Principal Issues: [TaxInterpretations translation] 1) Do the provisions of subsection 75(2) of the Act apply in a hypothetical situation involving the issuance of shares to Trust by Opco and Newco and the payment of a dividend to Newco?
2. Can the Trust deduct the dividend allocated to Newco under subsection 104(6) of the Act?
Position: 1. No 2. Yes
Reasons: Application of the Act.
XXXXXXXXXX 2009-031764 Danielle Bouffard September 30, 2009
Dear XXXXXXXXXX,
Subject: Subsection 75(2) of the Income Tax Act (the "Act")
This is in response to your letter of February 16, 2009, which we received on April 14, 2009, asking for our views on the application of subsection 75(2) in the following hypothetical situation.
Participating shares of an operating company ("Opco") were issued to a discretionary trust ("Trust") as part of an estate freeze. The Trust indenture provided, on the one hand, that corporations to be created could become, subsequent to the formation of the Trust, beneficiaries of the income and capital of the Trust and, on the other hand, that a corporation could not be a beneficiary of the dividend it has paid to the Trust. In a taxation year, Opco paid a dividend to the Trust. Prior to December 31 of the same taxation year, the Trust incorporated a corporation ("Newco") which became a beneficiary of the Trust. The Trust allocated and paid the dividend to Newco prior to December 31. Trust controls Opco and Newco.
The objective of setting up such a corporate structure is to allow Opco to:
- Maintain its status as a small business corporation by transferring assets that are not actively used in its business; and
- Protect its financial assets from its creditors by transferring them to Newco.
Taking into account the comments expressed in Technical Interpretation 2006-0218501E5, you are of the view that the subscription by the Trust for Newco shares does not, in and of itself, trigger the application of the provisions of subsection 75(2).
Questions
1. Do the provisions of subsection 75(2) apply in the situation described above involving the issuance of shares to the Trust by Opco and Newco and the distribution of a dividend to Newco?
2. Is the dividend distributed to Newco deductible by the Trust pursuant to subsection 104(6) of the Act?
Our Comments
As stated in paragraph 22 of Information Circular 70-6R5, dated May 17, 2002, it is the practice of the Canada Revenue Agency (CRA) not to issue written opinions on proposed transactions otherwise than by way of advance income tax rulings. Furthermore, when it comes to determining whether a completed transaction has received appropriate tax treatment, that determination is made first by our Tax Services Offices as a result of their review of all facts and documents, which is usually performed as part of an audit engagement. However, we can offer the following general comments that we hope may be helpful to you. These comments may, however, under certain circumstances, not apply to your particular situation.
Generally, the CRA considers that the condition in subparagraph 75(2)(a)(i) is satisfied where a person, including a corporation, from whom property was received directly or indirectly by a trust holds a capital interest (whether or not subject to a discretion) in the trust. As clarified in Technical Interpretation 2006-0218501E5, subsection 75(2) may apply in respect of a person who owned property before the property was transferred by the person to a trust that holds the property under any of the conditions set out in subsection 75(2). Generally, we are of the view that subsection 75(2) does not apply where a trust subscribes for shares of a corporation for consideration equal to their fair market value ("FMV") notwithstanding that the corporation issuing the shares is or may become a beneficiary under the trust or has any of the rights described in subparagraph 75(2)(a)(ii) or paragraph 75(2)(b). Since a corporation does not own its own shares prior to their issuance, it follows that the issuance of shares by a corporation to a trust for consideration equal to their FMV generally does not constitute a transfer of property to which subsection 75(2) could apply. However, according to The Queen v. Kieboom, 92 DTC 6382 (F.C.A.), subsection 75(2) could apply where the shares are not subscribed for consideration equal to their FMV.
Furthermore, paragraph 104(6)(b) provides that there may be deducted in computing the income of a trust for a taxation year such amount as the trust claims not exceeding that part of its income that became payable to a beneficiary in the year. Subsection 104(24) deems an amount to have become payable by a trust to a beneficiary in a taxation year only if the trust paid the amount to the beneficiary in the year or if the beneficiary was entitled in the year to enforce its payment.
In the hypothetical situation described herein, to the extent that such a scenario does not contravene applicable corporate and trust law and that the Trust subscribed for shares of Opco and Newco for consideration equal to their FMV, it appears to us that the issuance of shares by Opco and Newco would not constitute a transfer of property to which subsection 75(2) would likely apply. Since the dividend income paid by Opco to the Trust in a taxation year of the Trust was paid by the Trust to Newco before December 31 of that year, the Trust would normally be entitled to deduct the amount paid under subsection 104(6) for that taxation year.
We hope that these comments are of assistance.
Best regards,
Alain Godin
for the Director
International Operations and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch.