Income Tax Act Subsection 110.6(1) and 110.6(2.1)
In order to claim the lifetime capital gains exemption on a share sale, the shares must meet certain conditions to qualify for the special treatment. If the shares qualify, then the seller would be able to use his or her LCGE, and receive $800,000 tax-free.
The rules pertaining to the shares are two-fold. One regarding their ownership, and the other regarding the use of the assets of the corporation.
In the case of death, the CRA has special rules that may allow the shares to qualify even if they do not meet the above test.
If otherwise qualifying shares are sold to a non-resident or to a public corporation, the Income Tax Act may deny use of the capital gains exemption. Subsection 256(9) states when a corporation is purchased, control of the corporation switches to the new owner at the start of the business day. What this means is now the shares are owned by a non-qualifying entity and the test above is not met. There is an election inside the Income Tax Act to have subsection 256(9) not apply, but this may cause other issues.
The Federal Court of Appeal case dealing with s. 256(9) is La Survivance v. Canada 2006 FCA 129.