30 November 1994 Internal T.I. 9427510 - DIVISIVE REORGANIZATION

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

1994 Canadian Tax Conference

Butterfly Reorganizations

The amendments to section 55 that were proposed by the Minister of Finance on February 22 and June 23 of this year have obviously resulted in very fundamental changes to the rules governing corporate divisive reorganizations ("butterfly" reorganizations). Accordingly, everyone should be careful to determine whether statements that were made by Revenue Canada concerning such reorganizations at previous conferences and elsewhere can still be relied upon.

Many of our former positions concerning butterfly transactions will be clearly overridden by the proposed amendments.¹

However, the effect that the proposed amendments will have on many of our other butterfly positions is not so clear. We are in the process of reviewing these positions.

We have had a number of enquiries concerning our former positions relating to transfers of property by and into partnerships in the course of butterfly transactions. I would like to advise you that we have concluded that those positions have been changed as a result of the proposed amendments.

At the 1991 Conference the Department indicated, in the paper delivered by Ted Harris,² that:

1)Following a butterfly to shareholders of undivided interests in property, the shareholders could, in certain circumstances, transfer those interests to a partnership.

2)A corporation could, in certain circumstances, transfer property to a partnership for a partnership interest and then butterfly the partnership interest to shareholders in proportion to their shareholdings.

3)A corporation that was a member of a partnership could, in contemplation of a butterfly, acquire an undivided interest in property of the partnership, in certain circumstances.

The first position, dealing with transfers of butterflied property to a partnership, will be directly affected by the proposed amendments. The enactment of proposed paragraph 55(3.1)(c) would prevent a transferee corporation that is not related to the distributing corporation after the butterfly from transferring butterflied property to a partnership.

The second position had been adopted by the Department even though on a strict interpretation of the "mid-amble" of paragraph 55(3)(b) (which will be reflected in proposed paragraph 55(3.1)(a)), it could reasonably be concluded that property becomes property of a corporation in contemplation of a butterfly when it acquires a partnership interest as consideration for the transfer of property to the partnership and then butterflies the interest to its shareholders. However, we chose not to adopt that interpretation in order to give effect to the pre-February 22 tax policy that butterflies to partnerships were acceptable. That policy has been changed by the introduction of proposed paragraph 55(3.1)(c), as indicated above. Accordingly, our former interpretation, no longer being consistent with the policy of paragraph 55(3)(b), cannot be maintained. Where, in contemplation of a butterfly, a corporation transfers property to a partnership in consideration for a partnership interest, the acquisition of the partnership interest will come within the prohibition in proposed paragraph 55(3.1)(a).

For similar reasons the third position, dealing with acquisitions of property by a corporation from a partnership, cannot be maintained. Where, in contemplation of a butterfly, a corporation acquires property from a partnership, the acquisition will come within the prohibition in paragraph 55(3.1)(a).

Mark Symes
November 30, 1994

¹ For example, as a result of the proposed definition of "distribution" in subsection 55(1), it will no longer be possible to carry out a so-called "partial butterfly" (i.e. a butterfly in which the shareholders receive their proportionate share of some but not all types of the corporation's property).

² See Ted Harris, "An Update of Revenue Canada's Approach to the Butterfly," in Report of Proceedings of the Forty-Third Tax Conference, 1991 Tax Conference.

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