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 distribution of share premiums from a foreign corporation that could have been declared as a dividend but wasn't should be considered to be a dividend.
Reasons: It is better viewed as an authorized return of capital.
CANADA REVENUE AGENCE DU REVENU
AGENCY DU CANADA
MEMORANDUM NOTE DE SERVICE
DATE October 21, 2004
À DE E. Erskine
Mr. Tim Kuss 952-1361
International Tax Operations Division
International Tax Directorate
344 Slater St., 5th Floor
OBJET: Characterization of a Foreign Distribution for Purposes of the Income Tax Act (the "Act")
This is in response to your letter to us of February 2, 2004, regarding the above-noted subject matter. We also acknowledge our meeting of October 21, 2004 (Kuss/Wilson/Erskine/Laurikainen), wherein we informally discussed with you the results of our review.
Canco is the parent company of Forco1 and Forco2. Forco1 sold its loan portfolio to Forco2 in exchange for par value shares of Forco2 and a share premium amount equal to the difference between the fair market value of the loan portfolio and the face value of the par value shares. Some time later, a portion of the share premium was distributed to Forco1. Forco2 chose not to elect to declare this amount as a dividend, which was an option under the applicable foreign corporate law. Had Forco2 declared the amount as a dividend, the distribution would have attracted withholding tax in the country in which it was incorporated.
After reviewing this matter XXXXXXXXXX, we are of the opinion that the distribution from Forco2 was not a dividend for purposes of the Act. Rather, it was an authorized return of capital other than legal or paid-up capital.
To the extent that the character of a foreign distribution is not specified under the foreign corporate law (i.e. as a return of capital - other than legal capital - or as a dividend), the decision of the Tax Review Board in Cangro Resources Ltd., 67 DTC 582, should be applied. This means that where the foreign corporate law is silent as to the character of a distribution, the distribution will be considered to be a dividend for purposes of the Act as long as it meets the basic common
law requirements to be a dividend, such as being a pro rata distribution among shareholders of a particular class or series of shares. However, where the foreign corporate law specifies the character of a distribution, that characterization will generally be determinative for purposes of the Act.
In the situation that you asked us to review, the distribution of the share premiums could have been declared as a dividend under the foreign corporate law. As it was not, and we are satisfied that it was not a return of legal capital, we agree XXXXXXXXXX that the distribution was an authorized return of "paid-in capital" and not a dividend. The expression "paid-in capital" is used here to describe capital that is not legal capital (or paid-up capital), such as share premiums or contributed surplus.
XXXXXXXXXX. We trust that our comments have been helpful to you. If you have further questions concerning the issues discussed in this memo, please contact the officer noted above.
International and Trusts Division
Income Tax Rulings Directorate
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