Principal Issues: [TaxInterpretations translation] In a particular situation where the amount of the tax paid-up capital of a class of shares of the capital stock of a corporation exceeds the amount recorded in respect of that class of shares on the corporation's balance sheet prepared in accordance with GAAP, what amount is to be used for the purposes of computing capital under paragraph 181.2(3)(a)?
Position: The amount shown in the balance sheet prepared in accordance with GAAP.
Reasons: Subparagraph 181(3)(b)(i) and jurisprudence.
January 19, 2009
|
Montreal TSO |
Headquarters Guy Goulet, CA, M. Fisc. 2008-030524 |
Request for Interpretation - Part I.3 Tax and GAAP
This is in response to your email of January 6, 2009 and our telephone conversation of January 15, 2009 in which you requested our comments regarding the amount of capital stock to be used for the purposes of calculating capital under paragraph 181.2(3)(a) in the Particular Situation described below.
Unless otherwise indicated, all legislative references herein are to the provisions of the Income Tax Act (the "Act").
Particular Situation:
Our understanding of the Particular Situation you have submitted to us is as follows:
A taxable Canadian corporation (Canco) acquired assets (Assets) with a fair market value (FMV) of $XXXXXXXXXX. In consideration, it issued XXXXXXXXXX Class A shares of its capital stock to the vendors. The transaction occurred at FMV and the parties did not make an election under subsection 85(1). After the transaction, the vendors held XXXXXXXXXX% of the shares of the capital stock of Canco.
For accounting purposes, Canco recorded the transaction at carrying value in accordance with the Canadian Institute of Chartered Accountants Handbook Section 3840 on Related Party Transactions. Thus, in the balance sheet prepared in accordance with generally accepted accounting principles (GAAP) and audited by a firm of chartered accountants, an amount of $XXXXXXXXXX, representing the carrying value of the Assets, was presented as a debit to fixed assets and an amount of $XXXXXXXXXX was presented as a credit to the issued and paid-up share capital account for the newly issued shares.
For tax purposes, Canco considered the adjusted cost base of the Assets to be $XXXXXXXXXX and the tax paid-up capital of the Class A Shares to be $XXXXXXXXXX. Also, in computing its capital for Part I.3 tax purposes, Canco considered that the amount to be added to its capital stock under paragraph 181.2(3)(a) in respect of the issued XXXXXXXXXX Class A Shares was $XXXXXXXXXX.
Our Comments:
It is difficult for us to comment on the situation you have submitted to us as we do not have all the relevant facts and circumstances surrounding the transactions described in your request. We can, however, offer the following general comments.
Subparagraph 181(3)(b)(i) provides, inter alia, that in determining an amount relating to the capital of a corporation for a taxation year, the amounts to be used are those shown on a balance sheet prepared in accordance with GAAP and presented to the shareholders of the corporation.
It is possible in a particular situation that the amount of paid-up capital for tax purposes in respect of a class of shares may differ from the amount of issued and paid-up capital appearing on the balance sheet prepared in accordance with GAAP for that same class of shares as is the case in the Particular Situation. We refer you to Interpretation Bulletin IT-463R2 Paid-up Capital regarding the calculation of the amount of paid-up capital for tax purposes of a class of shares.
The courts interpreted subsection 181(3) in Attorney General of Canada v. Ford Credit Canada Ltd. [2007 FCA 225] (Ford Credit). The Agency accepted the conclusions in that case that the accounting characterization should be used to determine whether an amount should be taken into account for Part I.3 purposes.
We are of the view that, in this case, the amount of capital stock that should be used for the purposes of computing capital in paragraph 181.2(3)(a) in respect of the XXXXXXXXXX Class A shares of the capital stock of Canco would be $XXXXXXXXXX to the extent that the presentation of this amount is in accordance with GAAP.
However, the Agency has the ability to challenge the application of GAAP where it is of the opinion that GAAP has not been applied in a specific situation. This is what the Federal Court of Appeal stated in paragraph 28 of the Ford Credit decision:
“This is not to say that the Minister or the courts are precluded from any consideration of a balance sheet that is said to have been prepared in accordance with GAAP. It would always be open to the Minister to argue that the balance sheet description of a particular item was not in fact in accordance with GAAP. The courts would then be required to adjudicate the question, having regard to expert accountancy evidence. See Inco Ltd. v. Canada, 2007 TCC 1, [2007] T.C.J. No. 2.”
Thus, if you are of the view that the balance sheet has not been prepared in accordance with GAAP, we are of the view that you should obtain the opinion of a financial accounting expert who will advise you on the proper accounting treatment taking into account all relevant facts. A notice of reassessment may then be issued, as applicable, taking into account the opinion of that expert.
We hope that our comments are of assistance.
Best regards,
Ghislain Martineau
Manager
Financial Sector and Exempt Entities Section
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch.