Author Segal LLP

Consider a Freeze as You Plan the Future

Estate freezes are considered by many to be the cornerstone of estate and succession planning for Canadian family businesses.

Crystallizing Capital Gains

When considering an estate freeze, you will want to consider crystallizing capital gains in order to take advantage of the lifetime $750,000 capital gains exemption.

Let’s say you opted for an internal freeze, that Maple Leaf Co.’s shares qualify for the capital gains exemption and that you haven’t used any of that exemption.

Even with an internal freeze, you have the option of filing a holding company election that allows you to shed your common stock for an amount greater than its nominal ACB. In that scenario, you might elect that the shares be disposed of for $750,000, resulting in a capital gain of that amount, which you would report on your income tax return. That gain would be offset by the exemption.

Your preference shares would have an ACB of $750,000. On a future sale of the shares, or on your death, your capital gain would be $1.25 million ($2 million FMV minus $750,000). Without the crystallization and the capital gains exemption your capital gain would be $2 million.

Fundamentally, a freeze captures all or part of the value of appreciating assets at their current value and future growth accrues to your children who will take eventually take over the business.

The primary benefit is that the growth will not be taxed in your hands, either on an actual disposition or a deemed disposition on death. Among the other benefits are:

  • You can manage the tax liability on the gain accrued before the freeze by purchasing, say, life insurance in an amount to cover the known tax liability on the frozen assets;
  • The growth assets can be converted to the fixed amount in several ways that can offset any immediate tax consequences to you;
  • You retain control over the assets with sufficient voting rights, and
  • You may crystallize your capital gains exemption (see right-hand box).

Most commonly, estate freezes are accomplished either by creating a holding company or by reorganizing the capital structure of the existing company.

Holding Company Freezes

Under this method, which falls under Section 85 of the Income Tax Act, you trade your growth shares in exchange for fixed value preferred stock in a holding company. Those preferred shares have voting rights that allow you to retain control of the underlying assets. The designated children receive common shares in the holding company.

As an illustration of how this works, say you own Maple Leaf Co., holding 200 common shares with a total fair market value (FMV) of $2 million and a nominal ACB.

You incorporate Holdco and trade your Maple Leaf stock for 10,000 preferred shares in that new holding company. The new shares would:

  • Be redeemable at the FMV of the common shares of the family business;
  • Carry enough votes to allow you to control Holdco (you could also opt for non-voting preferred and then subscribe to a separate class of nominal value voting stock to retain control);
  • Be retractable so you or Holdco could require the redemption of some or all of the preferred shares, and
  • Have dividend privileges over the common stock and have preferential treatment if Holdco is ever wound up.

A holding company freeze is a tax-deferred transaction, so your accountant will file an election with Canada Revenue Agency (CRA). Under that election, you choose any purchase price ranging from the adjusted cost base (ACB) of Maple Leaf’s shares, which is nil, to their FMV at the time of the transaction. If you opt for the ACB, there will be no capital gain.

Meantime, your designated children would acquire new common shares, either through a stock subscription or as a gift. Those shares would have a nominal value but would reflect all future growth of Holdco, which would amount to half the future growth of Maple Leaf.

So, if over time Maple Leaf grows in value to $2.6 million, Holdco’s shares would be worth $1.3 million. Assuming the holding company had no other assets, $1 million of that value would be reflected in your preferred stock.

The remaining $300,000 would be reflected in your children’s common shares. So the capital gains that would normally be taxable to you becomes taxable to the children.

Internal Freezes

Here, you simply exchange common shares for new preferred shares under Section 86 of the Income Tax Act. New common stock is then issued to the children, either directly or through a trust.

You would have the same benefits as with a holding company freeze without having to incorporate a holding company and without having to file the election form. The stock rollover in an internal freeze is automatic.

To illustrate how the internal freeze works, given the same scenario as above, you exchange your $2 million in Maple Leaf common shares for $2 million in new preferred shares. Your children acquire new common shares with a nominal value that would later reflect future gains in Maple Leaf’s FMV.

Your stock rollover is automatic and you realize no capital gain, unless you opt to crystallize that gain.

Tips to Boost Hiring Success

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It’s every boss’s goal: Hire the right person for the job. To achieve this goal, you need to put more time and energy into a job analysis. With this tool, you can match an applicant’s skills and qualifications to those of the opening you are trying to fill.

Let’s imagine you’re hiring telephone service representatives to take orders on incoming toll-free lines. Here’s how a job analysis helps in your hiring decision:

  • Identify job tasks. These are the actual duties that make up the job. Don’t just list them. Identify how much time employees give to each task, and specify performance standards for each task. For example: “Telephone sales representatives spend more than 90 percent of their shifts taking phone orders. Normally, our representatives fill an average of 24 orders per hour.”
  • Isolate success factors. These are the skills, knowledge, abilities and behaviours essential to successful performance. The best way to single out these factors? Ask star employees and their supervisors to list them and then include the factors in the job analysis. For example: Telephone sales representatives must handle stress well. They like interacting with others and have good sales skills. They’re courteous, good communicators and make customers feel at ease.
  • Rate the importance of success factors. Ask employees to list in order of importance each of the factors they identified as essential to the job. For example: (1) Courteous manners. (2) Good communication skills. (3) Like interacting with others. (4) Ability to handle stress. (5) Good sales skills.
  • Draft interview questions. Directly tie these questions to the important success factors and job tasks. For example: “How have your communication skills helped you explain a difficult or unpopular concept to someone else?” “Tell me about a stressful job you’ve had and how you dealt with the pressure.” “Telephone sales representatives sit at the same station for up to eight hours a day. How do you feel about this job requirement?”
  • Always ask open-ended, rather than closed questions. Closed questions are generally answered “yes” or “no.” For example: “Did you like this article?” On the other hand, open-ended questions anticipate a thorough response. For example: “How does this article help you make better hiring decisions?”

Six Issues to Consider When Managing Remote Employees

office home silo man description sizeAllowing employees to work from home can provide significant benefits for your staff and your company. It can improve morale, reduce real estate and facility costs. It can even reduce traffic congestion and make the environment cleaner.

However, appropriate oversight is necessary to avoid potential fraud and abuses that can wipe out many, if not all, of the benefits associated with a work-from-home program.

Pros

Cons

Cost savings.
Having employees work from home can reduce demand for office space and cut facility operating and parking costs.
Not for everyone.Some employees
fear less “face time” will reduce chances for promotion. Others need an office environment.
Work/ life balance.
There is more time for employees to care for their loved ones and address home emergencies.
Time disputes. 
Without a system to record hours, disputes may arise over the time actually worked.
It’s green.
Reducing the number of commutes to the workplace saves fuel, reduces vehicle carbon emissions and traffic congestion.
Performance fears.Managers may equate remote work with lower performance and may need to adjust to a culture oriented more to results than processes.
Continuity.
Working from home may mean that at least some of your company’s operations can continue during a snowstorm, natural disaster, terrorist attack or other emergency.
Security.
The IT infrastructure must be properly designed. Some jobs may simply not be able to be performed at home for security reasons.
Accommodation.
Working from home can better accommodate individuals with disabilities.
Friction.
Staffers in the workplace may resent remote workers.
Enhanced performance.
Remote workers may exceed their performance in the traditional workplace. Many report that they convert the old drive time into productive working hours. There may be fewer interruptions andabsenteeism may drop.
Worsened performance. 
Outside a traditional structure, some employees may lose productivity by cleaning house, watching their young children, watching television or being otherwise distracted.
Job satisfaction.
Working from home can increase personal freedom and flexibility, improve morale, and decrease stress.
Safety. 
There may be liabilities if employees are injured off-site. Consult with your attorney.
Retention and recruitment. 
Offering a work-at-home option can boost your company’s attractiveness in the job market and lead to reduced turnover.
Equipment cost, loss and damage. 
You must address who pays for equipment, how it is to be used and what to do if it is lost, stolen or damaged.
Staying in touch.
Using instant messaging, conference calls, webinars, collaboration software and other technology can help employees feel less isolated.
Team conflicts.Relationship problems among remote teams can be harder to resolve than those among on-site employees.

Before allowing employees to commute to their home-based desks, answer the following questions to help ensure that you minimize the risks and maximize the returns of the program:

1. Which jobs make sense from home?

There are numerous positions within a company that, despite pleas to the contrary from employees, are not suitable candidates for a work-from-home program.

For example, allowing a manager with a broad span of control to work at home is typically not a good idea. Managing by phone is far less effective than being physically present. Also, employees are likely to resent that their manager works from home while they are stuck in the office.

Before announcing a work-from-home program, identify all of the positions that will not be allowed to participate. Be sure to engage your company’s legal counsel to ensure that the process does not violate employment law or create employee relations issues.

2. Which employees will be eligible?

For employees that are underperforming or have a track record of discipline issues, working from home may be viewed as an opportunity to “hide out” and avoid the scrutiny that comes from working in an office. Together with your human resources department, develop criteria that employees must meet in order to be considered for the program.

For example, you might require candidates to earn a “meets expectations” rating in their performance reviews and have no outstanding discipline issues.

3. How will you monitor productivity?

There is an assumption that once employees are allowed to work from home their productivity will at least be equal to their “in office” performance — or may even be better. This may be true, but for employees who have never worked from home before, the distractions of home life (including a significant other, young children, noisy next-door neighbors or just plain loneliness) may be too much to bear and their productivity may actually decline.

This begs the question: Once an employee is out of sight, how will their performance be monitored? There are a number of technology solutions that can track keystrokes, periodically capture pictures of the employee’s computer screen as well as record activity within specific software systems. Regardless of the approach used, there must be some mechanism to track productivity and ultimately performance.

4. Should home workers use company computers?

An employee’s personal computer may not have the most up-to-date virus software in place and that raises the risk that the person could download a virus that could affect both the home computer and the company’s entire network. It is also conceivable that the employee’s computer can be accessed by other members of the family. That raises a real concern of data loss or theft, as well as disclosure of customers’ private information.

There can also be problems if an employee is working on a personally owned computer and the employer receives an e-discovery request. Electronically stored information is routinely requested in civil and criminal proceedings. Complying can be difficult if, for example, an employer doesn’t know what files or records employees have on their home computers or if an employee alters files or destroys them after an e-discovery request is received.

If at all possible, remote employees should only be allowed to use company-issued computers. Doing so ensures that the employee’s computer is subject to the same virus and system upgrades as the rest of the company issued devices and less likely to contract an infection that could bring the company’s information technology infrastructure to its knees. Mandating that employees use company computers also reduces the risk that your business will be unable to comply with an e-discovery request.

5. What happens if data does go “missing?”

Allowing employees to work in their home offices can give them the false impression that no one is watching what they are actually doing with the company’s data. Before your company launches a work-from-home program, think about the data that remote employees can access as well as what would happen if that data were lost, stolen or misplaced.

For example, if an employee working from home decides to steal confidential data, how would your company know? If the employee was the victim of a home invasion and the company laptop was stolen, several issues arise:
1. How much of the company’s data is stored on that laptop?
2. Is it encrypted?
3. What could your company do to limit or mitigate the potential damage?

6. What about travel expenses?

The potential for expense fraud and abuse by remote employees should be a major concern. One of the simplest ways to combat expense fraud by work-from-home employees is to ensure they are appropriately identified in the company’s expense reimbursement system as remote employees.

For example, most expense reimbursement systems require that an employee include their home office or base on their expense statement. For remote employees that designation could appear as Remote or VE (virtual employee) or WFH(work from home). The actual naming convention is not important. What is important is that your company can periodically target expense reimbursement requests from remote employees to ensure that expenses are reasonable, consistent with their remote status and consistent with company policy.

With appropriate policies, management and safeguards in place, you can help ensure that your company reaps the benefits of a work-from-home program and that employees perform at their best, whether they are working down the hall in the workplace or in their home, or in an off-site office far away.

New Study Confirms the Prevalence and Cost of White Collar Crime

052716_Thinkstock_514938071_lores_KKDespite our best efforts to combat white-collar crime, dishonest people continue to find novel ways — often exploiting technology — to steal from businesses and not-for-profit organizations.

And honest people continue to report suspected fraudulent activity, also using technology. In a new development, fraud reporting was more common through the Internet than by telephone at companies that have hotlines or reporting systems. Email accounted for 34.1% of tips, while Web-based or online forms accounted for 23.5%. This suggests that if your company has only a telephone hotline, it should consider adding more electronic channels.

These insights are pulled from the 2016 Report to the Nations on Occupational Fraud and Abuse. This survey is published every two years by the Association of Certified Fraud Examiners (ACFE). This year’s report covers more than 2,400 cases of white-collar crime, occurring in 114 countries.

Annual Costs

Consistent with previous studies, the 2016 report estimates that the typical organization loses 5% of its revenues each year to fraud. The total loss from cases in the study exceeded $8 billion, with an average loss per case of $3.5 million. In Canada, the median loss was $190,000 from 86 cases of reported fraud, compared to $155,000 for just over 1,000 reported cases in the United States.

That calculation can be sobering for many small business owners who think they’re immune to fraud — it happens to organizations of all sizes and in all types of industries.

The ACFE study exposes only the tip of the iceberg, however. Many frauds go undetected or unmeasured. Plus, there are additional indirect costs, including lost productivity, damage to a company’s reputation and loss of stakeholder relationships. As well, fraud investigations can be costly. Some organizations simply opt to cut their losses by terminating — but not fully prosecuting — white-collar criminals.

Small versus Large Organizations

The median loss for all for-profit companies, regardless of whether they’re publicly traded or privately held, was roughly $180,000. By comparison, the median losses for government and not-for-profit entities were approximately $109,000 and $100,000, respectively.

The median loss for the smallest organizations was the same as the median loss for the largest organizations ($150,000). But there are some subtle distinctions between the types of fraud schemes and the anti-fraud controls employed at small and large organizations.

Top 5 Fraud Schemes by Size in All Countries

Rank Less than 100 Employees 100+ Employees
1 Corruption (29.9%) Corruption (40.2%)
2 Billing (27.1%) Billing (20.9%)
3 Check tampering (20.1%) Non-cash schemes (19.3%)
4 Skimming (19.9%) Expense reimbursement (13.9%)
5 Non-cash schemes (18.8%) Cash on hand (10.3%)

Although corruption is listed as the top fraud scheme for both small and large organizations, it’s more common outside North America. Corruption includes bribery, illegal gratuities and economic extortion. In Canada, billing schemes outnumber corruption schemes. Billing frauds were reported in 29.1% of Canada cases while corruption was reported in 26.7% of the U.S. cases.

The following occurred more than twice as frequently in small businesses as in larger organizations:

  • Cheque tampering (including the manipulation of paper cheques and electronic payments),
  • Skimming,
  • Payroll, and
  • Cash larceny schemes, where an employee steals cash and checks from daily receipts before they can be deposited in the bank.

Additionally, the 2016 study showed that larger organizations generally dedicate more resources toward deterring fraud.

Frequency of Anti-fraud Controls by Size

Rank Less than 100 Employees 100+ Employees
1 External financial statement audit (56.2%) External financial statement audit (94.2%)
2 Code of conduct (53.8%) Code of conduct (91.3%)
3 Management certification (43.2%) Internal audit (88.3%)
4 Management review (40.4%) Management certification (83.7%)
5 Internal audit (38.6%) External audit of internal controls (79.9%)

The ways fraudsters were caught varied by region. In Canada, tips accounted for 32.6% of cases, followed by management review (20.9%) and internal audits (16.3%). Small and large organizations also differ in how they catch fraudsters. Globally, tips were the detection method in 29.6% of the cases involving small entities compared to 43.5% of the cases involving large ones. This could be because reporting hotlines are more common at larger companies than small ones with more limited resources.

Preventive Measures

Honest employees are an organization’s first line of defense against white-collar crime, so it makes sense that you consider some of these ways to encourage employees to join the fight:

Invest in training. Educate staff on the red flags associated with fraud from within and outside the company. This sends a powerful message about your company’s intention to fight fraud no matter where it originates. Employees must perceive a high probability that fraudulent activity will be detected.

Set up a hotline. Fraud reporting hotlines can be an effective method of obtaining tips about unethical behaviors. Unfortunately, many small businesses shy away from hotlines, because they think they’re too expensive and difficult to administer. But as we mentioned above, emails and Internet forms accounted for more than half of reports. If your company already has a website, this is a potentially reasonable solution.

The study found that employers were much more likely to be tipped off if they offer hotlines. The study showed that tips led to the detection of fraud in 47% of the cases involving organizations with reporting hotlines, but only 28% of the cases involving organizations without them.

The fact that more than half of all tips involved parties other than confirmed employees emphasizes the importance of cultivating tips from various sources. So it’s also advantageous to educate vendors, customers and owners on how to report suspicions of fraud.

Highlight management involvement. Managers must be seen and heard reviewing controls and urgently correcting weaknesses. If your organization’s managers are perceived to be unwilling or unable to take the time to review the controls, they may inadvertently be sending a message that it’s safe to commit fraud.

Best Practices in Internal Controls

Weak internal controls often provide dishonest people with the opportunity to steal assets or cook the books. The study cited a lack of internal controls and the ability to override them as the leading contributors to fraud, accounting for nearly half of the cases.

Your accounting and legal advisers can help reinforce your internal controls and investigate suspected fraud. Doing so can potentially save your company thousands, if not millions, of dollars in losses and put everyone on alert that fraud won’t be tolerated.

Help Employees Reach Goals with 360-Degree Feedback

The 360-degree feedback mechanism for evaluating employees has been in use for decades — long enough for a battery of academic studies to highlight its benefits and drawbacks.

051816_Thinkstock_484956744_lores_KKFirst, consider the limitations of the traditional supervisor-only evaluation, particularly for employees who work in teams or who have subordinates of their own. In this environment, direct supervisors:

  • Often find it hard to give critical feedback to employees they’ve become close to over the years,
  • Might have biases that unduly influence their assessments one way or another, and
  • Have a limited means of understanding how colleagues, subordinates and others may perceive the employee.

A 360-degree feedback system can help you overcome those obstacles.

Start Cautiously

Before you jump into it, it might be more prudent to start a 360-degree system in conjunction with an ongoing development process, simply to pinpoint areas where an employee might benefit from additional training. Why? This allows you to gain confidence in your ability to evaluate the feedback you get from the process.

With some experience, you should be able to weed out comments that amount to complaints from disgruntled subordinates or colleagues. Also, employees are more likely to warm up to the process if they know that you’re giving it a trial run. Keep in mind that ideally people need at least six months of working with a person to be able to make valid evaluations.

If your organization is large enough, you might consider starting off with a 360-degree-feedback performance-rating pilot project in one department or division, before launching the program company-wide.

These programs aren’t always anonymous. One school of thought holds that it’s better for all raters in a 360-degree program to identify themselves in order to:

  • Maintain accountability, thus encouraging constructive and detailed input and helping avoid toxic comments and even conspiracies that damage an employee’s reputation,
  • Encourage a workforce culture of openness, and
  • Make it possible for an employee to engage directly to resolve a specific complaint or concern.

Anonymity Preferred

Still, most 360-degree programs are based on anonymity. That allows those providing the feedback to give more than bland or favorable comments out of fear of negative repercussions. Anonymous or not, a side benefit to a well-managed 360-degree program is that those giving the feedback get the message that their opinions matter.

Advocates of these systems encourage employers to avoid launching a 360-degree program until they’ve identified a specific purpose for it. That way, they can also establish a basis or benchmark for evaluating the success of the program. An example of a valid purpose might be to change an organization that has developed a rigid hierarchy into one with a culture that emphasizes continuous feedback and improvement.

Keep in mind that when you’re identifying a purpose, this type of system shouldn’t be viewed as a way to address poor employee job performance. Employees might become more self aware through the process, but it isn’t a substitute for direct communication between a supervisor and an employee.

Survey Design

If you’re designing your company’s program in-house, a critical element is the outline of the survey, which should include:

  • Questionnaires that aren’t too long (it should be possible to do a review in 15 to 20 minutes),
  • Questions that have one point and are as short as practically possible,
  • Questions that are unbiased and avoid words such as “excellent” or “always,” and
  • Rating scales of at least seven to 10 points that ask to what extent the person being rated exhibits the behaviour, rather than how often,

It’s also a good idea to use a dual-rating scale that includes both quantitative and qualitative performance questions. For example, you could ask:

1. To what extent does this person exhibit a behaviour?

2. Given the person’s role, to what extent should the person exhibit the behaviour?

By comparing the answers, you basically perform a gap analysis that helps interpret the results and reduces a rater’s bias to score consistently high or low.

Best Practices

Here are some pointers for implementing an effective 360-degree program:

  • Tell feedback providers how their input will be used, to assure them their time will be well spent.
  • Train feedback providers on the importance of being objective and avoiding invalid observations that might arise from their own prejudices.
  • Ask feedback providers to comment only on aspects of the subject employee’s performance that they’re in a position to observe.
  • Ensure the performance criteria are job-related and not personal in nature.
  • Require some accountability, even with anonymous feedback systems. Incorporate a mechanism that would enable someone other than the subject of the evaluation, for example, a senior human resource manager, to address any abuse of the system.
  • Ensure adequate participation to assign maximum statistical validity to feedback results.
  • Have a system in place to help the subjects of the feedback process and act on the input they receive.
  • Build in and follow a process to periodically evaluate the overall statistical validity and goal achievement of the program.

No Guarantee

Of course, there’s no guarantee that a 360-degree feedback system will accomplish the goals you set for it. But, as this method of review was pioneered in the 1950s and rose to popularity in the 1990s, its longevity alone suggests it might be worth a try.