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 1. Series of transactions to purify a foreign affiliate (i.e. make shares "excluded property") was subject to GAAR? 2. subparagraph 95(2)(a)(ii) could apply to re-characterize property income described in paragraph 20(14)(a)?
Position: 1. No; 2. Yes.
Reasons: 1. No. "misuse or abuse" based on facts; 2. Requisites for back-to-back operation of subparagraph 95(2)(a)(ii) are met.
XXXXXXXXXX 2004-009314
XXXXXXXXXX, 2004
Dear XXXXXXXXXX:
Re: Advance Income Tax Ruling
XXXXXXXXXX ("Pubco") (Account 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 that are defined for the 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";
? XXXXXXXXXX is "Pubco";
? XXXXXXXXXX is "Holdco";
? XXXXXXXXXX is "Opco";
? XXXXXXXXXX is "Target";
? XXXXXXXXXX is "Debtor 1";
? XXXXXXXXXX is "Lender"; and
? XXXXXXXXXX is "Debtor 2".
FACTS
1. Pubco is a widely held Canadian public corporation, which carries on an integrated business both in Canada and abroad, both directly and indirectly through subsidiaries and other affiliates, in XXXXXXXXXX. Pubco is a public corporation and a taxable Canadian corporation.
2. Holdco is a United States corporation, and a direct (as to XXXXXXXXXX percent) and indirect (as to XXXXXXXXXX percent) wholly-owned subsidiary of Pubco (XXXXXXXXXX, also a United States corporation, and a direct wholly-owned subsidiary of Pubco, owns the remaining XXXXXXXXXX percent of Holdco not held by Pubco). Holdco is a foreign affiliate and a controlled foreign affiliate of Pubco, and is resident in the United States for the purposes of the Act and the Canada-United States Income Tax Convention (the "US Treaty"). Holdco is a holding corporation, which owns a variety of other corporations that are members of the Pubco group of companies.
3. Opco is a United States corporation, a direct wholly-owned subsidiary of Holdco and, therefore, an indirect wholly-owned subsidiary of Pubco. Opco is a foreign affiliate and a controlled foreign affiliate of Pubco, and is resident in the United States for the purposes of the Act and the US Treaty. Opco carries on an active XXXXXXXXXX business in the United States.
4. Target is a XXXXXXXXXX corporation, and a direct wholly-owned subsidiary of Pubco. Target is a foreign affiliate and a controlled foreign affiliate of Pubco, and is resident in XXXXXXXXXX for the purposes of the Act and the Canada-XXXXXXXXXX Income Tax Convention (the "XXXXXXXXXX Treaty"). Target is the holding company of a group of companies involved in XXXXXXXXXX.
5. Each of Debtor 1, Lender and Debtor 2 is a United States corporation, and an indirect wholly-owned subsidiary of Pubco. Each of these corporations is a foreign affiliate and a controlled foreign affiliate of Pubco, and is resident in the United States for the purposes of the Act and the US Treaty. Pubco's equity percentage in Lender, Debtor 1 and Debtor 2 is equal to Pubco's participating percentage in those corporations. Opco does not hold any shares or other interest in Holdco or in Lender, nor does it have any right to acquire any such shares or other interest. Debtor 1 and Debtor 2 each carry on an active business in the United States.
6. On XXXXXXXXXX, Pubco announced its intention to launch an offer to acquire Target (the "Target Acquisition"). Pubco completed the Target Acquisition on XXXXXXXXXX. In anticipation of its acquisition of the shares of Target, Pubco needed to borrow approximately United States Dollars ("USD") XXXXXXXXXX of additional funds. The Canadian market did not provide adequate liquidity at the time and recourse to United States capital markets became necessary from a commercial perspective.
7. On XXXXXXXXXX, in order to facilitate Pubco's financing of the Target Acquisition in United States capital markets, Opco borrowed USD XXXXXXXXXX by issuing certain floating rate notes ("FRNs") in two tranches. The issuance of the FRNs into the US market directly by Pubco would have given rise to complexities and inefficiencies relating to the application of Canadian withholding taxes in respect of the interest paid on these short-term obligations. Thus, it was determined that the issuance of these obligations by Opco, followed by the on-lending of the proceeds to Pubco for purposes of the Target Acquisition, would be more efficient even though it would not avoid the application of Canadian withholding taxes. One tranche of the FRNs, in the amount of USD XXXXXXXXXX, is due to be repaid in XXXXXXXXXX. The other tranche of FRNs, also in the amount of USD XXXXXXXXXX, was due to be repaid in XXXXXXXXXX. However, in respect of this second tranche, Opco had negotiated a right to redeem the FRNs at any time on or after XXXXXXXXXX months from their issue date. It had always been the intention of Opco to redeem this portion of the FRNs during XXXXXXXXXX, and it had always been Pubco's intention to cause or enable Opco to so redeem the FRNs, and Pubco and Opco proceeded to do so on or about XXXXXXXXXX.
8. In addition, from and after XXXXXXXXXX, Opco borrowed funds in the United States capital markets through the issuance of commercial paper and as at XXXXXXXXXX, Opco had USD XXXXXXXXXX of outstanding commercial paper (the "Commercial Paper"). The reasons connected to the issuance of Commercial Paper by Opco and on lending of the proceeds therefrom to Pubco for purposes of the Target Acquisition, are the same as described in paragraph 7 above.
9. Opco has loaned to Pubco, in total approximately USD XXXXXXXXXX (the "Pubco Receivables") from the proceeds of the borrowings referred to in the immediately preceding two paragraphs. Each of these loans by Opco to Pubco was made on the same dates that the corresponding funds were borrowed by Opco. All of the loans that are collectively, the Pubco Receivables, are denominated in USD. Pubco has repaid to Opco USD XXXXXXXXXX of the Pubco Receivables, corresponding with USD XXXXXXXXXX of the FRNs repaid by Opco on or about XXXXXXXXXX.
10. Opco has discontinued the practice of issuing Commercial Paper and then re-loaning the net proceeds to Pubco and all of the outstanding Commercial Paper will be fully repaid by XXXXXXXXXX. As at the close of business on XXXXXXXXXX, the aggregate amount of Commercial Paper remaining outstanding was approximately USD XXXXXXXXXX. Therefore, the aggregate of the Pubco Receivables was, as at XXXXXXXXXX , approximate USD XXXXXXXXXX of which USD XXXXXXXXXX pertained to the tranche of FRNs due for repayment in XXXXXXXXXX, and USD XXXXXXXXXX pertained to the Commercial Paper.
11. Pubco guaranteed both the FRNs and the Commercial Paper.
12. Holdco has made a loan of approximately USD XXXXXXXXXX to Debtor 1 (the "Debtor 1 Loan"). The total amount currently owing under the Debtor 1 Loan, including accrued interest, was approximately USD XXXXXXXXXX, as of XXXXXXXXXX. The Debtor 1 Loan constitutes excluded property of Holdco, on the basis that interest payable thereon is deductible in computing the amounts prescribed to be the earnings or loss from an active business of Debtor 1 and the income derived therefrom is included in computing the active business income of Holdco pursuant to subparagraph 95(2)(a)(ii). Lender has made a loan of approximately USD XXXXXXXXXX to Debtor 2 (the "Debtor 2 Loan"). The total amount currently owing under the Debtor 2 Loan, including accrued interest, is approximately USD XXXXXXXXXX, as of XXXXXXXXXX. The Debtor 2 Loan constitutes excluded property of Lender, on the basis that interest payable thereon is deductible in computing the amounts prescribed to be the earnings or loss from an active business of Debtor 2 and the income derived therefrom is included in computing the active business income of Lender pursuant to subparagraph 95(2)(a)(ii).
PROPOSED TRANSACTIONS
13. Opco will sell by legal assignment to Holdco an interest in the Pubco Receivables having a principal amount (and accrued interest entitlement) equal to the amount then owing (in principal and interest) under the Debtor 1 Loan in consideration for the sale by legal assignment of the Debtor 1 Loan by Holdco to Opco.
14. Opco will sell by legal assignment to Lender its remaining interest in the Pubco Receivables in consideration for the sale by legal assignment by Lender to Opco of an interest in the Debtor 2 Loan representing an amount owing (in principal and interest) equal to the amount then owing (in principal and interest) to Opco under the remaining interest in the Pubco Receivables after the transaction described in paragraph 13 above.
15. None of the legal assignments described in paragraphs 13 and 14 above amount to a novation of the respective original debt obligations. None of the Pubco Receivables, Debtor 1 Loan and Debtor 2 Loan is an "income bond", an "income debenture", a "small business development bond" or a "small business bond" as those terms are defined in the Act.
PURPOSE OF THE PROPOSED TRANSACTIONS
16. Pubco has announced that it intends to effect a spin-off distribution of its XXXXXXXXXX division in accordance with a series of transactions and the shares of Opco will be transferred to Pubco by XXXXXXXXXX as part of that series of transactions. The purpose of the Proposed Transactions is to ensure that the existence of the Pubco Receivables does not taint the excluded property status of the shares of Opco.
17. Subsequent to the transfer of the shares of Opco to Pubco as part of the series of transactions described above in paragraph 16 above, each of Holdco and Lender may sell to Opco its interest in the Pubco Receivables, in consideration for the assignment by Opco to each of Holdco and Lender of Opco's interests in the Debtor 1 Loan and the Debtor 2 Loan. However, at no time will Opco have any pre-existing right to re-acquire the Pubco Receivables from Holdco or Lender nor will Holdco or Lender have any pre-existing right to re-acquire Debtor 1 Loan and Debtor 2 Loan respectively.
18. To the best of your knowledge and that of the taxpayer 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; or
iii) is being considered by a tax services office or a taxation centre in connection with a tax return already filed by the taxpayer or a related person.
RULINGS GIVEN
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 and provided the proposed transactions are legally effective and result in the transfer of the beneficial ownership of the Pubco Receivables, Debtor 1 Loan and Debtor 2 Loan, our rulings are as follows:
A. Pursuant to subparagraph 95(2)(f)(i), Opco will compute each taxable capital gain or allowable capital loss from the disposition of the Pubco Receivables in Canadian dollars ("CAD") and to the extent that there has been fluctuation in the value of USD relative to CAD, between the date(s) that each interest in the Pubco Receivables was sold by Opco to Holdco and Lender respectively as described in paragraphs 13 and 14 above, and the weighted average of those prevailing at the time that the relevant portions of the Pubco Receivables were issued, Opco will have made a gain or sustained a loss as the case may be for the purposes of subsection 39(2) which is included in the computation of Opco's foreign accrual property income in relation to Pubco. For the purposes of computing any such gain or loss, the amounts included in the income of Opco under paragraph 20(14)(a) as described in Rulings F and G below will be excluded from the proceeds of disposition of the Pubco Receivables.
B. Each of Holdco and Lender will be considered to have acquired their interest in the Pubco Receivables at the amounts in CAD determined as a function of the CAD/USD exchange rates prevailing on the date(s) each interest in the Pubco Receivables was sold by Opco to Holdco and Lender respectively as described in paragraphs 13 and 14 above, such that if the fair market value of the Pubco Receivables remains equal to its principal amount, any future foreign exchange gain or loss to be realized by Holdco and Lender in respect of the Pubco Receivables will be determined as a function of the difference between those rates and the rates prevailing at the time of any relevant future realization event in respect of these receivables. For the purpose of computing any such future gain or loss the amounts described in Ruling J below, will be excluded from the adjusted cost base to Holdco and Lender respectively of the Pubco Receivables.
C. The sale by legal assignment of the Pubco Receivables, Debtor 1 Loan and Debtor 2 Loan as described in paragraphs 13, 14 and 15 above will not result in the realization of any income or loss, or any foreign exchange or other gain or loss, for Pubco, Debtor 1 or Debtor 2 respectively.
D. Where by virtue of the sale by legal assignment of the Debtor 1 Loan by Holdco to Opco as described in paragraph 13 above, Opco has become entitled to an amount of interest that accrued on the Debtor 1 Loan for a period commencing before the time of sale and ending at that time that was not payable until after that time, paragraph 20(14)(a) would operate vis-à-vis Holdco to include that amount as interest in computing Holdco's income for the taxation year in which the sale occurred, except to the extent that it was otherwise included in computing Holdco's income for the year or a preceding taxation year. To the extent that such income would otherwise be income from property of Holdco, it will be included in computing the income from an active business of Holdco pursuant to clause 95(2)(a)(ii)(B) to the extent that, before taking into account the amount referable to the amount included by Holdco under paragraph 20(14)(a) that is deductible by Opco under paragraph 20(14)(b), Opco has an amount of "earnings" derived from the interest paid or payable to Opco under the Debtor 1 Loan, as defined in subsection (1) of Regulation 5907 which equals or exceeds the amount deductible pursuant to paragraph 20(14)(b).
E. Where by virtue of the sale by legal assignment of the Debtor 2 Loan by Lender to Opco as described in paragraph 14 above, Opco has become entitled to an amount of interest that accrued on the Debtor 2 Loan for a period commencing before the time of sale and ending at that time that was not payable until after that time, paragraph 20(14)(a) would operate vis-à-vis Lender to include that amount as interest in computing Lender's income for the taxation year in which the sale occurred, except to the extent that it was otherwise included in computing Lender's income for the year or a preceding taxation year. To the extent that such income would otherwise be income from property of Lender, it will be included in computing the income from an active business of Lender pursuant to clause 95(2)(a)(ii)(B) to the extent that, before taking into account the amount referable to the amount included by Lender under paragraph 20(14)(a), that is deductible by Opco under paragraph 20(14)(b), Opco has an amount of "earnings" derived from the interest paid or payable to Opco under the Debtor 2 Loan, as defined in subsection (1) of Regulation 5907 which equals or exceeds the amount deductible pursuant to paragraph 20(14)(b).
F. Where by virtue of the sale by legal assignment of an interest in the Pubco Receivables by Opco to Holdco as described in paragraph 13 above, Holdco has become entitled to an amount of interest that accrued on its interest in the Pubco Receivables for a period commencing before the time of sale and ending at that time that was not payable until after that time, paragraph 20(14)(a) would operate vis-à-vis Opco to include the amount as interest in the computation of Opco's foreign accrual property income, except to the extent that it was otherwise included in computing Opco's income for the year or a preceding taxation year.
G. Where by virtue of the sale by legal assignment of an interest in the Pubco Receivables by Opco to Lender as described in paragraph 14 above, Lender has become entitled to an amount of interest that accrued on its interest in the Pubco Receivables for a period commencing before the time of sale and purchase and ending at that time that was not payable until after that time, paragraph 20(14)(a) would operate vis-à-vis Opco to include the amount as interest in the computation of Opco's foreign accrual property income except to the extent that it was otherwise included in computing Opco's income for the year or a preceding taxation year.
H. Where by virtue of the sale of the Debtor 1 Loan and Debtor 2 Loan by Holdco and Lender respectively to Opco, Opco has become entitled to an amount of interest that accrued on Debtor 1 Loan and Debtor 2 Loan respectively, to the extent the amount was included as interest in computing Holdco's and Lender's respective incomes for the taxation year in which the sale occurred pursuant to paragraph 20(14)(a) as described in Rulings D and E above, Opco may deduct an amount equal to each of those amounts in computing its income for the year pursuant to paragraph 20(14)(b) and such amounts shall be deducted in computing the adjusted cost base to Opco of the Debtor 1 Loan and the interest in the Debtor 2 Loan pursuant to paragraph 53(2)(l).
I. Pursuant to subsection (2.7) of Regulation 5907, each amount that is included in computing the income or loss from an active business of Holdco and Lender respectively under subparagraph 95(2)(a)(ii) as described in Rulings D and E above shall be deducted in computing the earnings of Opco from an active business in the taxation year of Opco in which the Debtor 1 Loan and the Debtor 2 Loan are purchased.
J. Where by virtue of the sale of the Pubco Receivables, Holdco and Lender have become entitled to an amount of interest that accrued on the Pubco Receivables for a period commencing before the time of sale and ending at that time that is not payable until after that time, to the extent an amount was included as interest in computing Opco's income for the taxation year in which the sale occurred pursuant to paragraph 20(14)(a) as described in Rulings F and G, Holdco and Lender may deduct in computing their foreign accrual property income for the year, the amount that is described in Rulings F and G respectively pursuant to paragraph 20(14)(b). Such amount as is deductible by Holdco and Lender respectively shall be deducted in computing the adjusted cost base to Holdco and Lender of their interests in the Pubco Receivables pursuant to paragraph 53(2)(l).
K. As a consequence of the sale of Pubco Receivables by Opco as described in paragraphs 13 and 14 above, in determining whether or not the shares of Opco constitute excluded property after that time, the Pubco Receivables will be disregarded, and Opco will, as a result of the Proposed Transactions, be considered to be the owner of the Debtor 1 Loan, and of the proportionate interest in the Debtor 2 Loan as described in paragraphs 13 and 14 above. For these purposes, provided that the right to receive the principal amount of the Debtor 1 Loan and the right to receive the principal amount of the interest in the Debtor 2 Loan constitute excluded property of Opco, the right to receive accrued interest under the Debtor 1 Loan and the Debtor 2 Loan will also constitute excluded property of Opco.
L. The income derived from the interest earned by Holdco and Lender on their respective interests in the Pubco Receivables, constitutes foreign accrual property income to Holdco and Lender.
M. Subsection 245(2) will not be applied as a result of the Proposed Transactions, in and by themselves, to re-determine the tax consequences described in the rulings given above.
The above rulings are based on the Act in its present form and do not take into account any proposed amendments to the Act and are given subject to the limitations and qualifications set out in Information Circular 70-6R5 dated May 17, 2002, issued by the Canada Revenue Agency ("the CRA") and are binding on the CRA provided that the proposed transactions are completed before XXXXXXXXXX.
Provided the Legislative Proposals introduced by the Department of Finance on February 27, 2004 (the "Legislative Proposals") are enacted into law as currently worded, it is our opinion that Rulings D and E will also apply if the interest paid on the Debtor 1 Loan and the Debtor 2 Loan would be deductible in computing the amount that would be prescribed to be the "loss" of Opco.
Upon the repayment of the FRNs and Commercial Paper sometime in XXXXXXXXXX as described in paragraph 10 above, paragraph 95(2)(i) will not apply to any gain or loss of Opco from the settlement or extinguishment of those debts and Opco will compute pursuant to subparagraph 95(2)(f)(i), any taxable capital gain or allowable capital loss in Canadian dollars that will be included in the computation of Opco's foreign accrual property income in relation to Pubco.
Nothing in this letter shall be construed as implying that the CRA has accepted or otherwise agreed:
i) to the determination of the amount of the adjusted cost base of any property referred to herein or the fair value of any assets transferred or payments made;
ii) to the validity of any agreements or terms and conditions therein;
iii) to surplus balances of foreign affiliates referred to herein;
iv) to the determination of the amount of interest that accrued on the Pubco Receivables, Debtor 1 Loan or Debtor 2 Loan before the time of the Proposed Transactions but was not payable until after that time;
v) that the general anti-avoidance rule will not apply to completed or future transactions other than the Proposed Transactions as described in this letter;
vi) to any other tax consequences relating to any facts or proposed transactions referred to herein, other than as specifically described in the rulings given above; or
vii) to any other tax consequences relating to any facts or proposed transactions referred to herein as a result of the legislative proposals introduced by the Department of Finance on December 20, 2002, and February 27, 2004.
Yours truly,
XXXXXXXXXX
Section Manager
for Division Director
International & Trusts Division
Income Tax Rulings Directorate
Policy and Planning Branch
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