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: Will an amendment to add a share appreciation right to a stock option plan result in the application of 7(1)(b) of the act?
Position: no
Reasons: The proposed amendment does not constitute a change so fundamental as to constitute a new agreement.
XXXXXXXXXX 2004-007382
XXXXXXXXXX, 2004
Dear XXXXXXXXXX:
Re: Advance Income Tax Ruling
XXXXXXXXXX
This is in reply to your letters from XXXXXXXXXX, requesting an advance income tax ruling on behalf of the above noted-taxpayer.
Unless otherwise stated, all references to a statute are to the Income Tax Act (Canada), R.S.C. 1985, c.1 (5th Supp.), as amended to the date of this letter, (the "Act"). All terms and conditions used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.
Our understanding of the facts, proposed transactions and purpose of the proposed transactions is as follows:
Definitions
Unless otherwise stated, in this letter the following terms and expressions have the meanings specified below:
A Co XXXXXXXXXX.
B Co XXXXXXXXXX, a wholly owned Canadian subsidiary of A Co.
C Co XXXXXXXXXX.
Controlling Entities A Co and B Co and the Parent Companies, collectively.
Exchange XXXXXXXXXX Stock Exchange.
Exercise Price the exercise price of each Stock Option equal to the closing market price of the C Co's common shares on the Exchange on the date of grant. If the common shares have not traded on the date of grant, the market price of the C Co's common shares on the date the common shares were last traded on the Exchange.
Individual Option Option Agreement A, Option Agreement B, Option.
Agreement Agreement C, and Option Agreement D.
Option Agreement A an agreement evidencing the terms and conditions upon which Stock Options are granted whereby the vesting terms are based solely on time based criteria; the Stock Option termination date references include factors such as voluntary cessation of employment and termination of the Employee with cause.
Option Agreement B an agreement evidencing the terms and conditions upon which Stock Options are granted whereby the vesting terms are based on time based and performance based criteria; the Stock Option termination date references include factors such as voluntary cessation of employment and termination of the Employee with cause.
Option Agreement C an agreement evidencing the terms and conditions upon which Stock Options are granted whereby the vesting terms are based solely on time based criteria; the Stock Option termination date does not reference factors such as voluntary cessation of employment and termination of the Employee with cause.
Option Agreement D an agreement evidencing the terms and conditions upon which Stock Option are granted whereby the vesting terms are based on time based and performance based criteria; the Stock Option termination date does not reference factors such as voluntary cessation of employment and termination of the Employee with cause.
Parent Companies XXXXXXXXXX.
Plan the Long-Term Incentive Plan, under which C Co may grant Stock Options to an executive or an other employee (the "Employee" and collectively "the Employees"). In addition, SARs may be included in Stock Options granted under the Plan. The terms of the Stock Options and SARs (if any) granted are documented in an Individual Option Agreement entered into between C Co and the Employees.
Proposed Amendment An amendment to all existing Individual Option Agreements to add SARs to the Stock Options.
SAR or "Share Appreciation Right" means a right to surrender, in whole or in part, an unexercised Stock Option to purchase common shares and to receive from C Co either common shares or cash, or a combination thereof, equal in value to the excess of the fair market value (deemed to be the weighted average trading price on the Exchange for the 3 trading days immediately preceding the date on which the SAR is exercised) of the common shares for which such Stock Option is surrendered over the aggregate Exercise Price in respect of such common shares.
Stock Option means a right that may be granted to the Employees pursuant to the terms of the Plan and an Individual Option Agreement which allows the Employee to purchase common shares at a set price for a future period.
Facts
1. C Co is incorporated under the Canada Business Corporations Act.
2. The Parent Companies hold all of the shares of A Co. The Parent Companies and A Co hold directly, or through B Co, approximately XXXXXXXXXX% of the common shares of C Co.
3. The common shares of C Co not held by the Controlling Entities are traded on the Exchange.
4. The Company currently provides Employees with Stock Options in accordance with the terms of the Plan and Individual Option Agreements.
5. A number of Stock Options have been granted and remain outstanding under the Plan. Some of the outstanding Stock Options have vested in accordance with the terms of applicable Individual Option Agreements and are currently exercisable and some have not yet vested.
6. There are no SARs currently attached to outstanding Stock Options. The Plan contemplates, however, that a SAR may be attached to a Stock Option to the extent the Individual Option Agreement references the SAR.
Proposed Transactions
7. C Co will amend all existing Individual Option Agreements to add SARs to the Stock Options.
8. C Co proposes that all future Individual Option Agreements entered into will include SARs as part of the grant of Stock Options.
Purpose of Proposed Transactions
9. The purpose of the Proposed Amendment is to provide Employees with greater flexibility in realizing the value of their Stock Options. Specifically, the addition of SARs to Stock Options through the Proposed Amendment will provide those Employees with the opportunity to exercise their Stock Options in the normal course, by paying the Exercise Price and receiving the common shares, or by exercising the SARs and receiving the economic value of the Stock Options in cash.
Moreover, as the exercise of SARs does not require an actual payment by an Employee, or the payment of brokerage fees to sell common shares on the exercise of Stock Options, SARs are a more cost-effective and administratively easier method of realizing the economic value of Stock Options than exercising the Stock Options and selling the common shares.
The attachment of SARs to Stock Options permits Employees to surrender vested options in return for a direct cash payment from C Co. Currently, Employees must exercise their Stock Options and sell the underlying Common Shares in order to receive the value of the options. This has the effect of diluting the C Co's common shares.
It is expected that the additional flexibility, cost effectiveness and administrative ease associated with the attachment of SARs will increase the perceived benefits associated with the Stock Options, thereby enhancing their utility as incentive compensation for Employees, and at the same time addressing dilution of the C Co's common shares.
10. To the best of your knowledge and that of C Co, none of the issues involved in this request for an advance income tax ruling is or has been:
(a) considered by a tax services office or taxation centre in connection with a previously filed tax return of C Co or a related person;
(b) under objection by C Co or a related person;
(c) before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has expired;
(d) the subject of a ruling previously issued by the Directorate, to C Co or to a person related to C Co.
(e) in an earlier return of C Co or a related person.
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, that the transactions are legally effective and provided that the transactions are completed as proposed, we rule as follows:
A. The implementation of the Proposed Amendment will not result in a disposition by an Employee of rights under the Plan or the disposition of the existing Stock Options for the purposes of paragraph 7(1)(b) or under the definition of "disposition" in subsection 248(1).
B. No amount will be included in the income of an Employee under sections 5, 6 or 7 as a result of the implementation of the Proposed Amendment to the existing Stock Options held by such Employee at the effective date of the Proposed Amendment.
C. The SARs to be added to an Employee's Stock Options pursuant to the Proposed Amendment will not constitute a salary deferral arrangement as defined in subsection 248(1).
D. In the case of an Employee who is resident in Canada, a cash payment paid to such Employee under the Plan in accordance with the Proposed Amendment upon the exercise of SARs, including any amount withheld in respect of taxes and other source deductions, will be included in the Employee's income for the taxation year in which the payment is received pursuant to paragraph 7(1)(b).
E. In the case of an Employee who is not a resident of Canada, a cash payment paid to such Employee under the Plan in accordance with the Proposed Amendment upon the exercise of SARs, including amounts withheld on account of taxes and other source deductions will be included in such Employee's income for the taxation year in which the payment is received pursuant to paragraph 7(1)(b) and subparagraph 115(1)(a)(i) to the extent that such payment relates to services rendered by the Employee in Canada.
F. Where the conditions of paragraph 110(1)(d) of the Act are satisfied with respect to a Stock Option that includes a SAR (that has been provided pursuant to the Proposed Amendment) such that the Employee who holds the Stock Option would be eligible for the deduction under paragraph 110(1)(d) if the Employee exercised the Stock Option and received common shares, such Employee will be eligible, pursuant to paragraph 110(1)(d), to deduct 50% of the cash payment the Employee receives in a taxation year upon exercising the SAR included with the Stock Option in computing the Employee's taxable income for the taxation year in which the Employee receives such payment.
G. Subject to section 67 and paragraph 18(1)(a), C Co will be entitled to deduct the gross amount of a cash payment made to Employees in respect of the Employees' exercise of SARs including any amount withheld in respect of taxes and other source deductions, in calculating its income for the taxation year in which the cash payment was made, in accordance with section 9. For greater certainty, paragraph 7(3)(b) of the Act will not apply to deny the deduction of the cash payment made by C Co to Employees in respect of the exercise of SARs by the Employees.
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 CRA, and are binding provided the proposed transactions are completed by XXXXXXXXXX.
These rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments to the Act.
Yours truly,
Section Manager
for Division Director
Financial Industries Division
Income Tax Rulings Directorate
Policy and Planning Branch
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