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: Application of subsection 14(3) in the case of disposition of a number of units of chicken quota.
Position: Apply 14(3) to property on a pro-rata basis.
Reasons: Partial disposition of property.
July 4, 2000
Hamilton Tax Services Office Income Tax Rulings Directorate
Verification and Enforcement B.G. Dodd
957-8954
Mr. George Luszczewski
2000-002425
Disposition of Eligible Capital Property
We are writing in reply to your May 4, 2000 facsimile transmission concerning a disposition of eligible capital property in circumstances in which subsection 14(3) of the Income Tax Act (the "Act") has application.
FACTS
Our understanding of the facts is as follows.
- The taxpayer, a Canadian controlled private corporation, was incorporated on XXXXXXXXXX (the "Taxpayer").
- On XXXXXXXXXX, the Taxpayer acquired XXXXXXXXXX units of chicken quota from its shareholders, XXXXXXXXXX (the "Shareholders") in a non-arm's length transaction for fair market value of $XXXXXXXXXX per unit, or $XXXXXXXXXX.
- Each Shareholder's taxable gain from the sale of the chicken quota was computed as XXXXXXXXXX.
- Each Shareholder's taxable gain was fully sheltered by the capital gains deduction under subsection 110.6(2) of the Act.
- By virtue of subsection 14(3) of the Act, the Taxpayer's eligible capital expenditure with respect to its acquisition of the chicken quota in XXXXXXXXXX was deemed to be nil.
- In XXXXXXXXXX, the Taxpayer sold XXXXXXXXXX units of the chicken quota to an arm's length party for $XXXXXXXXXX per unit, or $XXXXXXXXXX.
ISSUE
The concern is the determination of the eligible capital expenditure of the Taxpayer under subsection 14(3) of the Act after the disposition of XXXXXXXXXX units of the chicken quota.
(Note: for purposes of this discussion, eligible capital expenditures of the Taxpayer relating to its incorporation costs to which your memorandum also refers are ignored.)
LEGISLATION
Where subsection 14(3) of the Act applies with respect to an acquisition by a taxpayer of eligible capital property in a non-arm's length situation, the taxpayer's eligible capital expenditure is deemed to be 4/3 of the amount, if any, by which
a) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the property by the transferor
exceeds
b) the total of all amounts that can reasonably be considered to have been claimed as deductions under section 110.6 by any person with whom the taxpayer was not dealing at arm's length in respect of the disposition of the property by the transferor, or any other disposition of the property before that time.
As such, the acquiring taxpayer's eligible capital expenditure is essentially reduced by related section 110.6 deductions by non-arm's length parties.
Where the acquiring taxpayer subsequently disposes of the property, subsection 14(3) provides for the redetermination of the amount in b) above which may result in a reversal of the reduction in respect of section 110.6 deductions. More specifically, with respect to a subsequent disposition, the amount in b) above is redetermined as the lesser of
c) the amount otherwise so determined (i.e., the amount initially determined for b) above, being the related section 110.6 deductions), and
d) the amount, if any, by which
(i) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the property by initial transferor
exceeds
(ii) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the property by the taxpayer.
In our view, the property at issue is the portion of the chicken quota sold and the values attributable to that property should be computed on a pro rata basis in applying subsection 14(3) of the Act in this situation. With regard to paragraph 14(3)(b), it refers to "... amounts that can reasonably be considered to have been claimed as deductions under section 110.6 ... in respect of the disposition ..." As such, the determination required to be made in paragraph 14(3)(b) with respect to the acquisition of the units would entail the attribution of a portion of the Shareholders' section 110.6 deductions on a pro rata basis as discussed below.
Subsection 14(3) - Acquisition of the Property
Upon acquisition (in XXXXXXXXXX ), the XXXXXXXXXX units may be dealt with on an aggregate basis, and the full amount of the section 110.6 deductions claimed by the Shareholders is the amount for paragraph 14(3)(b). Accordingly, subsection 14(3) deems the eligible capital expenditure to be 4/3 of the amount, if any, by which
a) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the property by the Shareholders, i.e., 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
exceeds
b) the total of all amounts that can reasonably be considered to have been claimed as deductions under section 110.6 by the Shareholders in respect of their disposition of the units, i.e., $XXXXXXXXXX.
The eligible capital expenditure of the Taxpayer in respect of the acquisition of the units of chicken quota is, therefore, deemed to be nil.
Subsection 14(3) - Acquisition of the Property - Restated
Given the subsequent disposition of some of the units in XXXXXXXXXX, the application of subsection 14(3) on acquisition may be restated by grouping the chicken quota according to the units sold by the Taxpayer and the units retained by the Taxpayer. This necessitates the allocation of the Shareholders' section 110.6 deductions to the block of units sold by the Taxpayer and the block of units retained, as follows.
Number of units sold x section 110.6 deduction
Total number of units
XXXXXXXXXX
Therefore, $XXXXXXXXXX of the Shareholders' section 110.6 deductions is attributable to the units sold by the Taxpayer, with the remainder, $XXXXXXXXXX, being attributable to the units retained.
Units Retained
Pursuant to subsection 14(3) of the Act, the Taxpayer's eligible capital expenditure with respect to the acquisition of the XXXXXXXXXX units retained by the Taxpayer is 4/3 of the amount, if any, by which
a) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition by the Shareholders of the retained units, i.e., 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
exceeds
b) the portion of the Shareholders' section 110.6 deductions attributable to the block of units which were retained by the Taxpayer, i.e., $XXXXXXXXXX.
The eligible capital expenditure of the Taxpayer with respect to the acquisition of the XXXXXXXXXX units retained is, therefore, nil.
Units Sold
The Taxpayer's eligible capital expenditure with respect to the acquisition of the XXXXXXXXXX units which were later sold is 4/3 of the amount, if any, by which
a) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of those units by the Shareholders, i.e., 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
exceeds
b) the portion of the Shareholders' section 110.6 deductions attributable to the block of units which were later sold by the Taxpayer, i.e., $XXXXXXXXXX.
The eligible capital expenditure of the Taxpayer with respect to the acquisition of the XXXXXXXXXX units later sold is, therefore, nil.
Subsection 14(3) Reversal - Disposition of Units Sold
As a result of the disposition by the Taxpayer in XXXXXXXXXX of the XXXXXXXXXX units sold, pursuant to subsection 14(3) of the Act, the eligible capital expenditure made in respect of such units is redetermined after the disposition as if paragraph 14(3)(b) were the lesser of
c) the amount otherwise so determined for paragraph 14(3)(b) in respect of those units, being the portion of the Shareholders' section 110.6 deductions attributable to the units sold by the Taxpayer, namely $XXXXXXXXXX, and
d) the amount, if any, by which
(i) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the XXXXXXXXXX units by the Shareholders, being 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
exceeds
(ii) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of the XXXXXXXXXX units by the Taxpayer, being 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
or nil.
The lesser of c) and d) is nil, which becomes the new paragraph 14(3)(b) amount in respect of the XXXXXXXXXX units sold by the Taxpayer. Therefore, the eligible capital expenditure of the Taxpayer in respect of the units sold is redetermined as 4/3 of the amount, if any, by which
a) the amount determined for E in the definition of cumulative eligible capital in respect of the disposition of those units by the Shareholders, i.e., 3/4 of $XXXXXXXXXX x XXXXXXXXXX, or $XXXXXXXXXX
exceeds
b) nil,
or $XXXXXXXXXX.
Cumulative Eligible Capital - Subsection 14(5)
As defined in subsection 14(5) of the Act, the cumulative eligible capital of a taxpayer at any time is determined by the formula
(A + B + C + D + D.1) - (E + F).
In the present situation, the only relevant components in XXXXXXXXXX and XXXXXXXXXX are A and E so the Taxpayer's cumulative eligible capital at any time in those years is determined as A - E where
A is 3/4 of the total of all eligible capital expenditures made by the Taxpayer before that time, and
E is, for our purposes, 3/4 of the Taxpayer's proceeds of disposition of its eligible capital property.
Where there is an amount determined by the formula A - E at the end of the year, pursuant to paragraph 20(1)(b) of the Act, a taxpayer may deduct 7% of such amount in computing income for that year.
Paragraph 20(1)(b) - XXXXXXXXXX
As discussed above, as a result of the application of subsection 14(3) of the Act with respect to the Taxpayer's acquisition of the units (whether in aggregate or as restated to reflect the units as two blocks), the Taxpayer's eligible capital expenditures at the end of XXXXXXXXXX (i.e., component A) are deemed to be nil. Therefore, the Taxpayer's cumulative eligible capital is also nil and no amount is deductible under paragraph 20(1)(b) of the Act for XXXXXXXXXX.
Paragraph 20(1)(b) - XXXXXXXXXX
With respect to XXXXXXXXXX, upon the disposition of XXXXXXXXXX units, the Taxpayer's deemed eligible capital expenditure in respect of the block of units sold is, as discussed above, $XXXXXXXXXX. As also discussed above, the Taxpayer's deemed eligible capital expenditure in respect of the block of units retained is nil. Thus, the Taxpayer's deemed eligible capital expenditure at the end of XXXXXXXXXX is, in aggregate, $XXXXXXXXXX. Component A of the cumulative eligible capital formula, which is computed as 3/4 of $XXXXXXXXXX, is, therefore, $XXXXXXXXXX.
Component E of the formula, which is 3/4 of the Taxpayer's proceeds of disposition of the units sold of $XXXXXXXXXX, is, therefore, $XXXXXXXXXX.
Applying the formula of A - E (i.e., $XXXXXXXXXX - $XXXXXXXXXX ) results in a cumulative eligible capital amount of nil. Therefore, no amount is deductible under paragraph 20(1)(b) of the Act for XXXXXXXXXX.
Subsection 14(1) - XXXXXXXXXX
Where at the end of a taxation year component E of the cumulative eligible capital formula exceeds component A, pursuant to subsection 14(1) of the Act, the excess is required to be included in the taxpayer's income. This is the case here where, at the end of XXXXXXXXXX, E is $XXXXXXXXXX and A is $XXXXXXXXXX, the excess being $XXXXXXXXXX.
Paragraph 20(1)(b) - XXXXXXXXXX
In view of the income inclusion for XXXXXXXXXX pursuant to subsection 14(1) discussed immediately above, component B of the cumulative eligible capital formula becomes relevant in XXXXXXXXXX. For our purposes, the formula thus becomes (A + B) - E. Assuming no other changes, the Taxpayer's cumulative eligible capital at the end of XXXXXXXXXX will, therefore, be
($XXXXXXXXXX + $XXXXXXXXXX) - $XXXXXXXXXX, or nil. As such, no amount is deductible under
paragraph 20(1)(b) of the Act for XXXXXXXXXX.
Summary Analysis
The correct result from a logical perspective from this transaction is that the taxpayer has sold XXXXXXXXXX units of chicken quota for a gain of $XXXXXXXXXX per unit. XXXXXXXXXX units X $XXXXXXXXXX per unit amounts to $XXXXXXXXXX and 3/4 of that amount is $XXXXXXXXXX. In addition, the remaining cumulative eligible capital was acquired in a non-arm's length transaction for which a section 110.6 deduction was allowed and no amount should be deductible for those acquisitions under paragraph 20(1)(b) of the Act. This common sense result has been achieved in the application of the formulas above to this fact situation.
We hope this will be of assistance.
Paul Lynch
for Director
Resources, Partnerships and Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch
??
- 7-
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2000
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2000
Email this Content