18 May 2005 Internal T.I. 2005-0126891I7 - Proposed Subsections 127(10.22) and (10.23)

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: Application of proposed subsections 127(10.22) and (10.23) to differing scenarios

Position: General comments provided.

Reasons: The facts of each case must be examined in order to determine whether the draft provisions could apply to dis-associate a particular corporation from another corporation for SR&ED ITC purposes. Since these relieving provisions only determine association by ignoring the extended definition of "group of persons" in subsection 256(1.2)(a), it is necessary to determine, based on all of the facts, whether the corporations would otherwise be associated.

		May 18, 2005

	SR&ED Audit Directorate	HEADQUARTERS
	Mel Machado	Wayne Antle, CGA
	Financial Legislative Application Section	(613) 957-2102

	Attention:  Kevin Gibson
		2005-012689

Draft Legislation on Association of Corporations for Scientific Research and Experimental Development ("SR&ED") Investment Tax Credit ("ITC") Purposes

This is further to your memorandum of April 22, 2005, concerning the application of draft subsections 127(10.22) and (10.23) of the Income Tax Act (the "Act") to various scenarios presented by XXXXXXXXXX Unfortunately, we cannot provide any definitive comments on the application of these proposed provisions to the situations presented by XXXXXXXXXX without reviewing all of the facts surrounding each case. However, we will provide some general comments which may be of assistance.

Subsection 127(10.1) of the Act provides an additional ITC for certain Canadian-controlled private corporations ("CCPCs"), calculated as 15% of the least of three amounts, one of which is the corporation's "expenditure limit" for the year. A CCPC's expenditure limit for a taxation year is calculated under subsection 127(10.2) of the Act, and is generally $2 million, subject to certain reductions. However, where the CCPC is associated with other corporations, it must share the annual $2 million expenditure limit among the associated corporations. In addition, the phase out of the expenditure limit is based on the combined taxable income and taxable capital of a group of associated corporations.

CCPCs that are controlled (in law or in fact) by the same person or group of persons are considered to be associated corporations. Common investors in a CCPC that do not form a "group of persons" under the jurisprudence may nevertheless be considered to be a group of persons under the extended definition of that phrase in paragraph 256(1.2)(a) of the Act, which provides that a group of persons in respect of a corporation means any two or more persons each of whom own shares of the capital stock of a corporation.

Proposed subsection 127(10.22) provides a special relieving rule that can apply for the purpose of calculating a corporation's expenditure limit for a particular taxation year under subsection 127(10.2). Proposed subsection 127(10.22) will, subject to proposed subsection 127(10.23), apply to a particular corporation if the following three conditions are met:

? The particular corporation is associated with another corporation, but would not be so associated if the Act were read without reference to paragraph 256(1.2)(a).

? The particular corporation has issued shares to one or more persons who were also issued shares by the other corporation.

? There is at least one shareholder of the particular corporation who is not a shareholder of the other corporation, or one shareholder of the other corporation that is not a shareholder of the particular corporation.

If proposed subsection 127(10.22) applies to a particular corporation in respect of another corporation, the particular corporation will not be considered to be associated with the other corporation for the purpose of determining the particular corporation's expenditure limit under subsection 127(10.2), and for the purpose of determining the particular corporation's business limit under section 125 (as applied for the purpose only of determining the particular corporation's expenditure limit under subsection 127(10.2)). This relief from the application of paragraph 256(1.2)(a) for the particular corporation vis-à-vis its association with another corporation for SR&ED ITC purposes is to be determined on a corporation-by-corporation basis.

According to the technical notes issued by the Department of Finance, the purpose underlying proposed subsection 127(10.22) does not extend to shareholding structures that are intended to multiply the expenditure limit of corporations. Therefore, proposed subsection 127(10.23) of the Act provides that the relieving rule in subsection 127(10.22) will apply only if the following two conditions are met:

? The Minister of National Revenue is satisfied that the particular corporation and the other corporation would not otherwise be associated under the Act, ignoring the extended meaning of "group of persons" in paragraph 256(1.2)(a).

? The Minister is satisfied that the existence of one or more shareholders of the particular corporation, who are not shareholders of the other corporation, is not for the purpose of fulfilling the requirements of subsection 127(10.22).

The following points should be noted with respect to the application of these provisions:

? The draft provisions only affect the determination of whether a particular corporation is associated with another corporation for the purpose of determining the particular corporation's SR&ED ITC. The provisions do not impact whether corporations are associated for other purposes in the Act.

? In order to determine whether a particular corporation is associated with another corporation in situations where the draft provisions may apply, it is necessary to determine whether the corporations would otherwise be associated. The draft provisions only affect the determination of association by ignoring the extended meaning of "group of persons" in paragraph 256(1.2)(a) of the Act. Without applying paragraph 256(1.2)(a), it is a question of fact whether two or more corporations would otherwise be associated. For example, if a group of persons own shares in two corporations, and the group acts in concert to exercise control over each corporation's policy and affairs, then the two corporations would likely still be considered associated, even without considering paragraph 256(1.2)(a) of the Act.

? The determination of whether the draft provisions would apply must be made on a corporation-by-corporation basis. Therefore, in analyzing a particular set of facts, each particular corporation's association with another corporation should be considered separately in determining whether the draft provisions would be applicable.

Please note that our above comments would similarly apply in considering the application of proposed subsections 127.1(2.2) and (2.3) with respect to refundable ITCs for SR&ED.

We trust that our comments will be of assistance.

Wayne Antle, CGA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate