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: Whether section 84.1 will apply to the proposed transactions
Position: No.
Reasons: Interpretation of the law
XXXXXXXXXX 2000-002610
XXXXXXXXXX, 2001
Dear Sirs:
Re: XXXXXXXXXX
This is in reply to your letters of XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-noted taxpayer.
To the best of your knowledge and the knowledge of the management of the taxpayer, the issues involved in this ruling request are not:
a) included in an earlier return of the taxpayer or related person;
b) being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayer or a related person;
c) under objection by the taxpayer or a related person;
d) before the courts; or
e) the subject of a ruling previously issued by the Directorate.
DEFINITIONS
"Act" means the Income Tax Act, R.S.C 1985 (5th sup.) c.1, as amended to the date hereof, and unless otherwise stated, every reference herein to a part, section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act;
"ACB" means "adjusted cost base" which has the meaning assigned by section 54;
"CCPC" means "Canadian-controlled private corporation" which has the meaning assigned by subsection 125(7);
XXXXXXXXXX;
"PUC" means "paid-up capital" which has the meaning assigned by subsection 89(1);
"related persons" has the meaning assigned by subsection 251(2);
"taxable Canadian corporation" has the meaning assigned by subsection 89(1);
"A Co" means XXXXXXXXXX;
"Mr. S" means XXXXXXXXXX;
"Mrs. S" means XXXXXXXXXX, spouse of Mr. S, an individual resident in Canada;
"Mr. M" means XXXXXXXXXX, an individual resident in Canada;
"Mrs. M" means XXXXXXXXXX, spouse of Mr. M, an individual resident in Canada;
"Retiring Shareholders" mean Mrs. M and Mrs. S;
"Unrelated Shareholders" mean those shareholders of A Co other than Mr. and Mrs S, and Mr. and Mrs M; and
"Share FMV" means the fair market value of the shares of A Co at the date of the proposed transaction.
Our understanding of the facts, the purposes of the proposed transactions and the proposed transactions is as follows:
FACTS
1. A Co is a CCPC and a taxable Canadian corporation incorporated under the XXXXXXXXXX.
2 XXXXXXXXXX. The company has always been owned by employees.
3. A Co's assets consist of business assets. A Co is not in the process of liquidating its assets. The business of A Co will be continued after the proposed transactions.
4. XXXXXXXXXX.
5. XXXXXXXXXX.
6. The share ownership of A Co is as follows:
Issued Class A Class B Class C Class D Class E Class F Class G Class H
Mr. S XXXXXXXXXX
Mrs. S XXXXXXXXXX
Mr. M XXXXXXXXXX
Mrs. M XXXXXXXXXX
Unrelated
Shareholders XXXXXXXXXX
Total XXXXXXXXXX
PUC per XXXXXXXXXX
share
7. All the shareholders are employees. XXXXXXXXXX.
8. Mr. and Mrs. M and Mr. and Mrs. S XXXXXXXXXX and are actively involved in the business. Mr. M and Mr. S are officers and directors of A Co.
Mrs. M and Mrs. S will likely continue to be employees of A Co., though they will retire within the next few years.
10. The Class A to H shares of the capital stock of A Co. are voting common shares, and are virtually identical except that there is a difference in the participation on dissolution or wind-up of the company. On wind-up, the Class A shares have some priority over the Class B shares, which have some priority over the Class C shares, etc. The separate classes are used to avoid the averaging of PUC of the shares.
11. Mr. S, Mrs. S, Mr. M and Mrs. M have "crystallized" their capital gains exemption such that the ACB of the Class A shares is approximately $XXXXXXXXXX per share. The holders of the Class, B, C, and D shares similarly have crystallized their capital gains exemption so that the ACB of those classes is also $XXXXXXXXXX per share.
The original ACB of the Classes A, B, C and D shares, before crystallization, approximated the PUC of each class. The ACB of the Class E shares is also $XXXXXXXXXX per share. The ACB of the Class F, G and H shares equals their PUC. Some shareholders may have crystallized additional capital gains through the capital gains election in 1994 such that the current ACB is higher than indicated above.
The fair market value of the Class A and Class E shares is currently estimated to be $XXXXXXXXXX and $XXXXXXXXXX per share. The Share FMV may be greater or less than this amount, but it is expected that the Share FMV will exceed the ACB of the shares such that a capital gain is inherent in the shares.
13. None of the shareholders of A Co is related to any other shareholder of A Co (except for Mr. M to Mrs. M and Mr. S to Mrs. S).
14. All the shareholders deal at arm's length with each other (except for Mr. M and Mrs. M and Mr. S and Mrs. S). No group of shareholders has formed an affiliation to "act in concert" with one another such that they may be viewed as not dealing at arm's length.
PROPOSED TRANSACTIONS
The Unrelated Shareholders will incorporate a new company ("Newco") under the XXXXXXXXXX.
The authorized share capital of Newco consists of an unlimited number of Class A, B, C, D, E, F, G H, I, and J common shares. The shares will be virtually identical except for their participation in proceeds on wind-up or dissolution, in which case, the Class A shares will have some priority over the Class B shares which will have some priority over the Class C shares etc.
16. The Unrelated Shareholders will transfer their Class B, C, D, E, F, G and H shares of A Co to Newco for the same number and class of shares in Newco. They will either elect to defer any gain realized by filing an election pursuant to subsection 85(1), or they will utilize their capital gains exemption on the transfer. The PUC of the shares issued by Newco will be limited under corporate law to the greater of the PUC of the A Co shares being transferred and the adjusted cost base of the shares to the holder as determined under paragraphs 84.1(2)(a) and 84.1(2)(a.1). As a result of these transfers, Newco will own XXXXXXXXXX% of A Co's issued shares.
17. Newco will enter into an agreement to purchase all the Class A and E shares held by the Retiring Shareholders at the Share FMV. The purchase price will be paid partly in cash (the "Downpayment"), and partly by way of a promissory note, payable over several years as is agreed upon between the parties. The promissory note (the "Promissory Note") will bear a market rate of interest. This will result in an acquisition of control of A Co.
Newco will fund the Downpayment and the repayment of the Promissory Note by:
additional share subscriptions from the Unrelated Shareholder and possibly new shareholder; and
borrowing from third parties.
It is expected that approximately XXXXXXXXXX% of the funds will be raised by method (a).
19. A Co and Newco will be amalgamated under the XXXXXXXXXX to form Amalco such that all the property and liabilities of A Co and Newco immediately before the amalgamation will become the property and liabilities of Amalco and all of the shareholders of A Co and Newco immediately before the amalgamation (other than Newco) will receive only shares of the capital stock of Amalco. The Promissory Note will be assumed by Amalco. Mr. M's and Mr. S's combined shareholdings in Amalco will be less than 50%.
PURPOSE OF THE PROPOSED TRANSACTIONS
20. The owners of A Co are concerned with succession of ownership and of management. They realize that within the next XXXXXXXXXX years the older shareholders will want to retire and sell their shares. They wish to put a plan in place today which starts the process of retiring some shareholders. Thus, the main purpose is to set up a structure which allows for the sale of shares of retiring shareholders and the funding of the purchase price thereof.
RULINGS
Provided that the above statements are accurate and constitute complete disclosure of all the relevant facts, proposed transactions and purposes of the proposed transactions, we confirm the following:
a. Each class of shares of A Co will be considered a separate class of shares for purposes of determining their PUC.
b. For purposes of determining the ACB of the shares of A Co, a share of any one class will only be considered to be identical to another share of that class, and will not be considered to be identical to a share of any other class.
c. Section 84.1 will not apply to reduce the PUC of the Newco shares issued to the Unrelated Shareholders or to deem the Unrelated Shareholders to have received a deemed dividend on the transfer of their A Co shares to Newco.
d. Section 84.1 will not apply to deem the Retiring Shareholders to have received a dividend on the sale of their shares to Newco.
e. The proposed transactions will result in an acquisition of control of ACo.
f. Subsection 245(2) will not be applied, as a result of the proposed transactions, in and of themselves, to redetermine the tax consequences described in the rulings given above.
The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R4 issued on January 29, 2001, and are binding on the Canada Customs and Revenue Agency 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.
Nothing in this ruling should be construed as implying that the Canada Customs and Revenue Agency has reviewed, accepted or otherwise agreed to:
(a) the determination of the adjusted cost base, the fair market value or the paid-up capital of any shares referred to herein; or
(b) any tax consequences relating to the facts and proposed transactions described herein other that those specifically described in the rulings given above. In particular, we are not commenting on the eligibility of any share for the capital gains deduction in section 110.6.
2. In our view, any loss realized by a Unrelated Shareholder on the transfer of that shareholder's A Co shares to Newco will not be an allowable business investment loss within the meaning of paragraph 39(1)(c) because that shareholder would not deal at arm's length with Newco.
Yours truly,
for Director
Reorganizations and Resources Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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