30 April 2004 External T.I. 2004-0057531E5 - Forgiveness of debt; bankruptcy

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.

Principal Issues: Whether a corporation that is insolvent falls within (i) in the definition of forgiven amount in 80(1)

Position: Not unless it is also bankrupt

Reasons: Definition of bankrupt

		2004-005753
XXXXXXXXXX 	Denise Dalphy, LL.B.
(613) 941-1722
April 30, 2004

Dear XXXXXXXXXX:

We are writing in reply to your letter dated January 21, 2004 wherein you requested our views on the potential application of the debt forgiveness rules in section 80 of the Income Tax Act (the "Act") in a situation where a corporation that is wholly-owned by one shareholder has an accounting deficit in an amount that is equal to an outstanding loan that was made by that shareholder to the corporation and the shareholder wishes to wind-up the corporation pursuant to paragraph 238(1)(e) of the Ontario Business Corporations Act.

The Law

In subsection 80(1) of the Act, the term " forgiven amount" "in respect of a commercial obligation issued by a debtor is the amount determined by the formula A-B..." where "A is the lessor of the amount for which the obligation was issued and the principal amount of the obligation" and B includes, inter alia, paragraph "(i) where the debtor is a bankrupt at that time, the principal amount of the obligation".

Subsection 248(1) of the Act provides that "bankrupt" "has the meaning assigned by the Bankruptcy and Insolvency Act (the "BIA").

Subsection 2(1) of the BIA includes the following definitions:

""assignment" means an assignment filed with the official receiver;"

""bankrupt" means a person who has made an assignment or against whom a receiving order has been made or the legal status of that person;"

""insolvent person" means a person who is not bankrupt and who resides, carries on business or has property in Canada, whose liabilities to creditors provable as claims under this Act amount to one thousand dollars, and

(a) who is for any reason unable to meet his obligations as they generally become due,

(b) who has ceased paying his current obligations in the ordinary course of business as they generally become due, or

(c) the aggregate of whose property is not, at a fair valuation, sufficient, or, if disposed of at a fairly conducted sale under legal process, would not be sufficient to enable payment of all his obligations, due and accruing due;"

Subsection 238(1) of the BIA provides:

"For the purpose of bringing the dissolution under clause 237(a) or (b) into effect acrticles of dissolution shall follow the prescribed form and shall set out...

(c) that is has no debts, obligations or liabilites or that its debts, obligations or liabilites have been duly provided for in accordance with subsection (3) or its creditors or other persons having interests in the debts, obligations or liabilities consent to its disslution;"

Our Comments

Written confirmation of the consequences inherent in particular transactions are given by this directorate only where the transactions are seriously proposed in the near future and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R5. In particular it would appear, based on the details provided in your submission, that your transactions are partially completed or completed, and that your relevant Tax Services Office should address these issues. Notwithstanding the foregoing, we are providing the following comments.

A person who is at law an insolvent person, but who does not have legal status of a "bankrupt" ("A debtor whose estate is vested in a trustee for division amongst his creditors, pursuant to an order of the court adjudicating him bankrupt" - Osborn's Concise Law Dictionary, sixth edition, Sweet & Maxwell) would not fall within the ambit of paragraph (i) in variable B of the definition "forgiven amount" in subsection 80(1) of the Act.

Further, neither of paragraphs 80(2)(g) or (g.1) of the Act would resolve this situation without triggering the debt forgiveness rules in section 80 of the Act since the fair market value of any shares issued or the increase in the value of shares would be nil. However, subsection 61.3(1) of the Act was enacted to provide some relief for insolvent companies from the debt forgiveness rules. In general terms, subsection 61.3(1) of the Act provides for a deduction, the net effect of which is that an insolvent corporation is required to recognize income as a consequence of subsection 80(13) of the Act only to the extent of twice the amount of the corporation's net assets.

The foregoing comments represent our general views with respect to the subject matter. As indicated in paragraph 22 of Information Circular 70-6R5, the above comments do not constitute an income tax ruling and accordingly are not binding on the Canada Revenue Agency. Our practice is to make this specific disclaimer in all instances in which we provide an opinion.

Yours truly,

Steve Tevlin
Manager
Corporate Financing Section
Financial Industries Division
Income Tax Rulings Directorate