19 April 1990 Income Tax Severed Letter AC59775 - Taxable Dividends Received from Connected Corporations

19(1)                  5-9775
                             S. Shinerock
                             (613) 957-2108

APR 19 1990

Dear Sirs:

Re: Subparagraph 186(4)(b)(ii) of the Income Tax Act (the "Act") and Minority Discount

In your letter of March 13, 1990 you requested if we would advise you of the Department's position as it relates to a minority shareholding for the purposes of subparagraph 186(4)(b)(ii) of the Act, which requires that the particular corporation referred to in paragraph 186(4)(b) own shares of the capital stock of the payer corporation, also referred to therein, having a fair market value of more than 10% of the fair market value of all of the issued shares of the capital stock of the payer corporation.

In the hypothetical situation posited by you, we are asked to assume that a corporate shareholder is one of nine shareholders, each of whom owns approximately 11% of the issued and outstanding common shares of a Canadian-controlled private corporation ("Canco"), as defined by paragraph 125(7)(b) of the Act. The common shares are the only issued and outstanding shares, and there are no voting trusts or shareholder agreements pertaining to the shares. Canco has not paid dividends on the common shares on a regular basis. The shareholders of Canco deal with one another at arm's length.

Comments

The fair market value test in subparagraph 186(4)(b)(ii) of the act provides no particular method of determining such value where minority shareholdings are concerned. Consequently, in our view, generally accepted principles of valuation would apply, and the question of applying a minority discount when valuing the 11% shareholding referred to above must be considered in arriving at the fair market value of such holding. Numerous court cases have considered valuation problems in relation to minority shareholdings, and a brief survey of such cases indicates the tendency of the courts to apply a minority discount. For your information, we list four of such cases below:

Harold P. Connor v. Her Majesty the Queen - 78 DTC 6497 (FCTD)

William C. Krafve v. MNR - 84 DTC 1002 (Tax Court of Canada)

Harold J.C. Terry v. Her Majesty the Queen - 85 DTC 5179 (FCTD)

Louie Allred, Executrix of the Estate of Carl M. Allred, v. MNR -

86 DTC 1479 (Tax Court of Canada)

We hope that these comments will be of assistance.

Yours truly, for Director Reorganizations and Non-Resident Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch