Share Buybacks in Canada: How They Work, Benefits and Tax Implications

What is a share buyback?

A share buyback, also called a share repurchase, occurs when a corporation purchases its own shares. A publicly traded company may buy shares on the stock exchange or make an offer directly to shareholders. A privately held company may also repurchase shares, often as part of a shareholder exit or a corporate reorganization.

Companies use buybacks to return capital to shareholders, adjust their capital structure or reduce the number of shares outstanding. Under the Canada Business Corporations Act, shares purchased or otherwise acquired by a corporation are cancelled. The rules governing a particular transaction depend on the corporation’s jurisdiction and the terms of its shares.

How does a share buyback work?

Open-market purchases

A publicly traded company can purchase its shares through the stock exchange over time. In Canada, this is commonly done through a normal course issuer bid. Exchange rules govern matters such as disclosure and the volume of shares that may be purchased on a given day.

This method gives the company flexibility to adjust its purchases to market conditions and its available cash.

An offer to shareholders

A company may instead offer to buy a specified number of shares from shareholders, at a stated price or within a price range, during a defined period. This approach can retire a larger block of shares more quickly, but requires careful planning and compliance with applicable securities rules.

For a private company, a repurchase is usually negotiated with the shareholder concerned. Its legal and tax consequences can differ substantially from those of an open-market purchase.

What are the effects of a share buyback?

Earnings per share

When a buyback reduces the number of shares outstanding, earnings per share (EPS) can rise even if the company’s total profit does not.

For example, a company earns $10 million and has 10 million shares outstanding. Its EPS is $1. If it repurchases and cancels 2 million shares, the same $10 million in earnings divided by 8 million shares produces EPS of $1.25.

This simplified example illustrates the arithmetic. It does not account for the cost of the buyback, any lost investment income, borrowing costs or the timing of purchases during the reporting period. Higher EPS alone does not mean the business has become more profitable.

Share price and company value

A buyback may signal that management considers the shares an attractive use of capital. Its effect on the share price, however, is uncertain. Paying too much for the shares can reduce the value available to shareholders who remain invested.

The decision should therefore be assessed against other uses for the money, including investment in operations, debt repayment and dividends.

Cash and debt

A buyback uses cash that the company could otherwise retain or invest. If it borrows to fund the purchase, its debt and financing costs may rise. Before proceeding, the company should consider its working capital needs, future projects and ability to withstand a downturn.

How are share buybacks taxed in Canada?

The tax treatment depends on who owns the shares and how the company acquires them. It would be misleading to assume that every buyback produces a capital gain for the selling shareholder.

For a shareholder who keeps their shares while a public company repurchases shares from others, the buyback generally creates no immediate sale by that shareholder. Their ownership percentage may increase, but a higher future share price is not guaranteed.

A shareholder who sells on the open market must determine the tax consequences of that sale under the ordinary rules applicable to their holdings. By contrast, when a Canadian corporation redeems or acquires shares directly, the amount paid above the shares’ paid-up capital may be treated as a deemed dividend. Any remaining proceeds require a separate capital gain or loss calculation. This distinction is particularly important for owners of private corporations.

The type of account also matters. Returns earned in an RRSP or TFSA follow the rules of that registered account, so the immediate tax comparison with a non-registered account is different.

A tax consideration for public companies

Canada also imposes a 2% tax on certain net equity repurchases by Canadian public corporations and other covered publicly traded entities. The measure applies to repurchases from January 1, 2024, subject to its rules and exceptions. It is a tax consideration for the issuer, distinct from the selling shareholder’s tax treatment.

A company or shareholder considering a transaction should review the structure with a tax advisor before assuming that a buyback is preferable to a dividend.

A separate case: redeeming shares in Québec investment funds

An individual asking the Fonds de solidarité FTQ, Fondaction or Capital régional et coopératif Desjardins to redeem their investment is making a different decision from a corporation buying back shares to manage its capital.

These investments have their own redemption criteria and tax-credit rules. The conditions are not interchangeable: for example, Fondaction describes eligibility linked to retirement and other circumstances, while Capital régional et coopératif Desjardins generally specifies a seven-year holding period for redemption. Redeeming shares can also affect eligibility for tax credits. Check the current rules of the particular fund and the account in which the shares are held before requesting a redemption.

Assess the buyback before proceeding

A share buyback can be a useful way to return capital or reorganize ownership, but its value depends on the purchase price, the company’s financial position and the transaction’s legal and tax structure. For a shareholder, the distinction between an open-market sale and a direct corporate redemption can materially change the tax result.

Mallette’s tax professionals can help businesses and shareholders compare a buyback with other options, including dividends, and assess the consequences for their broader shareholder compensation or retirement plans.