Article written by TREVOR REEF, CPA, CA, DE SEGAL LLP – in Canadian News Quarterly, a newsletter published by the Canadian member firms of Moore North America. This article is part of our mission to become the partner of choice for your success by keeping you up to date.
In this busy period, we’ll be discussing the changes that have been made to accounting and assurance standards. In particular, I’d like to highlight those discussed in the financial instruments section of the CEIFB, which deals with retractable or mandatorily redeemable shares issued for tax planning purposes (generally referred to as RGPOORs).
Why focus on RGPOOR shares? For one practical reason – changes to RGPOOR shares can have serious consequences for the balance sheet and, by knock-on effect, for our client’s bank covenants, and that’s not what you want to find out at the end of an audit engagement.
Changes to mandatorily retractable shares issued as part of a tax planning transaction
Changes to RGPOOR shares
But what kind of changes are these to the regulations governing RGPOOR shares, which are turning the balance sheet upside down? A simple example will give you an idea. Let’s assume that, many years ago, Segal Co. issued RGPOOR shares to its shareholders. The cost of these preferred shares is $100 and the redemption amount is $5,000,000. Let’s imagine, then, that since their issue, these shares have remained innocently under shareholders’ equity, at their cost of $100. However, under future amendments, these shares, unless they meet certain conditions, will now appear as liabilities in the REDEMPTION amount. You will now have liabilities of $5,000,000 with an offsetting amount of equity of $4,999,900. Restrictive covenants on debt and current ratios will have evaporated. We need to prepare for such eventualities well in advance of the peak period.
Exceptions to liability classification
As mentioned earlier, if certain conditions are met, these shares will not be reclassified as liabilities at the redemption amount. Specifically, all of the following conditions must be met:
- the person who received the RGPOOR shares retains control of the company before and after the transaction under which the RGPOOR shares were issued;
- only shares are traded;
- there are no plans to buy back RGPOOR shares in the coming years.
Transitional relief
One might reasonably assume that for some customers who have been involved in this type of operation for several years, it must be difficult to obtain the information. The Accounting Standards Board has recognized this fact and granted welcome transitional relief.
For RGPOOR shares issued before January1, 2018, their possible classification as equity is determined according to the following two criteria:
- the person who received the RGPOOR shares controls the company on the date of initial application of the amended standard (for the most part, this will be December 31, 2021 and the year-end will beJanuary 1,2021);
- there are no plans to buy back RGPOOR shares.
We hope this article will give you an idea of the changes to RGPOOR shares. If you’d like to learn more, I highly recommend CPA Canada’s publication: ” CESG at a glance: Retractable or mandatorily redeemable shares issued in a tax planning transaction “.
