Module 10B: Introduction to Woodlot - Income Tax and Estate Planning

Lesson Seven - Transfer of Your Woodlot/Succession Planning

General rule - sale at fair market value
As we have already mentioned, the general rule is that if you sell, gift or transfer your woodlot, it is deemed to have taken place at fair market value. The difference between the fair market value and the adjusted cost base is taxable as a capital gain, with the exception of transfer to your spouse as discussed earlier. This could result in large amounts of tax payable and may even require premature harvesting of all or part of the woodlot in order to obtain enough cash to pay the tax liability.

Farm Property

The Income Tax Act allows another exception to the above rule, other than transferring property to your spouse. There are two provisions that make it possible to transfer qualified farm property from parent to child. (Remember, as discussed earlier, for a woodlot to qualify as farm property, the main focus must be on harvesting and nurturing under a management plan).

Firstly, if a child inherits qualified farm property from his or her parent, the parent is deemed to have received proceeds for land equal to the adjusted cost base of the land. If depreciable property is transferred to the child, the parent’s deemed proceeds are the undepreciated capital cost of the property. So, no capital gain or recaptured depreciation results. The child’s adjusted cost base is equal to the parent’s deemed proceeds - so the child simply takes over the parent’s position. No change occurs in the tax situation of the property.

Rollover to Children

The second provision allows a parent to transfer property to the child on a rollover basis during his or her lifetime. In this case, there is some flexibility in the transfer value, and the actual proceeds of the disposal are a factor. We will look at some simple examples below, but you may need professional advice to do a proper rollover.

The possible values for a rollover range from the adjusted cost base to the fair market value (assuming the fair market value is higher). If the actual proceeds are less than the adjusted cost base - for example, when the property is gifted to the child - then the deemed proceeds are the adjusted cost base.

If the actual proceeds are more than the fair market value, the fair market value becomes the deemed proceeds. If the actual proceeds are between the adjusted cost base and the fair market value, the actual proceeds and the deemed proceeds are the same.

This allows the transfer of farm property to a child on a tax-deferred basis. At times, it is a good idea to trigger a gain in the parent’s hands to step up the cost base to the child. A parent would do this if they had access to the capital gains deduction or had unused losses. He/she would set up the proceeds within the allowable range at a level that would produce the desired gain. That way, the losses and gains would cancel each other out.

Although this may be desirable, the parent may want to give the property to the child. If so, the child could give the parent a promissory note for the purchase price. The parent would then bequeath the note to the child.

For example, let’s assume that your woodlot is a Christmas tree plantation that you bought in 1990 for $10,000. You have been harvesting trees over the years. The property is now worth $40,000. If you die and your child inherits the woodlot you will have deemed proceeds of disposition equal to your cost, $10,000. You will have no gain or loss and your child’s cost of the property will be deemed to be $10,000.

If you gave your child the woodlot during your lifetime, the result would be the same – there would be no gain or loss for you and a cost of $10,000 for your child.

Now let’s assume the same scenario, only you have a capital loss from previous years of $12,500, and you have not had a capital gain against which you could deduct this loss (remember capital losses can only be deducted from capital gains). Instead of giving the woodlot to your child (in which case it must be transferred at your cost) you could sell the woodlot to him or her.

You can set the selling price anywhere between your cost ($10,000) and fair market value ($40,000), but you must receive consideration (payment) equal to the selling price. Typically, in this situation the consideration is a note payable from the child. You have the right to demand payment within the terms of the note, but you may choose to hold the note and gift it back to the child in your will, with no tax implications.

Forgiving the note during your lifetime may trigger tax for your child. If you set a selling price of $35,000 you would pay no tax, because your capital gain on the sale would be completely offset by the capital loss you have.

Your capital gain is calculated as follows:
(Selling price – cost) x 1/2 = ($35,000 - $10,000) x 1/2 = $12,500. The cost of the property to your child would be $35,000, instead of $10,000 in the first example. This would reduce your child’s taxes when he/she eventually disposes of the property.

Exercise 6
Ashley bought a woodlot in 1991 for $15,000. The property is now worth $30,000.

A) Considering tax implications for her and her daughter, is it best to give the woodlot to her daughter now or will it to her when she dies?

B) If Ashley has incurred a capital loss of $7,500 from previous years would this change things? If so, how?
(see exercise 6 for answer)

There are other rollover provisions in the Income Tax Act that can be useful in estate planning. These include the rules for transfer of property to a corporation in subsection 85(1) and for reorganizations of capital in section 86.

Capital Gains Exemption

The “enhanced” $750,000 ($500,000 before March 18, 2007) capital gains deduction is available to shelter the gain on disposal of certain types of property. The full capital gains deduction of $750,000 will completely shelter the tax on a $375,000 ($250,000 before March 18, 2007) taxable capital gain.

This applies to three types of property. The first is qualified farm property. Qualified farm property includes: land or depreciable property used by the taxpayer, a spouse, or their children in the business of farming; an interest in a family farm partnership; or shares of a family farm corporation. See Appendix 1 for summary.

A family farm corporation is one in which all, or substantially all, of the assets of the corporation, at fair market value, are used in a farming business in Canada. (CRA defines “substantially all” as 90 percent). If the property was acquired after June 17, 1987, you must meet a gross revenue test for the property to be qualified farm property and the property must have been held for at least two years.

Although the capital gains deduction for qualified farm property is obviously very important when planning for farms that have woodlots, some woodlots - as was pointed out earlier - will also be qualified farm property. CRA has stated that a Christmas tree farm, a maple products operation, reforestation and other types of woodlots could be farming property and so qualify for the capital gains deduction.

The $750,000 capital gains deduction also applies to qualified small business corporation shares. These are shares of a Canadian controlled private corporation all, or substantially all, of the assets of which are used in an active business carried on primarily in Canada. The shares must be held for at least two years, and at least 50 percent of the corporation’s assets must be used in an active business carried on primarily in Canada during those two years. The rules become more complex if there are several corporations involved. There is an exception to the two-year holding period when you incorporate a previously unincorporated business. If the assets you transfer to the corporation are all used in the business, then the shares qualify immediately.

Earlier we mentioned subsection 85(1), which allows the transfer of assets to a corporation on a tax-deferred basis. This allows incorporation of a business without an immediate tax cost.

If you have been actively managing your woodlot, you could transfer it to a new corporation. Then you could sell the shares and use the capital gains deduction (this way you will qualify whether or not your woodlot is a farming business).

Corporations that have been in business for some time often acquire property that is not used in the business (investments in securities or real estate, for example). These investments may not qualify as shares of a family farming corporation or a small business corporation. There are ways to “purify” a corporation so its shares will qualify for the capital gains deduction. Seek further advice if you wish to do this.

We must also consider alternative minimum tax11 in connection with the capital gains deduction. When large capital gains are sheltered by the capital gains deduction, the alternative minimum tax rules may result in a tax liability. Although you should be aware of this as you are planning transactions, it is important to note that this tax is refundable in future years when a taxpayer’s regular tax is less than the alternative minimum tax. Also, a gain can often be spread out over two or more years so that alternative minimum tax implications are avoided altogether; and the rules do not apply for the year of death. So, alternative minimum tax should always be considered and planned for, but is usually not a deal breaker.

The third type of property eligible for the $750,000 capital gains exemption is qualified fishing property. Rules are similar to those for qualified farm property.


Taxpayers are always concerned that the enhanced capital gains deduction will be replaced, or that the shares of a corporation will not qualify at the time a disposition occurs.

To avoid this, the capital gains deduction can be crystallized. This is done by making a transaction that will trigger a capital gain that is sheltered by the capital gains deduction but which increases the adjusted cost base of the property by the amount of the gain.

Examples of crystallization transactions include transferring a woodlot that qualifies as a farm to a trust for the benefit of your children, or reorganizing the share capital of a small business corporation.

Crystallization transactions should not result in any income tax payable, but they do result in an increase in net income which can cause a clawback of Old Age Security or a loss of the Guaranteed Income Supplement. They can also result in alternative minimum tax. You should consider all these factors when planning this type of transaction.

These transactions, like those that are used to purify a corporation, are complex and should not be undertaken without professional advice.

Intergenerational Transfer New Regulations

In addition to the above exceptions, intergenerational transfer rules (per the Income Tax Act Regulations, section 7400) allow a qualified woodlot to transfer to a child at the adjusted cost base whether or not it is qualified farm property.  You should note that the definition of a child also includes grandchild, stepchild, and child-in-law.

The transfer takes place at the cost of the woodlot and therefore there is no capital gain. The child receiving the woodlot has the option to do whatever they wish with the land. This means that if they do not intend to maintain the woodlot and want to sell it immediately, the transfer to the child will still qualify for the intergenerational transfer. If the woodlot is then sold or harvested, it will be taxed in the hands of the child.

In order to qualify for the intergenerational transfer, all of the following criteria must be met:
- Property must be held in Canada
- Child must be a resident in Canada immediately before the transfer
- Before transfer, property must be under a Prescribed Management Plan

Before 2008, the rules simply required a management plan in “reasonable form”. For years after 2008, the plan must be a Prescribed Management Plan. This is a written plan that either:

a) describes the composition of the woodlot, provides for the attention necessary for the growth, health and quality of the trees on the woodlot and is approved in accordance with the requirements of a provincial program established for the sustainable management and conservation of forests; or
b) has been certified in writing by a recognized forestry professional to be a plan that describes the composition of the woodlot, provides for the attention necessary for the growth, health and quality of the trees on the woodlot.

This plan must cover a minimum period of five years, and the woodlot must be maintained with reasonable regard for what the plan calls for – this means that it is not sufficient to just have the piece of paper you must continue to nurture.

Estate Freezing

If you own an asset that will increase in value over time, and you have taken as much advantage of rollovers and the capital gains deduction as you can, then an estate freeze may be in order.

Estate freezes typically involve a corporation, although where the capital gains deduction is available, a trust might also be used.

In a typical estate freeze, the parent transfers the appreciating asset to a corporation using the rollover provisions in section 85(1) of the Income Tax Act. The parent will usually receive a promissory note from the corporation up to their adjusted cost base and preferred shares for the balance of the fair market value of the transferred asset. The preferred shares will have a built-in capital gain. There is no way for the parent to avoid the gain that has already accrued.

The value of the parent’s debt and preferred shares is fixed, so any future appreciation in the asset will accrue to the holders of the common shares of the corporation. The children usually hold these shares, but some might be held by the spouse or a family trust.

The parent will often hold a class of shares that has nominal value but a high number of votes so that they control the corporation during their lifetime.