Estate Freeze: How Business Owners Cap Their Tax Liability Today

Key takeaways

• An estate freeze converts a business owner's current equity into fixed-value preferred shares, passing future growth to the next generation
• The freeze caps the owner's capital gains liability at today's value and starts a new growth clock for successors
• Section 86 (reorganization) and Section 51 (convertible properties) are the most common freeze mechanisms
• Winding down the corporation or selling to an arm's-length buyer after a freeze typically triggers the gain on the preferred shares
• Freezes must be reviewed periodically — especially if values have changed significantly or succession plans have shifted

An estate freeze is a tax planning technique that allows a business owner to lock in the current value of their business interest, cap their future capital gains tax exposure, and shift future appreciation to family members or trusts at minimal immediate cost.

How a freeze works

In a typical freeze, the owner exchanges their common shares (which have grown in value) for a new class of preferred shares with a redemption value equal to the current fair market value of the corporation. New common shares are then issued to the next generation or a family trust at a nominal value. Future growth in the business accrues to the new common shares.

On the freeze date, the owner has crystallized a gain equal to the current value of the business minus their adjusted cost base. They have not triggered that gain yet — it will be realized when the preferred shares are eventually redeemed, sold, or the owner dies. But the gain is fixed: no matter how much the company grows after the freeze, the owner's gain does not grow with it.

Using the lifetime capital gains exemption

A freeze can be combined with a capital gains crystallization to use the Lifetime Capital Gains Exemption (LCGE) — currently over $1.25 million for qualified small business corporation shares. The owner can trigger a gain on the exchange and shelter up to the LCGE amount, refreshing their ACB. This eliminates future tax on that amount even if the company is later sold at a higher value.

Family trust as the common shareholder

Many freezes involve a family trust as the holder of the new common shares. This allows income and gains to be allocated to multiple beneficiaries (adult children, a spouse) each of whom can use their own capital gains exemption and lower marginal rates. The 21-year deemed disposition rule requires the trust to dispose of its assets at fair market value every 21 years — plan ahead to avoid a large unplanned tax event.