What are the tax consequences when a private corporation buys back a shareholder's shares in Ontario?

When a Canadian private corporation redeems or repurchases shares from a shareholder, the tax treatment is not the same as a simple sale of shares on the open market. The transaction is analyzed under the Income Tax Act, and part (or all) of the proceeds may be treated as a deemed dividend rather than as a capital gain — even though it arrives as cash from a share sale.

Specifically, the deemed dividend is calculated as the excess of the buyback proceeds over the paid-up capital of the shares being acquired. The remaining amount (if any) is treated as a capital gain. Deemed dividends can be eligible for the dividend tax credit, and for shares of a qualifying small business corporation, a capital gain may be sheltered by the lifetime capital gains exemption — but whether and how these rules apply is highly fact-specific.

This is an area where the difference between deemed dividend treatment and capital gain treatment can have significant tax consequences, and where planning ahead matters enormously. If you're considering a shareholder buyout in an Ontario private corporation — whether in the context of a departure, a retirement, or a restructuring — speak with both a corporate lawyer and a tax advisor before proceeding. The structure of the transaction, the history of the shares, and the corporation's attributes all affect the outcome.