CRA expects a spinner corporation to ensure that sufficient tax basis in its shares is transferred to the shares of a spinco that also is receiving safe-income rich spin assets
In Q.1 of last week’s CTF Roundtable, CRA indicated that it considered a transaction in which there was a spin-off of a subsidiary holding an asset (Subco 2) with a disproportionately high ACB to be abusive, given that the Parentco could subsequently bump the ACB of its assets by winding-up the Spinco under s. 88(1). In Q.3, CRA carried this approach of ferreting out potential basis “misalignments” to a further extreme based on the insight that safe income can be capitalized to become ACB, so that a spin-off of an asset with disproportionately high safe income could also result in such a future misalignment.
CRA provided an example of Holdco having previously acquired Opco for $300, at a time that one of the subsidiaries of Opco (Subco 2, whose shares had a nil ACB) had direct safe income of $200 – and, since then, Subco 2 generated an additional $150 of safe income, for a total of $350. However, this resulted in only $150 of indirect safe income of $150 on Holdco’s shares of Opco, as the $200 of preacquisition safe income was reflected in the ACB to Holdco of the Opco shares.
There is now a s. 55(3)(a) spin-off of Subco 2 to Newco, and to that end, Holdco transfers 1/2 the shares of Opco, having an ACB of $150 and an FMV of $500, to Newco. The spin-off occurs on a rollover basis, so that the direct safe income of $350 in the Subco 2 shares is transferred over to Newco on a consolidated basis, and the indirect safe income of $150 on the Opco shares is transferred over to the Newco shares.
However, CRA indicated that this results in a duplication of ACB - because if the safe income were capitalized after the reorganization and Newco were wound-up, there would be a resulting aggregate ACB of $500 in the shares of Opco and Subco 2 (i.e., the $150 remaining in the shares of Opco after the spin-off, plus capitalizing the direct safe income of $350), which exceeds the normative maximum of $450 (i.e., Holdco’s initial ACB of the Opco shares of $300, plus the post-acquisition safe income of $150). In CRA’s view, this $50 ACB increase is unacceptable, and the solution would be to proceed with a reorganization that results in an alignment of the basis.
Such alignment would be achieved if, instead of transferring Opco shares to Newco with an ACB of $150, Opco shares having an ACB of at least $200 were transferred.
These comments appear to indicate that CRA considers that a spin-off transaction should be preceded by a computation not only of inside and outside basis, but also of direct and indirect safe income – and if these computations show a potential ”misalignment” that could favour the taxpayer after taking into account any potential safe income capitalization transactions, CRA expects there to be preliminary transactions to ensure that there is an appropriate bump in the ACB of the shares of the spinner corporation that are transferred to the spinco.