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. Whether the disposition of the Newco's interests in various LLC's qualifies as an "eligible distribution" within the meaning thereof in subsection 86.1(2) of the Act. 2. Whether the subsequent merger of the Company with and into New LLC qualifies as a "foreign merger" within the meaning thereof in subsection 87(8.1) of the Act.
Position: 1. Yes 2. No.
Reasons: 1. Satisfies all of the requirements of subsection 86.1(2) of the Act.
2. The merger does not satisfy the requirement in paragraph 87(8.1)(a) of the Act that all or substantially all of the property of the Company become property of New LLC as a consequence of the merger.
June 20, 2007
XXXXXXXXXX HEADQUARTERS
Auditor A. Seidel, CMA
International Tax (613) 957-2058
XXXXXXXXXX Taxation Services Office
2006-017894
XXXXXXXXXX & Subsection 86.1(1) Spin-off
We are writing in response to your March 29, 2006 memorandum in which you requested our comments as to whether the shares of XXXXXXXXXX (referred to herein as "New Company") that were distributed to the shareholders (the "Shareholders") of XXXXXXXXXX (referred to herein as "Newco"), as part of the series of transactions that resulted in the re-structuring of, and subsequent disposition of the remaining assets of, XXXXXXXXXX (the "Company") were an "eligible distribution" within the meaning thereof in subsection 86.1(2) of the Income Tax Act (the "Act").
Background
1. The Company was incorporated in the United States and was a public corporation that was actively traded on the XXXXXXXXXX Stock Exchange (the "Exchange").
2. The Company had a XXXXXXXXXX% ownership interest in XXXXXXXXXX (the "LLC"). XXXXXXXXXX, a wholly-owned subsidiary of XXXXXXXXXX, owned the remaining XXXXXXXXXX% interest in the LLC.
3. The Company also owned a XXXXXXXXXX% interest in LOOP LLC and an XXXXXXXXXX% interest in LOCAP LLC (together referred to herein as the "Other LLC's"). The operations of the Other LLC's are connected to the operations of the LLC.
4. The Company incorporated a new, wholly-owned corporation ("Newco").
5. Newco then incorporated New Company, as a wholly-owned corporation, and formed EXM LLC ("New LLC"), a wholly-owned, single member, LLC.
6. The LLC redeemed a portion (approximately XXXXXXXXXX%) of the Company's XXXXXXXXXX% interest in the LLC for cash.
7. The Company contributed its remaining interest in the LLC, its interests in the Other LLC's and some of its other assets to Newco. Newco assumed liabilities in an amount equal to the assets transferred to it. Newco did not issue any shares to the Company as part of this transfer of assets and assumption of liabilities.
8. The Company then merged with New LLC with New LLC being the surviving entity of the merger. The shares of the Company held by the Shareholders were exchanged for all of the shares of Newco held by the Company such that each Shareholder of the Company became a shareholder of Newco upon the merger. The previously outstanding shares of the Company were cancelled and retired and ceased to exist after the merger. The end result of this transaction is that the shares of Newco, that were held by the Company immediately before the merger of the Company and New LLC, were transferred to the Shareholders and did not become property of New LLC after the merger.
9. New LLC then merged with New Company with New Company as the surviving entity of the merger. All of the membership interests in New LLC held by Newco immediately before the merger were converted into shareholdings of New Company and thereby ceased to exist.
10. Newco then distributed to each shareholder of Newco one share of New Company for each share of Newco held by such shareholder. As a result of this share distribution, the shareholders of Newco, were now also shareholders of New Company, which continued to carry on the businesses carried on by the Company at the time of its merger with New LLC.
11. Newco was then merged with an LLC owned by XXXXXXXXXX and ceased to exist. The shareholders of Newco received shares of XXXXXXXXXX as consideration for their shares of Newco that they held immediately before the merger.
12. At the end of the series of transactions, the shareholders of the Company were shareholders of New Company, which carried on all of the business of the Company that remained in the Company at the time of its merger with New LLC, being those that were not transferred to Newco and were shareholders of XXXXXXXXXX.
13. The Company filed registration statements with the US Securities and Exchange Commission (the "SEC") and paid over $XXXXXXXXXX to register the shares of Newco and New Company so that such could "trade" for the time period during which the transactions were being carried out. Share certificates of New Company were issued to the Shareholders of the Company after the reorganization was completed. The "trading symbol" for the Company remained the same before, during and after the reorganization was completed even though the identity of the company whose shares were being traded changed three times, before the reorganization it was the Company, during the reorganization it was Newco and after all of the transactions were completed it was New Company, which then changed its name to be similar to the original name of the Company.
Subsection 86.1(2) Issue
Subparagraph 86.1(2)(c)(ii) of the Act provides that an eligible distribution requires that, at the time of a distribution, the shares of the class that included the original shares are widely held and actively traded on a prescribed stock exchange in the United States.
Subparagraph 86.1(2)(e)(i) of the Act requires that the particular corporation provides to the Minister information satisfactory to the Minister establishing that, at the time of the distribution, the shares of the class that included the original shares are widely held and actively traded on a prescribed stock exchange.
On XXXXXXXXXX Newco distributed the shares of New Company to its shareholders as part of a corporate re-structuring. Is the distribution of the shares of New Company by Newco an eligible distribution under section 86.1? More precisely, were the shares of Newco widely held and actively traded on a prescribed stock exchange at the time of the distribution of the New Company shares to the original shareholders of the Company?
Audit's Position
It is your view that the shares of Newco were widely held but were never actively traded on a prescribed stock exchange, as required by subparagraph 86.1(2)(c)(ii) of the Act. This conclusion is based upon the following excerpts from your memorandum, and the attachments thereto, to us:
- • The information provided establishes that Amendment No. 3 to Form S-4 was filed with the SEC on XXXXXXXXXX under the Securities Act of 1933. Our understanding is that this was required by the SEC for the registration of the securities to be issued by Newco and New Company as part of the corporate re-structuring. There is no mention in the documents that this filing was required for Newco shares to trade in lieu of the Company shares.
- • No specific indication can be found in Form S-4/A supporting the fact that Newco was a public company listed on a prescribed stock exchange, that its shares were listed and actively traded or that they were trading in lieu of Company shares.
- • Our understanding is that the series of transactions described in the Master Agreement were consummated within a very short moment. Our understanding is that the period between the time Company shareholders held Company shares and the time they held New Company shares was very short. No share certificates of Newco were delivered to its shareholders prior to the distribution to those shareholders of the shares of New Company.
- • The shares of the Company were not traded continuously. The shares of the Company were deregistered under the Securities Exchange Act of 1934 and the shares of New Company were registered under the same Act as a result of the transactions.
- • Newco shares were not registered under the Securities Exchange Act of 1934. Newco was not required to satisfy extensive public filing and disclosure requirements usually required of public companies. Our understanding is that this was not required because Newco shares were not expected to trade on a prescribed stock exchange.
- • No application (or amendment to the Company listing) was submitted to the XXXXXXXXXX for listing of Newco shares. Newco shares were not listed under a symbol proper.
- • No information concerning the buying or selling transactions of Newco shares were provided. No evidence was provided that transfers were registered on the stock transfer books of Newco after the exchange of Company shares for Newco shares.
Taxpayer's Representations
Paragraph 86.1(1)(a) of the Act applies to the distribution of the New Company shares to the shareholders of the Company for all of the following reasons:
(a) At the time that the Company merged into New LLC, and the shareholders of the Company received shares of Newco, on a share-for-share basis, Newco's shares were widely held and actively traded in the same manner as the Company's shares were traded prior to the merger.
(b) Newco was required to file the form "Amendment No. 3 to Form S-4/A" with the SEC so that the shares of Newco could be publicly traded in the United States throughout the time period that began when the Company was merged into New LLC and ended when the shares of the New Company were issued to the shareholders of Newco.
(c) By operation of law, the shares of Newco were traded on the XXXXXXXXXX, thereby making it a public company. The series of transactions was completed on XXXXXXXXXX. At no time during that day did trading of the shares of the Company, Newco or the New Company cease.
(d) No share certificates were issued for the period of time that the shares of Newco were publicly traded, as it was not necessary or required for any purpose. Amendment No. 3 to Form S-4 provides that XXXXXXXXXX of the shares of Newco is the maximum number of shares of the common stock of Newco that could be issued as part of the series of transactions. The Company paid $XXXXXXXXXX to the SEC to register the shares of Newco for public trading during the series of transactions. The Company paid a further $XXXXXXXXXX to the SEC to register the shares of the New Company for public trading after the series of transactions was completed.
(e) The filing of Amendment No. 3 to Form S-4 allowed the Newco shares to trade under the name of the Company during the time period that the series of transactions were being carried out.
(f) It was the public shareholders of Newco that were entitled to receive the shares of XXXXXXXXXX upon the merger of Newco and the LLC owned by XXXXXXXXXX.
Current Legislation
Subsection 86.1(1) of the Act currently excludes from a taxpayer's income any amount received as an "eligible distribution". Paragraph 86.1(2)(c) of the Act provides, among other things, that a distribution by a particular corporation is an eligible distribution where the following conditions are satisfied:
"(i) at the time of the distribution, both corporations are resident in the United States and were never resident in Canada,
(ii) at the time of the distribution, the shares of the class that includes the original shares are widely held and actively traded on a prescribed stock exchange in the United States, and
(iii) under the United States Internal Revenue Code applicable to the distribution, the shareholders of the particular corporation who are resident in the United States are not taxable in respect of the distribution."
Draft Legislation
The Department of Finance has proposed amendments to subparagraphs 86.1(2)(c)(ii) and (iii), applicable to distributions made after 1999, as follows:
"(ii) at the time of the distribution, the shares of the class that includes the original shares are widely held and
(A) are actively traded on a prescribed stock exchange in the United States, or
(B) are required, under the Securities Exchange Act of 1934 of the United States, as amended from time to time, to be registered with the Securities and Exchange Commission of the United States and are so registered, and
(iii) under the provisions of the Internal Revenue Code of 1986 of the United States, as amended from time to time, that apply to the distribution, the shareholders of the particular corporation who are resident in the United States are not taxable in respect of the distribution."
The Master Agreement entered into by all of the parties to the series of transactions provided that each share of the Company's common stock issued and outstanding immediately before the merger with New LLC would be exchanged for a share/shares of Newco (except for shares of dissenting shareholders). Amendment No.3 to Form S-4 is a registration statement under the Securities Act and specifies that the securities being registered are registered for the proposed sale of such securities to the public. Newco and New Company filed such registration statements to register their shares, which shares were to be issued as part of the transactions. These registration statements constitute the prospectus for such shares for SEC purposes. The Company paid substantial amounts to ensure that the shares of Newco and New Company qualify as registered shares for SEC purposes. At the time of the merger of the Company and New LLC, for corporate law purposes under the XXXXXXXXXX, the shares of the Company were exchanged for "duly issued, fully paid and non-assessable shares" of Newco. Subsequent to the merger of the Company and New LLC, New LLC was to merge with New Company. Promptly after the merger of New LLC with New Company, Newco was to distribute shares of New Company to the shareholders of Newco (other than shareholders who have dissented) on a one-for-one basis. New Company was to issue share certificates to each shareholder of Newco at the time its shares were distributed.
To qualify as an "eligible distribution", a distribution must, amongst other things, satisfy the requirements of paragraph 86.1(2)(c) of the Act. These requirements are satisfied in those situations where a distribution is between two corporations that are resident of the United States and that were never residents of Canada, the original shares owned by the shareholders prior to the distribution are widely held and publicly traded on a prescribed stock exchange in the United States and the shareholders who are resident in the United States and receiving the distribution are not taxable in respect of the distribution.
In this particular case, Newco is distributing all of the shares that it holds in New Company to the original shareholders of the Company, who are now shareholders of Newco. All of these corporations are residents of the United States and corporations that have never been a resident of Canada. Furthermore, the series of transactions have been structured such that the transfer of the shares of New Company was done on a tax-free basis to the shareholders of Newco for US income tax purposes.
Based on the facts described above, the representations from the taxpayer and the information contained in registration statements filed with the SEC, it is our view that it is reasonable to conclude that the shares of Newco were widely held and actively traded on a prescribed stock exchange in the United States at the time of the distribution of the shares of New Company to the shareholders of Newco, being the former shareholders of the Company.
Accordingly, since the distribution of the shares of New Company to the Shareholders of the Company, now shareholders of Newco, satisfies all of the requirements of subsection 86.1(2) of the Act, it is our view that such distribution would qualify as an "eligible distribution" within the meaning thereof in subsection 86.1(2) of the Act. Accordingly, any amount received by a shareholder of the Company, as an eligible distribution, would not be included in computing the income of such shareholder by virtue of subsection 86.1(1) of the Act.
Our comments are equally applicable to the distributions of shares to the shareholders of the Company if subparagraphs 86.1(2)(c)(ii) and (iii) of the Act are amended as proposed in the July 18, 2005 draft legislation.
Subsections 87(4), 87(8) and 87(8.1) Issue
Does the merger of the Company and New LLC qualify as a "foreign merger", as defined in subsection 87(8.1) of the Act.
Legislation
Where there has been an amalgamation of two or more corporations after May 6, 1974, subsection 87(4) of the Act provides that each shareholder of a predecessor corporation will be deemed by paragraph 87(4)(a) to have disposed of their shares of the predecessor corporation for proceeds of disposition equal to the adjusted cost base to that shareholder of such shares immediately before the amalgamation and will be deemed by paragraph 87(4)(b) to have acquired the shares of the new corporation formed on the amalgamation at an aggregate cost equal to those proceeds of disposition in those situations where the original shares were capital property to the shareholder and where the shareholder received no consideration, other than shares of the capital stock of the new corporation, for the disposition of the shares of a predecessor corporation.
Subsection 87(8) of the Act provides that "subject to subsection 95(2), where there has been a foreign merger in which a taxpayer's shares or options to acquire shares of the capital stock of a corporation that was a predecessor foreign corporation immediately before the merger were exchanged for or became shares or options to acquire shares of the capital stock of the new foreign corporation or the foreign parent corporation, unless the taxpayer elects in the taxpayer's return of income for the taxation year in which the foreign merger took place not to have this subsection apply, subsections (4) and (5) apply to the taxpayer ...".
"Foreign merger" is defined in subsection 87(8.1) of the Act as "a merger or combination of two or more corporations each of which was, immediately before the merger or combination, resident in a country other than Canada (each of which is in this section referred to as a "predecessor foreign corporation") to form one corporate entity resident in a country other than Canada (in this section referred to as the "new foreign corporation") in such a manner that, and otherwise than as a result of the distribution of property to one corporation on the winding-up of another corporation,
(a) all or substantially all the property (except amounts receivable from any predecessor foreign corporation or shares of the capital stock of any predecessor foreign corporation) of the predecessor foreign corporations immediately before the merger or combination becomes property of the new foreign corporation as a consequence of the merger or combination;
(b) all or substantially all the liabilities (except amounts payable to any predecessor foreign corporation) of the predecessor foreign corporations immediately before the merger or combination become liabilities of the new foreign corporation as a consequence of the merger or combination; and
(c) all or substantially all of the shares of the capital stock of the predecessor foreign corporations (except any shares or options owned by any predecessor foreign corporation) are exchanged for or become, because of the merger or combination,
(i) shares of the capital stock of the new foreign corporation, or
(ii) if, immediately after the merger, the new foreign corporation was controlled by another corporation (in this section referred to as the "foreign parent corporation") that was resident in a country other than Canada, shares of the capital stock of the foreign parent corporation."
Taxpayer's Representations
The Taxpayer's Representations state that each of the mergers described in paragraphs 8 and 9 above qualifies as a foreign merger, within the meaning thereof in subsection 87(8.1) of the Act, as each of the mergers satisfies all of the requirements of subsection 87(8.1) of the Act. Accordingly, the shareholders of the Company are entitled to a tax-free rollover of their shares of the Company into the shares of Newco, pursuant to subparagraph 87(8.1)(c)(ii) of the Act, at the time of the merger of the Company and New LLC.
Paragraph 87(8.1)(a) of the Act requires that all or substantially all the property (except amounts receivable from any predecessor foreign corporation or shares of the capital stock of any predecessor foreign corporation) of the predecessor foreign corporations immediately before the merger or combination must become property of the new foreign corporation as a consequence of the merger or combination. The merger of the Company and New LLC, as described in paragraph 8 above, does not satisfy this requirement. Immediately prior to the merger of the Company and New LLC, the Company owns shares of Newco. Upon the amalgamation of the Company and New LLC, these shares of Newco do not become property of New LLC, the entity surviving this merger. The shares of Newco are transferred to the Shareholders of the Company in exchange for the Shares they hold in the Company. Accordingly, after the merger of the Company and New LLC, New LLC, the surviving entity of the merger, never owns any of the issued shares of Newco. It is therefore our view that the merger of the Company and New LLC does not qualify as a "foreign merger" within the meaning thereof in subsection 87(8.1) of the Act.
Since the merger of the Company and New LLC does not qualify as a foreign merger, the provisions of subsection 87(4) of the Act do not apply to the Shareholders' disposition of the Shares of the Company held by them immediately before the merger. As a result, the Shareholders of the Company are considered to have disposed of their Shares for proceeds comprising of the shares of Newco received by each of them. Each Shareholder would therefore be required to compute the capital gain or loss attributable to the disposition of their Shares. It is our view that each Shareholder's "proceeds of disposition", as defined in section 54 of the Act, would be the fair market value of the shares of Newco that the particular Shareholder received as a result of the amalgamation.
We hope that our comments are of assistance. If you wish to discuss any of the above, please contact the writer.
For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Customs and 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. Requests for this latter version should be made by you to Mrs. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.
Olli Laurikainen, CA
for Director
International & Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
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