20 November 1995 External T.I. 9521415 - THIN CAPITALIZATION

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.

Principal Issues:

1. Does the definition of "specified shareholder" in subsection 18(5) of the Act require a person to own shares of the corporation?

2. Are amounts contributed by a specified shareholder included in clause 18(4)(a)(ii)(B) after a person ceases to be a specified shareholder.

Position:

1. yes. 2. no.

Reasons:

1. If a person did not own at least one share, clause (a)(i)(B) of the definition of "outstanding debts to specified non-residents" would be meaningless.

2. The calculation in subsection 18(4) is an annual calculation and it is our view that a person must be, or have been, a specified shareholder in the year the calculation is being made.

		952141
XXXXXXXXXX		A. Seidel

Attention: XXXXXXXXXX

November 20, 1995

Dear Sirs:

This is in reply to your letter dated August 9, 1995 in which you requested our views with respect to the application of the definition of "specified shareholder" in subsection 18(5) of the Income Tax Act (the "Act").

You have described the following hypothetical situation:

A non-resident corporation ("Y Co") owns all of the issued shares of a taxable Canadian corporation which is resident in Canada ("X Co"); X Co has debts outstanding to Y Co; Y Co has made cash contributions to X Co which have been included in X Co's contributed surplus account. Y Co subsequently transfers all of its shares in X Co to a related non-resident corporation.

You have requested confirmation that Y Co would continue to be a specified shareholder of X Co notwithstanding that it no longer owns any shares in X Co. If we are unable to agree with your conclusion that Y Co continues to be a specified shareholder of X Co after the transfer of the shares, you have asked for our views as to whether the cash contribution which was added to the contributed surplus account of X Co would continue to be included in its contributed surplus for purposes of clause 18(4)(a)(ii)(B) of the Act after Y Co has transferred the shares of X Co to the related non-resident person.

Our Comments

It appears that the interpretation you seek relates to specific taxpayers and, therefore, we bring to your attention Information Circular 70-6R2 dated September 28, 1990 and the Special Release thereto dated September 30, 1992, issued by Revenue Canada, Customs, Excise and Taxation. Confirmation with respect to proposed transactions involving specific taxpayers will only be provided in response to a request for an advance income tax ruling. If you wish to obtain an advance income tax ruling for particular taxpayers with respect to specific contemplated transactions, a written request for an advance income tax ruling should be submitted in accordance with the Information Circular. Nevertheless, we can offer the following general comments in response to your letter.

The definition of specified shareholder in subsection 18(5) of the Act includes persons who, either alone or together with persons with whom that person is not dealing at arm's length, own shares of the corporation having 25% or more of the voting rights or having a fair market value of at least 25% of the fair market value of all of the issued shares of the corporation. It is our view that a person must own at least one share of a corporation in order to be a specified shareholder of a corporation. Our view is based on the wording of clause (a)(i)(B) of the definition of "outstanding debts to specified non-residents" (the "Definition") which specifically deals with a non-resident person who does not deal at arm's length with a specified shareholder of the corporation. If a specified shareholder included a person who did not own any shares of the particular corporation, then clause (a)(i)(B) of the Definition would be meaningless. Accordingly, we are unable to confirm your view that Y Co would continue to be a specified shareholder of X Co after it has disposed of the shares of X Co to a related non-resident corporation.

The formula in subsection 18(4) of the Act is a calculation "for a taxation year". Clause 18(4)(a)(ii)(B) of the Act includes the corporation's contributed surplus at the commencement of the year to the extent that it was contributed by a specified non-resident shareholder. In our view, to be included in the amount referred to in clause 18(4)(a)(ii)(B) of the Act, the amount must have been contributed by a person who is a specified non-resident shareholder at the time that the calculation in subsection 18(4) is made. Consequently, in the situation described, once Y Co ceases to be a specified shareholder of X Co, it is our view that the amount contributed to X Co by Y Co would no longer be contributed surplus which was contributed by a specified non-resident shareholder for the purposes of clause 18(4)(a)(ii)(B) of the Act.

These comments are provided in accordance with the guidelines set out in paragraph 21 of Information Circular 70-6R2.

Yours truly,

for Director
Reorganizations and Foreign Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch