Vesting US Startup Shares in Canada: When Canada Taxes Them

When does Canada tax founder shares in a Delaware startup: at issue, at vesting or at sale?

Canada taxes a founder share benefit when you acquire the shares, not when they vest. If a corporation agrees to issue shares to you as an employee or officer, section 7 of the Income Tax Act treats the share value at acquisition, minus what you paid, as employment income for that year. The CRA says acquisition takes place when title passes to you, or when the company has a legal right to payment for the shares.

A founder who paid full value when the company was formed usually has no benefit at all. The case is not simple when shares were issued after a funding round, for little or no payment, delivered only at vesting, or when you are also a US citizen and the US taxes the same shares in a different year.

Gather the share purchase or restricted stock agreement, proof of the price paid and the date, the vesting and buy-back terms, any valuation of the common shares on the issue date, and any US 83(b) election. Filing an 83(b), and whether Canada has an equivalent, is covered in founder shares that vest.

Are my founder shares employment income or an investment I bought?

It depends on why you received them. Section 7 applies only if the benefit came "in respect of, in the course of, or by virtue of" your employment; subsection 7(5) switches it off otherwise. The Act counts an officer as an employee, and the CRA's archived bulletin IT-113R4 calls the employee-or-shareholder capacity a question of fact.

Signs that point to employment: you work for the company, the shares come with service-based vesting, or you joined after formation and received shares as part of your role. Signs that point to an investment: you subscribed at formation with the other founders at the same price, on the same terms, before anyone worked for the company.

Even outside section 7, a discount is not automatically tax-free. Section 15 can include a benefit a corporation confers on a shareholder or contemplated shareholder in income. Where you paid full value, neither rule produces income at issue.

If they count as employment, why does Canada tax a Delaware company's shares when I acquire them, not when I sell?

Because the only deferral to sale is for a Canadian-controlled private corporation, and a Delaware corporation cannot be one. Subsection 7(1.1) moves the benefit to the year of sale only for CCPC shares. A CCPC must be a "Canadian corporation" (section 125), which generally means resident in Canada and incorporated in Canada (section 89).

Section 7 itself covers any corporation, wherever it is formed. The CRA confirms that a benefit from a non-resident corporation's agreement with someone working in Canada is employment income, and that the non-resident company is responsible for withholding and reporting it unless a Canadian subsidiary reimburses it. If the company fails to withhold or remit, its directors at the time can be personally liable unless they took reasonable care, for up to two years after they leave the board (section 227.1). Payroll duties are covered in stock options for employees in Canada. Whether Canada could treat the Delaware company itself as resident here is covered in Canadian owner of a US corporation.

Does vesting after a priced round mean Canada taxes the higher value?

Not if you already acquired the shares before the round. Section 7 measures the value at the time you acquired the shares, so a seed or Series A price set after your shares were issued to you does not change a benefit already fixed. If title passed at formation and you paid full value then, later vesting at a higher price adds no Canadian income.

The higher value matters when the acquisition itself comes after the round: shares first issued to you after the round, or shares you only receive when they vest. Even then, the value to use is that of your class of shares, usually common shares, not the preferred share price investors paid. The archived IT-113R4 said shares under a transfer restriction are valued at the value of unrestricted identical shares less an appropriate discount for the restriction; the CRA no longer updates that bulletin.

Whether shares that can still be forfeited or bought back at cost are "acquired" at issue or only at vesting is not settled by the Act. It turns on the agreement: who holds title, who votes, who gets dividends, and who bears the risk. Get the agreement reviewed before taking a filing position.

What if the shares are only issued, or released from escrow, when they vest?

Then Canada usually taxes them at vesting, at their value on delivery. If the company promises to issue shares later and title passes only when each tranche vests, each delivery is a separate acquisition under section 7, and each one is valued on its own date.

Escrow is less clear. If a trustee holds the shares for you, even conditionally until they vest, subsection 7(2) deems you to acquire them when the trustee began to hold them, usually at issue; whether an escrow agent counts as a trustee depends on the escrow terms. If the company itself keeps the shares until release, acquisition is more likely at release. The archived IT-113R4 said that where the seller keeps title as security, acquisition happens when possession, use and risk pass. Read the escrow terms against both tests.

Can I claim the half deduction on a stock benefit?

Sometimes. Paragraph 110(1)(d) lets you deduct 50% of a section 7 benefit when all of these hold:

The deduction mainly helps a founder who agreed to buy at full value, then received the shares later when they were worth more. It does not help shares received for nothing. The CRA lists the same conditions. If the company's group revenue is above C$500 million, an annual C$200,000 vesting limit also caps which securities qualify; few startups reach that revenue. Quebec residents also report the benefit on the Quebec return, which has its own deduction rules.

What cost do I use for the capital gain when I sell?

Your cost is what you paid plus the section 7 benefit, the full benefit even if you deducted half of it. Paragraph 53(1)(j) adds the benefit to the shares' adjusted cost base, so the same value is not taxed twice. Convert each US-dollar amount to Canadian dollars at the spot rate for the day it arose (subsection 261(2)): the purchase price on the payment date, the benefit on the acquisition date.

How the sale itself is taxed, and whether the US small-business stock exclusion helps a Canadian resident, is covered in Canadian founder selling US startup shares.

What if the US also taxes the same shares at a different time?

That mostly concerns US citizens and green card holders living in Canada, and founders who worked in the US. The US taxes its citizens and residents on worldwide income, and taxes others on pay for services performed in the US, based on where the work was done. A founder who is not a US person and works only in Canada is generally outside US tax on the shares.

The timing rules differ. Without an 83(b) election, the US taxes restricted shares received for services when they vest, at their value then, less the price paid (26 CFR 1.83-1). Canada taxes at acquisition. A US citizen could face Canadian tax in the issue year and US tax years later on a different value.

Relief from double tax runs mainly through credits. Canada's section 126 credit covers foreign tax on income from sources in that country, so it does not reach US tax on pay for work done in Canada; for that, a US citizen claims the US foreign tax credit for Canadian tax. When the two countries tax in different years and on different amounts, the credits may not line up. The treaty's special allocation rule for employee awards speaks of options (Treasury technical explanation); how it applies to restricted founder shares is not settled. An 83(b) can move the US timing to the issue date; see founder shares that vest. If you plan to move to the US while shares still vest, see founder moving to the US.

Which Canadian forms come with the shares: T1135 or T1134?

Usually one or the other, not both. Shares of a non-resident corporation are specified foreign property under section 233.3, reported on Form T1135 when the total cost of all such property is more than C$100,000 at any time in the year. The CRA confirms the test uses cost, not market value. Shares of a foreign affiliate are excluded from T1135 and reported on Form T1134 instead.

A co-founder who alone holds at least 10% of the shares meets both affiliate tests. Founder shares bought for a few hundred dollars can still count toward T1135 if a section 7 benefit raised their cost. The affiliate tests, deadlines and relief for dormant companies are in Canadian owner of a US corporation.

What records prove the value when the shares were issued?

Keep the documents that fix the date title passed and the value of your class of shares on that date. A benefit is measured at acquisition, so the burden falls on records from that day, not from the sale.

• The signed share purchase or restricted stock agreement, with its vesting and buy-back terms
• Board consents approving the issue and the price
• Proof of payment and its date
• The share register or certificate showing when the shares were registered in your name
• Any escrow agreement and release notices
• Any valuation of the common shares near the issue date, and the terms of the nearest funding round
• Any US 83(b) election and proof of mailing
• The exchange rate used for each US-dollar amount

Example

These examples are illustrative. Share prices are in US dollars; Canadian amounts are converted at the day's rate.

Founder who paid full value at formation

A Vancouver co-founder pays US$400 for 4 million common shares, 40% of the company, when the Delaware company is formed, the full value at the time. The shares vest over four years. A seed round at US$1 a share closes in year two.

• Year one: title passes at issue; value equals the price paid, so no section 7 benefit.
• Years two to four: shares vest; Canada has no vesting-date rule, so no income.
• Sale: cost is US$400 converted to Canadian dollars on the payment date.
• At 40%, the company is the founder's foreign affiliate, so Form T1134 applies, not T1135.

Co-founder who joins after the seed round

A Toronto engineer joins as a co-founder after the seed round and receives 500,000 common shares for no payment, with title passing on the issue date. The common shares are worth US$0.50 each that day.

• Issue year: about US$250,000, converted to Canadian dollars, is employment income.
• No half deduction: nothing was paid, so the price was below value when the agreement was made.
• Cost for a later sale: the same Canadian-dollar benefit, added under paragraph 53(1)(j).

Shares delivered only at vesting

An agreement signed at formation promises 100,000 common shares for no payment, issued to the founder only when they vest. They vest and are issued after a Series A, when the common shares are worth US$3 each.

• Delivery year: US$300,000, converted to Canadian dollars, is employment income.
• No half deduction: nothing was paid. Had the founder agreed at signing to pay the shares' full value then, the benefit would be US$300,000 less that price, and the half deduction may apply if the other conditions are met.

Different for you?

• You have not filed, or missed, a US 83(b) election: see founder shares that vest.
• You hold stock options, not shares, or the company grants options to staff in Canada: see stock options for employees in Canada.
• You run the Delaware company from Canada, or need the T1134 tests: see Canadian owner of a US corporation.
• You also take salary or dividends from the company: see paying yourself from a US company.
• The company is being sold, or you are selling shares: see Canadian founder selling US startup shares.
• You want a holding company to own the shares: see holding startup shares through a Canadian holding company.
• You are moving to the US while shares still vest: see founder moving to the US.
• You are a US citizen in Canada, received shares after a round, or your shares are delivered at vesting: the timing and value positions need professional judgment in both countries; get cross-border tax help.