Mr. X sells all the shares of Holdco, which holds all the shares of Opco 1 and Opco 2, to Buyco, which is at arm's length. He grants a non-compete and non-solicitation covenant to Buyco respecting the business of each of Opco 1 and 2.
Q.19(b)
If it is agreed that a portion of the amount received by Mr. X is attributable to the non-compete covenant, would the exception in s. 56.4(3) not be available, so that the amount would be income to him?
Response
After noting that the facts did not potentially engage the exceptions in s. 56.4(3)(a) and (b), CRA turned to s. 56.4(3)(c), and stated (Tax Interpretations translation) that s. (c) of the definition of "eligible interest" did not extend to the situation where 90% or more of the shares of a corporation was "attributable to eligible interests in two other corporations," and then stated:
As the restrictive covenant granted by Mr. X related to businesses carried on by Opco 1 and Opco 2, the election under paragraph 56.4(3)(c) could not be made by Mr. X as 90% of the FMV of the shares in the capital of Holdco were not attributable to the eligible interests in a corporation. Holdco held shares in the capital stock of two other corporations, Opco 1 and Opco 2, which each carried on a business to which the restrictive covenant related.
Q.19(c)
Would the answers differ for a non-solicitation clause?
Response
After adverting to the fact that s. 56.4(3)(c)(ii) and s. 56.4(7)(b) refer only to an undertaking not to provide a competitive property or service, CRA stated (Tax Interpretations translation):
If the wording of the non-solicitation covenant is considered as an integral part of the non-compete covenant, the non-solicitation covenant would not by itself disqualify the restrictive covenant for the purposes of the exceptions provided in subparagraph 56.4(3)(c)(ii) or subsection 56.4(7). In such case, the responses ... would be the same.
Q.19(d)
Would the answer change if Holdco sold Opco 1 and 2, with Mr. X still granting the non-compete and non-solicitation covenant to Buyco?
Response
CRA stated that the election in s. 56.4(3)(c) was not available as "it is Mr. X, not Holdco, who provides the restrictive covenant to Buyco."