Principal Issues: Each of four individuals (the "Individuals") dealing at arm's length owns 25% of the issued and outstanding shares of an operating corporation ("Opco"). Opco is a small business corporation. The adjusted cost base to each of the Individuals of the Opco shares exceeds their fair market value. Each of the Individuals would dispose of his or her Opco shares in favour of another corporation newly incorporated ("Newco"). Whether the loss sustained by each of the Individuals would be a "superficial loss" and would be nil by virtue of subparagraph 40(2)(g)(i) of the Act. Whether these losses would be available to the Individuals, even if the economic reality remains unchanged after the transfer of shares.
Position: Assuming that each of the Individuals does not have de facto control over Newco, the loss sustained by each of the Individuals would not be a "superficial loss." Consequently, subparagraph 40(2)(g)(i) would not apply. The transfer of Opco shares from each of the Individuals to Newco would be subject to the scrutiny of subparagraph 40(2)(g)(i) and the notion of "superficial loss" in section 54 of the Act, but would be outside their stated ambit. Consequently and assuming that no transaction would be carried out in order to circumvent these specific provisions, the transaction should not result directly or indirectly in a misuse of the provisions of the Act or an abuse having regard to the provisions of the Act, even if the transfer of the Opco shares in favour of Newco could constitute an "avoidance transaction."
In order to qualify as a business investment loss, the taxpayer's capital loss must result from a disposition of a share of the capital stock of a small business corporation to a person with whom the taxpayer was dealing at arm's length. Pursuant to paragraph 251(1)(c), it is a question of fact whether, at a particular time, unrelated persons deal with each other at arm's length. Mention is made in paragraph 26 of Interpretation Bulletin IT 419R2 that the situation where one party to a transaction is merely accommodating the other party in an attempt to obtain a certain tax result may be a situation where the parties are not dealing at arm's length because they do not have separate economic interests which reflect the ordinary commercial dealings between parties acting in their own separate interests. In the given situation, it is possible that each of the Individuals and Newco would not deal with each other at arm's length. In such a case, the capital loss sustained by each of the Individuals would not qualify as a business investment loss.
Reasons: Wording of the Act and previous positions.
