Sometimes clients have a hard time understanding the value of maintaining corporate minute books and, more particularly, paying a lawyer to do so. The fact is, however, failing to maintain minute books properly in a timely manner can lead to real problems for the corporation and its shareholders.
The Law and Minute Books
The relevant legislation—the Ontario Business Corporations Act for Ontario corporations and the Canada Business Corporations Act for federal corporations—requires corporation, among other things, to hold annual meetings or pass resolutions in lieu of such meetings. In addition to this legal requirement, there are good practical reasons for the Corporation to update its minute book. Updating the minute book annually will help to ensure that little problems now don’t become big problems later.
Some Practical Problems
Consider the position of the shareholders of a corporation that is being sued. In certain circumstances, it might be beneficial for the plaintiffs to argue that, in addition to being able to sue the corporation, they should be able to sue the shareholders as well on the basis that the corporation was a sham or that the shareholders were really carrying on the corporation’s business personally (this is called “piercing the corporate veil”). The plaintiffs’ argument will be stronger if they can show that the corporation never had a minute book, or that the minute book, after incorporation, was never updated because the shareholders ignored the legal requirement to have annual meetings and maintain the minute book.
At the very least, resolutions in a minute book declaring dividends or distributing capital to shareholders will help to support the characterization of the amounts as such. Properly declared dividends entitle individuals to the dividend tax credit (or corporations to deduct the amount of the dividend in computing taxable income). A distribution of capital (a return of capital) can be received tax-free by a shareholder. If an amount that is paid to a shareholder is not a dividend or a return of capital, then it might be characterized as a shareholder appropriation for tax purposes. A taxpayer must include the full amount of such an appropriation in income for tax purposes, and no dividend tax credit will be available, while the payor will not be entitled to a deduction in computing its income. The identification of a payment as a dividend or a return of capital in the financial statements of the payor corporation may not suffice to support its characterization as such for tax purposes.
The CBCA and the OBCA also each require a corporation to have its financial statements audited every year unless all of the shareholders of the corporation consent to unaudited statements. If the shareholders of a corporation do not provide this consent every year, and the corporation has only unaudited statements prepared, then they run the risk of having a disgruntled shareholder, perhaps in the context of a shareholder dispute, allege later that he or she requested audited statements and they were refused. The corporation, without written evidence, will be forced to attempt to prove that it was not required to prepare audited statements because it had received consent from the disgruntled shareholder.
Or consider the position of Mr. X’s heirs in the following case. Mr. X was a shareholder of a corporation with Mr. Y. Mr. X purchased Mr. Y’s shares, but that fact was never recorded in the minute book. Mr. X dies, and then Mr. Y comes forward claiming that he is still a shareholder of the corporation. Mr. X is no longer able to contradict him, and the proof that he paid Mr. Y for his shares is long gone.
Or consider the position where Mr. X purchases shares from Mr. Y at a time when they are not worth much. Unfortunately, the transaction is not properly recorded in the minute book and Mr. X does not obtain the proper consents and releases from Mr. Y. Years later, Mr. X attempts to sell his shares in the capital of the corporation for a greatly increased price. The purchaser, after reviewing the minute book, insists on a release from Mr. Y. Mr. X must now approach Mr. Y for the release, and Mr. Y will be in a position to force Mr. X to pay again for the shares he bought many years ago. That is, by failing to update the minute book properly, Mr. X left himself open to being “held up”.
An annual review and update of the corporation’s minute book would likely have prevented the problems described above. For example, Mr. X, if he had known that the minute book did not contain the appropriate consents and releases from Mr. Y, could have obtained them at a time when the value of the corporation would not have justified an attempted hold up. Mr. Y could not have demanded further payments when he’d just received them, and he would not have had the ability to demand more money when the corporation, per their previous agreement, wasn’t worth anything.
Can’t I Maintain My Own Minute Book?
Clients sometimes ask why they cannot maintain their own books annually when the update is merely “routine”.
In our experience, clients who have the best intentions about maintaining their own minute books often never get around to it. A lawyer ends up having to update the minute books anyway, and they charge for that service of course. The client ends up saving little or nothing, and has taken the risks identified above for failing to perform the updates annually.
In any case, in addition to ensuring that the updating actually happens annually, a lawyer will maintain minute books in accordance with current law. The requirements imposed on a corporation in respect of its minute books change from time to time. The lawyer should keep track of those changes for the corporation.
Finally, the corporation needs professional advice about what is “routine” as far as the minute book is concerned. Routine annual minutes are not difficult to prepare; the trick is to know whether what the corporation needs is in fact routine. Part of the lawyer’s function is to ensure that what needs doing gets done regardless of whether it is “routine”.