CRA finds that a suspended loss on the sale of CFA1 to CFA2 was not de-suspended on the s. 95(2)(e) wind-up of CFA1 into CFA2

Canco realized a suspended loss when it contributed its shares of a controlled foreign affiliate (CCo) to another CFA (BCo), and then took the position that such loss was de-suspended when CCo was then liquidated into BCo. This position turned on the proposition that s. 40(3.5)(c)(i) did not apply because such liquidation did not satisfy two requirements in order for s. 40(3.5)(c)(i) to apply: the liquidation (a.k.a., winding-up) was not a "merger" of the loss corporation (CCo) with another corporation (BCo); and such "merger" resulting in the formation of a corporation (BCo).

CRA inferred from the somewhat loose meaning of the term “merger” and the fact that various provisions (but not s. 40(3.5)(c)(i)) exclude a winding-up from a merger, that the winding-up of CCo into BCo was a merger of the two corporations, and then took the even more questionable position that it could be inferred from the fact that s. 40(3.5)(c)(i) is stated not to apply to mergers referred to in s. 40(3.5)(b) - which refers to rollover transactions, some of which do not result in a new legal entity being formed - that BCo (which, of course, was already in existence) nonetheless was to be regarded as having been formed on the liquidation.

This CRA internal Interpretation is more detailed than 2018-0745501C6, where CRA took essentially the same approach to a suspended loss transaction followed by a s. 88(3) wind-up (rather than s. 95(2)(e) wind-up) of the loss corporation. In particular, CRA discussed its view of the policy of the suspended loss rules (perhaps by way of explanation for why the textual part of its "textual, contextual and purposive" analysis was forced), including a statement that:

[T]he purpose of the stop-loss rules in subsections 40(3.3), 40(3.4) and 40(3.5) is to defer the recognition of losses incurred in an affiliated-party. Such purpose becomes especially evident or useful in circumstances that reveal there to be no true economic loss incurred by the transferor or by the affiliated group as a whole.

Neal Armstrong. Summary of 26 January 2018 Internal T.I. 2017-0735771I7 under s. 40(3.5)(c)(i).