18 July 2006 Internal T.I. 2006-0170871I7 - Investment banker fees

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: Are investment banker fees paid by bidder on a commission basis to acquire remaining shares of target deductible under 20(1)(bb)?

Position: No

Reasons: Such fees are costs of acquisition

		July 18, 2006

	TORONTO NORTH TSO	HEADQUARTERS
	Large File Audit	C. Tremblay, CMA
	613 957-2139
	Attention:  Bethany Spencer
		2006-017087

Investment Counsel Fees - XXXXXXXXXX

This is in reply to your February 10, 2006 memorandum and is further to your e-mail of April 19, 2006 seeking our comments on your proposed response to a submission by a taxpayer with respect to a deduction claimed by XXXXXXXXXX under paragraph 20(1)(bb) of the Income Tax Act (the "Act").

XXXXXXXXXX.

It is a question of fact whether fees payable to investment bankers are deductible under paragraph 20(1)(bb) of the Act. The CRA has adopted a strict approach in the administration of paragraph 20(1)(bb) of the Act. The fees paid by a taxpayer must clearly relate to the purchase and sale of securities or to the management or administration of a taxpayer's portfolio to qualify for the deduction under paragraph 20(1)(bb) of the Act.

At the Round Table on Federal Taxation at the APFF 2004 Conference, we stated that since the fees payable to an investment banker are usually incurred in the course of acquiring a business (i.e., take-over) involving the acquisition of properties, the fees should be added to the cost of the shares acquired by the purchaser.

In the case at hand, some of the items listed as being performed by the investment banker to XXXXXXXXXX may have been deductible under paragraph 20(1)(bb) of the Act, however, the expenses are based on the successful acquisition of target and are calculated on a commission basis. In our view, the expenses should be added to the adjusted cost base of the shares purchased.

Various representatives have argued in the past that the success fees paid by bidders to investment bankers relate to the advisability of purchasing the target's share and a deduction under paragraph 20(1)(bb) of the Act should be allowed if the fees are within market norms. The argument is that those fees are "in respect of" administrating or managing shares owned by the taxpayer since the courts have stated that the words "in respect of" must be given their widest possible meaning. The phrase "in the course of" was looked at by the courts in the Yonge-Eglinton Building Ltd. 74 D.T.C. 6180 (F.C.A.) decision, where the court stated "What appears to me to be the test is whether the expense, in whatever taxation year it occurs, arose from the issuing or selling or borrowing. It may not always be easy to decide whether an expense has so arisen but it seems to me that the words "in the course of" in section 11(1)(cb) [the predecessor to paragraph 20(1)(e) of the Act] are not a reference to the time when the expenses are incurred but are used in the sense of "in connection with" or "incidental to" or "arising from" and refer to the process of carrying out of the things which must be undertaken to carry out the issuing or selling or borrowing for or in connection with which the expenses are incurred."

However, in our view, the words "...administration or management..." in subparagraph 20(1)(bb)(ii) of the Act are to be interpreted narrowly to include only custodial-type activities, and not general financial counselling activities or advice on buying a specific share. Accordingly, we are not prepared to allow a bidder who does yet own all of the shares of a particular corporation and seeks help from an investment banker on a commission basis to acquire the remainder of the shares, to claim a deduction under paragraph 20(1)(bb) of the Act. In the case at hand, the nature of the services performed and the payment to the investment banker was directly linked to the successful acquisition of the target. XXXXXXXXXX already owned most of the shares of target and, in our view, the commissions paid to the investment banker to acquire the remainder are a capital expenditure.

Although the characterization of an expense as income or capital is a question of fact, the Canadian courts have generally found that expenses incurred to preserve or protect a capital asset, expenses which secure a benefit of an enduring nature or expenses incurred with respect to investment transactions, will be on account of capital. See, for instance, Neonex International Ltd. v. The Queen, 78 DTC 6339 (FCA), D. Morgan Firestone v. The Queen 87 DTC 5237 (FCA), Graham Construction Engineering (1985) Limited v. The Queen, 97 DTC342 (TCC) and the cases cited therein.

You had also asked us for comments with respect to whether or not there is a method to determine a "reasonable" percentage in the absence of further documentation. In our view, in determining whether a fee is reasonable, the amount of time spent and the type of work done by the person providing the advice or service should be taken into consideration.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the electronic library version or they may request a copy severed using the Privacy Act criteria which does not remove client identity. Request for this latter version should be made by you to Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.

We trust our comments are of assistance.

Roberta Albert, CA
For Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch