17 January 1992 External T.I. 9130255 F - Forgiveness of Debt, Non-Arm's Length

24(1)

Attention:  19(1)

January 17, 1992

Dear Sirs:

Re:  Forgiveness of Debt

We are replying to your letter of October 29, 1991, concerning the interaction of sections 78, 80 and paragraph 12(1)(x) of the Income Tax Act (the Act) as they apply to a situation where a debt has been forgiven.

You have asked two questions relating to the interaction of the above noted provisions. Our understanding of your enquiry is as follows;

5.     Does section 78 apply where a debt has been settled or extinguished in a manner such that section 80 of the Act has been applied in a prior year?

6.      Paragraph 3 of IT-293R states that there are no provisions in the Act which would specifically require any excess gain remaining after the application of section 80 to be included in income;  however, paragraph 12(1)(x) of the Act has been added since the last release of that bulletin. Does paragraph 12(1)(x) apply to require any such excess gain to be included in income?

It would appear that the situation contemplated by your first question would only occur in a limited set of circumstances. As stated in paragraph 12 of IT-109R, it is not the Department's practice to apply section 78 where the creditor reports income on the accrual basis and has included the amount in income.

In our view the application of section 80 in a prior year would not be a technical impediment to the application of section 78 of the Act in a later year. Furthermore, it is our view that subsection 4(4) of the Act would not be applicable to a situation where both sections would otherwise apply because subsection 4(4) only applies to an amount that would otherwise be required to be included in income or allowed as a deduction more than once within the same taxation year.

However, given that the debtor is dealing at non-arm's length with the creditor, it seems likely that the debtor could avoid double taxation if the creditor was willing to delay the forgiveness until such time as the amount was otherwise required to be included in income. As we are not aware of any factual situation requiring the Department to take an administrative position at this time, we would prefer not to do so. However, it is unlikely that the Department would apply section 78 in a subsequent year if the forgiven amount was fully absorbed by the application of section 80 of the Act in a prior year.

With respect to your second question, it is our view that the excess gain remaining after the application of section 80 would not be required to be included in income under paragraph 12(1)(x) of the Act solely by reason of the fact that there is an excess after the application of section 80 of the Act. However, depending on the circumstances, the Department may consider the application of the tax avoidance provisions.

If you have a factual situation in mind, you may wish to provide the details to your local district taxation office for their comments.

We trust our comments will be of assistance to you.

Yours truly,

J.A. Szeszyckifor DirectorBusiness and General DivisionRulings DirectorateLegislative and IntergovernmentalAffairs Branch