On death, an estate receives shares of an investment holding company (H1), and then immediately structures a pipeline under which the H1 shares are transferred to H2 for a note - with the H1 shares of H2 then being redeemed. Could s. 55(2) apply? Would the starting safe income to the estate be nil?
CRA indicated that because there would be no capital gain if those shares were disposed of for fair market value proceeds immediately before the redemption, the redemption of shares of H1 would not result in a reduction of any gain. Also, the purpose test in s. 55(2.1)(b)(ii) does not apply to a dividend that is deemed to be received under s. 84(3). Here, the cost amount of the property is the same before and after the redemption, and the reduction of the fair market value of the shares being redeemed does not result in any deductible loss to H2. The CRA would not seek to apply GAAR in this situation.
Accordingly, the deemed dividend on the redemption would not be subject to s. 55(2) or the application of GAAR - and there is also no carry over of safe income, since the safe income has already been crystallized in the ACB of the shares.