Issue 2 - October 2009
Detailed Guidance From Recent Case: Private Company Valuation
Relatively few cases ultimately proceed to trial that deal with the valuation of privately held business interests for income tax purposes. One such case is Zeller (Estate) v. The Queen, which was released in July 2008. The judgment in Zeller contains detailed information regarding the approach used by the Court in arriving at its findings after considering the differing opinions of two valuation experts.
The four most significant areas dealt with are:
- Selection of maintainable earnings
- Capitalization rate(s) used
- Marketability and minority discounts
- Discounts for "trapped in" capital gains.
This case is interesting for the following reasons:
- In selecting maintainable earnings, financial statements for the year ended May 1999, which covered the five months up to the valuation date of October 1998 and the seven months subsequent to the valuation date, were considered to be hindsight information. The Court found that the information would not have been available to a purchaser on the valuation date.
- The Court ultimately adopted several of the assumptions used by the expert who was retained by the Estate because they spoke to the company's management. For example, in the selection of the capitalization rate it was noted that one of the valuators did not speak to management directly about risk factors specific to the company.
- The court allowed a discount for lack of marketability of 7% and a discount for lack of control of 15% for one of the companies in which the Estate held a 1/3 interest. A second company in which the Estate held a 50% interest was allowed a discount for lack of marketability of 7% and a discount for lack of control of 10%.
- A deduction was allowed for trapped in capital gains taxes. The Court did not find that a prudent buyer and seller would be able to use tax planning to defer or avoid paying these taxes.
This case can be found at:
http://www.canlii.org/en/ca/tcc/doc/2008/2008tcc426/2008tcc426.html