2001 Ruling 2000-0063133 - AMENDMENT TO STOCK OPTION PLAN

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:

1. Will the addition of a cash-out right at the employee's discretion to a stock option plan have any immediate tax consequences?

2. Will the cash amount paid to the employee on the exercise of the right be taxable under 7(1)(b) and be eligible for the 110(1)(d) deduction.

Position:

1. No
2. Yes

Reasons:

1. The amendment to the plan will not cause a disposition of the rights under the plan

2. The disposition of the rights under the agreement for cash will be taxed pursuant to 7(1)(b).

XXXXXXXXXX 2000-006313

XXXXXXXXXX, 2001

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling Request
XXXXXXXXXX - Share Purchase Option Plan

This is in reply to your letters of XXXXXXXXXX and your facsimile of XXXXXXXXXX, requesting an advance income tax ruling on behalf of the above-noted taxpayer. We also acknowledge the information provided during our various telephone conversations (XXXXXXXXXX).

Our understanding of the facts, proposed transactions are as follows:

DEFINITIONS

The following definitions apply in respect of this ruling request. Singular shall be read as plural and vice versa where the circumstances require. Unless otherwise noted, references to sections are references to provisions of the Act.

XXXXXXXXXX

"Act" means the Income Tax Act (Canada), RSC 1985, c. 1 (5th Supp.), as amended;

"principal-business corporation" has the meaning assigned by subsection 66(15);

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

"qualifying person" has the meaning assigned by subsection 7(7);

"Regulation" means the Income Tax Regulations, CRC 1979, c. 945, as amended;

"salary deferral arrangement" ("SDA") has the meaning assigned by subsection 248(1); and

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

FACTS

1. XXXXXXXXXX (the "Company") is a corporation incorporated and existing under the XXXXXXXXXX and is authorized to issue an unlimited number of common shares. The Company is resident in Canada for purposes of the Act.

The Company's address is XXXXXXXXXX. The Company files its annual income tax returns at the XXXXXXXXXX Tax Centre and is located within the area served by the XXXXXXXXXX Tax Services Office.

2. The Company is a Canadian-controlled private corporation and a taxable Canadian corporation.

3. The Company is a principal-business corporation.

4. The Company has two classes of common shares: Class "A" common shares, the holder of which has the rights to XXXXXXXXXX votes per share, and Class "B" common shares, the holder of which has the right to one vote per share. The Class "A" and Class "B" common shares are otherwise identical in every respect. The Class "B" common shares may be converted to Class "A" common shares at the option of the holder and vice versa. These are the only shares of any class that have been issued by the Company.

5. The Company has XXXXXXXXXX Class "A" common shares outstanding. The Class "A" common shares are owned by Canadian residents. The largest holding of Class "A" common shares represents XXXXXXXXXX% of the total Class "A" common shares outstanding and XXXXXXXXXX% of the total common shares outstanding.

6. The Company has XXXXXXXXXX Class "B" common shares outstanding. The Class "B" common shares are owned by non-residents. The largest holding of Class "B" common shares represents XXXXXXXXXX% of the total Class "B" common shares outstanding and XXXXXXXXXX% of the total common shares outstanding.

7. The Class "A" common shares and Class "B" common shares are "prescribed shares" for the purposes of paragraph 110(1)(d) and as defined in Regulation 6204.

8. The Company will enter into a stock option agreement (the "New Agreement") with individuals who are employees of the Company (the "Employees").

9. None of the Employees are related to any other Employee within the meaning of paragraph 251(2)(a).

10. None of the Employees is a member of a "related group", as defined in subsection 251(4), that controls the Company.

11. The Employees deal with the Company at arm's length and will deal with the Company at arm's length at all relevant times.

12. The fair market value ("FMV") of a Class "A" common share of the Company as at XXXXXXXXXX was $XXXXXXXXXX. This is the most recent estimate of the FMV of the Class "A" common shares of the Company.

13. The Company has entered into a stock option agreement (the "Old Agreement") with the Employees pursuant to which the Employees were provided with the right to purchase Class "A" common shares of the Company (the "Old Options"). A number of Employees have acquired shares of the Company under this Old Agreement. The Company will not issue any additional rights to purchase Class "A" common shares under the Old Agreement.

PROPOSED TRANSACTIONS

14. The Company and the Employees will amend the Old Agreement. This amendment will consist of the addition of a clause that will entitle the Employees to elect to receive cash in lieu of shares of the Company in a manner identical to that set out in the New Agreement and described in 16(d) and (e) below.

15. The Company proposes to grant stock options pursuant to the New Agreement (the "New Options") to the Employees as partial compensation and reward for employment-related services provided to the Company by such Employees. These New Options will be granted by the Company upon receipt of favourable advance income tax rulings as requested herein. The Company currently has no plans to issue additional options pursuant to the New Agreement either before or immediately after the ruling is received.

16. The New Options will be granted pursuant to the New Agreement between each Employee and the Company, the material terms of which are the following.

(a) Each New Option will provide the Employee to whom it is granted with the right to purchase one Class "A" common share of the Company at an exercise price per share equal to the FMV of one Class "A" common share on the date the New Agreement is made ("Exercise Price"), which Exercise Price will be required to be paid in full upon the exercise of a New Option to acquire a Class "A" common share of the Company ("Optioned Shares").

(b) The amount paid by the Employee to acquire the right to acquire the common share will be nil.

(c) The Employee shall have the right to exercise the New Options with respect to the following portions of the Optioned Shares from and after the following dates:

Percentage of Optioned Date Becoming Exercisable
Shares Exercisable

XXXXXXXXXX

at any time or from time to time (after the stated exercise dates) prior to the close of business on the first business day that is XXXXXXXXXX years after the date of granting (the "Expiry Date"). On the Expiry Date, the New Option shall forthwith expire and terminate and be of no further force or effect whatsoever as to such of the Optioned Shares in respect of which the New Option has not then been exercised.

(d) At the time a New Option would otherwise be exercisable pursuant to the New Agreement, the Employee may elect to receive cash in lieu of shares. The amount of cash shall be the amount by which the price of the most recent arm's length purchase of a Class "A" common share, multiplied by the number of Optioned Shares to which the Employee is entitled and in respect of which the New Options have not previously been exercised ("Vested Optioned Shares"), exceeds the cost of those shares had the option been exercised pursuant to the New Agreement. In the event that there has been no arm's length sale within the last XXXXXXXXXX, then the price of a share shall be determined in the same manner as used by the Company for providing values to the Canada Customs and Revenue Agency on the death of a shareholder, calculated using the most recent internal financial statements and the last available annual engineering report.

(e) The Company may decline to accept the Employee's election to receive cash in lieu of shares at the Company's discretion.

PURPOSE OF THE PROPOSED TRANSACTIONS

17. The purposes of the proposed transactions are the following:

(a) to compensate the Employees for employment-related services provided to the Company by the Employees, and to do so in a manner that will promote the long-term success of the Company by providing appropriate incentives to the Employees. It is considered that the New Options to be granted to the Employees will provide the Employees with additional incentives to further the growth and development of the Company;

(b) to provide additional liquidity to the Employees. Since the Company is a private corporation, the market for any shares acquired under the Old Options and New Options is limited. The Employees' ability to take cash in lieu of shares will allow the Employees to obtain de facto FMV proceeds of disposition for the shares;

(c) to minimize the number of new shares to be issued; and

(d) to provide a deduction for the Company when cash is paid in lieu of shares of the Company.

ADDITIONAL INFORMATION

18. To the best of your knowledge and the knowledge of the Company, none of the issues involved in this request for an advance income tax ruling is:

(a) in an earlier return of the Company or of a person related to the Company;

(b) being considered by a tax services office or tax center in connection with a previously-filed return of the Company or of a person related to the Company;

(c) under objection by the Company or by a person related to the Company; before the courts; nor

(d) the subject of a ruling previously issued by the Income Tax Rulings Directorate to the Company.

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and purpose of the proposed transactions, and provided the terms of the New Options are as described above, we rule as follows:

A. The amendment to the Old Agreement as described in 14 which will entitle Employees to elect to receive cash in lieu of shares of the Company, will not result in the disposition of any rights under the Old Agreement by the Employee for purposes of paragraph 7(1)(b) of the Act nor the inclusion of any benefit in the hands of the Employee under paragraph 6(1)(a) of the Act.

B. If an Employee elects to receive cash and the Employer pays cash as described in paragraph 14 or 16(d) above:

i) the cash received by the Employee will be taxable in the Employee's hands in accordance with paragraph 7(1)(b) of the Act; and

ii) provided the conditions in paragraph 110(1)(d) of the Act are satisfied, the cash received by the Employee will be eligible for the deduction under paragraph 110(1)(d) of the Act.

C. Subject to paragraph 18(1)(a) and section 67 of the Act, any amounts referred to in ruling B above that are paid by the Company to Employees will be deductible by the Company in accordance with section 9 of the Act. For greater certainty, paragraph 7(3)(b) of the Act will not apply to deny the deduction for the amount paid by the Company to an Employee referred to in ruling B above.

The above rulings, which are based on the Act in its present form and do not take into account any proposed amendments thereto, are given subject to the general limitations and qualifications set out in Information Circular 70-6R4 dated January 29, 2001, and are binding on the Canada Customs and Revenue Agency provided the proposed transactions are completed by XXXXXXXXXX.

Yours truly,

XXXXXXXXXX
For Director
Financial Industries Division
Income Tax Rulings Directorate