As an unincorporated sole proprietorship grows, or as an established business owner looks to protect accumulated retained earnings by creating a holding company, transferring assets into a corporation becomes essential. Under normal Canadian tax rules, transferring property to a corporation—even one you 100% own—is treated as a sale at Fair Market Value (FMV), triggering immediate capital gains and income tax. Fortunately, Section 85 of the Income Tax Act provides a statutory mechanism to achieve this tax-free.

1. How a Section 85 Rollover Works

A Section 85(1) rollover allows a taxpayer and a taxable Canadian corporation to jointly elect an agreed transfer price (the "elected amount") for eligible property transferred to the corporation.

By setting the elected amount equal to the asset's tax cost (Adjusted Cost Base or Undepreciated Capital Cost), the transferor realizes $0 in capital gains or recaptured depreciation. The accrued gain is deferred into the tax cost of the shares received from the corporation.

2. What Property Qualifies?

Subsection 85(1.1) defines "eligible property" for rollover treatment:

  • Capital Property: Land, commercial buildings, shares of other corporations, and investment portfolios.
  • Depreciable Property: Equipment, vehicles, furniture, and computer hardware.
  • Goodwill & Intangibles: Customer lists, brand value, intellectual property, and proprietary software.
  • Inventory: Real property inventory is excluded, but business inventory qualifies.

3. Critical Statutory Rules & Boot Limitations

To avoid accidental tax liabilities, two statutory bounds govern the transaction:

1. The Non-Share Consideration ("Boot") Ceiling

The transferor can receive promissory notes or cash ("boot") in exchange for the transferred assets, but the total value of non-share consideration cannot exceed the tax cost of the assets. Any excess boot triggers an immediate taxable capital gain.

2. The Share Consideration Requirement

The consideration received from the transferee corporation must include shares of the corporation (common or preferred shares). A transfer made solely in exchange for a promissory note does not qualify for Section 85 treatment.

4. Filing Mechanics & Form T2057 Compliance

The Section 85 election is not automatic—it requires formal joint documentation:

  • Form T2057: Must be completed and signed by both the transferor and an authorized officer of the corporation.
  • Strict Deadline: The election must be submitted on or before the earliest due date of the income tax returns of the transferor and transferee for the tax year in which the transfer occurred.
  • Late-Filing Penalties: Late submissions under Subsection 85(7) incur monthly penalties of the lesser of $100 or 1/4 of 1% of the deferred tax.