17 May 2007 External T.I. 2006-0190931E5 - Incorporation of Professionals - 110.6(14)(f)

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: If the deeming rule in paragraph 110.6(14)(f) applies where a dental practitioner has share ownership in a new company (the "Professional Corporation") before transferring the assets of the practice into the Professional Corporation.

Position: Question of fact.

Reasons: Whether or not there was a series of transactions is a question of fact.

								2006-019093
XXXXXXXXXX 							Shelley Lewis
(613) 941-7239
May 17, 2007

Dear XXXXXXXXXX:

Re: Incorporation of Professionals

We write in response to your letter of June 6, 2006, wherein you inquired about the application of paragraph 110.6(14)(f) of the Income Tax Act (the "Act") where a dental practitioner (the "Dentist") has share ownership in a new company (the "Professional Corporation") before transferring the assets of the practice into the Professional Corporation.

The Dentist operating a sole proprietorship wishes to incorporate a professional corporation (as permitted by section 3.2 of the Ontario Business Corporation Act) and continue the professional practice. To comply with the requirements of the Royal College of Dental Surgeons of Ontario (the "College"), the Dentist must have ownership in the Professional Corporation prior to the College's approval of his application to incorporate (the "Application"). The Professional Corporation is incorporated and common shares for nominal consideration are issued to the Dentist. Authorized share capital includes both common shares and fixed value preferred shares that are redeemable and retractable.

After the Application is approved by the College, the Dentist elects under subsection 85(1) of the Act to transfer the assets (including goodwill) used in the professional practice to the Professional Corporation in exchange for consideration that includes preferred shares of the Professional Corporation with a redemption and retraction amount equal to the fair market value of the net assets transferred.

A few months later, the Dentist sells all the issued and outstanding common and preferred shares in the Professional Corporation to an unrelated third party and realizes a capital gain on both the common and preferred shares. The period between the date of incorporation of the Professional Corporation and the date of disposition of the shares is less than a year. Assuming that the professional corporation would otherwise qualify as a "small business corporation", as this expression is defined in subsection 248(1) of the Act, your questions relate to the application of paragraph 110.6(14)(f) and the 24-month holding period referred to in the definition of "qualified small business corporation share" in subsection 110.6(1).

Our Comments

The situation outlined in your letter appears to relate to a factual one, involving a specific taxpayer. It is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an advanced income tax ruling. For more information about how to obtain a ruling, please refer to Information Circular 70-6R5, "Advanced Income Tax Rulings, dated May 17, 2002. This Information Circular and other CRA publications can be accessed on the Internet at http://www.cra-arc.gc.ca. Should your situation involve a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate Tax Services Office ("TSO") for their views. A list of TSOs is available on the "Contact Us" page of the CRA website. Although we cannot comment on your specific situation, we are prepared to provide the following general comments, which may be of assistance.

An individual who realizes a gain on the disposition of a qualified small business corporation share may be entitled to a deduction in calculating his or her taxable income according to subsection 110.6(2.1) of the Act. In order for a share to so qualify, the corporation must be a small business corporation, as defined in subsection 248(1) of the Act, and among other requirements the share must not have been owned by anyone other than the individual or a person or partnership related to the individual throughout the 24 months immediately preceding its disposition. This ownership test does not require the individual to actually hold the shares for 24 months, merely that no unrelated person or partnership hold the shares during that period. For those purposes, paragraph 110.6(14)(f) of the Act provides a deeming rule that shares issued by a corporation after June 13, 1988 are deemed to have been owned immediately before their issue by a person not related to the person or partnership to whom the shares were issued, unless the shares were issued in specific circumstances described therein. One such circumstance described in subparagraph 110.6(14)(f)(ii) involves shares issued on a transfer to a corporation of assets used in an active business by the transferor (person or partnership).

Two key requirements must be met for subparagraph 110.6(14)(f)(ii) to apply:

• shares must be issued "as part of a transaction or series of transactions in which the person or partnership disposed of property to the corporation"; and
• the property disposed of must consist of "(A) all or substantially all the assets used in an active business carried on by that person or the members of that partnership". The first criterion requires the determination of whether the Dentist disposed of property to the Professional Corporation in exchange for share as part of a transaction or series of transactions.

The term "series of transactions" is defined in section 248(10) to include "related transactions or events completed in contemplation of the series". In the context of subsections 245(2) and (3) of the Act, the Federal Court of Appeal held in OSFC Holdings Ltd v The Queen, 2001 FCA 260, that a series of transactions occur where the parties to the transaction "knew of the... series, such that it could be said that they took it into account when deciding to complete the transaction". In The Queen v. Canada Trustco Mortgage Company, [2005] S.C.R. 601, the Supreme Court of Canada cited OSFC with approval and added at paragraph 26, "We would elaborate that "in contemplation" is read not in the sense of actual knowledge but in the broader sense of "because of" or "in relation to" the series."

It is our view that whether or not the parties to a series of transactions took into account the series when deciding to complete a particular transaction is a question of fact.

The second criterion is met if all or substantially all of the assets used in an active business will be considered disposed of to the corporation. It is our position that this criterion will be generally met when 90% or more of the assets of the active business are disposed to the corporation.

We trust these comments are of assistance.

S. Parnanzone
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch