Dividing matrimonial property between spouses can be difficult. It is even trickier when the matrimonial property includes shares of a closely-held private corporation. The shares can be challenging to valuate and there may not be enough cash to make an equalization payment.

Take for example Douglas and Laura. Laura opened a coffee shop a few years ago. It was a huge success and has now grown to three locations across Calgary. Each location is owned by a separate corporation (the “CoffeeCos”). All of the CoffeeCos are owed by a holding corporation (“HoldCo”). Laura and Douglas are equal shareholders in HoldCo. Laura is the director for each corporation in the group. Douglas helps out a bit, but they consider this to be Laura’s business.

So far, all of the profits generated by the CoffeeCos are distributed to HoldCo, which primarily uses the funds to expand the business. Laura also incorporated, through HoldCo, a fourth corporation to design a new home appliance for roasting coffee beans at home (“BeanCo”). The design for the home appliance is patent pending.

Douglas agrees that Laura should get his shares in HoldCo, but what are his shares worth? It is a growing business, but in a competitive market. A patent application is pending, but it is unknown whether it will be approved and whether the appliance will be marketable. To complicate matters, the cash is tied up in expansion plans. What are Douglas and Laura’s options?

There are two ways Douglas can give up his shares in HoldCo: transfer them to Laura or transfer them back to HoldCo as a redemption.

Generally, when a person disposes of shares of a corporation, there is an immediate tax consequence. However, if Douglas and Laura are still married, or transferring these shares to the other as part of their settlement of rights arising out of their divorce, then there is generally an automatic tax deferral rule that applies.

If Douglas redeems his shares, he will be deemed to receive a dividend and could be taxed at the top marginal rate in Alberta of 41.24%. Since Douglas would be acting not at arm’s length with HoldCo, he will be deemed to have disposed of his shares at fair market value.

However, neither of these options solves the valuation or cash availability issue. An alternative solution is for Douglas to remain a shareholder and Douglas and Laura enter into a unanimous shareholders agreement.

A unanimous shareholders agreement is an agreement between all shareholders, the corporation, and any other interested person. It takes power away from the directors and puts it into the hands of the shareholders. Think of it as a corporate rulebook. It is very flexible and can address almost any matter, such as:

• If the shareholders can transfer their shares to a third party;
• How much the directors can spend on new equipment without approval;
• The method of determining the amount and allocation of dividends;
• What information is shared with who and how frequently;
• Amount of salaries and bonuses; or
• Anything else that the parties wish to include.

Douglas and Laura can enter into a unanimous shareholders agreement so Douglas can participate in some of the profits based on a formula or some other method. This would take the guesswork out of obtaining a valuation for the growing business, allow the business to continue to grow, and obtain a fair settlement for Douglas and Laura.

It is important that a unanimous shareholders agreement is in place for each level of the corporate structure. Otherwise, Laura, as director, could pay a salary to herself from each of the CoffeeCos and BeanCo so there is nothing left to distribute to HoldCo and, subsequently, to Douglas. Also, since Douglas would only be a shareholder of HoldCo, not of the CoffeeCos or BeanCo, he would not otherwise be entitled to any financial information.

Dealing with corporate assets during a divorce is not easy. There are family and corporate law matters, in addition to tax and financial considerations, however, there are many tools that are available to achieve a fair and reasonable resolution.

This post is intended to provide general information concerning developments in the law and is not intended to provide legal advice in respect of any particular situation.