Introduction to Personal Pension Plans (PPPs) and Business Sales

When business owners or incorporated professionals, like physicians, approach the sale of their business or the closing of their practice, careful financial planning becomes essential. One powerful tool for managing taxes and maximizing retirement savings during this process is the Personal Pension Plan (PPP). A PPP is a registered pension plan sponsored by a corporation, with contributions made based on salaries paid to the employee. This plan can provide significant tax and financial advantages at the sale stage of a business cycle

Business sales typically happen in one of two ways: either through the sale of corporate assets or the sale of shares. In both cases, a PPP can be instrumental in managing taxes and ensuring the seller gets the most out of the transaction. This article explores how PPPs work and the specific benefits they offer for business owners and incorporated professionals.

How a PPP Works in Business Sales

Sale of Corporate Assets

When a corporation sells its assets to a third party, the transaction often results in various tax liabilities, including capital gains and the recapture of depreciation. Depreciation recapture occurs when an asset like a building or equipment, which has been depreciated over the years for tax purposes, is sold at a higher market price. The difference must be included in taxable income, leading to a potentially significant tax burden.

A PPP can offset these taxes by providing the corporation with tax deductions. Contributions made to the PPP can help balance the financial impact of capital gains and depreciation recapture, making the transaction either cash flow neutral or tax neutral. By redirecting the proceeds from the sale into the pension plan, the corporation reduces its taxable income while setting aside retirement savings for the business owner.

Sale of Shares

When a business owner sells their shares in the company to a third party, they may be able to take advantage of the Lifetime Capital Gains Exemption (LCGE). In 2022, this exemption was over $900,000, allowing shareholders to shield a portion of their capital gains from taxes. However, for the company to qualify for this exemption, it must meet certain criteria, including the “purity” of its balance sheet.

Passive assets like excess cash, non-business investments, and real estate can disqualify a company from the LCGE. By transferring these passive assets into a PPP, the company purifies its balance sheet, ensuring eligibility for the exemption. This strategy is more tax-efficient than using an intra-corporate dividend, as the corporation receives a tax credit for the PPP contribution.

Through this approach, business owners can shift a significant portion of cash into a PPP, negate capital gains tax, and qualify for a tax-free capital gain on the sale of their shares.

The Importance of Professional Guidance in Business Sales

Selling a business or closing a practice is a complex process that requires careful planning and expert advice. Business owners should work with a team of professionals, including an investment advisor, lawyer, and accountant, to ensure the transaction is structured properly and tax efficiencies are maximized.

A PPP adds another layer of strategic financial planning. Consulting with pension experts, like JP Laporte, CEO of Integris Pension Management Corp, who has over 22 years of experience in the field, can help business owners fully understand the benefits and implementation of a PPP.

Funding and Benefits of PPPs

Tax Deductions and Capital Gains Management

One of the primary benefits of a PPP is its ability to offset taxes created by capital gains and depreciation recapture. By contributing to a PPP, corporations receive significant tax deductions, reducing their overall taxable income. This results in cash flow neutrality, where the company’s tax liability is balanced by the pension contribution.

Additionally, the PPP creates capital dividend account (CDA) credits. These credits allow shareholders to withdraw funds from the corporation tax-free, providing yet another financial advantage.

Liquidity and Tax Efficiency

To fund the PPP, the corporation may need to liquidate non-registered investment stocks. While this creates immediate liquidity, the funds contributed to the pension plan grow tax-sheltered over time. This strategy ensures that more of the business’s wealth is preserved and invested for the future.

Advantages of PPPs for Business Owners and Incorporated Professionals

Past Service Contributions

One of the unique features of a PPP is the ability to make past service contributions. Even if the PPP is established toward the end of the corporate business cycle, it can still allow business owners to contribute retroactively based on previous years’ salaries. This results in substantial tax deductions and increased retirement savings.

Family Participation and Intergenerational Wealth Transfer

A PPP also offers opportunities for family members involved in the business to participate in the pension plan. If children or other family members are on the company’s payroll, they can join the PPP, creating a family pension plan with multiple members.

When the business owner passes away, the pension plan’s surplus can be rolled into the children’s names without triggering deemed disposition taxes. This allows the plan’s assets to continue growing tax-sheltered and provides the next generation with a valuable financial resource. The children can access these funds in the future for major expenses, such as purchasing a home or funding their own retirement.

PPPs as a Powerful Tool for Incorporated Professionals

For incorporated professionals like physicians, a PPP offers a powerful strategy when winding down their practice. By redirecting large sums of money into the pension plan, they reduce their immediate tax burden while allowing the remaining funds to grow tax-sheltered over time.

This approach is particularly beneficial for family-run businesses, where the intergenerational wealth transfer capabilities of a PPP can be combined with other financial strategies to optimize long-term results.

Implementing a Pension Solution

Steps to Set Up a Pension Plan

1. Consult a Pension Specialist: Work with a qualified advisor to determine the most suitable pension plan for your needs, whether Individual Pension Plan or Personal pension Plan.
2. Establish the Plan: Register the pension plan with the Canada Revenue Agency (CRA) and the provincial pension authority.
3. Determine Contribution Levels: Calculate annual and past service contributions based on age, income, and years of service.
4. Invest Pension Funds: Choose a diversified investment strategy to maximize long-term growth.
5. Monitor and Maintain: Ensure compliance with regulatory requirements and adjust contributions as needed.

Calculate How Much You Can Save PPP vs RRSP