7-911247
Question 13: Deemed Dividend - Reorganization of Capital
Does subsection 84(1) deem a dividend to be paid and received where a corporation issues no-par-value shares (the "new shares") in exchange for previously issued shares of a different class (the "old shares") in the course of a section 86 reorganization of capital in circumstances where the fair market value of the new shares exceeds the paid-up capital of the old shares? Does Revenue Canada object to the paid-up capital of the new shares being set at an amount equal to the paid-up capital of the old shares?
Revenue Canada's Position
The applicability of subsection 84(1) in the above situation depends on whether the exception in paragraph 84(1)(c) is available. If the paid-up capital (as distinct from the fair market value) of the new shares exceeds the paid-up capital of the old shares, there will be a deemed dividend under subsection 84(1) to the extent of such excess. On the other hand, these will not be such a deemed dividend if the paid-up capital of the new shares is less than or equal to the paid-up capital of the old shares.
As stated in paragraphs 3 and 21 of Interpretation Bulletin IT-463, the computation of paid-up capital primarily involves corporate law, rather than tax law (subject to the exceptions specified in clause 89(1)(c)(ii)(C)). Accordingly, Revenue Canada does not object to the utilization of a provision of the applicable corporate law, such as subsection 26(3) of the Canada Business Corporations Act, in order to ensure that the paid-up capital of the new shares does not exceed the paid-up capital of the old shares (assuming, of course, that the parties are entitled under the applicable corporate law to avail themselves of the particular provision).
Note to the Presenter: In the event that you receive a question from the floor in respect of the application of subsection 84(3) to the above reorganization of capital, we wish to advise that subsection 84(3) will apply (provided that subsection 84(1) does not apply (see paragraph 84(6)(a)) if the amount paid by the corporation exceeds the paid-up capital of the old shares. In this regard, subsection 84(5) provides that, in computing "the amount paid by the corporation," the new shares are, in essence, to be valued at an amount equal to their paid-up capital. Thus, an adverse result under both subsections 84(1) and (3 may be avoided by ensuring that the paid-up capital of the new shares does not exceed the paid-up capital of the old shares.)