Usually, when shares are disposed of, there is a gain or loss that has to be calculated for tax purposes. Under section 85.1, the shares of the selling corporation are exchanged for the shares in the buying corporation and any capital gain is deferred. For example, private corporation A incorporated at a cost of $10,000 and now worth $500,000 is purchased by private corporation B. The shareholders of private corporation A could be given $500,000 cash for their shares, in which case they would have to report a capital gain of $490,000.

Alternatively, the shareholders of private corporation A could swap their shares for $500,000 worth of shares in private corporation B, but deem the disposal of those shares equal to the original cost of $10,000. The gain of $490,000 has been deferred until such time as the shares in private corporation B are sold. The election applies automatically unless the seller elects out by reporting the gain on his or her tax return. Therefore, no election is required to be filed.

Where section 85.1 comes into its own is in cases where the selling corporation has a large number of shareholders. Under other rollover provisions, all shareholders would have to file forms. Under section 85.1, no forms are filed. In addition, if one shareholder wanted to elect out of the rollover, he or she can do it without impacting the rollover relief for the remaining shareholders. Other conditions for section 85.1 to apply include:

• The transaction must be at arm’s length.
• The purchasing corporation must be a Canadian corporation.
• Only shares can be received in consideration. No other form of consideration can be made.
• No other election can have been made in connection with the shares.
• The shares given up must be capital property.