January 7, 1986
M. Carsley (613) 995-1787
Dear Sirs:
This is in reply to your letter of September 23, 1985 in which you requested our opinion as to whether subsection 55(2) of the Income Tax Act (the "Act") would apply in the hypothetical situation described below:
Under the terms of a written separation agreement between Mr. X and his wife, the following steps are completed:
(a) Mr. X transfers a number of his shares in Co. A (100% owned by Mr. X) to a newly incorporated company ("Holdco") pursuant to an election under subsection 85(1) of the Act.
(b) Co. A transfers capital property to Holdco also pursuant to an election under subsection 85(1) of the Act. The value of the property is equal to the value of the Co. A shares transferred in (a) above.
(c) Holdco's shares in Co. A and Co. A's shares in Holdco (received in (b) above) are redeemed.
(d) Mr. X gifts his shares in Holdco to Mrs. X.
At the time the transactions take place Mr. & Mrs. X are married. Pursuant to paragraph 251(2)(a) of the Act Mr. & Mrs. X are related persons. Pursuant to paragraph 251(1)(a) of the Act related persons are deemed not to deal with each other at arm's length. The fact that Mr. & Mrs. X are contemplating getting a divorce is not a relevant issue in determining whether or not they deal with each other at arm's length. Therefore, we concur with your opinion that subsection 55(2) of the Act would not apply in the hypothetical example above by virtue of paragraph 55(3)(a) of the Act.
We trust this information will be of assistance to you.
Yours truly,
for Director Reorganization and Non-Resident Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch