2005 Ruling 2005-0152441R3 - Interest deduction on notes

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: 1) Is interest on the Notes the proceeds of which are used for the purpose of earning income from a business deductible under paragraph 20(1)(c)?

2) Is a discount paid in satisfaction of the principal amount deductible under paragraph 20(1)(f)?

Position: 1) Yes 2) Yes

Reasons: Use of funds is capital. Shallow discount may apply.

XXXXXXXXXX 	 							2005-015244

XXXXXXXXXX, 2005

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling - XXXXXXXXXX

This is in reply to your letter of XXXXXXXXXX, wherein you request an Advance Income Tax Ruling on behalf of XXXXXXXXXX ("A Co"). We also acknowledge information provided during various telephone conversations (XXXXXXXXXX).

We understand that to the best of your knowledge and that of the taxpayer involved none of the issues involved in the requested ruling is:

(i) in an earlier return of a taxpayer identified in this document or of a related person,

(ii) being considered by any Tax Services Office or Taxation Centre of the Canada Revenue Agency ("CRA") in connection with a tax return already filed,

(iii) under objection by a taxpayer identified in this document or by a related person;

(iv) is before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; and

(v) is the subject of a previously issued ruling.

Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended, (the "Act") and 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 and proposed transactions is as follows:

DEFINITIONS

"A Co" means XXXXXXXXXX;

"Administrative Action" has the meaning set out in the definition of "Tax Event" below;

"Benchmark Shares" means, XXXXXXXXXX;

"Canadian GAAP" means Canadian generally accepted accounting principles;

"Conversion Event" means the occurrence of any of the following events: XXXXXXXXXX;

"Conversion Ratio" means that number of Preferred Shares of A Co determined by the quotient A/B where A is equal to the aggregate of (i) the Face Value of the Notes and (ii) the accrued but unpaid interest thereon, and B is the Market Price of the Benchmark Shares;

"CYP Redemption Price" means the greater of (i) the Face value and (ii) XXXXXXXXXX, together in each case with accrued and unpaid interest thereon to, but excluding the redemption date;

"Deferred Interest" means interest on the Notes the payment of which has been deferred as described in paragraph 9 below;

"Face Value" has the meaning set out in paragraph 5 below;

XXXXXXXXXX;

XXXXXXXXXX.

"Initial Interest Reset Date" means the XXXXXXXXXX anniversary of the day the Notes are issued;

"Interest Deferral Event" shall occur when, on any day that A Co reports financial results for a financial quarter, A Co does not report cumulative consolidated net income (as determined in accordance with Canadian GAAP) for the immediately preceding four quarters and during the immediately preceding financial quarter, A Co failed to declare any cash dividends on XXXXXXXXXX;

"Interest Reset Date" means the Initial Interest Reset Date and every XXXXXXXXXX anniversary thereafter;

"Market Price" means, at any particular time, XXXXXXXXXX;

"Maturity" means the expiration of the term of XXXXXXXXXX years of the Notes;

"Note" or "Notes" means the subordinated indebtedness to be issued by A Co as described herein;

XXXXXXXXXX

XXXXXXXXXX

"Par Redemption Price" in respect of a Note means the aggregate of (i) the Face Value of the Note and (ii) any accrued and unpaid interest on the Note up to, but excluding, the applicable redemption date;

"Preferred Shares" means XXXXXXXXXX, as described in paragraph 17 below;

XXXXXXXXXX;

"Special Event Redemption" means redemption of the Notes following the occurrence of a XXXXXXXXXX or a XXXXXXXXXX Event;

XXXXXXXXXX

"XXXXXXXXXX Event" means XXXXXXXXXX

"Trust Indenture" means the indenture entered into between A Co and the Trustee in respect of the Notes;

"Trustee" means XXXXXXXXXX acting as trustee under the Trust Indenture; and

FACTS

1. A Co is a "taxable Canadian corporation" and a "public corporation" within the meaning of subsection 89(1) of the Act. XXXXXXXXXX.

2. A Co's executive offices are situated at the XXXXXXXXXX. Its Taxation Centre is the XXXXXXXXXX Taxation Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office. A Co's business number is XXXXXXXXXX.

3. A Co's authorized capital includes common shares, which are widely held and traded on the XXXXXXXXXX and an unlimited number of XXXXXXXXXX preferred shares, issuable in more than one series.

PROPOSED TRANSACTIONS

4. Subject, inter alia, to the receipt of a favourable advance income tax ruling, A Co proposes to issue the Notes in a public offering in Canada.

5. The Notes will be issued pursuant to the Trust Indenture. The Notes will have a nominal face value of $XXXXXXXXXX (the "Face Value") and will be issued for a price approximately equal to their Face Value. If issued at a discount, the issue price will not be less than XXXXXXXXXX% of the Face Value. A Co anticipates issuing Notes having an aggregate Face Value of $XXXXXXXXXX.

6. The Notes will constitute subordinated, unsecured indebtedness of A Co and rank pari passu with all other subordinated indebtedness of A Co and will be subordinate to all XXXXXXXXXX liabilities of A Co and all other liabilities of A Co except liabilities which by their terms rank in right of payment equally with or subordinate to the Notes.

7. A holder of the Notes will have no right to vote at any meeting of shareholders of A Co and will have no right to participate in the profits of A Co. The Notes will rank superior to A Co shares in the event of A Co's insolvency, liquidation, dissolution or winding-up.

Accrual and Payment of Interest

8. From the date of issue of the Notes to but excluding the Initial Interest Reset Date, the Notes will bear interest at a fixed annual rate, which will reflect prevailing interest rates at the date of issue. On and after the Initial Interest Reset Date, the interest rate will be reset on each Interest Reset Date at an interest rate per annum XXXXXXXXXX.

Deferral of Interest

9. Following the occurrence of an Interest Deferral Event, A Co will have the right to defer, at any time and from time to time, subject to certain conditions, payments of interest on the Notes. All accrued Deferred Interest must be paid before regular interest payments may be resumed and none of the Deferral Interest may extend beyond the date of Maturity of the Notes.

10. While any Deferred Interest remains unpaid: (a) Deferred Interest will continue to accrue on a non-compounding basis; (b) A Co shall not declare or pay dividends (other than stock dividends) on, or redeem or repurchase any of its XXXXXXXXXX preferred shares or common shares; and (c) A Co shall not make any payment of principal, interest or premium on any indebtedness that ranks subordinate to the Notes.

Redemption

11. Except upon the occurrence of a XXXXXXXXXX or a XXXXXXXXXX Event, the Notes will not be redeemable by A Co during the first XXXXXXXXXX years following their issue.

12. On any day on and after the XXXXXXXXXX anniversary of the issuance of the Notes that is not an Interest Reset Date, A Co may, at its option XXXXXXXXXX and on XXXXXXXXXX notice to the holders of the Notes, redeem all or part of the outstanding Notes by the payment of an amount in cash for each Note equal to the CYP Redemption Price.

13. On any Interest Reset Date, A Co may, at its option XXXXXXXXXX, and on XXXXXXXXXX notice to the holders of the Notes, redeem all or part of the outstanding Notes by the payment of an amount in cash for each Note equal to the Par Redemption Price.

Special Event Redemption

14. Upon the occurrence of a XXXXXXXXXX Event or a XXXXXXXXXX prior to the XXXXXXXXXX anniversary of the issuance of the Notes, A Co may, at its option and without the consent of any holder of Notes XXXXXXXXXX, and upon XXXXXXXXXX notice to the holders of the Notes, redeem all but not less than all the outstanding Notes by the payment of an amount in cash equal to the CYP Redemption Price.

Repurchase

15. At any time on or after the XXXXXXXXXX anniversary date of the issuance of the Notes, A Co may, XXXXXXXXXX, purchase for cancellation any Notes. Such purchase or purchases for cancellation may be made by A Co in the public markets, by tender or by private contract and may be at such price or prices and upon such terms as A Co may determine, subject to applicable laws restricting such a purchase.

Conversion

16. The Notes will not be convertible into any other property except as described below.

17. Upon the occurrence of a Conversion Event the Notes will automatically be converted effective as of XXXXXXXXXX on the day prior to the day of the occurrence of the Conversion Event into fully-paid and freely-tradeable Preferred Shares based on the Conversion Ratio.

Events of Default

18. Only upon the insolvency or bankruptcy of A Co will the holders of Notes be entitled to be paid the principal amount of the Notes in cash prior to Maturity.

Maturity

19. On Maturity A Co will repay the principal amount of the Notes then outstanding, together with all accrued but unpaid interest in cash.

PURPOSE OF PROPOSED TRANSACTIONS

20. The purpose of the proposed transactions is to borrow money to be used for the purpose of earning income from a business or property (other than to acquire property the income from which would be exempt or to acquire a life insurance policy). The terms of the Notes described in paragraphs 6, 9, 10, 16 and 17 are required to ensure that XXXXXXXXXX

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, proposed transactions and purpose of the proposed transactions, and provided that the funds raised by the issuance of the Notes are used by A Co the purpose of gaining or producing income from a business or property, we rule as follows:

A. Provided that A Co has a legal obligation to pay interest on the Notes as described in paragraphs 4 to 8 above, A Co will be entitled to deduct pursuant to paragraph 20(1)(c) of the Act the interest paid or payable (depending on the method regularly followed by A Co in computing its income) in respect of a year as interest on the Face Value of the Notes in computing its income for the year.

B. Provided the amount of any discount paid by A Co in satisfaction of the principal amount of the Notes is equal to or less than 3% of its principal amount, the discount will be deductible by A Co in computing its income pursuant to subparagraph 20(1)(f)(i) of the Act in the year of such payment.

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 is 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 any future amendments, whether currently proposed or not, to the Act.

Yours truly,

XXXXXXXXXX
For Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Policy and Planning Branch