2021 Ruling 2020-0865991R3 - Code 3 - 212(1)(b)(ii) and Linked Notes

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: (1) Whether 212(1)(b)(ii) applies to payments of periodic interest on the Notes? (2) Whether 212(1)(b)(ii) applies to payments at Maturity on the Notes?

Position: (1) No. (2) No.

Reasons: Payments of interest and on Maturity are made to non-resident noteholders who deal arm's length with the issuer. Neither the payments of interest, nor payments on Maturity constitute "participating debt interest" under 212(3) because, consistent with the policy of the provision, the payments are not tied to the profitability of the issuer. In other words, the payments do not represent a disguised payment of profits out of Canada.

XXXXXXXXXX									2020-086599

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling Request
XXXXXXXXXX

We are writing in response to your letter of XXXXXXXXXX in which you requested an Advance Income Tax Ruling on behalf of the above-noted taxpayer (the “Taxpayer”). We also acknowledge the information provided in subsequent correspondence.

We understand that, to the best of your knowledge and that of the Taxpayer involved, none of the Proposed Transactions or issues involved in this Ruling request are the same or substantially similar to transactions or issues that are:

(i) in a previously filed tax return of the Taxpayer or a related person and:

a. being considered by the CRA in connection with such return;

b. under objection by the Taxpayer or a related person;

c. the subject of a current or completed court process involving the Taxpayer or a related person; or

(ii) the subject of a ruling request previously considered by the Income Tax Rulings Directorate.

The Taxpayer has also confirmed that the proposed transactions described herein will not result in the Taxpayer or any person related to the Taxpayer being unable to pay any of their outstanding tax liabilities.

This document is based solely on the Facts and Proposed Transactions described below. The documentation submitted with your request does not form part of the Facts and Proposed Transactions except as expressly referred to herein, and any references thereto are otherwise provided solely for the convenience of the reader.

Unless specified otherwise, all statutory references herein are to provisions or parts of the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) c.1, as amended to the date hereof (the “Act”) and the regulations made thereunder (the “Regulations”).

DEFINITIONS

“adjusted cost base” and has the meaning assigned by section 54;

“ACO” means XXXXXXXXXX;

“arm’s length” has the meaning assigned by subsection 251(1);

“Calculation Agent” means ACO, or such other calculation agent as may be appointed by ACO from time to time;

“Cap Price” means a price in excess of the Initial Price set forth in the relevant Note Pricing Supplement;

“CRA” means Canada Revenue Agency;

“fair market value” means the highest price available in an open and unrestricted market between informed and prudent parties dealing at arm’s length and under no compulsion to act, expressed in terms of cash;

“financial institution” has the meaning assigned by subsection 190(1);

“forgiven amount” has the meaning assigned by subsections 80(1) and 80.01(1);

“Initial Price” has the meaning referred to in Paragraph 7;

“Maturity Date” has the meaning referred to in Paragraph 9;

“non-resident” has the meaning assigned by subsection 248(1);

“Note” and “Notes” have the meaning referred to in Paragraph 4;

“Note Pricing Supplement” has the meaning referred to in Paragraph 4;

“Noteholder” has the meaning referred to in Paragraph 6;

“Principal Amount” has the meaning assigned by subsection 248(1) and is also described in Paragraph 7;

“Paragraph” means a numbered paragraph in this letter;

“Proposed Transactions” means the transactions described in Paragraphs 4 to 27;

“public corporation” has the meaning assigned by subsection 89(1);

“related persons” has the meaning assigned by subsection 251(2);

“Reference Stock” has the meaning referred to in Paragraphs 5 and 8;

“Reference Stock Issuer” means the issuer of Reference Stock and is also described in Paragraph 8;

“taxable Canadian corporation” has the meaning assigned by subsections 89(1) and 248(1);

“Valuation Date” means the third scheduled trading day prior to the Maturity Date, subject to postponement if a market disruption event occurs or that day is not a scheduled trading day;

“Variable Amount” has the meaning referred to in Paragraph 12 below; and

XXXXXXXXXX.

FACTS

1. ACO is a XXXXXXXXXX taxable Canadian corporation and a public corporation XXXXXXXXXX.

2. ACO’s head office XXXXXXXXXX.

3. ACO’s authorized capital consists of two classes of shares: (i) an unlimited number of Common Shares, which are widely held and traded on XXXXXXXXXX; and (ii) an unlimited number of XXXXXXXXXX Preferred Shares, which are widely held and traded on XXXXXXXXXX.

PROPOSED TRANSACTIONS

4. ACO proposes to issue notes (individually a “Note” and collectively the “Notes”) pursuant to pricing supplements (each a “Note Pricing Supplement”), each of which is supplemental to an offering circular supplement and offering circular.

5. The return on each Note will be determined by reference to the value of a particular Reference Stock indicated in the Note Pricing Supplement. The following is a summary of the terms of the Notes.

Noteholders

6. The Notes may only be issued to non-residents of Canada that deal at arm’s length with ACO (“Noteholders”). Such Noteholders are not prohibited or otherwise unable to invest directly in the Reference Stock.

Principal Amount

7. The Notes will be denominated in XXXXXXXXXX and will be issued in denominations indicated in the Note Pricing Supplement (the “Principal Amount”). The denominations may be $XXXXXXXXXX, or correspond to the value of one Reference Stock on the date of issuance of the Notes (such value being the “Initial Price”). The Principal Amount of a Note will equal the amount for which the Note was issued.

Reference Stock

8. The Noteholder will propose a Reference Stock of their choosing, and ACO will determine whether to issue a Note in respect of the Reference Stock based on the following parameters:

a. the Reference Stock must be listed on a “designated stock exchange” as defined in subsection 248(1) of the Act;

b. the Reference Stock Issuer must be dealing at arm’s length with ACO within the meaning of subsection 251(1) of the Act;

c. the Reference Stock Issuer must be a “non-resident” as defined in subsection 248(1) of the Act;

d. the Reference Stock must not be “taxable Canadian property” as defined in subsection 248(1) of the Act; and

e. The Reference Stock is not materially correlated to ACO’s economic performance. In particular, ACO will not issue a Note unless the correlation of the Reference Stock to ACO’s common shares is lower than the correlation of the S&P 500 index to ACO’s common shares.

Maturity

9. The maturity date of the Notes will be one month to five years following the date of issuance (the “Maturity Date”)

Interest

10. The Notes will bear interest at a stipulated rate expressed as a percentage of the Principal Amount.

Cap Price

11. The Cap Price is the maximum return chosen by ACO and is expressed as a percentage of the Initial Price (for example, a Cap Price of $XXXXXXXXXX in respect of an Initial Price of $XXXXXXXXXX represents a XXXXXXXXXX% cap on appreciation of the Reference Stock).

Payment at Maturity

12. At Maturity, ACO will pay to a Noteholder an amount (the “Variable Amount”), if any, generally equal to:

a. If the closing price of the Reference Stock on the Valuation Date is greater than the Cap Price, the Cap Price.

b. If the closing price of the Reference Stock on the Valuation Date is equal to or less than the Cap Price, the closing price of the Reference Stock on the Valuation Date.

13. In circumstances where the closing price of the Reference Stock on the Valuation Date is less than the Initial Price (i.e. Principal Amount), a Noteholder could lose a portion of the Principal Amount of the Note subject to certain principal protection features which may be specified in the Note Pricing Supplement.

14. In the case of certain extraordinary events that have a material adverse effect on ACO’s ability to perform its obligations under the Notes or to hedge its position in respect of its obligations to pay amounts owing under the Notes, including disruptions to trading in any of the Reference Stock, government or court orders prohibiting ACO from performing its obligations, certain government actions which have a material adverse effect on relevant financial markets, and international calamities or crises, the dates on which the prices of the Reference Stock are determined for the purpose of calculating any Variable Amount may be accelerated or postponed, the timing of payment of any Variable Amount may be accelerated or delayed, and the amount of such payment may be reduced in these remote circumstances, and in each case at the sole option of ACO.

15. ACO will have the option to elect to pay to Noteholders the amount due on the Maturity Date in cash or in Reference Stock. If ACO makes such election, Noteholders will receive a number of Reference Stock corresponding to the value of the cash payment otherwise required to be paid as of the Valuation Date. To the extent that ACO would be required to deliver a fraction of a Reference Stock to a Noteholder in such circumstances, the value of the fraction will be paid to the Noteholder in cash.

Redemption other than at Maturity

16. A Noteholder may not request payment of any part of the Principal Amount or any return on the Notes prior to the Maturity Date of the Notes. The Notes can be redeemed prior to Maturity only in limited circumstances, such as the result of a change in law subsequent to the issuance of the Notes.

Events of Default

17. An Event of Default includes any of the following:

a. ACO defaults in the payment of the principal of, or interest on a Note and, in each case, the default continues for a period of 30 business days;

b. ACO becomes insolvent or bankrupt or subject to the provisions of XXXXXXXXXX, or any statute hereafter enacted in substitution therefor, as such act, or substituted act, may be amended from time to time;

c. ACO goes into liquidation, either voluntarily or under an order of a court of competent jurisdiction; or

d. ACO passes a resolution for its winding-up, liquidation or dissolution (with certain exceptions).

18. The consequences of an Event of Default are the acceleration of the repayment of the Notes. The amount payable under the Notes is determined as if the date of acceleration were the final Valuation Date. This amount may be paid in cash or shares of the Reference Stock.

Ranking

19. The Notes will be unsecured and unsubordinated debt obligations of ACO and will rank pari passu in right of payment with XXXXXXXXXX.

20. XXXXXXXXXX.

Other Terms

21. The terms and conditions of the Notes will allow the Calculation Agent to make adjustments to the calculation of the Variable Amount to account for stock splits, reverse stock splits, stock dividends, extraordinary dividends and ordinary cash dividends in respect of the Reference Stock.

22. ACO is not obligated to hold Reference Stock as a hedge of its obligations under the Notes, but may do so. ACO will be required to acquire Reference Stock only in the event that it elects to physically settle the Notes. ACO may enter into contracts with third parties, including futures contracts, forward contracts, option contracts, currency contracts or other instruments relating to Reference Stock, in order to hedge all or a portion of its exposure under the Notes.

23. The securities law disclosure provided to Noteholders will state that the return on the Notes will not reflect the return an investor would realize if it owned the Reference Stock or a security directly linked to the performance of the Reference Stock and held that investment for a similar period.

ADDITIONAL INFORMATION

24. The Notes will be governed by, and construed in accordance with, the law of XXXXXXXXXX.

25. In the event that the Variable Amount to be paid on the Maturity Date is less than the Principal Amount, such shortfall would be included in ACO’s income for financial statement purposes, as well as in computing taxable income under section 9. For greater certainty, such shortfall would not give rise to a forgiven amount for purposes of the Act.

26. Any revenue ACO may earn with respect to hedging activity undertaken in connection with the Notes is not expected to have any material impact on ACO’s overall earnings.

27. The Notes will not be listed on any stock exchange. However, as the issuer, ACO intends to stand behind the Notes and provide a secondary bid to all Notes issued under normal market circumstances. Secondary bids are based on current market pricing at the time of any bid wanted request. ACO does not currently intend to offer Notes from inventory that it has previously repurchased.

PURPOSE OF THE PROPOSED TRANSACTIONS

28. The Proposed Transactions will provide ACO with a source of XXXXXXXXXX borrowings for use in XXXXXXXXXX business XXXXXXXXXX. The Proposed Transactions will permit ACO to expand XXXXXXXXXX and compete with local and international issuers operating in XXXXXXXXXX.

29. The Notes will enable the Noteholders to receive periodic interest payments at rates that will likely exceed rates generally attainable in the fixed income markets, while maintaining a certain amount of exposure to the Reference Stock.

RULINGS

Provided that

a) the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the Purposes of the Proposed Transactions,

b) the Proposed Transactions are completed in the manner described above, and

c) there are no other transactions which may be relevant to the Rulings requested,

we rule as follows:

A. Subparagraph 212(1)(b)(ii) of the Act will not apply to payments of interest described herein or payments in respect of the Maturity Date made in cash or in Reference Stock described herein.

The above Ruling is given subject to the general limitations and qualifications set out in Information Circular 70-6R11 dated April 1, 2021, and is binding on the CRA provided that the proposed Notes are issued on or before XXXXXXXXXX.

The above Ruling is based on the law as it presently reads and does not take into account any amendments to the Act and the Regulations which, if enacted, could have an effect on the Ruling provided herein.

OTHER COMMENTS

The application of Part XIII tax under paragraph 212(1)(b) is subject to the particular circumstances and relationships of the parties involved with respect to a series of transactions. Except as expressly stated, this advance income tax ruling does not imply acceptance, approval or confirmation of any income tax implications of the Facts or Proposed Transactions described herein. For greater certainty, nothing in this letter should be construed as implying that we are ruling on any tax consequences other than those tax consequences specifically described in the Ruling A above and without limiting the generality of the foregoing, the CRA is not ruling on:

(a) whether any of the parties to the transactions described herein deal at arm’s length, or any tax consequences in circumstances in which ACO does not deal at arm’s length with the holder or beneficial owner of the Notes or any other intermediary;

(b) the nature of the legal relationship entered into or contemplated by the entities and parties named above;

(c) the residence in a country for any purpose of any person referred to herein;

(d) whether any person referred to herein carries on business in Canada;

(e) the tax consequences of a repurchase of Notes by ACO or any of its affiliates;

(f) the tax consequences of Notes that are transferred or traded in secondary markets;

(g) the fair market value of any property or the reasonableness of any amount referred to herein;

(h) the calculation of any foreign exchange gains or losses;

(i) the application of the thin capitalization rules as provided for in subsections 18(4), 18(5) and 18(6) and subsections 212(3.1), 212(3.2) and 212(3.3) or the application of Part XIII tax (other than Ruling A above); and

(j) the deductibility of any payments described above.

Furthermore, and for greater certainty, this advance income tax ruling does not imply acceptance, approval or confirmation on the application, if any, of the proposals under federal Budget 2021 related to hybrid mismatch arrangements to the Facts or Proposed Transactions.

An invoice for our fees in connection with this ruling will be forwarded to you under separate cover.

Yours truly,

XXXXXXXXXX
for Director
Partnerships and Corporate Financing Section
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch