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 CCRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ADRC.
Principal Issues: Whether a corporation's short-term investments, which are accumulated for the purpose of purchasing land and a building, would be considered to be used principally in an active business.
Position: General comments only.
Reasons: Question of fact.
XXXXXXXXXX 2002-012666
J. Gibbons, CGA
March 25, 2002
Dear XXXXXXXXXX:
We are replying to your letter dated March 4, 2002, in which you requested our views on whether a corporation's short-term investments, which are accumulated for the purpose of purchasing land and a building, would be considered to be used principally in an active business. As we understand it, your question relates to whether a share in the corporation will qualify as a "qualified small business corporation share" ("QSBCS") pursuant to the definition in subsection 110.6(1) of the Income Tax Act.
As requested, we have considered your enquiry and have provided our views. However, our comments are of a general nature only since we cannot confirm the tax implications of particular transactions unless the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R4. In your letter, you outlined the following situation:
1. A corporation operated an active business and had employed substantially all of its assets in this active business.
2. The corporation began to accumulate surplus earnings over the course of several years, with the intent of purchasing land and a building. The surplus earnings were not required for current operations. However, the directors of the corporation had chosen to fund the purchase of the building by accumulating surplus earnings, rather than distributing them and funding the purchase of the land and a building by obtaining a mortgage.
3. At the time immediately before the purchase of the land and a building, over 50% of the corporation's assets were marketable securities.
4. Once a suitable building was found, the short-term investments and marketable securities were liquidated to fund the purchase of the land and the building and the subsequent renovations of the building. At that point, substantially all of the corporation's assets were active business assets.
5. An individual shareholder wishes to dispose of shares in the corporation.
Your concern is that, prior to the purchase of the land and building, the corporation had more than 50% of its assets in the form of short-term investments and marketable securities. If the short-term investments, which were accumulated for the purpose of purchasing the land and building, were considered to be "used principally in an active business," a share of the capital stock of the corporation would be a QSBCS and the capital gains exemption would be available on the disposition of the shares. Otherwise, a share in the corporation would not qualify as a QSBCS during the time that the short-term investments were accumulated.
The determination of whether cash or near cash property held by a corporation will be considered to be used principally in an active business is a question of fact that must be determined on a case by case basis. Some of the relevant facts that must be considered include the actual use of the cash or near cash properties in the course of the business, the nature of the business, and the practice in the particular business. Our general views on the issue are as follows:
1. Cash or near cash property is considered to be used principally in the business if its withdrawal would destabilize the business.
2. Cash which is temporarily surplus to the needs of the business and which is invested in short-term income producing investments may be considered to be used in the business.
3. Cash balances which accumulate and are then depleted in accordance with the annual seasonal fluctuations of an ongoing business will generally be considered to be used in the business, but a permanent balance in excess of the company's reasonable working capital needs will generally not be considered to be so used.
4. The accumulation of funds in anticipation of the replacement or purchase of capital assets or the repayment of a long-term debt will not generally in itself qualify the funds as being used in the business.
5. Cash or near cash property is considered to be used principally in the business if its retention fulfills a requirement which had to be met in order to do business, such as certificates of deposits required to be maintained by a supplier.
6. We recognize that prudent financial management requires businesses to maintain current assets (including inventories and accounts receivable, as well as cash and near cash properties) in excess of current liabilities and will consider this requirement in assessing whether cash or near cash assets are used principally in a business. In our view, cash and near cash assets held to offset the non-current portion of long term liabilities will not generally be considered to be used in the business.
Based on the facts provided and the foregoing guidelines, in particular guideline 4, we would be unable to conclude that the cash and marketable securities which are held by the corporation in the situation outlined are used by it principally in an active business. However, a definitive conclusion could only be made after a thorough examination of all of the relevant facts. If the sale of the corporation's shares relates to an actual proposed transaction, we would be pleased to consider an advance ruling request submitted in the manner set out in IC 70-6R4.
We trust that these comments will be of assistance.
Yours truly,
John Oulton, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
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