Principal Issues: Whether subsection 84(3) can apply to the return of shares held in escrow by the vendor to the purchaser.
Position: Yes.
Reasons: Based on the provisions of the Act and CRA publications.
2022 CTF Annual Conference
CRA Round Table
Question 3: Post-closing adjustments and the impact to escrow shares
Can the CRA comment on whether subsection 84(3) applies in the following situation? A vendor (the “Vendor”) sells all of its shares of a corporation (the “Target”) to a purchaser corporation (the “Purchaser”) in consideration for, exclusively, shares of the Purchaser. The agreement governing the purchase and sale of the Target shares (the “Agreement”) requires the Vendor to place some of the share consideration received from the Purchaser in escrow (the “Escrow Shares”) pending any downward post-closing adjustments to the purchase price. The applicable corporate law treats the Escrow Shares as having been issued to the Vendor at the time of issuance and the Vendor is the legal and beneficial owner of the Escrow Shares at that time, notwithstanding that the escrow agent has physical possession of them.
Subsequently, the post-closing adjustments under the Agreement require that the purchase price be adjusted downwards (the “Downward Adjustment”) and all of the Escrow Shares are returned to the Purchaser for cancelation to satisfy the obligation of the Vendor to repay an amount equal to the Downward Adjustment. The Escrow Shares have a value equal to the amount of the Downward Adjustment and have a paid-up capital (“PUC”) that is less than the amount of the Downward Adjustment.
CRA Response
The Vendor will be deemed to have received a dividend under subsection 84(3) to the extent the amount paid by the Purchaser on the cancelation of the Escrow Shares exceeds the PUC of those shares. Since the value of the Escrow Shares returned to the Purchaser is equal to the amount of the Downward Adjustment, the amount considered to be paid under subsection 84(3) will be equal to the amount of the Downward Adjustment. This is because the Vendor should be viewed as having received an amount equal to the amount of the Downward Adjustment on the cancelation of the Escrow Shares in order to satisfy its obligation to repay the overpayment of the purchase price.
Matthew K.X. Weaver
2022-094977
November 29, 2022