What is a section 85 rollover?

What a rollover actually defers

Ordinarily, transferring an asset to a corporation is treated the same as selling it. If the asset has grown in value since you acquired it, the transfer triggers a capital gain. It can also trigger recaptured depreciation on equipment, both taxable in the year of the transfer. A section 85 rollover replaces that default rule with an elected amount the transferor and the corporation agree on. That elected amount becomes the corporation's cost of the property and the transferor's proceeds of disposition. Choosing an elected amount equal to your cost, rather than the higher fair market value, means no gain is triggered at the moment of transfer. Instead, the gain is deferred until the corporation eventually disposes of the asset itself, or until you dispose of the shares you received in exchange.

What kinds of property qualify

Section 85 covers a wide range of "eligible property." This includes goodwill, equipment and other depreciable capital property, inventory, and shares of another corporation. That breadth is why it works equally well for a sole proprietor incorporating an existing business, or a founder moving personally held shares into a new holding company. It also suits an owner transferring a division into a separate corporation. Cash and most real estate held as inventory generally do not qualify. A rollover is not a way to move every kind of asset into a corporation tax-free. It is specifically built around business assets that have accumulated value the owner does not want to realize immediately.

Why the elected amount has limits, not free choice

The elected amount cannot simply be picked to produce zero tax regardless of the numbers. It has to fall within a range bounded by the property's adjusted cost base at the low end and its fair market value at the high end. Electing below cost, or above fair market value, is not permitted and can be adjusted or challenged. Choosing the lowest allowable amount defers the most tax. But it also lowers the corporation's cost base in the asset going forward. That can mean more recapture, or a larger gain for the corporation, if the asset is sold later. This is a genuine tradeoff to think through at the time of the transfer, not an automatic choice.

Getting some cash or debt out of the deal: the boot rules

A transferor does not have to receive only shares back from the corporation. The rollover allows some of the consideration to come back as cash, a promissory note, or assumed debt, commonly called non-share consideration or "boot." The catch is that any boot received above the elected amount is treated as a taxable benefit, or can trigger an immediate gain. So the boot has to be sized carefully against the elected amount. It is not a convenient way to pull cash out tax-free alongside the rollover. Getting this wrong is one of the more common ways a rollover that was supposed to be tax-deferred ends up creating an unplanned tax bill.

Paid-up capital, the T2057 election, and GST/HST

Shares issued back to the transferor in a rollover normally have their paid-up capital reduced, called a PUC grind. This prevents the transferor from later extracting the deferred gain tax-free as a return of capital rather than a taxable dividend. The transfer itself is reported jointly by both parties on form T2057, filed with the CRA. Missed or late-filed elections can be corrected but usually come with a penalty. If the transferred property includes a business with GST/HST-taxable assets, a separate section 167 election can allow the transfer to happen without charging GST/HST on the assets themselves. This applies provided the corporation is acquiring substantially all of the business. It is worth coordinating at the same time as the section 85 election, rather than as an afterthought.

When owners actually use this

The most common use we see is a sole proprietor who has been running a profitable business for a few years. They have decided, often for the reasons covered in sole proprietorship or corporation: how do the taxes compare, that it is finally time to incorporate. The rollover then lets the goodwill built up in that time move into the new corporation. There is no tax bill on value that has not been realized in cash. It is also the standard tool for inserting a holding company above an existing operating company. It is used too for the share exchange at the heart of most estate freezes. There, an owner swaps growth shares for fixed-value preferred shares to lock in today's value for tax purposes.

A rollover also comes up when two businesses combine, or when a corporate group reorganizes ownership among related entities. This can mean moving shares of an operating company under a new holding structure, without disturbing the underlying business. In each of these cases, the goal is the same: change who legally holds an asset or a business. Neither transfer forces a tax bill on value that has not actually been converted to cash. The tax cost should line up with when the owner actually realizes the gain, rather than with the date of the paperwork.

How we handle this

We model the elected amount against your specific cost base and asset mix before recommending a number. We also prepare the T2057 election jointly with your lawyer's transfer documents, and check whether a section 167 GST/HST election applies at the same time. This is part of our incorporation and compliance services for owners incorporating an existing business or restructuring an existing corporate group.