What stays with me after I sell my business, such as staying on, a non-compete and tax?

Closing the sale is not always the end of your connection to the business. What carries on depends on what you negotiate. You may keep working in it, you may still be owed money, you may have promised not to compete, and the tax return for the sale may take years to finish. Thinking about life after selling your business before you sign gives you room to ask for what you want, and to avoid agreeing to something you have not understood. This guide covers four things that can stay with a seller, and what to check on each.

A role in the business

The Business Development Bank of Canada says that if you want the business to carry on smoothly without you, there is a benefit in remaining involved after a sale, such as through vendor financing, an earn-out, a phased transfer of ownership, or a role as an executive, board member or advisor. The same article quotes an adviser who says that in a 100% cash-out deal, the buyer takes on more risk because the seller is no longer involved. That is useful when you decide how long you are willing to stay and what you want in return. Put the role, its length, its pay and who you report to in the agreement rather than leaving them to goodwill. Ask also what happens if the buyer ends the role early, and whether any money still owed to you depends on you staying, because those terms decide how much control you keep over your own exit.

Employee, consultant or a clean break

Treadstone Law, an Ontario firm, describes three models for a post-sale role: staying briefly as an employee, working under a fixed-term consulting agreement, or walking away entirely at closing. The choice changes your obligations. The firm says an employee relationship brings Employment Standards Act entitlements and gives the buyer more direct control, while a consulting agreement sets a defined scope of work, a defined term and a defined end date, so check what work, period and fees yours sets. A clean break means the transition help ends at closing, so make sure customer, supplier and staff handovers are finished first. Ask your lawyer which status fits what you will actually do, and ask your accountant whether the status changes how your pay is reported.

A non-compete

A buyer may ask the seller not to compete. Ontario’s Employment Standards Act, 2000 prohibits an employer from entering into a non-compete agreement with an employee, and an agreement made in breach is void. Section 67.2(3) sets out an exception for a sale of a business or part of one: if the purchaser and seller enter into an agreement as part of the sale that prohibits the seller from competing with the purchaser’s business after the sale, and immediately following the sale the seller becomes an employee of the purchaser, the prohibition does not apply to that agreement. The Act also has an exception for executives. Treadstone Law notes that if you stay on only as a consultant, that sale exception may not be available, so have a lawyer review the structure. This is Ontario’s rule. Other provinces have their own regimes, so check yours.

How a non-compete payment is taxed

Money paid for a promise not to compete can be taxed differently from money paid for the business itself. Under section 56.4 of the Income Tax Act, an amount in respect of a restrictive covenant of the taxpayer that is received or receivable in the year by the taxpayer, or by a taxpayer with whom the taxpayer does not deal at arm’s length, is, subject to exceptions in that section, included in computing the taxpayer’s income. Section 68 also provides that where an amount received or receivable can reasonably be regarded as being in part consideration for the disposition of property, for services or for a restrictive covenant, the part that can reasonably be regarded as each is treated as that, irrespective of the form or legal effect of the contract. Subsection 56.4(5) stops section 68 from applying in this way to certain restrictive covenants. How the contract allocates the price is therefore not the last word. Ask your accountant how the allocation in your agreement will be treated before you sign it.

Payments that arrive over time

If you receive part of the price over a number of years, the Canada Revenue Agency says you may be able to claim a capital gains reserve. Usually, a reserve allows you to report a portion of the gain in the year you receive the proceeds, based on the portion not yet received. The CRA says the maximum period over which most reserves can be claimed is generally four years, resulting in the gain being included in income over five years, with a nine-year reserve period for certain transfers, including some transfers to a child. It also lists conditions under which you cannot claim one, so the details need an accountant. Keep the sale agreement, the payment schedule and your records of what you were paid each year, because every later return will rely on them. If the buyer misses a payment, ask your accountant how that affects the reserve, and ask your lawyer what the contract says should happen.

• Which role you will have after closing, for how long, and on what terms
• Whether a non-compete is in the agreement, how wide it is, and what is paid for it
• How the price is allocated between the business, services and any covenant
• What is paid at closing and what is paid later, and what secures the later payments
• When your obligations end, and who tells customers and staff that you are leaving