What is a section 85 rollover?

A Section 85 rollover is a tax deferral mechanism in the Canada Income Tax Act that allows you to complete a transfer of assets to a Canadian corporation without triggering immediate tax liabilities. 

Instead of being taxed right away, the transferor and transferee agree on an elected value, then file the election using Canada Revenue Agency (CRA) Form T2057. This lets you postpone the gain until the corporation eventually disposes of the property.

All of this is because as a sole proprietor transitioning to a corp - you likely want to get all the  benefits of having equipment inside your business (as it can help reduce your tax burden) but not have to pay a boatload in capital gains tax when you transfer the assets. 

Below is the deeper context required for a research driven article.

Why Section 85 Exists

Section 85 exists to help self-employed business owners, including sole proprietors, move assets into a corporation without being penalized by an immediate taxable gain. 

Without this, the transfer of property such as equipment, goodwill (i.e. A business worth $100,000 is bought for $150,000 because of its reputation and loyal customers; the extra $50,000 is the goodwill)l, or shares into your own corporation would be treated as a sale at fair market value, which would create capital gains you may not have cash available to pay.

What Assets Can Be Transferred Under Section 85

Section 85 only applies to eligible property as defined in the Income Tax Act. This is where mistakes are common.

Eligible Property Under Section 85

Some examples of eligible property under Section 85 include:

1. Capital and Depreciable Properties (e.g. Business equipment, vehicles, machineries, etc.)
2. Goodwill and Intangible Assets (e.g. Customer relationships, Brand name, Website Domains, etc.)
3. Inventory (e.g. Finished goods, work-in-progress inventory, retail inventory, etc.)
4. Real Estate Used in the Business (e.g. Commercial buildings, warehouses, etc.)
5. Certain Resource Properties (e.g. Mining rights, Oil and Gas properties, etc.)

Property Not Eligible Under Section 85

Not everything can be rolled over. These exclusions matter:

1. Real Property Inventory (e.g. real estate held for resale, flipped properties, land inventory of a real estate business)
2. Accounts Receivable for Cash-Basis Taxpayers (e.g. unbilled client invoices, outstanding customer balances, work billed but not yet collected)
3. Prepaid Expenses (e.g. prepaid rent, insurance, or software/subscriptions)

If your situation is unclear or your assets do not clearly fall into one of these categories, check out the Canada Revenue Agency (CRA) website for more information on other categories.

How the Rollover Works

A Section 85 rollover creates a three value structure:

1. Fair Market Value (FMV): The current value of the asset.
2. Adjusted Cost Base (ACB): What you originally paid, including adjustments.
3. Elected Transfer Value: The value chosen when filing the Section 85 election. It must fall between the ACB and the FMV.

Electing an amount close to the ACB provides maximum tax deferral. Electing an amount closer to FMV results in more gain recognized now.

In exchange for the property, the corporation issues shares to the transferor, typically common shares or preferred shares. This ensures the transfer is not treated as a taxable disposition.

When Section 85 Is Commonly Used

Here are typical scenarios in Canada:

1. Incorporating a Sole Proprietorship

Move business assets from a sole proprietor into a Canadian corporation with no immediate tax hit.

2. Restructuring for Self-Employed Business Owners

Shift assets for growth, liability protection, or better tax planning.

3. Estate Freezes

Transfer assets to a family corporation to lock in current value.

4. Bringing in New Investors or Shareholders

Restructure ownership so new shareholders purchase common shares at FMV.

5. Corporate Reorganizations

Move assets between related companies for operational or tax reasons.

Requirements for a Valid Rollover

To satisfy the Canada Income Tax Act, you must follow these conditions:

• Shares must be issued as part of the consideration.
• Both the transferor and the transferee corporation must jointly elect the value.
• Form T2057 must be filed on time.
• The property must be eligible property as defined by the Act.

Non compliance can result in denied elections and immediate taxation.

Risks and Common Mistakes

Frequent problem areas include:

1. Incorrect Elected Value

If the elected value is outside the ACB to FMV range, the election becomes invalid.

2. Late or Improper T2057 Filings

The CRA may apply penalties because the form requires exact details about the transfer of property, elected values, and share consideration.

3. Receiving Boot

If the transferor receives cash or non share consideration, the tax deferral is reduced or removed.

4. Future Tax Consequences

The corporation inherits the elected value as its tax cost. This affects future tax liabilities, capital gains, and depreciation claims.

Section 85 Compared to Other Reorganization Rules in Canada

• Section 85: Transfer of assets to a corporation.
• Section 97: Transfers to partnerships.
• Section 86: Share reorganizations within the same corporation.
• Section 51: Conversion of securities.

Understanding these differences is essential for research purposes and corporate structuring.

Documentation and Compliance Checklist

A proper rollover in Canada usually includes:

• Completed Form T2057 filed with the CRA
• Corporate resolutions documenting the transfer
• Asset valuation supporting FMV
• Share issuance documents, typically common shares or preferred shares
• Updated corporate minute book
• Purchase and sale agreements
• Tax planning memorandums
• Supporting documents that outline the transfer of assets and the rationale behind the elected value

This documentation is expected by Revenue Canada if questions arise.

When Not to Use a Section 85 Rollover

Avoid or reconsider a Section 85 rollover when:

• The asset has a capital loss

• Section 85 cannot be used to trigger or preserve capital losses. Rolling the asset may trap the loss instead of allowing it to be realized personally.

• You want the corporation to have a higher cost base for future sale

• A Section 85 rollover allows you to elect a lower transfer value to defer tax. That also means the corporation inherits a lower cost base, which can increase tax later when the asset is sold.

• The administrative burden outweighs the benefit

• This is the most important one! Section 85 rollovers are not cheap.
• A typical Section 85 rollover costs between $2,000 and $3,500 for a simple transfer such as a personal vehicle, and $3,500 to $6,000 when goodwill or multiple assets are involved. More complex cases can exceed $10,000.

Here’s an example of why you wouldn’t do a rollover

For many small incorporations, the deferred tax is simply too small to justify that cost. A common example is transferring a personal vehicle into a new corporation. 

Suppose you own a vehicle that you could sell today for $18,000. You originally paid $12,000 for it.

That means there is a $6,000 increase in value.

If you do nothing special and just deal with the tax normally, the tax you would personally owe on that $6,000 increase is usually less than $1,000.

To avoid paying that tax now, you could do a rollover, however, that process often costs way more than $1,000 in professional fees.

So in this situation, the rollover usually isn’t worth it.

If the tax savings do not clearly exceed these costs, the rollover is usually not worth doing.

Bottom Line

A Section 85 rollover allows the tax deferred transfer of assets from an individual or corporation to a Canadian corporation by choosing an elected value that postpones tax. It is widely used by self-employed business owners, sole proprietors, and growing corporations to minimize immediate tax liabilities, reorganize ownership, and meet long term planning objectives.

Thinking about moving from a sole prop to a corp? Need a second opinion on whether a rollover even makes sense? Book a free consultation and let’s talk about it.