2005 Ruling 2005-0137101R3 - Reduction of PUC by public corporation

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 proposed reduction of PUC by a public corporation is on the "reorganization of business" for the purposes of subsection 84(2)?

Position: Yes.

Reasons: It meets the tests set out in the Kennedy decision.

XXXXXXXXXX 									2005-013710

XXXXXXXXXX, 2005

Dear XXXXXXXXXX:

Re: XXXXXXXXXX

This is in reply to your letter of XXXXXXXXXX, and your e-mails of XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-noted taxpayer.

To the best of your knowledge and that of the taxpayer, none of the issues involved in this ruling:

a) is in an earlier return of the taxpayer or a related person;

b) is being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayer or a related person;

c) is under objection by the taxpayer or a related person;

d) is before the courts; or

e) is the subject of a ruling previously issued by the Income Tax Rulings Directorate.

Definitions

In this ruling, all dollar amounts referred to herein are in Canadian dollars and, unless otherwise indicated:

a) "Act" means the Income Tax Act (Canada), and, unless otherwise expressly stated, every reference to a part, section or subsection, paragraph or subparagraph and clause or subclause is a reference to the relevant provision of the Act, and the Income Tax Regulations thereunder are referred to as the "Regulations";

b) "adjusted cost base" or "ACB" has the meaning assigned by subsection 248(1);

c) XXXXXXXXXX;

d) "capital" has the meaning assigned by the XXXXXXXXXX;

e) "FMV" means fair market value;

f) "Pubco" means XXXXXXXXXX;

g) "Subco" means XXXXXXXXXX;

h) "paid-up capital" ("PUC") has the meaning assigned by subsection 89(1);

i) "public corporation" has the meaning assigned by subsection 89(1);

j) "Proposed Transactions" means the transactions described in paragraphs 11 and 12 of this ruling;

k) "special resolution" has the meaning assigned by the XXXXXXXXXX;

l) "taxable Canadian corporation" has the meaning assigned by subsection 89(1); and

m) "taxable dividend" has the meaning assigned by subsection 89(1).

Our understanding of the facts, proposed transactions and the purposes of the proposed transactions is as follows:

Facts

1. Pubco was incorporated under the XXXXXXXXXX. Pubco is a public corporation and a taxable Canadian corporation. Pubco's CRA business number is XXXXXXXXXX and it files its income tax returns with the XXXXXXXXXX Taxation Centre but otherwise deals with the XXXXXXXXXX Tax Services Office.

2. XXXXXXXXXX

3. Pubco's share capital consists of XXXXXXXXXX authorized common shares without par value, of which XXXXXXXXXX were issued and outstanding as of XXXXXXXXXX

4. The PUC attributable to the issued common shares of Pubco is approximately $XXXXXXXXXX.

5. In XXXXXXXXXX, Pubco's wholly-owned XXXXXXXXXX subsidiary, XXXXXXXXXX. ("Pubco XXXXXXXXXX"), as agent for Pubco, entered into a joint venture agreement with XXXXXXXXXX., a subsidiary of the XXXXXXXXXX. Pursuant to the terms of this joint venture agreement, Pubco acquired the right to earn a XXXXXXXXXX% interest in the XXXXXXXXXX property by making XXXXXXXXXX expenditures totalling $XXXXXXXXXX in phases over XXXXXXXXXX years.

6. On XXXXXXXXXX, Pubco incorporated Subco under the XXXXXXXXXX as the first stage of a planned reorganization of its business into XXXXXXXXXX distinct operating units; XXXXXXXXXX. Subco's authorized share capital consists of an unlimited number of common shares without par value, without special rights and restrictions attached.

7. Pursuant to an assignment agreement entered into in XXXXXXXXXX among Pubco, Pubco XXXXXXXXXX, XXXXXXXXXX ("Forco"), another wholly owned subsidiary of Pubco, and Subco, and effective on the incorporation of Subco, Pubco, Pubco XXXXXXXXXX and Forco transferred to Subco all their respective rights to participate in the XXXXXXXXXX Joint Venture and other XXXXXXXXXX projects in XXXXXXXXXX in consideration for XXXXXXXXXX common shares of Subco. Pubco and Subco filed an election pursuant to section 85 in respect of the transfers XXXXXXXXXX.

8. In XXXXXXXXXX, Subco issued XXXXXXXXXX special warrants at a price of $XXXXXXXXXX per special warrant for total subscription proceeds of $XXXXXXXXXX to finance the expenditure commitments required under the XXXXXXXXXX joint venture agreement. XXXXXXXXXX of this offering was subscribed for by an arm's length public company involved in the XXXXXXXXXX. Each special warrant is convertible into one common share of Subco upon the earlier of one year from the date of issuance of the special warrants or the date that Subco obtains a final receipt from Canadian securities regulators qualifying the conversion of the special warrants into common shares.

9. In XXXXXXXXXX, Subco issued XXXXXXXXXX special warrants at a price of $XXXXXXXXXX per special warrant for total subscription proceeds of $XXXXXXXXXX to finance its future working capital requirements and to further the XXXXXXXXXX projects and to identify and acquire additional XXXXXXXXXX projects.

10. Subco is currently in the process of preparing its prospectus submission to Canadian securities regulators to qualify the conversion of all outstanding special warrants as well as an initial public offering of its common shares. In conjunction with the prospectus submission, Subco will file an application for the listing of its common shares on the XXXXXXXXXX Stock Exchange.

Proposed Transactions

11. As part of its overall plan for reorganizing its XXXXXXXXXX activities through a XXXXXXXXXX, Pubco proposes to distribute to its shareholders XXXXXXXXXX common shares of Subco. This is intended to represent a one-time distribution leaving Pubco with a carried, but not controlling, interest in Subco. The retention of the carried interest was deemed desirable by the board of directors of Pubco to protect the interests of its shareholders given the significant interest in Subco held by another public company.

12. Pubco will hold an annual general meeting in XXXXXXXXXX, at which time its shareholders will be asked to approve a reduction of capital, consideration for which will be paid by way of distribution of XXXXXXXXXX common shares of Subco (pro-rata to the shareholdings of Pubco). The special resolution will provide that the amount of capital reduction will be fixed upon the distribution of the Subco common shares based on their trading value at the distribution date. It is anticipated that a court order will not be required to effect the reduction in capital.

Additional Information

13. Neither Pubco nor Subco has any outstanding tax liabilities that could be affected by the Proposed Transactions.

14. The proposed reduction in the capital of Pubco's common shares has not been preceded by any other transaction that resulted in an increase in PUC, except for increases attributable to the exercise of options and warrants and in respect of subscriptions received for private placements of common shares.

15. The proposed reduction in capital and distribution of common shares of Subco is not in lieu of ordinary dividends. Pubco has no history of paying dividends to its shareholders. This proposed reduction in capital is intended to be a one-time transaction.

Purpose of the Proposed Transactions

16. Pubco believes that it is in the best interests of its shareholders to segregate XXXXXXXXXX activities as between XXXXXXXXXX. The segregation of its XXXXXXXXXX properties into a separate corporation will facilitate raising capital into Subco from investors with specific interests in XXXXXXXXXX properties. The proposed transactions will result in the conclusion of Pubco's direct participation in XXXXXXXXXX and the continuation of those undertakings through a different form, Subco, in which Pubco will retain a non-controlling carried interest.

17. The distribution of Subco shares to Pubco shareholders is viewed as important in fostering a separate public profile and market for Subco shares. The retention of Subco shares by Pubco is deemed necessary to protect the interests of Subco shareholders by balancing Pubco's carried interest in Subco against the significant interest in Subco held by another public company.

Rulings

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, proposed transactions and the purpose of the proposed transactions, we rule as follows:

A) Subject to the application of subsection 40(3), the reduction in the capital of the common shares of Pubco, described in paragraph 12 above, will not, in and by itself, result in a disposition, within the meaning of subsection 248(1), of Pubco's common shares.

B) Subsection 84(2) will apply, and subsection 84(4.1) will not apply, to the distribution made by Pubco in respect of the reduction in the capital of its common shares, as described in paragraph 12 above, such that Pubco will only be deemed to have paid, and each of the holders of Pubco's common shares will be deemed to have received, a dividend only to the extent that the amount so distributed by Pubco to each particular holder on the reduction exceeds the amount by which the PUC in respect of such shares is reduced on the distribution.

C) Where a taxpayer holds Pubco common shares as capital property, the amount received by the taxpayer on the reduction of the PUC of that taxpayer's Pubco common shares, as described in paragraph 12 above, will be deducted in computing the ACB of that taxpayer's Pubco common shares by virtue of subparagraph 53(2)(a)(ii) to the extent that the amount received, or such portion thereof, is not otherwise deemed by subsection 84(2) to be a dividend received by such taxpayer.

D) Subject to the application of section 47, the cost to a Pubco shareholder of a Subco common share received on the distribution of Subco shares by Pubco, will be equal to the FMV of the Subco common share at that time.

These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 and are binding on the Canada Revenue Agency provided that the proposed transactions are completed before XXXXXXXXXX. These rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted into law, could have an effect on the rulings provided herein.

COMMENTS

Nothing in this letter should be construed as implying that the Canada Revenue Agency has confirmed, reviewed or has made any determination in respect of:

a) the PUC of any share or the ACB or FMV of any property referred to herein: or

b) any other tax consequences relating to the facts or proposed transactions other than those specifically described in the rulings given above.

Yours truly,

XXXXXXXXXX
Manager
Corporate Reorganizations Section
Reorganizations and Resources Division
Income Tax Rulings Directorate

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