2002 Ruling 2002-0177133 - LOSS UTILIZATION

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:

Loss Utilization among related Canadian related corporations

Position TAKEN: YES, Accepted

Reasons FOR POSITION TAKEN: Not much different than others

XXXXXXXXXX 								2002-017713

XXXXXXXXXX, 2002

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling
XXXXXXXXXX

This is in reply to your letter of XXXXXXXXXX, requesting an advance income tax ruling on behalf of the above noted taxpayers. We also acknowledge telephone conversations of XXXXXXXXXX.

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

(i) in an earlier return of the taxpayers or a related person;

(ii) being considered by a Tax Services Office or a Taxation Centre in connection with any previously filed tax return of the taxpayers or a related person;

(iii) under objection by the taxpayers or a related person;

(iv) before the courts; or if a judgement has been issued, the time limit for appeal to a higher court has not expired; or

(v) the subject of a previously issued ruling.

Definitions

In this letter unless otherwise expressly stated:

"A Co" means XXXXXXXXXX;

"Act" means the Income Tax Act, R.S.C. 1985 (5th Supp.) c.1, as amended to the date hereof, and unless otherwise stated, every reference herein to a part, section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act;

"affiliated persons" has the meaning assigned by subsection 251.1(1) of the Act;

"B Co" means XXXXXXXXXX;

XXXXXXXXXX

"C Co" means XXXXXXXXXX;

"CBCA" means the Canada Business Corporations Act;

"CCRA" means the Canada Customs and Revenue Agency;

"dividend rental arrangement" has the meaning assigned by subsection 248(1)of the Act;

"excepted dividends" has the meaning assigned by paragraph (b) of the definition "excepted dividend" in section 187.1 of the Act;

"excluded dividends" has the meaning assigned by paragraph (a) of the definition "excluded dividend" in subsection 191(1) of the Act;

"forgiven amount" has the meaning assigned by subsections 80(1) or 80.01(1) of the Act;

"non-capital loss" has the meaning assigned by subsection 111(8) of the Act;

"public corporation" has the meaning assigned by subsection 89(1) of the Act;

"related persons" has the meaning assigned by subsection 251(2) of the Act;

"specified financial institution" has the meaning assigned by subsection 248(1) of the Act;

"taxable Canadian corporation" has the meaning assigned by subsection 89(1) of the Act;

"taxable income" has the meaning assigned by subsection 248(1) of the Act.

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

Facts

1. The taxation year of A Co ends on XXXXXXXXXX. As at XXXXXXXXXX, A Co had accumulated non-capital loss carry forwards of approximately $XXXXXXXXXX, of which approximately $XXXXXXXXXX expire in XXXXXXXXXX. A Co is serviced by the XXXXXXXXXX Taxation Services Office and files its tax returns at the XXXXXXXXXX Taxation Centre.

2. The authorized capital of A Co consists of XXXXXXXXXX shares divided into:

(a) XXXXXXXXXX common shares without par value;

(b) XXXXXXXXXX first preferred shares without par value, and

(c) XXXXXXXXXX second preferred shares without par value.

3. A Co is the direct or indirect parent holding company of several operating companies, which carry on the business of XXXXXXXXXX. A Co owns several XXXXXXXXXX operating entities including B Co. A Co also directly or indirectly owns several XXXXXXXXXX operating entities, which are engaged in XXXXXXXXXX.

4. A Co is a public corporation and a taxable Canadian corporation. The common shares of A Co are listed on the XXXXXXXXXX Stock Exchange.

5. The common shares of A Co are widely held with no single person having control of A Co. As at XXXXXXXXXX, C Co, a wholly owned subsidiary of B Co, owned approximately XXXXXXXXXX% of A Co's common shares.

6. XXXXXXXXXX B Co is a taxable Canadian corporation. B Co is serviced by the XXXXXXXXXX Taxation Services Office and files its tax returns at the XXXXXXXXXX Taxation Centre.

7. All the common shares of B Co are held directly by A Co.

8. B Co has a XXXXXXXXXX year-end. B Co's taxable income for its taxation year ended XXXXXXXXXX was $XXXXXXXXXX.

9. An arm's length third party lender would consider the following factors in assessing B Co's ability to borrow money: debt service capability, repayment terms, security, subordination relative to other corporate obligations and general market conditions. B Co's audited consolidated financial statements for the year ended XXXXXXXXXX indicate that B Co had, on a consolidated basis:

Long-term debt of approximately $ XXXXXXXXXX;
A weighted average rate of borrowing on the long-term debt of XXXXXXXXXX%;
Shareholders' equity of approximately $XXXXXXXXXX; and
Short-term notes payable of approximately $XXXXXXXXXX.

In addition, B Co had consolidated net earnings before income taxes for the year ended XXXXXXXXXX of approximately $XXXXXXXXXX and consolidated cash flow before investing and financing activities of approximately $XXXXXXXXXX. Based on this financial information, you advise that, in your opinion B Co could commercially borrow up to $XXXXXXXXXX at a rate of XXXXXXXXXX%.

10. None of the corporations referred to in this letter will be a specified financial institution.

11. No specified financial institution will be obligated to effect an undertaking with respect to the transactions described in this letter which is described in subsection 112(2.2) of the Act.

12. None of the preferred shares referred to below will be subject to a dividend rental arrangement.

13. There will not be any guarantees, covenants or agreements referred to in paragraph 112(2.4)(a) of the Act to purchase or repurchase any of the preferred shares described below. Furthermore, the consideration for which any of the shares are issued will not include an obligation of an unrelated investor to make payments, any portion of which would be required to be included in computing the income of the issuer, nor will it include any right to receive payments or property that may revert to the investor.

14. A Co, B Co and NewCo (see 16 below) are related persons and affiliated persons for the purposes of the Act.

Proposed Transactions

15. By directors' resolution, A Co will issue a second series (Series 2) of second preferred shares (the "A Co Preferred Shares") with the rights and restrictions as follows:

- non-voting;
- annual cumulative dividend rate equal to XXXXXXXXXX%;
- redeemable for an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends;
- retractable for an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends;
- dividends and proceeds on winding up or dissolution rank ahead of any payment on shares ranking junior;
- on winding up or dissolution, holders will receive an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends; and
- will be automatically retracted XXXXXXXXXX days prior to any bankruptcy or insolvency of A Co.

16. A Co will incorporate a new company under the XXXXXXXXXX ("NewCo"). NewCo will be a taxable Canadian corporation. The taxation year of NewCo will end on XXXXXXXXXX.

The share capital of NewCo will consist of one class of common shares and one class of preferred shares ("NewCo Preferred Shares"), the rights and restrictions of which are as follows:

- non-voting;
- annual cumulative dividend rate equal to XXXXXXXXXX%;
- redeemable for an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends;
- retractable for an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends;
- dividends and proceeds on winding up or dissolution rank ahead of any payment on shares ranking junior;
- on winding up or dissolution, holders will receive an amount equal to the aggregate of the amount for which the shares were issued and any unpaid dividends; and
- will be automatically retracted XXXXXXXXXX days prior to any bankruptcy or insolvency of NewCo.

A Co will subscribe for all of the common shares of NewCo for a nominal amount following NewCo's incorporation.

17. B Co will borrow from an arm's length financial institution on a daylight loan basis (the "B Co Daylight Loan"). The principal amount of the B Co Daylight Loan is $XXXXXXXXXX.

18. B Co will use the proceeds of the B Co Daylight Loan to subscribe for NewCo Preferred Shares. The subscription amounts for the above noted preferred shares are $XXXXXXXXXX. Dividends will be paid on the NewCo Preferred Shares on an annual basis at XXXXXXXXXX%. The dividends will be funded in part with the interest income earned by NewCo on the NewCo-B Co Note described in 21 below.

19. NewCo will use the funds from the issue of the NewCo Preferred Shares to subscribe for A Co Preferred Shares. The subscription amounts for the above noted preferred shares are $XXXXXXXXXX. Dividends will be paid on the A Co Preferred Shares on an annual basis at XXXXXXXXXX%. The dividends will be funded in part with the interest income earned by A Co on the A Co-NewCo Note described in 20 below.

20. A Co will use the funds from the issue of the A Co Preferred Shares to make an interest-bearing loan to NewCo (the "A Co-NewCo Note"), the principal amount being $XXXXXXXXXX. The A Co-NewCo Note will bear interest at a rate of XXXXXXXXXX% per annum.

21. NewCo will use the proceeds of the A Co-NewCo Note to make an interest-bearing loan to B Co (the "NewCo-B Co Note"), the principal amount of which is $XXXXXXXXXX. The NewCo-B Co Note will bear interest at a rate of XXXXXXXXXX% per annum.

22. B Co will use the proceeds of the NewCo-B Co Note to repay the B Co Daylight Loan.

23. On or before XXXXXXXXXX:

a) B Co will pay the balance of any accrued and unpaid interest on the NewCo-B Co Note;

b) NewCo will pay the balance of any accrued and unpaid interest on the A Co-NewCo Note;

c) A Co will pay the balance of any declared but unpaid dividends on the A Co Preferred Shares held by NewCo;

d) NewCo will pay the balance of any declared but unpaid dividends on the NewCo Preferred Shares held by B Co;

e) A Co will redeem the A Co Preferred Shares held by NewCo by issuing a demand non-interest bearing promissory note (the "A Co Note"). The principal amount of the A Co Note will equal the redemption amount of the A Co Preferred Shares. NewCo will repay the A Co-NewCo Note in full by set-off with the A Co Note. Both notes will be cancelled; and

f) NewCo will redeem the NewCo Preferred Shares held by B Co by issuing a demand non-interest bearing promissory note (the "NewCo Note"). The principal amount of the NewCo Note will equal the redemption amount of the NewCo Preferred Shares. B Co will repay the NewCo-B Co Note in full by set-off with the NewCo Note. Both notes will be cancelled.

24. Following the transactions described in 23 above, A Co will, by special resolution, resolve to wind up and dissolve NewCo under the provisions of the XXXXXXXXXX.

Purposes of the Proposed Transactions

25. The purposes of the proposed transactions are:

a) to enable A Co to earn sufficient interest income over a period of time in order to use its accumulated non-capital losses; and

b) to allow B Co to deduct interest expense on borrowed money used to acquire NewCo preferred shares in computing its income for its taxation year.

Rulings Given:

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

A. The provisions of subsections 112(2.1), (2.2), (2.3) and (2.4) of the Act will not apply to deny the deduction under subsection 112(1) of the Act in respect of dividends received by B Co on the NewCo Preferred Shares and by NewCo on the A Co Preferred Shares.

B. Provided that the Newco and A Co Preferred Shares continue to be held for the purpose of gaining income from property, the interest paid or payable on the NewCo-B Co Note and the A Co-NewCo Note respectively, will be deductible by B Co and Newco respectively, pursuant to paragraph 20(1)(c) of the Act, to the extent that such amount does not exceed a reasonable amount.

C. Subsection 245(2) of the Act will not be applicable as a result of the proposed transactions, in and by themselves, to redetermine the tax consequences confirmed in the ruling given.

These rulings are given subject to the general limitations and qualifications set forth in Information Circular 70-6R5 dated May 17, 2002 issued by the CCRA, and are binding provided the proposed transactions are completed by XXXXXXXXXX.

These rulings are based on the Act as it currently reads and do not take into account any future amendments, whether currently proposed or not to the Act.

Yours truly,

XXXXXXXXXX
For Director
Financial Industries Division
Income Tax Rulings Directorate
Policy and Legislation Branch