7 January 1997 External T.I. 9639505 - SMALL BUSINESS CORP ASSET TEST

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:

How does one determine which assets are used in an active business for purposes of the definition of small business corporation.

Position:

Question of fact determined on a case by case bases.

Reasons:

Routine

		5-963950
XXXXXXXXXX		Franklyn S. Gillman

Attention: XXXXXXXXXX

January 7, 1997

Dear Sirs:

Re: Small Business Corporation

This is in reply to your letter dated November 25, 1996 wherein you requested an advanced income tax ruling for your client XXXXXXXXXX As discussed during the telephone conversation of December 4, 1996 (Duff/XXXXXXXXXX) and as stated in subparagraph 14(j) of IC 70-6R2 dated September 28, 1990 the Department will not provide an advance income tax ruling in cases where an advance ruling would require a determination which is primarily one of fact and the circumstances are such that all the pertinent facts cannot be established at the time of the request for the advance ruling. This Directorate is therefore not in a position to give a definite response to your request. However, we are prepared to offer the following general comments which may be of assistance to you.

In the definition "small business corporation" contained in subsection 248(1) of the Income Tax Act (the "Act") there is a requirement that "... all or substantially all of the fair market value of the assets ... are used principally in an active business ...". Whether certain assets are used in an active business is a question of fact. It is our view, however, that where an asset, such as cash temporarily surplus to the needs of a business, is invested in short-term income producing investments, those investments may be considered to be used in the business. Where on the other hand substantial amounts of cash and deposits which are obviously in excess of that required for use in the business are retained in the corporation on a permanent basis, they would not be considered to be funds used in the business. Rather such funds would be considered as permanently set aside for investment or non-qualified uses (i.e., uses other than for active business). Please refer to the comments in paragraph 5 of IT-486R. Whether the cash and investments were obtained through loans from shareholders would be irrelevant to a determination of their use in an active business.

The Department's general views as to when cash or near cash property held by a corporation will be considered to be used in the course of an active business are as follows:

1.The question of whether a particular asset is an "asset used principally in an active business" is one of fact which must be determined based on all the relevant facts and circumstances of each case. The relevant circumstances include the actual use to which the cash or near cash properties are put in the course of the business, the nature of the business and the practice in the particular business.

2.Cash or near cash property is considered to be used principally in the business if its withdrawal would destabilize the business.

3.Cash which is temporarily surplus to the needs of the business and is invested in short-term income producing investments could be considered to be used in the business.

4.Cash balances which accumulate and are then depleted in accordance with the annual seasonal fluctuations of an ongoing business will generally be considered to be used in the business but a permanent balance in excess of the company's reasonable working capital needs will generally not be considered to be so used.

5.The accumulation of funds in anticipation of the replacement or purchase of capital assets or the repayment of a long-term debt will not generally in itself qualify the funds as being used in the business.

6.Cash or near cash property is considered to be used principally in the business if its retention fulfils a requirement which had to be met in order to do business, such as certificates of deposits required to be maintained by a supplier.

7.The Department recognizes that prudent financial management requires businesses to maintain current assets (including inventories and accounts receivables, as well as cash and near cash properties) in excess of current liabilities and will consider this requirement in assessing whether cash or near cash assets are used principally in a business. In the Department's view, cash and near cash assets held to offset the non- current portion of long term liabilities will not generally be considered to be used in the business.

We stress that the above guidelines are necessarily of a general nature and that the Department makes its determination after a review of all the relevant circumstances, including the actual use to which the cash or near cash property was put in the course of the business, the nature of the business involved and the practice in the particular industry.

These opinions are our best interpretation of the law as it applies generally. They may, however, not always be appropriate in the circumstances of a particular case. As stated in paragraph 21 of Information Circular 70-6R2 written opinions are not advance rulings and, accordingly, are not binding on the Department.

We trust these comments will be of assistance.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch