15 December 2006 External T.I. 2006-0213071E5 - Eligible Capital Property Acquisition

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) Can parentco claim a CEC deduction based upon acquisition of subco? (2) Can parentco claim a CEC deduction based on acquisition of subco's business assets utilizing subsection 85(1)?

Position: (1) No (2) Yes, but subject amount elected under subsection 85(1).

Reasons: (1) Parentco has acquired shares only, not goodwill (eligible capital property). (2) Permissable CEC is dependent upon the value of goodwill (eligible capital property) acquired, subject to elected adjustments if subsection 85(1) is utilized.

									2006-021307
XXXXXXXXXX 								James Atkinson CGA
(613) 957-4364
December 15, 2006

Dear XXXXXXXXXX:

Re: Eligible Capital Property Acquisition - Related Corporation

This is in response to your letter of November 2, 2006 inquiring about the acquisition of eligible capital property.

The facts as you have described them are that:

1. A newly created corporation (NEWCO) acquires the shares of an arm's length corporation (OLDCO).

2. The purchase price of the OLDCO shares was $600,000.

3. OLDCO's only net assets reported on its financial statements as at the date of acquisition were:

Property, plant and equipment    	$30,000
Licenses	    				 20,000

Given that the $600,000 purchase price of the OLDCO shares exceeds the $50,000 net assets of OLDCO, there appears to have been a premium paid attributable to goodwill (eligible capital property) in the situation above. Your questions relate to the potential deductions pursuant to paragraph 20(1)(b) of the Income Tax Act ("Act") by NEWCO in respect of eligible capital property as a consequence of:

1. the initial share purchase, or alternatively,

2. a subsequent acquisition of OLDCO's business assets by NEWCO. With respect to the acquisition of the OLDCO shares by NEWCO, you have stated that the share purchase transaction has resulted in the creation of goodwill in the amount of $550,000 in NEWCO for accounting purposes. However, it is your view that NEWCO has not acquired an eligible capital property for tax purposes and therefore, it is not entitled to a deduction under paragraph 20(1)(b) of the Act.

With respect to the acquisition of the business assets of OLDCO by NEWCO, it is also your view that OLDCO must transfer the property under section 85 of the Act in order to "create" an eligible capital property in NEWCO in respect of which NEWCO would be able to claim a deduction under paragraph 20(1)(b) of the Act.

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.

Initial Share Purchase:

The purchase of shares of OLDCO by NEWCO is a single transaction representing the acquisition of shares. No eligible capital property has been acquired by NEWCO under these circumstances and NEWCO is not entitled to a deduction under paragraph 20(1)(b) of the Act. While NEWCO may have accounted for an acquisition of goodwill when preparing consolidated financial statements, tax reporting on such a basis is not permissible as each corporation is taxed as a separate entity under the Act.

Acquisition of OLDCO Business Assets by NEWCO:

Generally, goodwill will arise as a recognizable asset when a business is acquired at a price in excess of the value, as a going concern, of its net assets. Where the purchaser of a business acquires goodwill, as a recognizable asset, the consideration given for the goodwill will generally qualify as an eligible capital expenditure, as defined in subsection 14(5) of the Act. In such situation a lump sum purchase price must be allocated to the various assets acquired based on their fair market value and sections 68 and 69 may be applicable. For more information on eligible capital expenditures, please refer to Interpretation Bulletin IT-143R3, Meaning of Eligible Capital Expenditure. Subsection 85(1) of the Act enables a taxpayer to dispose of "eligible property," as defined in subsection 85(1.1), to a taxable Canadian corporation so that most, if not all, of the tax consequences that usually arise on such a disposition are shifted to the corporation from the taxpayer. The consideration must include at least one share of the corporation. The transferor is permitted to dispose of the property to the transferee for an "agreed amount" which may be other than the fair market value of either such property or the consideration received for it, provided the agreed amount falls within certain limits.

Assuming that the issuance of shares by a parent to its subsidiary is not contrary to the applicable corporate law, and that the other conditions of subsection 85(1) are met, the goodwill could be transferred, in connection with a disposition of a business, from OLDCO to NEWCO at an elected "agreed amount". Under subsection 85(1), the "agreed amount" generally becomes the proceeds of disposition of the property to the transferor and the cost to the transferee. The transferee may be entitled to a deduction under paragraph 20(1)(b) in respect of eligible capital property acquired as a result of a subsection 85(1) rollover. This rollover is discussed in Interpretation Bulletin IT-291R3, Transfer of Property to a Corporation Under Subsection 85(1).

We trust that these comments will be of assistance.

Yours truly,

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