Principal Issues: Whether a wind-up of a subsidiary that is deemed to be proprietor of the shares pursuant to subparagraph 40(3.5)(c)(i) into its parent corporation that is the “transferor” for the purposes of subsection 40(3.4) would result in a previously suspended capital loss becoming available under the specific facts and circumstances.
Position: The loss would not become available provided that paragraphs 40(3.5)(c) and 87(2)(g.4) apply to the specific facts and circumstances in the present case.
Reasons: Wording of the Act and previous CRA’s position.
Ms. Claudia Lavoie
Specialized Audits
XXXXXXXXXX 2020-083781
N. AubinOctober 04, 2023
Dear Madam,
Re: XXXXXXXXXX - deemed nil capital loss pursuant to subsection 40(3.4)
This is in response to your email of January 24, 2020, in which you requested our opinion regarding a capital loss deemed to be nil (the "Request"). More specifically, you wish to know whether, in the situation described in your Request, the transferor is deemed to have realized the capital loss within the meaning of paragraph 40(3.4)(b) following the winding-up of its subsidiary, particularly in light of the CRA's position in Technical Interpretation 2019-0793481I7, as raised by the taxpayer (the "Taxpayer") in a memorandum it sent to you on XXXXXXXXXX (the "Memorandum").
Unless otherwise indicated, any statutory reference herein is to a provision of the Income Tax Act (footnote 1) (the "Act").
We apologize for the delay in responding to your Request.
BACKGROUND (footnote 2)
The names and corporate names of the relevant parties for the purposes hereof are designated as follows:
"Aco" refers to XXXXXXXXXX;
"Bco" means XXXXXXXXXX;
"Cco" means XXXXXXXXXX;
"Amalco" means XXXXXXXXXX, the corporation resulting from the amalgamation of Bco and Cco.
The relevant facts and assumptions for the purposes hereof are as follows:
1. Aco is a XXXXXXXXXX taxable Canadian corporation, as defined in subsection 89(1). XXXXXXXXXX.
2. At the end of XXXXXXXXXX, Aco held XXXXXXXXXX common shares of the capital stock of Cco (the "Subject Shares") representing XXXXXXXXXX% of the issued and outstanding common shares. The adjusted cost base ("ACB") to Aco of the Subject Shares was XXXXXXXXXX and their fair market value ("FMV") was XXXXXXXXXX.
We have assumed that the Subject Shares were capital property to Aco within the meaning of the definition of "capital property" in section 54.
3. On XXXXXXXXXX, Bco was incorporated and had Aco as its sole shareholder.
4. On XXXXXXXXXX, Aco sold the Subject Shares to Bco for proceeds of disposition and consideration equal to their FMV, i.e., XXXXXXXXXX. We understand that the parties relied on the provisions of subsection 85(1) in this transaction. Aco realized a capital loss in the amount of XXXXXXXXXX (the "Loss") equal to the amount by which Aco's ACB of XXXXXXXXXX exceeded the proceeds of disposition of XXXXXXXXXX of the Subject Shares.
5. On XXXXXXXXXX, Bco and Cco amalgamated to form Amalco.
We understand that the provisions of subsection 87(9) applied to the amalgamation and that, following the amalgamation, Aco became the sole shareholder of Amalco (XXXXXXXXXX) (footnote 3).
It is understood that the provisions of subparagraph 40(3.5)(c)(i) applied by reason of the amalgamation of Bco and Cco, with the result that Amalco was deemed to own the Subject Shares for as long as it was affiliated with the transferor and the Loss was deemed to be nil by virtue of paragraph 40(3.4)(a) (footnote 4) .
6. On XXXXXXXXXX, Amalco was wound-up into Aco (the "Winding-up"). Amalco was dissolved on XXXXXXXXXX.
We understand that the provisions of subsection 88(1) applied to the winding-up of Amalco into Aco.
General
The application of subsections 40(3.3) and 40(3.4) has the effect of deferring the recognition of a loss from a disposition of property between affiliated persons. Where the conditions described in subsection 40(3.3) are met, the transferor's loss is deemed to be nil pursuant to paragraph 40(3.4)(a) and will be deemed to be the transferor's loss from the disposition of the property at the time which is immediately before the earliest of the times referred to in any of subparagraphs 40(3.4)(b)(i) to (v) that is subsequent to the disposition.
The Act also contains deeming rules intended to maintain the application of the provisions of subsections 40(3.3) and 40(3.4) where the parties involved undergo tax reorganizations. The deeming rules set out in subsection 40(3.5) and paragraph 87(2)(g.4) are relevant in the context of this Request.
Paragraph 40(3.5)(c) deals with the situation where the property giving rise to a loss deemed to be nil under subsection 40(3.4) is a share of the capital stock of a particular corporation that is the subject of a reorganization such as an amalgamation or a winding-up. Where applicable, the corporation resulting from the amalgamation, or the parent corporation, as the case may be, is deemed to own the share as long as it is affiliated with the transferor.
Paragraph 87(2)(g.4) applies where there is an amalgamation of two or more corporations after 1971 or, by virtue of paragraph 88(1)(e.2), where there is a winding-up to which subsection 88(1) applies. Where applicable, paragraph 87(2)(g.4) provides that, for the purposes of paragraph 40(3.5)(c) in respect of a share acquired by a predecessor corporation (or by a wound-up subsidiary), the amalgamated corporation (or parent corporation) is deemed to be the same corporation as, and a continuation of, each predecessor corporation (or subsidiary).
Our Comments
Initially, Bco and Cco (the particular corporation) amalgamated to form Amalco. It is understood that, pursuant to subparagraph 40(3.5)(c)(i), Amalco was deemed to own the shares of the capital stock of Cco (the Subject Shares) for as long as it was affiliated with Aco (the Transferor).
Second, Amalco was wound-up into Aco, which was the transferor (the Winding-up).
In the Request, the Taxpayer relies in particular on the CRA's position in Technical Interpretation 2019-0793481I7 to justify the realization of the Loss by Aco pursuant to paragraph 40(3.4)(b) as a result of the Winding-Up. In summary, in the cross-border context of this Technical Interpretation 2019-0793481I7, the CRA was of the view that the loss of the transferor (ACo) that was deemed to be nil was deemed to be its loss a result of the liquidation of BCo (footnote 5) into its parent corporation (DCo), pursuant to subparagraph 40(3.4)(b)(i).
Following the receipt of your Request, the CRA issued Technical Interpretation 2020-0852071I7, which clarified that the conclusion in Technical Interpretation 2019-0793481I7 applied only if the liquidation of BCo into DCo was a liquidation to which subparagraph 95(2)(e)(v) did not apply. The CRA also clarified that if paragraph 95(2)(e) applied to the liquidation of BCo into DCo and it was a "designated liquidation and dissolution" as defined in subsection 95(1), the loss would remain deemed nil because of the application of subclause 95(2)(e)(v)(A)(III). This would be so because DCo (the parent corporation) would be deemed to be BCo (the liquidated subsidiary) and to be a continuation of it for the purposes of paragraph 40(3.5)(c) in respect of a share that BCo was deemed to own under paragraph 40(3.5)(c).
The provisions of paragraph 87(2)(g.4) and of subclause 95(2)(e)(v)(A)(III) have similar effects with respect to the application of paragraph 40(3.5)(c). However, regardless of the cross-border context, the situation in Technical Interpretation 2020-0852071I7 is different from the situation in the present Request because Amalco, the corporation deemed to own the Subject Shares under subparagraph 40(3.5)(c)(i), is wound up into Aco, which is the transferor. The CRA's comments in Technical Interpretation 2020-0852071I7 do not resolve the issue in this Request of whether the Winding-up resulted in the realization of the Loss pursuant to paragraph 40(3.4)(b).
In the Taxpayer's view, the Winding-up described in the Request would have severed the affiliation relationship with the transferor (Aco), resulting in the realization of the Loss pursuant to paragraph 40(3.4)(b). In its opinion and based on its interpretation of paragraphs 87(2)(g.4), 88(1)(e.2) and 40(3.5)(c) and subsections 251.1(1) and 251.1(4), Aco would be deemed to own the Subject Shares for as long as it was affiliated with the transferor, i.e. Aco. However, based on the wording of subsection 251.1(4), the Taxpayer asserts that a person may be affiliated with itself only for the purposes of applying section 251.1.
We do not agree with this analysis for the following reasons.
Subsection 88(1) applied to the Winding-up. Aco was deemed to be Amalco and to be its continuation for the purposes of subparagraph 40(3.5)(c)(i), by virtue of the application of paragraphs 87(2)(g.4) and 88(1)(e.2).
Aco, which was deemed to be Amalco and its continuation, was deemed to own the Subject Shares within the meaning of subparagraph 40(3.5)(c)(i) for as long as it was affiliated with the transferor (Aco).
In this context of the application of paragraph 40(3.5)(c), we are of the view that the examination of the affiliation between two corporations within the meaning of paragraph 251.1(1)(c) should be carried out in light of the deeming rule in paragraph 87(2)(g.4). Aco should be considered to be acting as two corporations, on the one hand as Aco, the transferor, and on the other hand as Amalco because of the application of paragraphs 87(2)(g.4) and 88(1)(e.2), which deem Aco to be Amalco and its continuation.
With the application of paragraph 251.1(4)(a), under which a person is affiliated with itself for the purposes of section 251.1, Aco (as Amalco) would be affiliated with Aco (as transferor) under paragraph 251.1(1)(c), because inevitably the same person or group of persons will have control of Aco, either as Amalco or as transferor.
Subparagraph 40(3.5)(c)(i) reads as follows:
40(3.5) For the purposes of subsections 40(3.3) and 40(3.4),
[...]
(c) if subsections (3.3) and (3.4) apply to the disposition by a transferor [Aco] of a share of the capital stock of a particular corporation [Cco] and after the disposition
(i) the particular corporation [Cco] is merged or combined with one or more other corporations, otherwise than in a transaction in respect of which paragraph (b) applies to the share, then the corporation formed on the merger or combination [Amalco/Aco by reason of paragraph 87(2)(g.4)] is deemed to own the share while the corporation so formed is affiliated with the transferor [Aco], [...].
In conclusion, we are of the view that Aco would be deemed to own the Subject Shares within the meaning of subparagraph 40(3.5)(c)(i) as a result of the Winding-up.
Finally, we are of the view that such an interpretation of the provisions relied upon in the Request is also more consistent with the purpose and spirit of those provisions.
We hope that our comments will be of assistance to you.
Urszula Chalupa, LL.B, M. Fisc.
for the Director
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
FOOTNOTES
Note to reader: Because of our system requirements, the footnotes contained in the original document are shown below instead:
1 R.S.C. 1985, c. 1 (5th Supp.), as amended.
2 Other transactions were presented in the Request, but only the parties involved and the facts relevant for present purposes are presented in this letter.
3 XXXXXXXXXX.
4 XXXXXXXXXX.
5 BCo was the parent corporation of CCo into which CCo had been liquidated in a first liquidation. CCo was the particular corporation whose shares had been disposed of resulting in a capital loss to the transferor ACo, which loss was deemed to be nil under paragraph 40(3.4)(a). Before BCo's liquidation into DCo, BCo was deemed to own the shares of CCo's capital stock pursuant to subparagraph 40(3.5)(c)(i) (Technical Interpretation 2017-0735771I7).