Ms. A and her spouse, Mr. B, each held 50% of the common shares of Opco, with Ms. A also holding Opco preferred shares with a paid-up capital ("PUC") of $200, a redemption value and fair market value (“FMV”) of $2,000,000, and an adjusted cost base ("ACB") of $1,000,000. Ms. A transferred to Mr. B, for no consideration, ½ of her preferred shares, thereby realizing under s. 73(1) proceeds of disposition deemed to be equal to the ACB of those shares of $500,000. Five years later, Opco redeemed those preferred shares for their FMV of $1,000,000).
Would Mr. B's capital loss on the redemption be attributed to Ms. A under s. 74.2(1)(b) or would it instead be added to the ACB of Mr. B’s Opco common shares pursuant to s. 40(3.6)(b). CRA responded:
[T]he loss of $499,900 ("Denied Loss") sustained by Mr. B … would be deemed to be nil by virtue of paragraph 40(3.6)(a). Consequently, no amount of the Denied Loss could be attributed to Ms. A under subsection 74.2(1) … .
By virtue of paragraph 40(3.6)(b), the amount of the Denied Loss … could, however, be added to … the ACB, to Mr. B, of each of the common shares of the capital stock of Opco that is owned by him immediately following the disposition … .
… [A subsequent] taxable capital gain or an allowable capital loss [realized by Mr. B] on the disposition of a common share … of Opco … would not be realized or sustained by Mr. B on the disposition of a property lent or transferred by Ms. A or a property substituted therefor and, consequently, could not be attributed to Ms. A by virtue of subsection 74.2(1).