20 October 2000 External T.I. 2000-0041725 - Film Tax Credit

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 a corporation is a "Canadian" as defined in draft regulation 1106(1).

Position: It appears so.

Reasons: It appears meet paragraph (c) of the definition of "Canadian"

								2000-004172
XXXXXXXXXX 							B.G. Dodd
								957-8953
Attention:	XXXXXXXXXX 

October 20, 2000

Dear Sirs:

Re: Ontario Film and Television Tax Credit ("OFTTC")

We are writing in reply to your letter dated July 31, 2000 requesting our opinion on whether a particular corporation would be considered to be Canadian-controlled.

Section 1106 of the draft (federal) Income Tax Regulations (the "Draft Regulations") pertains, in part, to the Canadian film or video production tax credit provided under section 125.4 of the federal Income Tax Act (the "Act"). Pursuant to paragraph (c) of the definition of "Canadian" in subsection 1106(1) of the Draft Regulations, a corporation is a Canadian where it is Canadian-controlled, as determined for purposes of sections 26 to 28 of the Investment Canada Act (the "ICA"). You indicate that the regulations relating to the OFTTC harmonize with the Draft Regulations on this issue and that an applicant for the OFTTC will qualify where it satisfies the requirements of section 1106 of the Draft Regulations. Your question is whether a corporation in the following circumstances (the "Corporation") is a Canadian within the meaning of paragraph (c) of the definition thereof in subsection 1106(1) of the Draft Regulations.

• The Corporation has issued two classes of shares: Class A voting, non-participating shares without nominal or par value, and Class B non-voting, fully participating shares without nominal or par value.
• All of the Class A shares are owned by a Canadian citizen.
• The Class B shares are held by five corporations, two of which are non-Canadian.
• The two non-Canadian Class B shareholders hold more than 50% (but less than 66 2/3%) of the Class B shares.
• None of the five Class B shareholders is in the film or television production business.
• Pursuant to an agreement between the shareholders and the Corporation:

- the board of directors of the Corporation consists of three directors, two of which are nominees of the Class A shareholder and the other, a nominee of the Class B shareholders;

- all major decisions of the Corporation, including decisions relating to the production, require the unanimous consent of the board of directors;

- the Class B shareholders have a call option to purchase all of the Class A shares from the Class A shareholder (for a price equal to the paid up capital thereof) which is exercisable only with the consent of Class B shareholders holding not less that 66 2/3% of the Class B shares and if exercised, each Class B shareholder is entitled to acquire a percentage of the Class A shares equal to its percentage share of Class B shares; and

- the Class A shareholder has a put option to sell all of the Class A shares to the Class B shareholders (for a price equal to the paid up capital thereof) which is exercisable at any time following completion and delivery of the production and if exercised, each Class B shareholder is required to acquire a percentage of the Class A shares equal to its percentage share of Class B shares.

• It is assumed that the Corporation is a "taxable Canadian corporation" as defined in subsection 89(1) of the Act.

As noted above, pursuant to the definition in subsection 1106(1) of the Draft Regulations, a corporation is a Canadian where it is Canadian-controlled, as determined for purposes of sections 26 to 28 of the ICA. It is our understanding that the Department of Canadian Heritage, and in particular, the Canadian Audio-Visual Certification Office ("CAVCO"), is responsible for initially determining whether a production company is Canadian-controlled within the meaning of sections 26 to 28 of the ICA in the course of considering applications for certificates in respect of Canadian film or video productions.

You, or the Corporation, may, therefore, wish to obtain the comments of CAVCO on this matter.¹

At the same time, the Canada Customs and Revenue Agency ("CCRA") is responsible for determining whether a production company is a "qualified corporation" as defined in subsection 125.4(1) of the Act, which is predicated, in part, on the corporation being Canadian. As such, there is an element of common administration in this area and, accordingly, we offer the following comments. Paragraph 26(1)(a) of the ICA provides that where one Canadian (or two or more members of a voting group who are Canadians) owns a majority of the voting interests of an entity, it is a Canadian-controlled entity. The term "voting interest" is defined in section 3 of the ICA and in the case of a corporation with share capital, it means a voting share. The term "voting share" is defined in section 3 of the ICA to mean a share in the capital of a corporation to which is attached a voting right ordinarily exercisable at meetings of shareholders of the corporation and to which is ordinarily attached a right to receive a share of the profits, or to share in the assets of the corporation on dissolution, or both.

With respect to the Class B shares of the Corporation, the non-voting feature would appear to be sufficient to preclude them from being "voting shares" as defined in section 3 of the ICA. In the case of the Class A shares, these are described as voting and, therefore, appear to meet the first part of the definition of "voting share". With respect to the fact that the Class A shares are non-participating, it is not clear whether the non-participation feature relates to dividends only, dissolution only, or both. If it is not both, such that the Class A shares do, in fact, participate either in dividends or on dissolution, they would meet the definition of "voting share" in section 3 of the ICA. Presumably this can be readily determined from the incorporating documents and/or by-laws. In any event, even if there is no participation whatsoever by the Class A shares, it is our view that they may nevertheless meet the definition of "voting share" given that the participation element is not an absolute requirement under the definition (i.e., where the share is one to which such a right is ordinarily attached). It is our understanding from discussions with CAVCO officials that the voting element is paramount and that shares having attributes such as those of the Class A shares would generally be regarded as meeting the definition of "voting share" in section 3 of the ICA.

Accordingly, if the Class A shares of the Corporation do, in fact, meet the definition of "voting share" in section 3 of the ICA, as appears to be the case, the Corporation would be Canadian-controlled pursuant to paragraph 26(1)(a) of the ICA because a majority (in this case, all) of the voting interests of the Corporation are owned by a Canadian citizen. As such, the Corporation would be a "Canadian" as defined in subsection 1106(1) of the Draft Regulations.

We note, however, that subsection 26(1) of the ICA is subject to subsections 26(2.1) and (2.2) thereof. Subsection 26(2.1) of the ICA provides that where an entity which qualifies as a Canadian-controlled entity by virtue of subsection 26(1) carries on or proposes to carry on a specific type of business activity that is prescribed for the purposes of paragraph 15(a) of the ICA, the responsible Minister may nevertheless determine that the entity is not a Canadian-controlled entity where, after considering any available information, the Minister is satisfied that the entity is controlled in fact by one or more non-Canadians. Section 8 of the ICA Regulations provides that the specific types of business activities set out in Schedule IV of the ICA Regulations are prescribed for the purposes of paragraph 15(a) of the ICA. Item 2 of Schedule IV of the ICA Regulations refers to "production, distribution, sale or exhibition of film or video products". Inasmuch as it appears the Corporation is involved in a specific type of business activity that is prescribed for purposes of paragraph 15(a) of the ICA, any determination that it is Canadian-controlled pursuant to paragraph 26(1)(a) of the ICA as discussed above would not necessarily be conclusive and the issue could be reviewed by the responsible Minister under subsection 26(2.1) of the ICA on the basis of all available information, including the agreement between the Corporation and the shareholders, to determine whether there is control in fact by any non-Canadians. This would entail consideration of the specific facts, including the identities of the parties and any non-arm's length relationships between any of them. It is our understanding that the responsible Minister is the Minister of Canadian Heritage and that this aspect would be considered in the course of issuing certificates in respect of Canadian film or video productions. Again, you or the Corporation may wish to refer this to CAVCO.

With respect to the put and call options, in the event of exercise such that the Class B shareholders acquire the Class A shares, the provisions of section 28 of the ICA, which deal generally with acquisition of control, may become relevant. For example, the two non-Canadian Class B shareholders would, under the options formulas, together acquire more than 50% but less than 66 2/3% of the Class A shares. If the two non-Canadian shareholders are associated as set out in subsection 28(2) of the ICA, they may be viewed as one entity for purposes of establishing direct or indirect control of the Corporation.

If that is the case, given a combined ownership of more than 50% of the Class A shares, which constitutes a majority of the Class A shares, it could be said that the two non-Canadian shareholders control the Corporation. As such, the Corporation would not be a Canadian-controlled entity. This result might also occur under paragraph 28(3)(c) of the ICA where one of the non-Canadian shareholders acquires less than a majority but one-third or more of the voting shares of the Corporation. The possible application of these provisions would entail a review of the actual facts.

In the event the Corporation were to cease to be a Canadian-controlled entity as discussed immediately above, it would not be "Canadian" as defined in subsection 1106(1) of the Draft Regulations and the particular production would not meet the requirements of the Draft Regulations. Accordingly, if the tax credit under section 125.4 of the Act had been claimed in a year prior to the change of control, it is our view that the Minister of Canadian Heritage could revoke the certificate pursuant to paragraph 125.4(6)(b) of the Act and the CCRA could reassess accordingly pursuant to section 152 of the Act. In addition, if such a change of control occurred in the year in which the credit was claimed, in our view the CCRA could disallow the credit for that and subsequent years even if the certificate is not revoked.

We also refer you to section 37 of the ICA which provides a mechanism whereby a person can apply for and receive from the Minister of Canadian Heritage a written opinion which is binding on that Minister. Subsection 37(1) of the ICA provides that where any question arises under the ICA as to whether an individual or an entity is a Canadian, the individual or entity may apply for, and that Minister will provide, a written opinion for the guidance of the applicant. Subsection 37(2) of the ICA makes similar provision for opinions on matters not covered by subsection 37(1) of the ICA. This is an option which the Corporation may wish to consider.

We note that our comments are based solely on the information provided with your letter. There may be other factors which could have a bearing on the matter which would be considered in the course of an actual review of a claim for the tax credit. We hope, however, that this letter will be of assistance.

Yours truly,

R.S. Biscaro, CA
Director
Resources, Partnerships and Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch

ENDNOTE

¹ Department of Canadian Heritage
Canadian Audio-Visual Certification Office
Les Terrasses de la Chaudière
15 Eddy Street, 6th Floor, Room 113
Hull, Quebec K1A 0M5

Telephone (819) 997-6861