- The Deemed Disposition Trap: Under Section 69 of the Canadian Income Tax Act, transferring appreciated assets to a corporation automatically triggers an immediate deemed disposition at Fair Market Value (FMV), forcing substantial capital gains taxes unless a joint statutory rollover election is executed.
- The Section 85 Mechanism: Section 85(1) permits taxpayers to transfer “eligible property” (business assets, goodwill, shares, capital property) to a taxable Canadian corporation in exchange for share consideration, electing an agreed transfer amount between tax cost and FMV to defer 100% of the tax liability.
- Mandatory CRA Filing Deadlines: The rollover is legally invalid without filing Form T2057 (and Form T2058 for partnerships) on or before the earliest tax filing deadline of either transferring party. Late filings incur compounding monthly penalty levies under Section 85(7).
When Canadian entrepreneurs scale successful sole proprietorships, implement holding company (Holdco) asset protection firewalls, or prepare for corporate reorganizations, transferring assets into an incorporated entity is an essential milestone. However, transferring appreciated property—such as business goodwill, intellectual property, equipment, or operating company shares—into a corporation is treated by the Canada Revenue Agency as a taxable sale at full fair market value.
Without sophisticated structuring, an entrepreneur incorporating a business with $1,000,000 of developed goodwill faces an immediate, catastrophic six-figure tax bill on phantom paper profits. The cornerstone defense against this liquidity trap is the Section 85 Rollover of the Income Tax Act.
What Is a Section 85 Rollover and How Does It Defer Capital Gains?
Cross-reference anti-avoidance restrictions in our investigation on CRA Section 84.1 Anti-Stripping: Defending Against the Capital Gains Trap.
Section 85 Rollover Execution Matrix: Eligible Assets & Consideration
The comparative matrix below outlines asset eligibility, elected amount boundaries, and non-share consideration limits under Section 85(1):
| Property Category | Section 85 Eligibility | Minimum Elected Transfer Amount | Statutory Consideration Rules |
|---|---|---|---|
| Goodwill & Customer Lists | Eligible (Cumulative eligible capital) | Lesser of FMV and cost amount ($0) | Must receive at least one corporate share |
| Depreciable Property (Equipment) | Eligible (Capital cost allowance classes) | UCC (Undepreciated Capital Cost) | Boot (non-share) cannot exceed elected amount |
| Private Company Shares | Eligible (Opco shares to Holdco) | Adjusted Cost Base (ACB) of shares | Subject to Section 84.1 dividend deeming tests |
| Real Property Inventory (Land Flipping) | Ineligible (Specifically excluded) | Cannot elect under Section 85 | Full income tax triggered upon transfer |
The Anatomy of Non-Share Consideration (“Boot”)
In a Section 85 rollover, the transferor must receive at least one share of the recipient corporation. However, the corporation can also issue non-share consideration—colloquially termed “Boot”—such as cash, assumed debt, or a promissory note payable to the owner.
The cardinal rule of Boot management: The fair market value of non-share consideration must never exceed the elected transfer amount. If an entrepreneur transfers assets with an ACB of $100,000 and elects $100,000, but takes back a promissory note of $150,000, Section 85(1)(b) automatically bumps the elected amount to $150,000—instantly triggering $50,000 in immediate capital gains.
Filing Form T2057: Avoiding the Compounding Late-Penalty Trap
A Section 85 rollover is not an automatic statutory exemption; it is an elective tax treatment. To validate the rollover, both the transferor and transferee corporation must execute and file Form T2057 (Election on Disposition of Property by a Taxpayer to a Taxable Canadian Corporation).
- Strict Statutory Due Date: Form T2057 must be submitted to the CRA on or before the tax return filing deadline of the earliest party. For an individual transferring to a corporation with a calendar year-end, the deadline is June 15 (if self-employed) or April 30.
- Late-Filing Penalty Calculations: Under Section 85(7), late elections require written permission from the CRA and incur a penalty equal to 1/4 of 1% of the deferred capital gain per month late, up to a statutory ceiling of $100 per month or $4,000 total.
Explore trust rollover strategies in CRA Subsection 107(2) Rollover: Trust Distribution Guide.
Where to Expand Your Tax Architecture Next
To master advanced Canadian corporate tax and wealth preservation strategies, explore our companion masterclasses:
- CRA Section 84.1 Anti-Stripping: Defending Against the Capital Gains Trap
- CRA Subsection 107(2) Rollover: Trust Distribution Guide
- Corporate Owned Life Insurance: Maximizing CDA Credits in Canada
People Also Ask
What happens if you don’t file Form T2057 on time with the CRA?
If Form T2057 is not filed by the statutory due date, the transfer is treated as a standard taxable disposition at Fair Market Value. You must apply for a late election under Section 85(7), pay late-filing penalties (up to $4,000), and explain why the election was delayed.
Can real estate be transferred to a corporation using Section 85?
Yes, capital real property (commercial land, rental apartment buildings) is eligible. However, real property held as inventory (e.g., land development or home-flipping businesses) is explicitly excluded from Section 85 and cannot be rolled over tax-free.
Does a Section 85 rollover trigger Land Transfer Tax (LTT)?
Yes. While Section 85 defers federal and provincial income taxes, provincial land transfer taxes (and municipal LTT in Toronto) are governed by separate provincial legislation and are typically triggered upon the transfer of real property, unless specific provincial exemptions apply.
What is a Price Adjustment Clause in a Section 85 agreement?
A price adjustment clause is a contractual provision stating that if the CRA successfully audits and reassesses the Fair Market Value of the transferred assets, the transaction price and the number of shares issued will automatically adjust retroactively to eliminate unintended tax liabilities.