The One-Page Letter That Almost Cost a Kitchener Buyer Its Tax Losses

The situation

The letter was one page. Sylvain had signed it six weeks before he called Treadstone, at what he thought was a routine stage of negotiations with a Kitchener industrial equipment manufacturer his company was in the process of acquiring for a price in the $30 million to $50 million range. Mehrdad, advising the seller, had sent it as a 'confirmation of tax attributes,' stating the target carried approximately $9.2 million in non-capital loss carryforwards accumulated from a difficult stretch several years earlier, and asking Sylvain to countersign acknowledging that the buyer's offer had been calculated with those losses factored in at close to full value.

Sylvain led the deal team informally for the acquiring company, a family-controlled manufacturing group where he also flew commercially and held a substantial ownership stake alongside his sister Chantal, an optometrist who sat on the company's board but left deal mechanics to Sylvain and the finance staff. He had signed the confirmation letter because it seemed procedural, a formality confirming numbers that both sides' accountants had already discussed in preliminary calls, and because Mehrdad's covering email framed it as something needed to keep the transaction timeline on track ahead of a board meeting the following week.

What Sylvain had not appreciated, because the letter did not say it in plain terms, was that he had just signed a document a court could later treat, in any dispute between the buyer and the seller over the deal itself, as an acknowledgment that the buyer had independently verified the losses' value and structured its offer accordingly. If those losses turned out to be worth less than $9.2 million, or unusable altogether, the letter would make it considerably harder for the buyer to argue later that it had relied on the seller’s representations rather than its own confirmed assessment. That was a separate question from whether the Canada Revenue Agency would accept the losses as usable at all, which turned entirely on the statutory continuity test and had nothing to do with what Sylvain had signed.

Non-capital losses are valuable to a buyer because, subject to strict conditions, a corporation can carry them forward to offset future taxable income, which is real money if the losses survive a change of control intact. But that survival is not automatic. The rules under the Income Tax Act that govern whether losses remain usable after an acquisition of control turn on whether the corporation continues to carry on the same or a similar business the losses were generated in, among other conditions, and on how the losses were characterized in the first place. Sylvain's finance team had assumed, without confirming, that the target's historical business was continuous enough to meet that standard. Nobody had actually tested it.

What the other side was relying on

Once we reviewed the confirmation letter and the underlying tax filings Mehrdad's client had produced, it became clear the seller's own position rested on assumptions that had never been tested against the target's actual history. The $9.2 million figure came directly from the corporation's filed tax returns, which was a legitimate starting point, but the seller's advisors had treated the filed number as equivalent to a usable number, without examining whether the business that generated those losses was the same business the target still carried on.

The target had, in fact, undergone a significant operational shift roughly four years before the losses were generated in their largest tranche. The company had originally manufactured components for the automotive supply chain, moved into general industrial equipment manufacturing after losing a major automotive contract, and the bulk of the losses in question arose during and after that transition. Whether a corporation is carrying on the same or a similar business after a change of control, for the purpose of preserving loss carryforwards, depends on the character of the business at the time the losses were incurred, not simply on the fact that a company existed continuously. A shift of that scale, from automotive components to general industrial equipment, was exactly the kind of change that puts the continuity analysis in question.

Mehrdad's client had not obtained a formal tax opinion on the point. The seller's finance team believed, in good faith as far as we could tell, that because the corporate entity had never stopped operating and had never formally wound down any division, the losses would simply transfer with the business. That is a common and costly misunderstanding. Continuity of the corporate entity is not the same test as continuity of the business the losses arose in, and the seller's confirmation letter to Sylvain had been drafted on the assumption that the two were interchangeable.

There was a second layer to the exposure. A portion of the losses, roughly $2.1 million of the $9.2 million total, had arisen from a restructuring of the company's equipment financing several years earlier, and the character of that portion as a genuine non-capital loss, rather than something that should have been treated differently for tax purposes, had never been confirmed with the tax authority or tested by outside tax counsel. If that characterization were ever challenged, the usable portion of the losses could drop further still.

What we did

1. Read the signed confirmation letter for what it actually committed the buyer to, not what it appeared to say. We flagged for Sylvain that the letter, as worded, could be read as an acknowledgment of independent verification, which weakened the buyer's ability to later claim reliance on the seller's figures if the losses proved unusable.
2. Retained independent tax counsel to test the continuity of business question directly. Rather than accept either side's assumption, we had specialist tax advisors examine the target's operational history against the standard that governs whether losses survive a change of control, focused specifically on the shift from automotive components to industrial equipment manufacturing.
3. Obtained a reasoned opinion on the usable portion of the losses. The analysis concluded that a majority of the losses, roughly $6.4 million of the $9.2 million claimed, had a defensible basis for surviving the continuity test, while the remainder carried meaningful risk, either because of the business shift or the uncertain characterization of the equipment-financing restructuring.
4. Went back to Mehrdad's client with the analysis before agreeing to any price tied to the losses. We presented the seller with the reasoned basis for the reduced figure rather than simply asserting a lower number, which kept the conversation focused on the underlying tax analysis instead of becoming a negotiating standoff.
5. Restructured how the purchase price treated the losses. Instead of paying for the full $9.2 million at signing as the letter had implied, we negotiated a structure crediting the buyer's offer for the $6.4 million with a defensible basis, with no payment allocated to the disputed remainder unless a subsequent tax ruling or filing confirmed it was usable.
6. Addressed the confirmation letter directly in the purchase agreement. We had the definitive agreement expressly supersede the earlier letter and included a specific representation from the seller about the basis for the loss carryforwards, shifting the risk of an incorrect characterization back onto the seller rather than leaving it resting on Sylvain's earlier signature.
7. Explained the exposure to Sylvain and Chantal in plain terms before the board vote. Because the original letter had been signed without full appreciation of what it meant, we made sure both board members understood the tax mechanics well enough to explain the revised structure to the rest of the board themselves, rather than asking them to take the change on faith.
8. Set a defined process for resolving the disputed portion after closing. We built a specific deadline and a mutually agreed tax advisor into the agreement for confirming whether the remaining $2.8 million of losses were usable, so the contingent payment mechanism would not drift into an open-ended dispute years after the deal had closed.
9. Documented the reliance chain so the earlier confirmation letter could not resurface later. We kept a clear record showing the definitive agreement's representations were based on independent tax analysis commissioned after the letter was signed, protecting the buyer if the seller ever tried to point back to Sylvain's original signature as evidence the buyer had accepted the higher figure unconditionally.

The outcome

The transaction closed with the purchase price reflecting $6.4 million of confirmed, usable loss carryforwards rather than the $9.2 million figure in the original confirmation letter, a difference that translated into meaningful savings on the portion of the purchase price attributable to the losses. No money changed hands for the disputed $2.8 million until its status was resolved, and the purchase agreement's superseding language meant Sylvain's earlier signature no longer stood as an obstacle to that outcome.

The seller did not walk away with nothing on the disputed portion. The final agreement gave the seller a contingent right to additional consideration if a subsequent tax filing confirmed the remaining losses were usable within a defined period after closing, which meant the seller retained some upside without the buyer having to pay for value that might not exist. That structure let both sides move forward without either absorbing the full risk of an unresolved tax question.

Because the exposure was caught and priced out before closing, the buyer never had to litigate or negotiate a post-closing dispute over losses it had already paid for. The alternative, discovered after closing once a tax filing challenged the continuity position, would have meant the buyer had already handed over cash for an asset it could not use, with far less leverage to recover it. What stayed with Sylvain was how close a routine-looking one-page letter had come to locking in that exact outcome, and how little the letter itself had signalled about what he was actually agreeing to.

Roughly a year after closing, a filing confirmed a further $1.6 million of the disputed losses met the continuity standard, and the contingent payment mechanism the parties had built in triggered automatically, delivering that additional consideration to the sellers without either side needing to renegotiate anything. The remaining $1.2 million was never confirmed as usable and the buyer never paid for it, which is the outcome the contingent structure was designed to produce either way. Chantal, reflecting on the file afterward, noted that the board's later comfort with the whole transaction rested less on the price than on knowing exactly what it had and had not paid for, a distinction the original confirmation letter had never actually given them.

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