Should a tax indemnity cover pre-closing years only?

An indemnity in the purchase agreement that covers “taxation years ending before closing” sounds complete, and it is not. A closing date need not match a year-end, so it can fall in the middle of a period whose return is filed afterward. Tax for the weeks before closing then belongs to neither a covered year nor, on a literal reading, to the seller’s promise. A buyer is better served by defining coverage by period, by tax and by time.

The period that straddles closing

Section 249.1 limits how long a fiscal period can run. For a corporation, a period cannot end more than 53 weeks after it began (s.249.1(1)(a)), and for an individual it cannot end after the calendar year in which it began, unless the business is not carried on in Canada, subject to the rest of the section. Unless closing falls exactly at a period end, it falls inside one. Where a share purchase acquires control of a corporation, s.249(4) deems its taxation year to end immediately before that time, subject to the conditions in that subsection and s.251.2, but other taxes and other deals can still straddle closing. Ask that the indemnity define a pre-closing tax period to include the part of any straddle period up to closing, and agree how income is split between the two parts.

How long it should last

The Income Tax Act defines a normal reassessment period in s.152(3.1), and its length depends on the type of taxpayer. Section 152(4) allows the Minister to reassess after that period in situations it lists. A survival date picked as a round number may therefore end before the CRA’s window for the last covered year. Ask whether the indemnity can run until that window closes, and whether the seller will agree to that.

Which taxes it names

The CRA says that each business account has its own procedures for filing obligations and payments, and it refers separately to payroll and GST/HST accounts when a business is sold. An indemnity that says only “income tax” leaves those out. List each tax the parties intend to cover, including any provincial taxes.

If shares are being bought, confirm who is entitled to claim: the buyer, the corporation, or both. If assets are being bought, ask what the seller is promising about its own accounts.