This translation was prepared by Tax Interpretations Inc. The CRA did not issue this document in the language in which it now appears, and is not responsible for any errors in its translation that might impact a reader’s understanding of it or the position(s) taken therein. See also the general Disclaimer below.
Principal Questions: Would a designation made under subsection 89(14) of the Act be invalid in a situation where a corporation redeemed the shares of its capital stock, the designation has been made with respect to the deemed dividend arising from the application of subsection 84(3) and where there has been an error in the amount of the paid-up capital resulting in an understatement of the amount of the deemed dividend initially calculated by the parties?
Position: Provided that the GRIP amount is sufficient to cover the correct amount of the deemed dividend and that the designation was made by referring to the number and class of shares being redeemed, the error would not render the designation invalid in such a case. The CRA would not require that a fixed amount be indicated in the designation. Even if there is no reference in the designation to the number and class of shares being redeemed, the designation could be considered valid in cases where it is not possible to consider that the designation could be in respect of another dividend.
Reasons: Where shares are redeemed, the dividend deemed to have been paid is the result of the formula provided for in subsection 84(3). In such a case, the number and class of shares redeemed are the items necessary to identify the dividend for the purposes of subsection 89(14). This position in the context of the application of subsection 84(3) must be distinguished from CRA's position with respect to the designation requirement stated in subsection 89(14) in the context of regular dividends declared by a corporation. In case of regular dividends, CRA's position is that, in order to be valid, an eligible dividend designation must provide the amount of the dividend.
FEDERAL TAX ROUNDTABLE
APFF CONFERENCE 2010
Redemption of shares and eligible dividend
A corporation that is a Canadian-controlled private corporation redeemed shares for $100,000. The paid-up capital of the redeemed shares was $1,000 and the redemption resulted in a deemed dividend of $99,000.
The corporation had a general rate income pool (GRIP) balance greater than the deemed dividend. It therefore made the designation under subsection 89(14) to treat the deemed dividend as an eligible dividend.
The following year, it turned out that the calculation of the paid-up capital was erroneous and should have been $100. The deemed dividend was therefore $99,900.
Since the deemed dividend was higher than the designation made under subsection 89(14), the designation became invalid and the entire dividend would be an ordinary dividend even if the corporation has sufficient GRIP to cover the dividend.
a) Does the CRA agree with this interpretation?
b) If so, could the CRA by administrative policy accept the designation made in this type of situation?
The CRA has previously taken the position that it is necessary that the specific amount of a dividend, other than a deemed dividend, be designated by written notice in order for the designation of such a dividend to be valid for the purposes of subsection 89(14). The reason for that position is that the directors will pay, as a dividend, a specific amount that is fixed once paid.
On the other hand, a deemed dividend paid under subsection 84(3) is the result of a calculation specified in that statutory provision. It is that calculation under the Act that determines the amount of the dividend on a particular redemption. It is therefore the details of the redemption that identify the deemed dividend paid on a share redemption because, regardless of the amount indicated by the directors as the deemed dividend paid, the dividend on the redemption will equal the amount calculated by virtue of subsection 84(3), even if the directors indicate an incorrect amount as the deemed dividend that was paid.
Consequently, in the case of a share redemption, it would be sufficient, in order for the designation under subsection 89(14) to be valid, to identify the number and class of shares redeemed and to indicate that the designation is in respect of the dividend deemed to have been paid on that specific share redemption, as calculated under subsection 84(3), as long as the other conditions set out in subsection 89(14) are satisfied. In such a case, the CRA would not require that a fixed amount be indicated in order to designate the dividend as an eligible dividend.
If the designation had been made in that manner, correcting the elements in the calculation of the deemed dividend paid under subsection 84(3) would not result in there being a change in there being a designation. That would not constitute a designation of a partial dividend or a late-filed designation. If the amount of the dividend, as recalculated, did not exceed the GRIP, there would not be an excessive eligible dividend designation. However, in the reverse case, there would be an excessive eligible dividend designation.
If the designation had been made by reference to a precise figure as an eligible dividend without any reference to a redemption of shares or a deemed dividend paid under subsection 84(3), the designation could be considered invalid because it was for a partial dividend. However, if the CRA were to find that the designation could only have been in respect of the deemed dividend paid on that share redemption, the CRA would generally take the position that the designation would be valid in respect of the full amount of the deemed dividend paid.
October 8, 2010
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