Principal Issues: 1) Whether section 84.1 will apply to reduce the PUC on the shares of the new corporation received as consideration for the disposition of the shares. 2) Whether section 84.1 will apply to deem the estate to have received a dividend after the disposition of shares to the new corporation. 3) Whether subsection 84(2) will apply to the proposed transactions. 4) Whether subsection 245(2) will apply to the proposed transactions.
Position: 1) No. Favorable ruling given. 2) No. Favorable ruling given. 3) No. Favorable ruling given. 4) No. Favorable ruling given.
Reasons: In accordance with the provisions of the Act and our previous positions.
XXXXXXXXXX 2021-090759
XXXXXXXXXX 2021
Subject: Request for Advance Income Tax Rulings
Rulings - XXXXXXXXXX
Dear Madam, Sir,
This is in response to your letter dated XXXXXXXXXX, in which you requested advance income tax rulings on behalf of XXXXXXXXXX. We have also taken into account the information you have sent us by email, as well as additional information submitted during telephone conversations (XXXXXXXXXX).
To the best of your knowledge and that of the parties involved in the transactions, none of the Proposed Transactions or any of the matters covered by this application are the same as or substantially comparable to any transaction or matter that:
i. was addressed in a previously filed tax return of the taxpayer, or a related person, that:
A. is under review by the Canada Revenue Agency in connection with that return;
B. is the subject of an objection by the taxpayer or the related person;
C. is the subject of a legal proceeding, either in progress or completed, involving the individual or the related person;
ii. has been the subject of an advance ruling request previously reviewed by the Income Tax Rulings Directorate.
DEFINITIONS AND ABBREVIATIONS USED
Unless otherwise indicated:
i. all statutory references are to provisions of the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), as amended (the "Act")
ii. all words and expressions used in this application and defined in the Act shall have the meaning given to them in the Act;
iii. all monetary amounts are in Canadian dollars;
iv. words importing the singular number shall include the plural, and vice versa, where the context so requires.
In this letter, with the exception of paragraph 29, the names and corporate names of the taxpayers are replaced by the following names and corporate names:
“Amalco” means the corporation resulting from the amalgamation of Newco and Holdco, as described in paragraph 23 of the Proposed Transactions;
“Estate” means the Estate of X governed by the terms of the Will;
“Executor 1” means XXXXXXXXXX;
“Executor 2” means XXXXXXXXXX;
“Executor 3” means XXXXXXXXXX;
“Heirs” means XXXXXXXXXX;
“Holdco” means XXXXXXXXXX;
“Legal Representatives” means Executor 1, Executor 2 and Executor 3;
“Newco” means the new corporation to be formed in connection with the implementation of the Proposed Transactions, as described in paragraph 16 of the Proposed Transactions;
“X” means XXXXXXXXXX.
The following abbreviations, terms and expressions have the meanings defined below.
"ACB" means "adjusted cost base" as defined in section 54;
"Agreed Amount" has the meaning assigned by subsection 85(1);
"Business" means the investment management business carried on by Holdco;
"CCPC" means "Canadian-controlled private corporation" as defined in subsection 125(7);
"CDA" means "capital dividend account" as defined in subsection 89(1);
"connected corporation" has the meaning assigned by subsection 186(4);
"CRA" means the Canada Revenue Agency;
"DR" means "dividend refund" as defined in subsection 129(1);
"eligible dividend" has the same meaning as in subsection 89(1);
"ERDTOH" means "eligible refundable dividend tax on hand" as defined in subsection 129(4);
"FMV" means "fair market value", which means the highest price, in dollars, that would be agreed upon in the open market by two knowledgeable and prudent arm's length parties, neither of whom is under any compulsion to act;
"GRE" means "graduated rate estate" as defined in subsection 248(1);
"GRIP" means "general rate income pool" as defined in subsection 89(1);
"NERDTOH" means “non-eligible dividend on hand” as defined in subsection 129(4);
"Non-arm's length" has the meaning set out in subsection 251(1);
"Preliminary Transactions" means the transactions described in paragraphs 13 to 15;
"Proposed Transactions" means the transactions described in paragraphs 16 to 27;
"PUC" means "paid-up capital" as defined in subsection 89(1);
"QSBCS" means "qualified small business corporation share" as defined in subsection 110.6(1);
"resident of Canada" means a resident of Canada for the purposes of the Act;
"RV" means "redemption value";
"TCC" means "taxable Canadian corporation" as defined in subsection 89(1);
"Will" means the last will and testament of X signed on XXXXXXXXXX;
XXXXXXXXXX;
RELEVANT FACTS
Facts about Holdco
1. Holdco is a CCPC and TCC incorporated on XXXXXXXXXX under XXXXXXXXXX. Holdco's fiscal period end is XXXXXXXXXX.
2. The authorized share capital of Holdco consists of an unlimited number of Class A and B shares.
Immediately prior to X's death, the issued and outstanding share capital of Holdco consisted of XXXXXXXXXX Class A shares and XXXXXXXXXX Class B shares. The principal rights, privileges, restrictions and conditions attached to these shares are as follows:
- Class A shares: voting and participating;
- Class B shares: voting, non-participating, redeemable at their RV, being for each Class B share of the capital stock of Holdco, the FMV of the property or securities received by Holdco as consideration for and at the time of issuance of such Class B preferred share and entitled to a fixed, non-cumulative preferential dividend at the rate of XXXXXXXXXX% per month of the RV of each Class B share.
3. Holdco carried on the Business immediately prior to X's death. Holdco's assets at that time consisted primarily of shares of public corporations, bonds and investments in investment funds. Holdco's liabilities consisted of operating debts and taxes payable.
4. The amount of Holdco's GRIP was $XXXXXXXXXX as at XXXXXXXXXX.
5. The amount of Holdco's ERDTOH AND NERDTOH accounts were $XXXXXXXXXX and $XXXXXXXXXX, respectively, as at XXXXXXXXXX.
6. The amount of Holdco's CDA was $XXXXXXXXXX as at XXXXXXXXXX.
7. Prior to his death, X had effective (de jure) control of Holdco for the purposes of the Act. Since his death, Estate has had effective (de jure) control of Holdco for the purposes of the Act.
Facts relating to X's death
8. X died on XXXXXXXXXX. Immediately before his death, X was a resident of Canada.
9. At the time of his death, X owned all of the issued and outstanding shares of the capital stock of Holdco, which constituted Capital Property to X.
The table below shows the tax attributes of the shares of the capital stock of Holdco held by X immediately before his death:
|
Number |
Class |
ACB($) |
ACB taking into account paragraph 84.1(2)(a.1) ($) |
PUC($) |
FMV($) |
|
XX |
A |
XX |
XX |
XX |
XX |
|
XX |
B |
XX |
XX |
XX |
XX |
|
XX |
10. The provisions of X's will provide that the shares in the capital stock of Holdco were to be bequeathed in equal shares between the Heirs.
11. As a result of X's death and pursuant to paragraph 70(5)(a), X was deemed to have disposed, immediately before her death, of all of the shares of the capital stock of Holdco and to have received as proceeds of disposition an amount equal to their FMV at that time.
This deemed disposition of the shares of the capital stock of Holdco resulted in a capital gain to X of $XXXXXXXXXX.
At the time of X's death, the Class A shares and the Class B shares of the capital stock of Holdco were not QSBCSs. Consequently, X (or his estate) have not claimed and will not claim a capital gains deduction pursuant to subsection 110.6(2.1) in computing X’s taxable income in respect of the taxable capital gain arising on the deemed disposition of the Holdco shares described above. However, a capital gains deduction pursuant to subsection 110.6(2.1) was claimed by X and by an individual with whom X did not deal at arm's length in respect of a capital gain arising on a previous disposition of shares for which shares of the capital stock of Holdco were substituted.
Pursuant to paragraph 70(5)(b), the Estate was deemed to have acquired all of the shares of the capital stock of Holdco at a cost equal to their respective FMV immediately before X's death. These shares acquired as a result of X's death constitute capital property to the Estate. The tax characteristics of the shares held by Estate are as follows:
|
Number |
Class |
ACB($) |
ACB taking into account paragraph 84.1(2)(a.1) ($) |
PUC($) |
FMV($) |
|
XX |
A |
XX |
XX |
XX |
XX |
|
XX |
B |
XX |
XX |
XX |
XX |
|
XX |
12. The Estate is a resident of Canada and its first taxation year ends on XXXXXXXXXX.
PRELIMINARY TRANSACTIONS
Redemption of a number of Class B shares
13. Prior to XXXXXXXXXX, Holdco will first redeem XXXXXXXXXX Class B Shares of its capital stock held by the Estate. In return, Holdco will pay an amount equal to the RV of the XXXXXXXXXX Class B shares to the Estate.
Holdco will be deemed to have paid and the Estate will be deemed to have received a dividend pursuant to subsection 84(3). The total amount of that dividend will be the amount by which the amount paid by Holdco on the redemption exceeds the PUC of the shares so redeemed. Holdco will make the designation pursuant to subsection 89(14) so that such dividend is an eligible dividend up to the balance in its GRIP account.
In addition, as a result of the redemption described above, Estate will sustain a capital loss equal to the difference between the proceeds of disposition as defined in section 54 and the ACB to Estate of the shares so redeemed. In this regard, the Legal Representatives will elect, pursuant to subsection 164(6), to treat the entire capital loss of Estate resulting from the above-described disposition as a capital loss of X resulting from the disposition of those shares by X in X’s last taxation year.
In addition, pursuant to subsection 40(3.61), subsection 40(3.6) will not apply to the Estate to deem the above capital loss to be nil.
14. Prior to XXXXXXXXXX, Holdco will then redeem XXXXXXXXXX Class B shares of its capital stock held by the Estate. In return, Holdco will pay an amount equal to the RV of the XXXXXXXXXX Class B shares to the Estate.
Holdco will be deemed to have paid and the Estate will be deemed to have received a dividend pursuant to subsection 84(3). The total amount of this dividend will be the amount by which the amount paid by Holdco on the redemption exceeds the PUC of the shares so redeemed.
In addition, as a result of the redemption, the Estate will sustain a capital loss equal to the difference between the proceeds of disposition as defined in section 54 and the ACB to the Estate of the shares so redeemed. In this regard, the Legal Representatives will elect, pursuant to subsection 164(6), to treat the entirety of the Estate's capital loss from the above-described disposition as a capital loss of X from the disposition of those shares by X in X’s last taxation year.
In addition, pursuant to subsection 40(3.61), subsection 40(3.6) will not apply to the Estate to deem the above capital loss to be nil.
15. In order to provide sufficient liquidity to effect the redemptions described above, Holdco will dispose of some of its investments.
PROPOSED TRANSACTIONS
Incorporation of Newco and transfer of shares
16. The Estate will incorporate Newco under the XXXXXXXXXX. Newco will, at all relevant times and for all purposes of the Act, be a CCPC and a TCC. The fiscal period end of Newco will be XXXXXXXXXX of each year.
17. The authorized share capital of Newco will consist of an unlimited number of Class A and Class B shares without par value. The principal rights, privileges, restrictions and conditions attached to those shares will be as follows:
- Class A shares: voting and participating;
- Class B shares: non-voting, non-participating, entitled to a non-cumulative dividend of XXXXXXXXXX% to XXXXXXXXXX% per month calculated on the RV. The Class B shares will be redeemable at the option of the holder at their RV, being the amount paid into the stated capital account plus a premium equal to the excess of the FMV of the consideration received by the corporation over the total of the amount paid into the stated capital account and the FMV of any property, other than shares, given by the corporation in payment of such consideration.
18. The Estate will subscribe for XXXXXXXXXX Class A shares of the capital stock of Newco. In satisfaction thereof, the Estate will pay an amount of $XXXXXXXXXX to Newco.
19. On XXXXXXXXXX, the Estate will transfer to Newco its XXXXXXXXXX Class A shares of the share capital of Holdco. In consideration thereof, Newco shall issue to Estate:
(a) a demand note ("Note 1") with a principal amount and FMV equal to the lesser of:
i. the ACB to the Estate of the Class A shares of the capital stock of Holdco so transferred, taking into account paragraph 84.4(2)(a.1), less $XXXXXXXXXX; and
ii. the FMV on the date of the transfer of the Class A shares of the capital stock of Holdco so transferred, less $XXXXXXXXXX; and
(b) Class A shares of its capital stock having a FMV equal to the amount, if any, by which the FMV of the Class A shares of the capital stock of Holdco so transferred on the date of transfer exceeds the principal amount of Note 1.
The Estate will accept Note 1, together with the Class A shares of the capital stock of Newco, as full and absolute payment for the transfer of the Class A shares of the capital stock of Holdco.
In addition, and for greater certainty, the total amount of the FMV represented by Note 1 and the Class A shares of the capital stock of Newco issued on such transfer will not exceed the FMV of the Class A shares of the capital stock of Holdco so transferred.
The Estate and Newco will jointly make the election provided for in subsection 85(1) in the prescribed form and within the time prescribed in subsection 85(6) in respect of the Class A shares of the capital stock of Holdco to be transferred to Newco. The Agreed Amount by the Estate and Newco for the Holdco shares so transferred will be equal to the lesser of the amounts described in subparagraphs 85(1)(c.1)(i) and (ii) (being, respectively, their FMV at the time of the transfer and the ACB, for the Estate, at the time of the transfer).
In addition, the Agreed Amount for the shares will not exceed their FMV at the time of transfer and will not be less than the amount set out in paragraph 85(1)(b).
The PUC of the Class A shares of the capital stock of Newco will be equal to $XXXXXXXXXX, being the amount by which the lesser of the ACB for the Estate, taking into account paragraph 84.1(2)(a.1), and the FMV of the Class A shares of the capital stock of Holdco immediately prior to the disposition exceeds the principal amount of the Note 1 payable by Newco immediately after the disposition, which will be the maximum amount that may be added to the PUC of the shares by virtue of paragraph 84.1(1)(a)
20. On XXXXXXXXXX, the Estate will transfer to Newco its XXXXXXXXXX Class B shares of the capital stock of Holdco. In consideration, Newco will issue to the Estate:
(a) a note payable on demand ("Note 2") with a principal amount and FMV equal to the lesser of:
i. the ACB to the Estate of the Class B shares of the capital stock of Holdco so transferred, taking into account paragraph 84.4(2)(a.1), less $XXXXXXXXXX; or
ii. the FMV on the date of the transfer of the Class B Shares of the capital stock of Holdco, less $XXXXXXXXXX; and
(b) Class A shares of its capital stock having a FMV equal to the amount, if any, by which the FMV of the Class B shares of the capital stock of Holdco so transferred on the date of transfer exceeds the principal amount of Note 2.
The Estate will accept Note 2, together with the Class A shares in the capital of Newco, as full and absolute payment for the transfer of the Class B shares of the capital stock of Holdco.
In addition, and for greater certainty, the total amount of the FMV represented by Note 2 and the Class A shares of the capital stock of Newco issued upon such transfer will not exceed the FMV of the Class B shares of the capital stock of Holdco so transferred.
The Estate and Newco will jointly make the election provided for in subsection 85(1) in the prescribed form and within the time provided for in subsection 85(6) in respect of the Class B shares of the capital stock of Holdco to be transferred to Newco. The Agreed Amount of the Estate and Newco for the Holdco shares so transferred will be equal to the lesser of the amounts described in subparagraphs 85(1)(c.1)(i) and (ii) (being, respectively, their FMV at the time of the transfer and the ACB, to the Estate, at the time of the transfer).
In addition, the Agreed Amount for the shares will not exceed their FMV at the time of transfer and will not be less than the amount set out in paragraph 85(1)(b).
The PUC of the Class A shares of the capital stock of Newco will be equal to $XXXXXXXXXX, being the amount by which the lesser of the ACB for Estate, taking into account paragraph 84.1(2)(a.1), and the FMV of the Class B shares of the capital stock of Holdco immediately prior to the disposition exceeds the principal amount of Note 2 payable by Newco immediately after the disposition, which will be the maximum amount that can be added to the PUC of the shares pursuant to paragraph 84.1(1)(a).
As a result of these transfers, Holdco will be a "connected corporation" with Newco pursuant to subsection 186(4).
21. The sale agreement will contain a price adjustment clause to the effect that the parties have made the transfers described in paragraphs 19 and 20 at FMV and that they will adjust the sale price and the consideration received if the CRA assesses the property at a different value which is agreeable to the parties.
22. Holdco will remain a separate legal entity (i.e. Holdco will not be wound up into Newco or any other corporation, or amalgamated with Newco or any other corporation) for a period of XXXXXXXXXX months following the share transfers referred to in paragraphs 19 and 20. In addition, during this same period, Holdco will continue to carry on the Business. Furthermore, the Estate and the Heirs of X do not intend for Holdco to cease to carry on the Business after this XXXXXXXXXX month period.
Short-form amalgamation of Newco and Holdco
23. After the XXXXXXXXXX month period described in the preceding paragraph has elapsed, Holdco will be amalgamated with Newco pursuant to subsection 87(1) to form Amalco. Amalco will continue to carry on the Business and its investment policy will remain the same.
24. Pursuant to paragraph 88(1)(d), Amalco will designate an amount to increase the ACB of the property, other than ineligible property, of Holdco that will be distributed or acquired on the amalgamation. The purpose of this transaction is to benefit from an increase in the cost of these properties in anticipation of an eventual sale. However, such property will not be acquired by a person described in subclause 88(1)(c)(vi)(B)(I), (II) or (III) as part of the series of transactions or events that includes the amalgamation of Holdco with Newco.
25. Following the amalgamation described in paragraph 24, Amalco will progressively redeem Note 1 and Note 2 payable to the Estate at a maximum rate of XXXXXXXXXX% of the total principal amount of Note 1 and Note 2 per quarter, commencing on XXXXXXXXXX.
26. Amalco will continue to carry on the Business for a minimum period of XXXXXXXXXX months, but Amalco will sell some of its investments in order to make the repayments in settlement of Note 1 and Note 2 as provided for in the preceding paragraph.
27. At the appropriate time, the Estate will distribute the shares held of the capital stock of Amalco, together with the outstanding balances of Note 1 and Note 2 or the funds resulting from the repayment of such notes, equally among the Heirs.
PURPOSE OF THE PROPOSED TRANSACTIONS
28. The purpose of the Proposed Transactions described above is to recover Holdco's ERDTOH and NERDTOH and to progressively distribute property into the hands of the beneficiaries of X's estate with a FMV equal to the ACB to the estate, taking into account paragraph 84.1(2)(a.1), resulting from the application of subsection 70(5) to the shares of the capital stock of Holdco that were acquired as a result of X's death.
ADDITIONAL INFORMATION
29. The main contact details for the taxpayers covered by the advance rulings are:
XXXXXXXXXX
RULINGS
Provided that the statement of Relevant Facts, the Preliminary Transactions, the Proposed Transactions and the Additional Information constitutes full disclosure of all relevant facts, of all preliminary and proposed transactions and that these Proposed Transactions are made as described above, our decisions are as follows:
A. To the extent that:
(a) the principal amount of Note 1 payable by Newco will not exceed the ACB, to the Estate, having regard to paragraph 84.1(2)(a.1), of the Class A shares of the capital stock of Holdco; and
(b) the PUC of the Class A shares of the capital stock of Newco will not exceed the maximum amount that may be added to the PUC of those shares pursuant to paragraph 84.1(1)(a),
the provisions of section 84.1 will not apply to deem a dividend to be paid by Newco to the Estate and received by the Estate, or to reduce the PUC of the Class A shares of the capital stock of Newco upon the disposition of such shares described in paragraph 19 above.
B. To the extent that:
(a) the principal amount of Note 2 payable by Newco will not exceed the ACB to the Estate, having regard to paragraph 84.1(2)(a.1), of the Class B shares of the capital stock of Holdco; and
(b) the PUC of the Class A shares of the capital stock of Newco will not exceed the maximum amount that may be added to the PUC of those shares pursuant to paragraph 84.1(1)(a),
the provisions of section 84.1 will not apply to deem a dividend to be paid by Newco to the Estate and received by the Estate, or to reduce the PUC of the Class A shares of the capital stock of Newco upon the disposition of such shares described in paragraph 20 above.
C. The provisions of subsection 84(2) will not apply as a result of and by reason of the Proposed Transactions described above to deem Holdco to pay to, and the beneficiaries of the Estate to receive, a dividend on the shares of the capital stock of Holdco.
D. The provisions of subsection 245(2) will not apply as a result of and by reason of the Proposed Transactions described above to redetermine the tax consequences confirmed in the rulings above.
These rulings are subject to the limitations and general conditions set out in Information Circular 70-6R11 dated April 1, 2021, issued by the CRA and are binding on the CRA provided that the Proposed Transactions described in paragraphs 16 to 21 are completed by XXXXXXXXXX. Subsequent Proposed Transactions described in paragraphs 22 to 27 must be completed within the timeframes set out herein, as described above. These determinations are based on the current Act and do not take into account the proposed amendments thereto.
OTHER COMMENTS
The decisions rendered should in no way be construed as an acquiescence on the part of the CRA that:
(a) we have considered the other tax consequences that may result from the Proposed Transactions set out herein;
(b) The Estate qualifies as a GRE;
(c) the amount attributed to a property in the statement of Facts and Proposed Transactions truly represents the FMV or ACB of a property, or the PUC amount of a share; and
(d) the amount allocated to a corporation's CDA, GRIP, ERDTOH or NERDTOH truly represents the CDA, GRIP, ERDTOH or NERDTOH of such corporation.
In addition, since the application and operation of price adjustment clauses are not Proposed Transactions, we do not issue rulings on these clauses. Income Tax Folio S4-F3-C1, Price Adjustment Clauses, sets out the CRA's administrative position on price adjustment clauses.
The statement of our fees for the time spent on your case will be sent to you under separate cover.
Best regards,
XXXXXXXXXX
for the Director
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch