2000 Ruling 2000-0018453 - group loss utilization scheme

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: Related group loss utilization scheme

Position: No issues

Reasons: Similar to prior rulings

XXXXXXXXXX
XXXXXXXXXX 		2000-001845
XXXXXXXXXX  		XXXXXXXXXX
		XXXXXXXXXX  

Attention: XXXXXXXXXX

XXXXXXXXXX, 2000

Dear Sirs:

Re: XXXXXXXXXX ("Lossco") XXXXXXXXXX
XXXXXXXXXX ("Profitco") XXXXXXXXXX
Advance Income Tax Ruling

This is in reply to your letter of XXXXXXXXXX in which you requested various advance income tax rulings. We also acknowledge our various telephone conversations.

We understand that to the best of your knowledge and that of the taxpayers involved none of the issues involved in the requested rulings is being considered by a tax services office or a taxation centre in connection with a tax return already filed, or is under objection or appeal.

DEFINITIONS

In this letter unless otherwise expressly stated:

(a) "Act" means the Income Tax Act, R.S.C. 1985 (5th Supp.) c.1, as amended to the date hereof, and unless otherwise stated, every reference herein to a part, section, subsection, paragraph, subparagraph or clause is a reference to the relevant provision of the Act;

(b) XXXXXXXXXX;

(c) XXXXXXXXXX;

(c) "adjusted cost base" has the meaning assigned by section 54;

(d) XXXXXXXXXX;

(e) "Parentco" means XXXXXXXXXX, as described in paragraph 2 below;

(f) "Lossco" means XXXXXXXXXX, as described in paragraph 1 below;

(g) "Profitco Common Shares" means the common shares of Profitco, as described in paragraph 6 below;

(h) "Butterfly Ruling" means the advance income tax ruling and supplementary, described in paragraph 1 below;

(i) "CBCA" means Canada Business Corporations Act;

(j) XXXXXXXXXX;

(k) "Canadian corporation" has the meaning assigned by subsection 89(1);

(l) "capital property" has the meaning assigned by section 54;

(m) "cost amount" has the meaning assigned under subsection 248(1);

(n) "dividend rental arrangement" has the meaning assigned by subsection 248(1);

(o) "forgiven amount" has the meaning assigned by subsections 80(1) and 80.01(1);

(p) "guarantee agreement" has the meaning assigned by subsection 112(2.2);

(q) "Holdco" means the new corporation as described in paragraph 16 below;

(r) "non-capital loss" has the meaning assigned by subsection 111(8);

(s) "paid-up capital" has the meaning assigned by subsection 89(1);

(t) "principal amount" has the meaning assigned by subsection 248(1);

(u) "proposed transactions" means the transactions described in paragraphs 16 to 28 below;

(v) "public corporation" has the meaning assigned by subsection 89(1);

(w) "series of transactions or events" has the meaning assigned by subsection 248(10);

(x) "stated capital account" has the meaning assigned by section 26 of the CBCA;

(y) "subsidiary controlled corporation" has the meaning assigned by subsection 248(1);

(z) "taxable Canadian corporation" has the meaning assigned by subsection 89(1);

(aa) "taxable dividend" has the meaning assigned by subsection 89(1); and

(bb) "Trust" means the trust established under the laws of XXXXXXXXXX.

FACTS

1. Lossco was incorporated in XXXXXXXXXX. As part of transactions which were the subject of an advance income tax ruling #3-990262 dated XXXXXXXXXX, 1999, as amended by letter dated XXXXXXXXXX, 1999, Lossco became a holding corporation that owns all of the issued and outstanding common shares of Profitco. Lossco is governed by the CBCA and is a taxable Canadian corporation.

2. Parentco was incorporated in XXXXXXXXXX and is governed by the CBCA. It is a public corporation and a taxable Canadian corporation. Prior to the completion of the transactions described in the Butterfly Ruling, Parentco was the parent company of Profitco. Parentco had become the parent company of Profitco as a result of transactions which were the subject of advance income tax rulings XXXXXXXXXX.

Parentco owns directly XXXXXXXXXX common shares of Lossco, representing all of the issued and outstanding XXXXXXXXXX common shares, which shareholdings represent XXXXXXXXXX% of the issued and outstanding common shares of Lossco.

3. The Trust owns directly XXXXXXXXXX common shares of Lossco representing all of the issued and outstanding XXXXXXXXXX common shares, which shareholdings represent XXXXXXXXXX% of the issued and outstanding common shares of Lossco. The Trust acquired its shareholding in Lossco from XXXXXXXXXX as a result of a transaction which was described in our letter of XXXXXXXXXX, 1999, our file No. 3-992140.

The Trust is a non-resident of Canada for purposes of the Act.

4. XXXXXXXXXX. Profitco is a public corporation and a taxable Canadian corporation. Profitco is a subsidiary controlled corporation of Lossco.

5. XXXXXXXXXX.

6. Profitco has XXXXXXXXXX common shares (the "Profitco Common Shares") issued and outstanding, representing all of the issued voting shares of Profitco, all of which are owned directly by Lossco. Profitco has also issued preferred shares in the Canadian market. All of the preferred shares are non-voting, fixed value and non-participating, and are not convertible into common shares.

7. The fair market value of the Profitco Common Shares held by Lossco as at XXXXXXXXXX exceeds the adjusted cost base to Lossco of such shares and the paid-up capital of such shares. The Profitco Common Shares are held as capital property of Lossco.

8. Profitco has paid regular quarterly common share dividends since Parentco became the parent of Profitco in XXXXXXXXXX. Taxable dividend payments by Profitco on its common shares in the XXXXXXXXXX taxation years were $XXXXXXXXXX and $XXXXXXXXXX, respectively. The current dividend policy of Profitco is that, subject to certain cash flow constraints, it will generally pay annual dividends on its common shares of not less than XXXXXXXXXX% of the year's consolidated net income available to the shareholders owning participating securities as set out in the consolidated statement of operations for the year.

9. Parentco and certain of its subsidiary corporations at the relevant time, including Profitco and XXXXXXXXXX were parties to particular tax loss consolidation transactions for which advance income tax rulings have been issued (3-991838 dated XXXXXXXXXX, 1999, 3-980725 dated XXXXXXXXXX, 1998, XXXXXXXXXX.

10. As a consequence of implementing the tax loss consolidation transactions described in our file 3-991838 dated XXXXXXXXXX, 1999, Lossco estimates that it will have an amount of approximately $XXXXXXXXXX of non-capital losses carried forward for use in its XXXXXXXXXX taxation year and subsequent. Taking into account the existing indebtedness of Lossco, Lossco will still incur significant non-capital losses in its XXXXXXXXXX taxation year and beyond.

11. Profitco generates sufficient taxable income against which the interest expense of Lossco could be deducted. Federal taxable income reported by Profitco for its XXXXXXXXXX taxation years was approximately $XXXXXXXXXX and $XXXXXXXXXX respectively. Profitco's estimated federal taxable income for its XXXXXXXXXX and following taxation years is expected to increase steadily.

12. No changes to the share capital structure of Lossco or Profitco are contemplated before the date of the commencement of the proposed transactions described herein with the exception of changes that would result from the refinancing, conversion or new issuance of preferred shares.

13. None of the common shares of Holdco or Profitco referred to herein is or will be subject to a guarantee agreement.

14. None of the common shares of Profitco or Holdco referred to herein have been or will be issued or acquired as part of a transaction or event or series of transactions or events of the type described in subsection 112(2.5).

15. None of the common shares of Profitco or Holdco referred to herein (including the shares to be issued as described under the heading "Proposed Transactions") is or will be subject to a dividend rental arrangement.

PROPOSED TRANSACTIONS

16. Lossco will incorporate Holdco under the CBCA. Holdco will be a taxable Canadian corporation. The authorized share capital of Holdco will consist of an unlimited number of common shares without nominal or par value. No shares will be issued on the incorporation of Holdco.

17. Lossco will transfer to Holdco, at fair market value, XXXXXXXXXX% of the Profitco Common Shares. In consideration for the transfer, Holdco will issue a demand promissory note, bearing interest at a commercial rate set at the beginning of each quarter reflecting Lossco's weighted average cost of borrowings, with a principal amount equal to an amount that is no more than the cost amount of the transferred Profitco Common Shares at the time of the transfer (the "Holdco Note") and XXXXXXXXXX common shares.

Holdco will add to the stated capital account maintained for its common shares an amount equal to the cost amount to Lossco of the Profitco Common Shares transferred by Lossco to Holdco, less the principal amount of the Holdco Note.

The terms of the Holdco Note will provide that a portion of the interest payable on such note (approximately XXXXXXXXXX%) will be paid in the taxation year the expense is incurred and the unpaid portion will be paid prior to the end of the second taxation year following the taxation year in which the expense was incurred.

18. Lossco will jointly elect with Holdco in prescribed form and within the time allowed by subsection 85(6), to have the rules of subsection 85(1) apply to the transfer of the Profitco common shares. The agreed amount in respect of the transfer of the Profitco common shares transferred will be the lesser of the fair market value of the shares at the time of the disposition and their cost amount to Lossco at that time. The fair market value of the Profitco common shares will exceed their cost amount at the time of the disposition.

19. XXXXXXXXXX.

20. As a result of the transactions outlined in paragraphs 17 to 19 above, Lossco will earn interest income against which a portion of its interest expense may be deducted.

21. Profitco intends, in the ordinary course of business, to declare and pay quarterly dividends on its common shares held by Lossco and Holdco. None of the purposes of paying the dividends will be to effect a significant reduction in the portion of the gain that, but for the dividends, would have been realized on a disposition at fair market value of any share of capital stock immediately before the dividend.

22. Holdco intends to declare and pay quarterly dividends to Lossco on its common shares to the extent that dividends received by it, as described in paragraph 21 above, for that period, exceed its funding requirements to pay operating, general, administrative and interest expense.

23. Lossco intends to distribute the dividends received by it, as described in paragraph 22 above, net of certain operating expenses, to its shareholders, Parentco and the Trust, by way of dividend, reduction of the paid-up capital of its shares or a combination thereof.

24. Once sufficient income has been generated in Lossco to utilize any current losses from business or property that may otherwise be incurred, Holdco will issue to Lossco, in settlement of the principal amount of the Holdco Note, 1 common share of Holdco having an aggregate stated capital equal to the principal amount of the Holdco Note.

The settlement of the Holdco Note by the issuance of 1 common share by Holdco will result in an increase in the fair market value of all of the Holdco Shares held by Lossco by an amount equal to the principal amount of the Holdco Note.

25. Subsequent to the transaction described in paragraph 24 above, Lossco will transfer to Profitco, at fair market value, all the Holdco common shares held by Lossco. In consideration for the transfer, Profitco will issue to Lossco a number of common shares equal to the number of Profitco common shares owned by Holdco at that time.

Profitco will add to the stated capital account maintained for its common shares an amount equal to the amount of the paid-up capital of the Profitco common shares transferred to Holdco described in paragraph 17 above.

26. Lossco will jointly elect with Profitco in prescribed form and within the time allowed by subsection 85(6), to have the rules of subsection 85(1) apply to the transfer of the Holdco common shares. The agreed amount in respect of the transfer of the Holdco common shares will be equal to their cost amount to Lossco at that time. The fair market value of the Holdco common shares will exceed Lossco's cost amount of such shares at the time of the disposition.

27. Profitco will, under subsection 210(3) of the CBCA, commence the winding-up of Holdco. On the winding-up of Holdco, the Profitco common shares held by Holdco will be distributed to Profitco and cancelled. As a result of the cancellation, there will be a reduction in the stated capital of the common shares of Profitco in an amount equal to the amount added to Profitco's stated capital in paragraph 25 above.

28. The commencement of the winding-up of Holdco will occur on or before XXXXXXXXXX.

ADDITIONAL INFORMATION

29. Other than as described in the facts and the proposed transactions above:

(i) Lossco is not currently contemplating a disposition of the common shares of Profitco or Holdco, which it will acquire as described above, or any shares which may be substituted therefor; and

(ii) Holdco will not dispose of any common shares of Profitco other than in the course of the winding-up of Holdco as described in paragraph 27 above, or any shares which may be substituted therefor.

PURPOSE OF PROPOSED TRANSACTIONS

30. All of the issued and outstanding common shares of Profitco are owned by Lossco. Absent the Proposed Transactions, significant taxable income would be realized in certain companies in the group, namely Profitco, while significant non-capital losses would remain unutilized in Lossco. The purpose of the proposed transactions is to allow for the consolidation of the income in Profitco with the non-capital losses in Lossco. The consolidation will be achieved by a transfer of a portion of Lossco's investment in the common shares of Profitco to a wholly-owned subsidiary corporation primarily for debt consideration resulting in the transfer, as interest income, of sufficient taxable income from Profitco to Lossco to offset interest expense that is incurred by Lossco.

The Proposed Transactions are similar to the transactions described in advance income tax ruling 3-991838 dated XXXXXXXXXX, 1999 noted in paragraphs 9 and 10 above.

RULINGS

Provided that the above statements are accurate and constitute complete disclosure of all of the relevant facts, proposed transactions and the purposes of the proposed transactions, we confirm the following:

A. Provided that:

(i) Holdco continues to hold the Profitco common shares for the purpose of gaining or producing income (other than income which is exempt from taxation) from the Profitco common shares; and

(ii) Holdco has a legal obligation to pay interest in respect of the Holdco Note

Holdco will be entitled to deduct under paragraph 20(1)(c), in computing its income for a taxation year, the lesser of such interest and a reasonable amount in respect thereof paid in the year or payable in respect of the year (depending on the method Holdco regularly follows in computing its income for the purposes of the Act).

B. The provisions of subsection 85(1) will apply to the transfer of the Profitco common shares to Holdco described in paragraph 17 above with the result that the amount agreed upon by the transferor and the transferee in their joint election in respect of the transferred shares will be deemed pursuant to paragraph 85(1)(a) to be the proceeds of disposition thereof to the transferor and the cost thereof to the transferee.

For greater certainty, paragraph 85(1)(e.2) will not apply to the transfer described herein.

C. The provisions of subsection 85(2.1) will apply, but will not result in a reduction to the paid-up capital of the Holdco common shares issued to Lossco described in paragraph 17 above.

D. Pursuant to the application of clause 256(7)(a)(i)(A), control of Profitco will be deemed not to have been acquired on the transfer of the Profitco common shares to Holdco, as described in paragraph 17 above, for the purpose of the provisions enumerated in subsection 256(7).

E. The dividends received by Holdco, as described in paragraph 21 above, and by Lossco, as described in paragraph 22 above, will be taxable dividends, that will, pursuant to subsection 112(1), be deductible in computing the taxable income of the recipient for the year in which the dividend is deemed to have been received, and, for greater certainty, such deduction will not be precluded by any of subsections 112(2.1), (2.2), (2.3) or (2.4).

F. Part IV.1 of the Act will not apply to the dividends described in paragraphs 21 and 22 above because the dividends will be excepted dividends pursuant to paragraph (b) of the definition of "excepted dividend" in section 187.1. Part VI.1 of the Act will not apply to the dividends described in paragraphs 21 and 22 above because the dividends will be excluded dividends pursuant to paragraph (a) of the definition of "excluded dividend" in subsection 191(1).

G. By virtue of paragraph 55(3)(a), the provisions of subsection 55(2) will not apply to the taxable dividends described in paragraphs 21 and 22 above, provided that there is no disposition or increase in interest described in any of subparagraphs 55(3)(a)(i) to (v) as part of a series of transactions or events that includes the proposed transactions described herein.

H. The provisions of subsection 84(1) will not apply to deem Holdco to have paid a dividend to Lossco as a result of the issuance by Holdco of its one common share to Lossco as described in paragraph 24 above.

I. The settlement of the Holdco Note described in paragraph 24 above, will not give rise to a forgiven amount.

J. The fair market value of the Holdco Note will be added in computing the adjusted cost base to Lossco of its common shares of Holdco, as a result of the settlement of the Holdco Note described in paragraph 24 above.

K. The provisions of subsection 85(1) will apply to the transfer of the Holdco common shares to Profitco described in paragraph 25 above, with the result that the amount agreed upon by the transferor and the transferee in their joint election in respect of the transferred shares will be deemed pursuant to paragraph 85(1)(a) to be the proceeds of disposition thereof to the transferor and cost thereof to the transferee. Paragraph 85(1)(h) will apply to deem the cost to Lossco of the Profitco common shares received as consideration for the transfer described in paragraph 25 above to be the agreed amount in respect of the Holdco common shares transferred.

For greater certainty, paragraph 85(1)(e.2) will not apply to the transfers described herein.

L. The provisions of subsection 85(2.1) will apply, but will not result in a reduction to the paid-up capital of the Profitco common shares issued to Lossco described in paragraph 25 above.

M. Pursuant to the application of clause 256(7)(a)(i)(A), control of Holdco will be deemed not to have been acquired on the transfer to Profitco of the Holdco common shares, as described in paragraph 25 above, for the purpose of the provisions enumerated in subsection 256(7).

N. Pursuant to the application of subparagraph 256(7)(a)(ii), control of Profitco will be deemed not to have been acquired on the winding-up of Holdco, as described in paragraph 27 above, for the purpose of the provisions enumerated in subsection 256(7).

O. On the winding-up of Holdco into Profitco as described in paragraph 27 above:

(i) the provisions of subsection 88(1) will apply to the winding-up;

(ii) the Profitco common shares held by Holdco distributed to Profitco on the winding-up will be deemed by paragraph 88(1)(a) to have been disposed of for proceeds of disposition equal to the cost amount to Holdco of such shares, immediately before the winding-up;

(iii) the shares of Holdco held by Profitco immediately before the winding-up will be deemed by paragraph 88(1)(b) to have been disposed of by Profitco for proceeds equal to the adjusted cost base to Profitco of such shares immediately before the winding-up;

(iv) the provisions of subsections 84(2) and (3) will not apply on the disposition of the Profitco common shares by Holdco; and

(v) the provisions of subsection 88(1.1) will apply to permit Profitco to deduct the non-capital losses of Holdco in computing its taxable income for any taxation year commencing after the commencement of the winding-up to the extent that the requirements in paragraphs 88 (1.1)(a) and (b) are satisfied and subject to the limitations in paragraph 88(1.1)(e) and section 111.

P. To the extent that interest deductible by Holdco pursuant to Ruling A above is unpaid at the time Holdco is wound up, and the liability for the unpaid interest is assumed by Profitco on the winding-up of Holdco, subsection 78(2) will not apply, provided that the unpaid interest is paid by Profitco before what would have been the end of the second taxation year of Holdco following the taxation year in which the interest was incurred by Holdco, had Holdco not been wound up.

Q. The provisions of subsections 15(1), 56(2), 69(4), 69(11) and 246(1) will not be applied as a result of the Proposed Transactions, in and by themselves.

R. The provisions of subsection 245(2) will not be applied as a result of the Proposed Transactions, in and by themselves, to redetermine the tax consequences confirmed in the rulings given.

These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R3 dated December 30, 1996 issued by Revenue Canada and are binding provided that the proposed transactions are completed before XXXXXXXXXX.

These rulings are based on the Act as it currently reads and do not take into account any future amendments, whether currently proposed or not, to the Act.

Yours truly,

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