified out of the operating company well before the sale to avoid disqualifying the LCGE and CEI. A dividend paid to strip excess cash, a holding company reorganization, or a tax-free inter-corporate transfer may all serve this purpose depending on the circumstances.
Share structure deserves examination as well. If the founder holds all shares in one class, an estate freeze that brings in a spouse or adult children who meet the engagement tests may multiply access to the $1,250,000 LCGE across multiple family members, significantly increasing the aggregate tax-free amount available on a future sale. The right share structure for a business that is approaching an exit horizon looks different from the structure optimal for an early-stage company.
For businesses in a CEI-excluded sector, the analysis shifts. The principal tools are the enhanced LCGE (where QSBC eligibility can be maintained), the corporate capital gains treatment available through the inclusion rate structure, and timing strategies that take advantage of the individual $250,000 annual threshold on the lower 50% inclusion rate for any unshielded personal gains.
Throughout all of this planning, the due diligence process that a buyer will conduct must be anticipated, any share class restructuring, freeze, or purification transaction implemented in the lead-up to the sale will be scrutinized, and the 24-month holding and active engagement tests will be examined carefully by the buyer’s advisors as conditions to any representations or warranties about LCGE or CEI availability.
Speak With a Business Lawyer at Kalfa Law Firm
Canada’s 2024 federal budget changes are technical, time-sensitive, and easy to misapply without integrated legal and tax advice. Whether you are planning a near-term exit, considering an employee ownership transition, or structuring your corporation now for a sale several years away, Kalfa Law Firm provides senior legal counsel experienced in private M&A, corporate reorganizations, and the interaction between corporate law and Canadian income tax.
Contact us today to discuss how the 2024 budget changes affect your specific situation and what steps can be taken now to maximize your after-tax proceeds on a business sale.
FAQs:
Shira Kalfa, BA, JD, Partner and Founder
Shira Kalfa is the founding partner of Kalfa Law Firm. Shira’s practice is focused in corporate-commercial and private M&A law including corporate reorganizations, corporate restructuring, mergers and acquisitions, commercial financing, secured lending and transactional law.
© Kalfa Law 2024. Updated November 2026.
The above provides information of a general nature only. This does not constitute legal advice. All transactions or circumstances vary, and specified legal advice is required to meet your particular needs. If you have a legal question you should consult with a lawyer.
