Pursuant to a share purchase agreement, Acquisitionco (a newly-formed Canadian subsidiary of another corporation) purchased all the outstanding shares of (Canadian-resident) Targetco (the “Shares”) for a base purchase price plus cash earnout payments of up to $XX (the “Earnout Payments”) upon achieving specified milestones. Immediately thereafter, there was a short-form amalgamation of Acquisitionco and Targetco to form Amalco (the “Amalgamation”). Amalco thereafter paid the Earnout Payments to the former Targetco Shareholders upon achieving the milestones. Amalco reported the Earnout Payments as eligible capital expenditures (“ECE”) and claimed s. 20(1)(b) deductions for the two taxation years in issue. Was this treatment correct?
In finding that the Earnout Payments were an addition to the cost of the Shares rather than being ECE, the Directorate stated:
[R]egardless of whether the Shares existed at the time that the Earnout Payments became payable or paid, the Earnout Payments nevertheless are part of the cost of the Shares. Mandel…appears to dictate such a result… .
… The difference between cost of the Shares of $XX and $XX immediately before the Amalgamation is only relevant in regards to bump room for the assets of Targetco, if a bump was available under paragraphs 87(11)(b) and 88(1)(c). We were not provided with information regarding whether a bump was implemented upon the Amalgamation, but we note that a bump can only be made on capital property and eligible capital property is not an eligible property for bump purposes. …
[T]he Amalgamation should not entitle Amalco to re-characterize an amount that is cost of the Shares simply because the Earnout Payments were made at a point in time where the Shares no longer exist. Allowing such a re-characterization of cost of non-depreciable property to ECE would in effect allow a bump on eligible capital property. Such a result is offensive… .