CRA rules on cross-border butterfly including steps to come within “permitted exchange”

CRA ruled on a cross-border butterfly which entailed assets of the “Transferred Business” being transferred indirectly to a wholly-owned non-resident subsidiary (Foreign Spinco) of a non-resident public company (Foreign Parentco) or to a wholly-owned non-resident subsidiary of Foreign Spinco (Foreign Spinco Sub) – with a view to the shares of Foreign Spinco being dividended out to the shareholders of Foreign Parentco at the transactions’ completion. One of the indirect assets of Foreign Parentco was a Canadian corporation (DC) which held the Canadian portions of both the Transferred Business and the “Retained Business” – hence the need for a cross-border butterfly.

Preliminary transactions included the drop-down of the Canadian Transferred Business by DC to a Newco and the transfer of DC by its direct holder (a non-resident subsidiary of DC) to DC.

Following a s. 86 reorg of DC to split its share capital into special and new common shares, there then is a four-party exchange under which Foreign Parentco transfers its special shares of DC to a newly-formed Canadian sub of Foreign Spinco Sub (TCo), TCo issues common shares to Foreign Spinco Sub, Foreign Spinco Sub issues shares to Foreign Spinco and Foreign Spinco issues shares to Foreign Parentco.

On the butterfly proper, DC transfers Newco to TCo in consideration for preferred shares and the assumption of liabilities – except that in order to ensure that the transfer of cash (under the consolidated look-through approach) represented by the transfer of Newco is in the same proportion as the transfer of business assets, there also is a transfer of cash made as of the date of this butterfly distribution but that, in fact (and similarly to 2012-0459781R3 and 2014-0530961R3), is transferred a redacted number of days thereafter in order to accommodate a more accurate computation of the required amount. The sole investment property (a rental property) is valued at nil due to encumbrances.

Thereafter, there is a cross-cancellation of the shareholdings between DC and TC, and TC thus becomes an indirect wholly-owned subsidiary of Foreign Spinco.

Foreign Parentco had first acquired direct ownership of 100% of DC in order that the ensuing exchange by Foreign Parentco of its shares of DC for shares of Foreign Spinco under the four-party exchange arrangement would qualify as a “permitted exchange.”

The butterfly ruling was conditional on the Foreign SpinCo shares never deriving 10% or more of their fair market value from the TCo shares or DC special shares.

Neal Armstrong. Summaries of 2017 Ruling 2017-0699201R3 under s. 55(1) – distribution, s. 55(1) – permitted distribution – para. (b) and s. 143(3).