What is an estate freeze and how does the share structure change?

An estate freeze is a tax and estate planning strategy used in Ontario family corporations to cap the current owner's exposure to capital gains tax at today's value, while directing future growth to the next generation (or a family trust holding shares for the next generation).

The mechanics typically involve a share reorganization under federal tax rules. The existing owner exchanges their common shares — which hold all the built-in gain accrued so far — for a new class of preferred shares that are redeemable and retractable at a fixed "frozen" value (usually equal to the current fair market value of the business). At the same time, new common shares are issued to the next generation or a family trust at a nominal value. Future growth in the business accrues to the new common shares, not to the owner's preferred shares.

The owner's tax on capital gains is not eliminated — it is deferred and capped at the value at the time of the freeze. The estate will eventually pay tax on the difference between the preferred share value and the original cost base. The freeze also allows the owner to continue receiving income from the company in the form of dividends on the preferred shares.

An estate freeze requires coordinated legal and tax advice. The articles of incorporation must be amended to authorize the new preferred share class, and various federal tax elections and conditions must be satisfied.