21 February 2000 External T.I. 1999-0010805 - Stop loss - subsection 40(3.6)

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: In the situation where an estate does not itself have de facto control over a corporation, but the corporation is controlled by a second trust having the same group of trustees as the estate, whether the estate would be affiliated with the corporation ?

Position: No.

Reasons: none of the trustees of the estate is affiliated with another and any decision made by the estate and the trust requires majority approval by the trustees.

XXXXXXXXXX 		1999-001080
	Daniel Wong
(613) 954-4949
Attention: XXXXXXXXXX 

February 21, 2000

Dear Sirs:

Re: Subsection 40(3.6) of the Income Tax Act (the "Act")

This is in reply to your letter of May 4, 1998 wherein you requested our opinion with respect to the application of subsection 40(3.6) of the Act to the following situation:

Mrs. A currently owns all of the common shares of Aco. Aco is currently named beneficiary of various life insurance policies insuring the life of Mrs. A. Upon Mrs. A's death, she will be deemed to have disposed of her common shares of Aco at their fair market value and her estate will acquire these shares at a cost equal to that amount. Aco will also receive life insurance proceeds in respect of the life insurance policies it holds on the life of Mrs. A. A testamentary trust (the "Trust") will be established pursuant to the will of Mrs. A. The trustees of both the estate and the Trust will be Mrs. A's spouse, Mrs. A's sister and an unrelated individual.

The estate will transfer some of its Aco common shares to the Trust and retain the remaining common shares having an aggregate fair market value equal to the capital dividend account of Aco. After the transfer, Aco will purchase for cancellation at fair market value all of its common shares held by the estate and will elect that the full amount of the deemed dividend arising on the purchase be a capital dividend pursuant to subsection 83(2). The estate will be deemed under subsection 84(3) to have received a capital dividend to the extent that the proceeds of disposition of the shares exceeds their paid-up capital. The estate will also incur a capital loss in respect of the disposition of its Aco common shares to the extent that their paid-up capital is less than their adjusted cost base to the estate. You have asked us to assume that subsection 112(3.2) of the Act will not apply to reduce the capital loss incurred by the estate in respect of such Aco shares.

You have asked for our views on the following issues:

1. Whether the estate will be affiliated with Aco after the purchase for cancellation of the Aco shares held by the estate;

2. Whether subsection 245(2) ("GAAR") is applicable with respect to the creation of the trust and the transfer of Aco shares by the estate to the trust; and

3. In the event that following the sale of its Aco shares to Aco, the estate has de facto control over Aco such that subsection 40(3.6) applies to deny the capital loss, what happens to such denied loss as the estate will not then own any shares in Aco.

COMMENTS

The situation described in your letter appears to involve actual proposed transactions relating to specific taxpayers. Assurance as to the tax consequences of actual proposed transactions will only be given in the context of an advance income tax ruling. The procedures for requesting an advance income tax ruling are outlined in Information Circular 70-6R3 issued on December 30, 1996. However, we can offer the following general comments which we hope will be of assistance to you.

Subsection 40(3.6) will deny a loss incurred by a taxpayer on the disposition of a share of a corporation if the taxpayer, immediately after the disposition of the share, is affiliated with the corporation. Affiliated persons or persons affiliated with each other are defined in subsection 251.1(1) of the Act. Pursuant to paragraph 251.1(1)(b) a person is affiliated with a corporation if

(a) the person controls, directly or indirectly in any manner whatever, the corporation;

(b) the person is a member of an affiliated group of persons which controls, directly or indirectly in any manner whatever, the corporation; or

(c) the person is the spouse of a person described in (a) or (b).

The determination of whether a corporation is controlled, directly or indirectly in any manner whatever, by a particular person, including a trust, can only be made following a review of all of the relevant facts relating to a particular situation. The general views of the Canada Customs and Revenue Agency (the CCRA) on this topic are set out in paragraphs 15 to 19 of Interpretation Bulletin IT-64R3.

In the situation where an estate, which has more than one trustee none of whom is affiliated with another, does not itself have de facto control over a corporation, but the corporation is controlled by a second trust having the same group of trustees as the estate, the estate would not normally be affiliated with the corporation. For the purposes of our response we have assumed that under the terms of both the estate and the trust, any decision requires majority approval by the trustees.

The application of subsection 245(2) of the Act to any particular situation can only be determined following a review of all of the relevant facts pertaining to that situation. However, it is the general view of the CCRA that where the potential application of a provision of the Act, such as subsection 40(3.6) is based on whether a particular person has de facto control over a corporation and the facts of a case do not indicate that such de facto control is present, GAAR will not be applicable.

In the situation where subsection 40(3.6) applies to deem a taxpayer's loss on the disposition of shares of a particular corporation to be nil and immediately following the share disposition the taxpayer does not own any other shares of the capital stock of the particular corporation, there is no provision in the Act which would enable the taxpayer to subsequently realize such loss. We understand that the Department of Finance is aware of this anomaly.

The above comments represent our general views with respect to the subject matter of your letter and are provided in accordance with paragraph 22 of Information Circular 70-6R3.

Yours truly,

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