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.Where an affiliated group undergoes a tax loss consolidation and a member of the affiliated group that is deducting the interest expense incurs a non-capital loss, whether the creation of such non-capital loss that is attributable to the claiming of the interest expense by the member is abusive?
Position:
1. Yes
Reasons:
1.The creation of the non-capital loss will effectively allow the affiliated group to refresh one of its member's existing non-capital losses, which is beyond the scope of a tax loss consolidation.
XXXXXXXXXX 2001-009021
XXXXXXXXXX, 2001
Dear Sirs:
Re: XXXXXXXXXX
XXXXXXXXXX
Advance Income Tax Ruling
This is in reply to your letter of XXXXXXXXXX in which you requested an advance income tax ruling on behalf of the above-noted taxpayers. In your letters of XXXXXXXXXX provided additional information concerning the facts and proposed transactions described in your original letter. We also acknowledge the information provided during our various telephone conversations (XXXXXXXXXX).
To the best of your knowledge, and that of the taxpayers involved, none of the issues contained herein:
(i) is in an earlier return of one of the taxpayers or a related person;
(ii) is being considered by a tax services office or taxation centre in connection with a previously filed tax return of one of the taxpayers or a related person;
(iii) is under objection by one of the taxpayers or a related person;
(iv) is before the courts or, if a judgement has been issued, the time limit for appeal to a higher court has not expired; or
(v) is the subject of a ruling previously issued by the Directorate.
Definitions
In this letter, the following terms have the meanings specified:
(a) Unless otherwise indicated, all statutory references are to the Income Tax Act, R. S.C. 1985 (5th Supp.), c.1, as amended (the "Act");
(b) "ACB" means "adjusted cost base" as that expression is defined in subsection 248(1);
(c) "affiliated group of persons" has the meaning assigned by subsection 251.1(3);
(d) "agreed amount" has the meaning assigned by subsection 85(1);
(e) "BCA" means the Business Corporations Act (XXXXXXXXXX), and, where applicable, its predecessor statutes;
(f) "capital property" has the meaning assigned by section 54;
(g) "cost amount" has the meaning assigned by subsection 248(1);
(h) "dividend rental arrangement" has the meaning assigned by subsection 248(1);
(i) "FMV" represents fair market value which means the highest price available in an open and unrestricted market between informed prudent parties acting at arm's length and under no compulsion to act and contracting for a taxable purchase and sale;
(j) "guarantee agreement" has the meaning assigned by subsection 112(2.2);
(k) "non-capital loss" has the meaning assigned by subsection 111(8);
(l) "PUC" means paid-up capital as that expression is defined in subsection 89(1);
(m) "public corporation" has the meaning assigned by subsection 89(1);
(n) "private corporation" has the meaning assigned by subsection 89(1);
(o) "related" has the meaning assigned by section 251;
(p) "related group" has the meaning assigned by subsection 251(4);
(q) "restricted financial institution" has the meaning assigned by subsection 248(1);
(r) "specified financial institution" has the meaning assigned by subsection 248(1);
(s) "stated capital" has the meaning assigned by the provisions of BCA;
(t) "subsidiary wholly-owned corporation" has the meaning assigned by subsection 248(1);
(u) "taxable Canadian corporation" has the meaning assigned by subsection 89(1); and
(v) "taxable dividend" has the meaning assigned by subsection 89(1).
Our understanding of the relevant facts, proposed transactions and purpose of the proposed transactions is as follows:
Facts
1. XXXXXXXXXX ("Pubco") is a public corporation, a taxable Canadian corporation and a holding corporation whose subsidiary wholly-owned corporations including XXXXXXXXXX ("Subco"), are providers of XXXXXXXXXX. Pubco was incorporated under the BCA on XXXXXXXXXX and its shares are listed for trading on the XXXXXXXXXX Stock Exchange.
As at XXXXXXXXXX, the issued and outstanding share capital of Pubco consisted of approximately XXXXXXXXXX common shares and no single shareholder or any related group owned more than 50% of the issued and outstanding Pubco common shares.
During the period commencing XXXXXXXXXX to the present, no person or group of persons has acquired control, or was deemed by subsection 256(7) to have acquired control, of Pubco.
Pubco's year-end is XXXXXXXXXX of each year. As at XXXXXXXXXX, the balance of non-capital losses of Pubco amounted to $XXXXXXXXXX which were incurred in the following years:
XXXXXXXXXX.
Pubco's tax affairs are administered by the XXXXXXXXXX Tax Services Office and its corporate tax returns are filed at XXXXXXXXXX Taxation Centre.
2. Subco is a taxable Canadian corporation and a subsidiary wholly-owned corporation of Pubco. Pubco and Subco are related and affiliated. Subco was incorporated on XXXXXXXXXX and is governed by the BCA. Subco is not a private corporation.
Pubco acquired, from unrelated vendors, all of the issued and outstanding shares of Subco on XXXXXXXXXX. Subco's first fiscal year, after the acquisition of control of Subco by Pubco, ended on XXXXXXXXXX.
Subco is profitable and has no non-capital loss or net capital loss carryforwards.
Subco's tax affairs are administered by the XXXXXXXXXX Tax Services Office and its corporate tax returns are filed at XXXXXXXXXX Taxation Centre.
3. Pubco and certain of its subsidiary wholly-owned corporations which included Subco, at the relevant time, were parties to particular tax loss consolidation transactions for which an advance income tax ruling was issued (2000-005301 dated XXXXXXXXXX, 2001) (the "Tax Ruling").
However, on or about XXXXXXXXXX, after the issuance of the Tax Ruling, Subco repaid in full its interest-bearing promissory note payable to Pubco (the "Subco Note1") in the principal amount of $XXXXXXXXXX by issuing from its XXXXXXXXXX Subco new common shares to Pubco. The Subco Note1 was granted by Subco to Pubco on or about XXXXXXXXXX as part of the consideration for the Subco shares that were transferred by Pubco to Subco under subsection 85(1).
The reason for repaying the Subco Note1 was because of a concern as to whether the amount of the interest paid or payable by Subco on the Subco Note1 in respect of a particular taxation year was deductible by Subco pursuant to subsection 20(1)(c). The granting and the repayment of the Subco Note1 as described herein were not part of the proposed transactions that were the subject of the Tax Ruling.
Proposed Transactions
4. A new company (the "Newco") will be incorporated under the BCA. Newco will be a taxable Canadian corporation and will not be a specified financial institution or a restricted financial institution.
Newco's authorized capital will consist of one class of an unlimited number of common shares (the "Newco Common Shares") and one class of an unlimited number of preferred shares (the "Newco Preferred Shares") which will include the following attributes:
(a) the Newco Common Shares will be voting; and
(b) the Newco Preferred Shares
(i) will be non-voting;
(ii) will be redeemable and retractable, subject to applicable law, at any time for an amount equal to the amount for which they were issued and any unpaid dividends which have accumulated prior to their redemption or retraction; and
(iii) will be entitled to an annual cumulative dividend of XXXXXXXXXX% on the amount for which they were issued and will have a preference on dissolution over the Newco Common Shares for the return of the redemption amount plus unpaid dividends.
5. Pubco will subscribe for XXXXXXXXXX Newco Common Shares for $XXXXXXXXXX on the incorporation of Newco. The FMV and the ACB to Pubco of the XXXXXXXXXX Newco Common Shares will be $XXXXXXXXXX. Pursuant to the provisions of the BCA, the amount to be added to the stated capital of Newco in respect of the issuance of the Newco Common shares will be $XXXXXXXXXX.
6. Pubco will borrow an amount of $XXXXXXXXXX from an arm's-length Canadian financial institution on a daylight basis (the "Daylight Loan1"), which amount will be based on and will not exceed its credit facilities and borrowing capacity. Pubco will lend the proceeds from the Daylight Loan1 to Subco on a demand basis (the "Subco Demand Loan"). As evidence for such indebtedness, Subco will issue to Pubco a demand promissory note with the principal amount and FMV equal to $XXXXXXXXXX and bearing a commercial interest rate of XXXXXXXXXX% per annum (the "Subco Note2"), which rate will not be less than the rate which Pubco would pay to an arm's-length Canadian financial institution to borrow an equivalent amount on equivalent repayment terms.
7. Subco will use the proceeds of the Subco Demand Loan to subscribe for Newco Preferred Shares having an aggregate FMV and redemption and retraction amounts equal to $XXXXXXXXXX. The ACB to Subco of the Newco Preferred Shares will be equal to $XXXXXXXXXX.
Pursuant to the applicable provisions of the BCA, the amount to be added to the stated capital of Subco in respect of the issuance of the Newco Preferred Shares will be equal to $XXXXXXXXXX.
The dividends on the Newco Preferred Shares will be paid on an annual basis. The dividends will be funded by capital contributions made by Pubco as described in paragraph 10 below.
8. Newco will lend the proceeds from the subscription of the Newco Preferred Shares to Pubco on an interest-free demand basis (the "Pubco Demand Loan").
9. Pubco will use the proceeds from the Pubco Demand Loan to repay the Daylight Loan1.
10. Pubco will agree to make contributions of capital to the common share capital of Newco on an annual basis equal to the amount of the dividends to be paid by Newco on the Newco Preferred Shares as long as such preferred shares are outstanding. Pubco will no longer be required to make such contributions of capital where Newco is no longer paying dividends to Subco.
11. Newco will use the amount received as contributions of capital described in paragraph 10 above to pay dividends on the Newco Preferred Shares to Subco on an annual basis. Subco will in turn use the dividends received from Newco to fund payments of interest to Pubco on the Subco Note2.
The interest expense that will be deducted by Subco in a particular taxation year in respect of the Subco Note2 as described in paragraph 6 above will not contribute to a non-capital loss of Subco for the particular taxation year.
12. Once sufficient income has been earned by Pubco to fully utilize its non-capital losses, and on a particular day but no later than XXXXXXXXXX:
(a) Newco will pay the balance of any accrued and unpaid dividends on the Newco Preferred Shares to be redeemed under paragraph (d) below.
(b) Subco will pay the balance of any accrued and unpaid interest on the Subco Note2 to be repaid under paragraph (e) below.
(c) Pubco will borrow an amount of $XXXXXXXXXX, on a daylight basis, from an arm's-length institutional lender (the "Daylight Loan2") to repay the Pubco Note held by Newco, which amount will be based on and will not exceed Pubco's credit facilities and borrowing capacity.
(d) Newco will use the proceeds from the repayment of the Pubco Note under paragraph (c) above to redeem the Newco Preferred Shares held by Subco at FMV, which amount will be equal to the aggregate of their redemption amounts, being $XXXXXXXXXX.
(e) Subco will use the proceeds from the redemption of its Newco Preferred Shares under paragraph (d) above to repay the Subco Note2 held by Pubco
(f) Pubco will use the proceeds from the repayment of the Subco Note2 under paragraph (e) above to repay the Daylight Loan2 referred to in paragraph (c) above.
(g) Once all of the Newco Preferred Shares held by Subco have been redeemed and the Subco Note2 and the Pubco Note have been repaid as described above, Pubco will, by special resolution, resolve to liquidate and dissolve Newco pursuant to the applicable provisions of the BCA. The wind-up of Newco will be a qualifying wind-up for the purposes of subsection 88(1) of the Act. All property of Newco will be distributed to Pubco and all liabilities of Newco will be assumed by Pubco on the wind-up of Newco. Articles of Dissolution will be filed with the appropriate Corporate Registry and, upon receipt of the Certificate of Dissolution, Newco will be dissolved.
13. None of the corporations referred to herein (including the corporation to be incorporated as described in the proposed transactions) is or will be, at any time during the series of transactions herein described, a specified financial institution or a restricted financial institution.
14. There will not be at any time prior to the completion of the proposed transactions, any agreements or undertakings which constitute or include a "guarantee agreement", as defined in subsection 112(2.2) of the Act, in respect of any of the issued shares referred to herein (including the shares to be issued as described in the proposed transactions).
15. Newco will not have entered into a "dividend rental arrangement", as defined in subsection 248(1), in respect of any of the issued shares referred to herein (including the shares to be issued as described in the proposed transactions).
16. None of the issued shares referred to herein (including the shares to be issued as described in the proposed transactions) 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) of the Act.
17. None of the corporations described above (including the corporation to be incorporated as described in the proposed transactions) is or will be, at any time before the completion of the proposed transactions described above, a corporation described in any of the paragraphs (a) to (f) of the definition "financial intermediary corporation" in subsection 191(1) of the Act.
18. Each of Pubco and Subco will have the financial capacity to honour, upon presentation for payment, the amount payable under the promissory note(s) issued by it as part of the proposed transactions.
19. None of the proposed transactions described above will have a significant impact on any outstanding tax liabilities of Pubco or Subco.
20. None of the purposes of paying the dividends as described in the proposed transactions 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 FMV of any share of capital stock described above immediately before the dividends.
Purpose of the Proposed Transactions
21. The purpose of the proposed transactions is to consolidate profits and losses within an affiliated group enabling Pubco to earn sufficient interest income to eliminate its non-capital losses that it would otherwise incur or expire in its XXXXXXXXXX and subsequent taxation years.
Rulings
Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purpose of the proposed transactions, and provided that the proposed transactions are completed in the manner described above, our rulings are as follows:
A. Provided that Subco has a legal obligation to pay interest on the Subco Note2 issued in the transaction described in paragraph 6 above, and provided that the Newco Preferred Shares described in paragraph 7 above, continue to be held by Subco for the purpose of producing income (other than income which is exempt), Subco will, to the extent that such amount does not exceed a reasonable amount, be entitled to deduct, in computing its income for a taxation year, an amount paid in the year or payable in respect of the year (depending on the method regularly followed by Subco in computing its income for purposes of the Act) as interest on the Subco Note in respect of that taxation year pursuant to paragraph 20(1)(c) of the Act.
B. The taxable dividends received by Subco as described in paragraphs 11 and 12(a) above, will,
(a) be deductible by Subco pursuant to subsection 112(1) in computing its taxable income for the year in which such dividend is received, and such deduction will not be prohibited by any of subsections 112(2.1), (2.2), (2.3) or (2.4); and
(b) will not be subject to tax under Parts IV.1 and VI.1 of the Act by virtue of paragraph (b) of the definition of "excepted dividend" in section 187.1 of the Act and paragraph (a) of the definition of "excluded dividend" in subsection 191(1) of the Act because Subco will have a substantial interest, within the meaning assigned by subsection 191(2) of the Act, in the payer corporation immediately before the payment of the taxable dividends as described in paragraphs 11 and 12(a) above.
C. By virtue of paragraph 55(3)(a), the provisions of subsection 55(2) will not apply to the taxable dividends referred to in ruling B above, received by Subco on its Newco Preferred Shares, 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. For greater certainty, the proposed transactions described herein, in and by themselves, will not be considered to result in any disposition or increase in interest described in any of subparagraphs 55(3)(a)(i) to (v).
D. With respect to the redemption by Newco of the Newco Preferred Shares held by Subco as described in paragraph 12(d) above,
(a) no dividend will be deemed to have been paid by Newco and received by Subco under subsection 84(3) of the Act, as the aggregate amount paid upon such redemption will not exceed the aggregate PUC in respect of such shares immediately before such redemption; and
(b) no gain or loss will be realized or incurred by Subco, as the proceeds of disposition of Subco from the disposition of its Newco Preferred Shares to Newco will be equal to the total of their ACB immediately before such disposition.
E. The provisions of subsections 15(1) and 246(1) of the Act will not apply to any of the proposed transactions described in paragraphs 4 through 12 above, in and by themselves.
F. The provisions of subsection 245(2) will not be applied as a result of the proposed transactions described above, in and by themselves, to redetermine the tax consequences confirmed in the rulings given above.
These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R4 issued by Canada Customs and Revenue Agency ("CCRA") on January 29, 2001 and are binding provided that the proposed transactions, other than those described in paragraphs 11 and 12 above, are completed by XXXXXXXXXX.
The above rulings are based on the Act in its present form and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.
Nothing in this ruling should be construed as implying that CCRA has agreed to or reviewed:
(a) the determination of the fair market value or ACB of any particular asset or the PUC of any shares referred to herein; or
(b) any tax consequences relating to the facts and proposed transactions described herein other than those specifically described in the rulings given above, in particular, those completed transactions as described in paragraph 3 above.
Yours truly,
for Director
Reorganizations and Resources Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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