Principal Issues: [TaxInterpretations translation]
Does the definition of “Allowable business investment loss” apply to certain debt obligations and shares in a workers' cooperative?
Position: General comments.
Reasons: Yes if the conditions of 39(1)(c) and 50(1) are satisfied.
July 12, 2000
XXXXXXXXXX Tax Services Office Headquarters
P.-A. Sarrazin
(613) 952-5803
Attention: XXXXXXXXXX
2000-002785Allowable Business Investment Loss (“ABIL”)
This is in response to your memo of May 18, 2000, in which you requested our opinion on the above subject.
The Facts
A workers' cooperative was operating in the field of XXXXXXXX. The worker members of the cooperative were required to purchase shares, divided into membership shares and preference shares. The rebates voted on those shares were treated as employment income on which the appropriate deductions were made at source. The net sums were then loaned to the cooperative.
On or about XXXXXXXXXX, the cooperative sold its assets previously used in an active business. In exchange, the purchaser gave the cooperative non-voting preferred shares redeemable under a number of conditions. On XXXXXXXXXX, the purchaser's assets were placed under receivership. The interim trustee temporarily carried on the purchaser's business and then received a release on XXXXXXXXXX. The purchaser has been deregistered since XXXXXXXXXX. The cooperative, whose taxation year ended on XXXXXXXXXX, was automatically deregistered on XXXXXXXXXX. It was neither bankrupt nor had been wound-up within the meaning of the Winding-up and Restructuring Act.
You wish to know whether the workers can claim a BIL for the debts and shares they held in the cooperative.
Our Comments
The case you have brought to our attention raises a number of questions of fact and law. Although it is impossible for us to answer all of these questions conclusively, we offer the following comments.
Unless otherwise specified, all statutory references herein are to provisions of the Income Tax Act. It should be recalled that a share in a cooperative corporation (defined in subsection 136(2)) is a “share” within the meaning of subsection 248(1). In general, a worker cooperative may be a cooperative corporation within the meaning of subsection 136(2). Similarly, a cooperative corporation is a private corporation for the purposes of paragraph 39(1)(c), by virtue of subsection 136(1), if it were otherwise a private corporation. The term “private corporation” is defined in subsections 248(1) and 89(1). Therefore, the shares of the cooperative under review may be considered shares of a corporation for the purposes of the Act.
Membership shares
In order to claim a BIL under paragraph 39(1)(c) in respect of their shares, members must demonstrate that those shares are comparable to shares in a small business corporation. Subsection 248(1) defines the term “small business corporation” (“SBC”). In order to satisfy the conditions set out therein, the cooperative must use all or substantially all of its assets principally in an active business carried on primarily in Canada. Otherwise, its assets must consist of shares or debts of a connected company that carries on such a business.
We understand that the cooperative ceased to carry on an active business itself on or about XXXXXXXXXX, i.e., at the time of the sale of its assets to the purchaser. The shares it holds in the purchaser do not carry any voting rights and the purchaser cannot therefore be considered a connected corporation within the meaning of subparagraph 186(4)(a)(i). It is our view that the Cooperative ceased to be a SBC on or about XXXXXXXXXX.
However, the definition of “small business corporation” in subsection 248(1) allows a corporation to be considered, for the purposes of paragraph 39(1)(c), to be a SBC at a particular time if it was a SBC at any time in the 12-month period preceding the particular time. Since paragraph 39(1)(c) must be read in conjunction with subsection 50(1) and that subsection deems there to be a disposition at a year end, the last time at which the members of the cooperative could have elected to take advantage of paragraph 39(1)(c) is XXXXXXXXXX.
Debts
In order to claim a BIL pursuant to paragraph 39(1)(c) in respect of their debt of the cooperative, members must be able to establish that their debt has become uncollectible in the year, for the purposes of paragraph 50(1)(a). In this regard, we refer you to paragraph 10 of IT-159R3, Capital debts established to be bad debts, as well as paragraph 6 of IT-442R, Bad debts and reserves for doubtful debts.
Since the cooperative was neither bankrupt nor being wound-up within the meaning of the Winding-up and Restructuring Act, those debts must be of a Canadian-controlled private corporation which is at the same time a SBC (clause 39(1)(c)(iv)(A)). As stated above, the cooperative ceased to be a SBC on or about XXXXXXXXXX, and the last time the members could avail themselves of subsection 50(1) with respect to their debts, while the cooperative was a SBC, was therefore once again XXXXXXXXXX.
Election on XXXXXXXXXX
In order to allow the members to avail themselves of subsection 50(1), you will have to ensure, among other things, that the members could consider their claims to be bad debts on XXXXXXXXXX.
In addition, you must ensure that the loss thus claimed is not deemed to be nil under subparagraph 40(2)(g)(ii). This subparagraph deems certain losses resulting from the disposition of a debt obligation to be nil unless the debt obligation was acquired for the purpose of earning income from a business or property. The Agency accepts that certain loans with interest rates lower than a reasonable rate may be considered to have been made for the purpose of earning income. For this purpose, we refer you to the conditions set out in paragraph 6 of IT-239R2, Deductibility of Capital Losses from Guaranteeing Loans for Inadequate Consideration and from Loaning Funds at less than a Reasonable Rate of Interest in Non-arm's Length Circumstances.
With respect to membership shares, you must also ensure that the conditions listed in subparagraph 50(1)(b)(iii) are met on XXXXXXXXXX. Among other things, the cooperative must have been insolvent on XXXXXXXXXX and the fair market value of its shares must have been nil at that time.
We hope you find these comments of assistance.
Ghislain Martineau
for the Director}
Business and Publications Division
Income Tax Rulings Directorate