| 19(1) | 5-901013 |
| Charles Thériault | |
| (613) 957-8953 |
October 29, 1990
19(1)
Re: Subsection 112(2.1) of the Income Tax Act (the "Act") Definition of "Specified Financial Institution" ("SFI")
This is in reply to your letter dated May 29, 1990, in which you requested our interpretation concerning the definition of SFI in subsection 248(1) of the Act and the meaning of "acquired in the ordinary course of the business" in subsection 112(2.1) of the Act. You describe the following situation.
19(1)
You want to know based on the above facts and considering in particular the fact that the definition of SFI includes corporations that lend funds to, or purchase debt obligations of arm's length parties, whether Company A is a SFI. In addition, you ask whether the acquisition of some or all of the preferred shares of Company B by Company A would be made by Company A in the ordinary course of its business.
As mentioned in paragraph 21 of Information Circular 70-6R2 dated September 28, 1990, the Department does not give opinions regarding contemplated transactions otherwise than by way of advance income tax rulings. However, we have set forth below our general comments on the questions you have raised. These opinions are not advance income tax rulings and as stated in the Information Circular, they are not binding on the Department.
Subsection 112(2.1) of the Act denies the deduction otherwise permitted by subsection 112(1) of the Act, on dividends received on term preferred shares acquired by a SFI in the ordinary course of its business. The term SFI is defined in subsection 248(1) of the Act. Paragraph (e) specifically includes as a SFI "a corporation whose principal business is the lending of money to persons with whom the corporation is dealing at arm's length or the purchasing of debt obligations issued by such persons or a combination thereof". The determination of whether a particular corporation is a SFI can only be made following a review of all of the facts and circumstances of a particular situation. Generally, it would seem that a corporation such as corporation A in the above situation may meet the definition of a SFI.
As to your second question, we have formulated no specific guidelines for determining whether shares acquired by a SFI have been acquired in the ordinary course of a SFI's business.
At page 51:9 of the "Revenue Canada Round Table", 1986 Conference Report, Canadian Tax Foundation, the Department stated the following concerning the meaning of "acquired in the ordinary course of business":
"It is a question of fact whether or not a term preferred share has been acquired by a specified financial institution in the ordinary course of its business ... Where a specified financial institution invests in term preferred shares of a related corporation, the shares will generally be considered to have been acquired in the ordinary course of business. Refer to question 62 in the 1984 Conference Report for the factors that have been considered in establishing whether shares were or were not acquired in the ordinary course of business".
The Department had stated the following position at question 62.
"We understand that the major reason for the exclusion from the application of subsection 112(2.1) for shares "not acquired in the ordinary course of the business" of the holder was to minimize the possibility of dividends on "in-house" shares being denied a deduction under subsection 112(1) by virtue of subsection 112(2.1). Factors that have been considered in establishing whether share were or were not acquired in the ordinary of business are as follows:
1. the nature of the holder's activities;
2. the number and frequency of such share acquisitions by the holder;
3. whether the funds involved represent the initial capitalization of a new subsidiary or the provision of additional operating capital to a subsidiary, both of which would normally indicate permanent capitalization;
4. the terms of the shares acquired and their status as "term preferred shares" otherwise than by virtue of control of the issuer by specified financial institutions; and
5. whether the shares were acquired as consideration on the sale of a business or part of a business where the holder's business has not previously included such transactions.
As stated earlier, the question of whether a share is or is not acquired in the ordinary course of its business is always a question of fact. Considering the above factors however, it seems quite conceivable that a share acquisition in circumstances similar to those outlined in your letter would be considered to be in the ordinary course of the acquiring corporation's business.
We hope our comments are of assistance to you.
Yours truly,
for Acting DirectorBilingual Services & ResourceIndustries DivisionRulings Directorate