5-910380
Dear Sirs
We are writing in response to your letter of February 4, 1991 in which you requested our opinion regarding the application of subsection 5301(8) of the Income Tax Regulations (the"Regulations"), to the hypothetical situation described below.
1. A and B are both "taxable Canadian corporation" ("TCC") and "Canadian-controlled private corporations" ("CCPC") within the meanings assigned by paragraphs 89(1)(i) and 125(7)(b) of the Income Tax Act (the "Act"), respectively.
2. B is a wholly-owned subsidiary of A.
3. B has three businesses which A would like to separate into three corporate entities in preparation of a possible arm' s length sale of one or more of these corporations.
4. A will incorporate two new wholly-owned subsidiaries C and D.). Both C and D will be TCC's and CCPC's.
5. A will transfer to C, 70% of the common shares of B in return for common shares of C. A and C will elect, jointly and in prescribed form and within the time limits referred to in subsection 85(6) of the Act, to have the rules in subsection 85(1) of the Act apply to such transfer. In the same fashion A will transfer to D, 25% of the common shares of B.
6. B will transfer to C 70% of the net fair market value of each type of property owned by B. Also B will transfer to D 25% of the net fair market value of each type of property owned by B. In return will receive preferred shares of C and D having a redemption and retraction price equal to the aggregate net fair market value of the property transferred to C and D respectively.
B and C, and B and D, will elect, jointly and in prescribed form and within the time limits referred to in subsection 85(6) of the Act to have the rules in subsection 85(1) of the Act apply to the transfers.
7. B and C and B and D will cross redeem their inter-corporate shareholdings to complete a reorganization as contemplated by paragraph 55(3)(b) of the Act.
8. As a result of the above transactions A will own 100% of B, C and D which in turn will each own a separate business.
Issue
You have requested our opinion in determining the "first instalment base" and "second instalment base" of corporations C and D. The definitions of "first instalment base" and "second instalment base" in paragraph 161(9)(b) of the Act are assigned the meaning as prescribed by Regulation 5301.
It is your view that since C and D are both new corporations (neither formed as a result of an amalgamation) subject to subsection 5301(8) of the Regulations the "first instalment base" and "second instalment base" of both C and D would be nil. It is also your view that subsection 5301(8) of the Regulations is inapplicable because B has not "disposed of all or substantially all of its property to another corporation with which it was not dealing at arm's length".
Our Comments
It is the Department's view that the phrase "ell or substantially all of its property" used in subsection 5301(8) of the Regulations normally means at least 90% of all the properties of the corporation. It is also our view that the base or measuring stick to be used vis a vis the properties will be dictated by what is most appropriate in a given set of circumstances. In this regard in some cases the cost of the properties may be the appropriate measuring stick while in other particular fact situations the fair market value of the properties the number of assets or their relative sizes may be more appropriate. It is also our view that where either the cost or fair market value of the property is determined to be the appropriate measuring stick it is the gross cost or gross fair market value, as the case may be, that must be considered.
Where as a result of a divisive reorganization, a corporation has transferred all or substantially all of its property to more than one corporation with which it was not dealing at arm's length in an attempt to circumvent the provisions of subsection 5301(8) of the Regulations the anti-avoidance provisions of subsection 245(2) of the Act would have to be considered.
These comments represent our general views with respect to the subject matter of your letter. As stated in Information Circular 70-6R2 dated September 28 1990 the opinions expressed in this letter are not rulings and consequently are not binding on the Department.
Yours truly
for DirectorReorganizations and Non-Resident DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch