2003 Ruling 2002-0177083 - Is a distribution "Dividend" under Act

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 distribution that constitutes a dividend under foreign law from a foreign affiliate to another foreign affiliate both resident in the same foreign jurisdiction, and of the same taxpayer, would constitute a dividend for purposes of the Income Tax Act (the "Act").

Position: Yes

Reasons: Relying on the characterization of the distribution as a "dividend" under foreign corporate law.

XXXXXXXXXX 		2002-017708

XXXXXXXXXX, 2003

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling
XXXXXXXXXX ("Canco") (XXXXXXXXXX )

This is in reply to your letters of XXXXXXXXXX, requesting an advance income tax ruling on behalf of the above-noted taxpayer. We also acknowledge the amendments to the proposed transactions and the additional information provided in various subsequent letters, emails, facsimiles and telephone conversations (XXXXXXXXXX).

Our understanding of the facts, proposed transactions and purpose of the proposed transactions is as follows:

DEFINITIONS:

In this ruling, unless otherwise specified:

? "Act" means the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), as amended;

? "Regulations" means the Income Tax Regulations, C.R.C. 1977, c. 945, as amended;

? all statutory references herein are to provisions of the Act unless otherwise specified;

? the words and expressions which are defined for purposes of the Act and Regulations (in particular, subdivision i of Division B of Part I of the Act and Part LIX of the Regulations) shall have the same meanings for the purposes hereof;

? "Proposed Transactions" means the transactions described in the paragraphs hereof which appear under the heading "Proposed Transactions";

? "Canco" is XXXXXXXXXX;

? "FA 1" is XXXXXXXXXX;

? "FA 2" is XXXXXXXXXX;

? XXXXXXXXXX;

? "Distribution Amount" has the meaning set out in paragraph 5 below.

FACTS

1. Canco is a widely-held Canadian public company that carries on an XXXXXXXXXX business both in Canada and abroad, both directly and indirectly through subsidiaries and other affiliates. Canco is a public corporation and a taxable Canadian corporation.

2. FA 1 is a direct wholly-owned subsidiary, a foreign affiliate and a controlled foreign affiliate of Canco. FA 1 exists and is resident in XXXXXXXXXX and is governed by the XXXXXXXXXX.

3. FA 2 is an indirect controlled subsidiary and a foreign affiliate of Canco, and is resident in XXXXXXXXXX. FA 2 exists and is resident in XXXXXXXXXX and is governed by the XXXXXXXXXX. FA 1 holds XXXXXXXXXX% of a class of issued and outstanding par value shares of FA 2 (the "FA 2 Shares") and Canco's equity percentage in respect of FA 2 is XXXXXXXXXX %. The remaining XXXXXXXXXX% of the FA 2 Shares is held by an arm's length party. FA 2 has one class of outstanding shares.

4. FA 2 has certain assets to distribute to its shareholders. However, because of liquidity/solvency restrictions applicable to FA 2 under the XXXXXXXXXX, FA 2 cannot currently declare and pay a dividend to its shareholders in the desired amount.

PROPOSED TRANSACTIONS

5. FA 2 and its shareholders will take the necessary corporate action in accordance with the XXXXXXXXXX to reduce the par value of the FA 2 Shares by an amount not less than the amount it will distribute (the "Distribution Amount") among its shareholders. This action will neither authorize nor effect any corresponding payment to FA 2's shareholders. The effect of this action pursuant to the XXXXXXXXXX will be to reduce the par value of the FA 2 Shares and to create a corresponding amount of contributed surplus which does not form part of the retained earnings, share premium account or any other capital account so that the distribution as described in paragraph 6 below does not contravene liquidity or solvency rules under the XXXXXXXXXX.

6. As a distinct corporate action, FA 2's directors will adopt a resolution declaring, and FA2 will then pay, a dividend equal to the Distribution Amount pursuant to the XXXXXXXXXX , pro-rata to its shareholders. The payment of this dividend will have the effect of reducing retained earnings, or creating or increasing a deficit, on the shareholders' equity portion of FA2's balance sheet, depending on the position of that account before the payment of the dividend under the XXXXXXXXXX.

PURPOSE OF PROPOSED TRANSACTIONS

The purpose of the Proposed Transactions is to facilitate the payment of a dividend by FA 2 to its shareholders so that for Canadian tax purposes, the dividend paid by FA 2 to FA 1 will be from the exempt surplus of FA 2 vis-à-vis Canco, pursuant to subsection 5901(2) of the Regulations, to the greatest extent possible.

ADDITIONAL INFORMATION

Under the XXXXXXXXXX, contributed surplus is a non-capital equity account that may be maintained and is distinguished from the retained earnings account, the share premium account and any other capital account(s), for all purposes under the XXXXXXXXXX including liquidity/solvency tests. Therefore, the dividend payment as described in paragraph 6 above does not contravene liquidity/solvency tests under the XXXXXXXXXX. This liquidity/solvency test applies for both ordinary dividends and distributions out of contributed surplus. Funds held in contributed surplus can be distributed to shareholders at the discretion of the directors in the same manner as ordinary dividends unless there are reasonable grounds for believing that, after making the distribution, the company would be illiquid or insolvent. The technical term under the XXXXXXXXXX for such a payment is "distribution out of contributed surplus" as opposed to "dividend" but both types of payment operate in the same manner for these purposes. Because contributed surplus is not a capital account, a distribution out of contributed surplus is not a return of capital. The directors of a XXXXXXXXXX company may also resolve to apply contributed surplus against an accumulated deficit that the company may have.

As a distinct corporate action, FA 2's directors may, at a point in time subsequent to the payment of any dividend as described above, adopt a resolution authorizing the application of its contributed surplus at that time against an accumulated deficit which it may have at that time.

To the best of your knowledge and that of the taxpayers involved, none of the issues involved with this ruling letter:

(i) is under objection;

(ii) is before the courts or, if a judgment has been issued, the time limit for appeal has not expired;

(iii) is involved in an earlier return of one of the taxpayers or a related person; or,

(iv) is being considered by a tax services office or a taxation center in connection with a tax return already filed by one of the taxpayers or a related person.

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, Proposed Transactions, purpose of the Proposed Transactions and additional information, our rulings are as follows:

A. The amount paid by FA 2 and the portion thereof received by FA 1 described in paragraph 6 above, provided such amount constitutes dividends under the XXXXXXXXXX, will constitute dividends paid by FA 2 and received by FA 1 on shares of the capital stock of another foreign affiliate of Canco for the purposes of the Act and Regulations including, in particular, paragraph (b) of the description of A in the definition of foreign accrual property income in subsection 95(1), and Part LIX of the Regulations.

B. As a result of the corporate action stated in paragraph 5 above, the paid-up capital, as defined in subsection 89(1), of FA 2 Shares will be reduced by an amount equal to the amount by which their par value is reduced.

C. Subsection 15(1) will not apply to any of the Proposed Transactions, in and by themselves.

D. As a result of the Proposed Transactions, in and by themselves, subsection 245(2) will not be applied to re-determine the tax consequences described in the rulings given above.

Nothing in this letter shall be construed as implying that the Canada Customs and Revenue Agency (the "CCRA") has reviewed, accepted or otherwise agreed to:

(a) the determination of the amount of the adjusted cost base of any property referred
to herein or the fair value of any assets transferred;

(b) the validity of any agreements or terms and conditions therein;

(c) surplus balances of foreign affiliates referred to herein;

(d) the validity of foreign laws to the Proposed Transactions or Rulings given;

(e) general anti-avoidance rules not applying to completed or future transactions other than the Proposed Transactions as described in this letter; or

(f) any other tax consequences relating to any facts or proposed transactions referred to herein, other than as specifically described in the rulings given above.

This ruling is given subject to the general limitations and qualifications set forth in Information Circular 70-6R5, dated May 17, 2002, issued by the CCRA, and is binding on the CCRA provided the Proposed Transactions are completed on or before XXXXXXXXXX.

Yours truly,

XXXXXXXXXX
Section Manager
for Division Director
International & Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch