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: Upon the transfer of the new note to a subsidiary corporation will the loss denied under 40(2)(e) increase the adjusted cost base (ACB) of the new note ?
Position: YES
Reasons: Loss disallowed added to ACB.
XXXXXXXXXX 2008-030016
XXXXXXXXXX , 2009
Dear XXXXXXXXXX :
Re: Advance Income Tax Ruling
XXXXXXXXXX . ("Parent") BN XXXXXXXXXX
This is in reply to your letter of XXXXXXXXXX , wherein you requested an advance income tax ruling on behalf of the above-named taxpayer. We also acknowledge information provided during a meeting on XXXXXXXXXX in our office and numerous telephone conversations and electronic correspondences.
We understand that, to the best of your knowledge and that of the taxpayer involved, none of the issues contained in this ruling request herein are:
(i) dealt with in an earlier return of Parent or a related person;
(ii) being considered by a tax services office or a taxation centre in connection with a tax return already filed by Parent or a related person;
(iii) under objection by Parent or a related person;
(iv) the subject of a previous ruling issued by the Income Tax Rulings Directorate to Parent or a related person; nor
(v) before the courts, or if a judgment has been issued, the time limit for appeal to a higher court has expired.
Legal Entity Definitions:
The transactions described in this ruling request involve the following entities:
(a) "Canco1" means XXXXXXXXXX ., an inactive wholly-owned subsidiary of Parent incorporated under the CBCA that is a taxable Canadian corporation. Canco1's business number is XXXXXXXXXX ;
(b) "Canco2" means XXXXXXXXXX ., an inactive wholly-owned subsidiary of Parent incorporated under the CBCA that is a taxable Canadian corporation. Canco2's business number is XXXXXXXXXX ;
(c) "Canco3" means XXXXXXXXXX ., a dissolved corporation originally formed under the CBCA;
(d) "Forco" means XXXXXXXXXX , an unlimited liability company formed under the laws of XXXXXXXXXX and that is resident of Canada for the purposes of the Act. Forco's business number is XXXXXXXXXX ;
(e) "Parent" means XXXXXXXXXX . more fully described in 1 below. Parent's business number is XXXXXXXXXX ;
(f) "Partnership" means XXXXXXXXXX , a general partnership formed under and governed by the XXXXXXXXXX ; and
(g) "Subco" means XXXXXXXXXX ., a wholly-owned subsidiary of Parent incorporated under the CBCA that is a taxable Canadian corporation. Subco's business number is XXXXXXXXXX .
Definitions:
The following terms have the meanings specified herein:
(a) "Act" means the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) C. 1, as amended to the date hereof and, unless otherwise stated, every reference herein to a part, section, subsection, paragraph, subparagraph or clause refers to the relevant provision;
(b) "adjusted cost base" or "ACB" has the meaning assigned by section 54 of the Act;
(c) "CBCA" means the Canada Business Corporations Act RSC 1985, c. C-44 as amended to the date hereof;
(d) "CCAA" means the Companies' Creditors Arrangement Act RSC 1985, c. C-44 as amended to the date hereof;
(e) "Canco1 Preferred Shares" means the preferred shares of Canco1 described in 22 below;
(f) "Canco2 Preferred Shares" means the preferred shares of Canco2 described in 31 below;
(g) "CRA" means Canada Revenue Agency;
(h) "Forco Note" means the promissory note described in 7 below;
(i) "Forco Shares" means all the shares of Forco held by Parent;
(j) "GAAR" means general anti-avoidance rule;
(k) "GP Note" means the promissory note described in 12 below;
(l) "New Forco Note" means the promissory note described in 21 below;
(m) "New GP Note" means the promissory note described in 30 below;
(n) "public corporation" has the meaning assigned by subsection 89(1) of the Act; and
(o) "taxable Canadian corporation" has the meaning assigned by subsection 89(1) of the Act.
Unless otherwise indicated in this letter, all dollar amounts referred to herein are in Canadian dollars.
Facts:
The relevant facts are as follows:
1. Parent is a taxable Canadian corporation and a public corporation. Its shares are traded on the XXXXXXXXXX Stock Exchange. Parent is the parent company of a XXXXXXXXXX .
2. Parent beneficially owns all the issued and outstanding shares of Canco1, Canco2, Forco and Subco.
3. On XXXXXXXXXX , Parent filed for creditor protection under the CCAA and under Chapter 15 of the U.S. Bankruptcy Code. The U.S. subsidiaries of Parent made a concurrent filing under chapter 11 of the U.S. Bankruptcy Code. Parent is expected to emerge from creditor protection in XXXXXXXXXX .
Facts relating to Forco:
4. Parent owns, and has always directly or indirectly owned, all of the issued and outstanding shares of Forco except for one share, which is held by Subco, as nominee on its behalf. Under XXXXXXXXXX corporate law, Parent has the ability to elect the majority of the board of directors of Forco. Forco was originally formed in XXXXXXXXXX for the purposes of financing Parent's US operations. On or about XXXXXXXXXX , Forco moved its mind and management from XXXXXXXXXX to Canada and became a resident of Canada. Consequently, Forco is not a taxable Canadian corporation, but is a corporation resident in Canada.
5. Under XXXXXXXXXX corporate law, it is not possible to continue Forco under Canadian corporate law.
6. On or about XXXXXXXXXX , Forco sold all its assets to Canco3 (which was, at the time, a wholly-owned subsidiary of Parent) in exchange for a non-interest bearing note in the amount of $XXXXXXXXXX (the "Forco Note"). The Forco Note is capital property to Forco.
7. On or about XXXXXXXXXX , Canco3 was wound-up into Parent. Subsection 88(1) of the Act applied to the wind-up. Canco3 was formally dissolved on XXXXXXXXXX . As a result, the Forco Note was assumed by Parent.
8. Because Parent is under creditor protection, the fair market value of the Forco Note is substantially lower than its face value. For financial statements purposes, Forco wrote down the value of the Forco Note on its XXXXXXXXXX balance sheet to $XXXXXXXXXX . Based on current expectation of creditor recovery, the Forco Note may be worth more than its book value, but in any event less than its face value.
9. The Forco Note is Forco's only substantial asset.
10. The aggregate adjusted cost base of the Forco Shares is $XXXXXXXXXX , as confirmed by a letter from the CRA dated XXXXXXXXXX .
11. Prior to XXXXXXXXXX , Parent, through its XXXXXXXXXX , owed an amount of US$XXXXXXXXXX to Canco3 (a wholly-owned subsidiary of Parent at the time). A promissory note was issued (the "GP Note") to document this debt. This debt does not bear interest. XXXXXXXXXX
12. From a Canadian tax perspective, it would have been possible, at the time, to wind-up Canco3 into Parent. However, this would have resulted in significant capital duty exposure in XXXXXXXXXX .
13. The following transactions were put in place on XXXXXXXXXX :
a) Subco and Canco3 formed the Partnership as a general partnership under the XXXXXXXXXX ; Canco3 transferred the GP Note owing by Parent (XXXXXXXXXX ) in the amount of US$XXXXXXXXXX to the Partnership under subsection 97(2) of the Act in exchange for a XXXXXXXXXX % Partnership interest;
b) Subco contributed US$XXXXXXXXXX in exchange for a XXXXXXXXXX % Partnership interest; and
c) As mentioned above, Canco3 was wound-up into Parent on or about XXXXXXXXXX . Subsection 88(1) applied to the wind-up. As a result, Parent became the majority partner of the Partnership.
14. Between XXXXXXXXXX , amounts were repaid by Parent to the Partnership and immediately thereafter returned to Parent by way of return of capital. As a result of such repayments and distributions:
a) The interest of Parent and Subco in the Partnership were adjusted as follows:
i) Parent: XXXXXXXXXX %
ii) Subco: XXXXXXXXXX %
b) The principal of the Note was reduced to US$XXXXXXXXXX ; and
c) Parent's ACB of its interest in the Partnership was reduced to $XXXXXXXXXX
15. Because Parent is under creditor protection, the fair market value of the GP Note is significantly less than its face value. The fair market value will be determined based on current expectations of creditor recovery.
16. The GP Note is capital property to the Partnership.
17. The GP Note is denominated in U.S. dollars. As of the date of this letter, Parent has a latent foreign exchange gain under subsection 39(2) of the Act. The Partnership has a corresponding latent capital loss which, if realized, might be denied by subparagraph 40(2)(g)(ii) of the Act. There has been no change of control since the GP Note has been established.
18. The Partnership has no other assets or liabilities.
Preliminary and Proposed Transactions:
Except for the transactions described in 20 to 23 (which were completed on XXXXXXXXXX ), it is contemplated that the following transactions will be undertaken prior to Parent emerging from creditor protection under the CCAA.
Reorganization of Forco:
19. The terms of the Forco Note have been amended to change the governing law from XXXXXXXXXX to XXXXXXXXXX . Legal counsel has confirmed that this amendment does not result in a novation of the debt from a legal perspective. The amending document confirms that it is not the intention of the parties to novate the note and to create a new contract, but merely that the existing debt obligation continue to exist as amended.
20. The terms of the Forco Note have been amended to add a conversion feature allowing the holder to convert such note into a new note that bears interest at the rate of XXXXXXXXXX % per annum (the "New Forco Note"). Legal counsel has confirmed that this amendment does not result in a novation of the debt from a legal perspective. The amending document confirms that it is not the intention of the parties to novate the Forco Note and to create a new contract, but merely that the existing debt obligation continue to exist as amended.
21. The articles of Canco1 have been amended to add a class of redeemable and retractable non-voting preferred shares entitled to a non-cumulative preferential dividend at a reasonable rate and whose redemption price is subject to a standard price adjustment clause (the "Canco1 Preferred Shares").
22. Forco has exercised the conversion right and exchanged the Forco Note for the New Forco Note. Upon the conversion, the Forco Note was cancelled and replaced with the New Forco Note.
23. Approximately XXXXXXXXXX months after the conversion described in 23 above, Forco will transfer the New Forco Note to Canco1 in exchange for Canco1 Preferred Shares. The transfer will be subject to a standard price adjustment clause. No rollover election under subsection 85(1) of the Act will be filed in respect of this transfer.
24. Forco will reduce the nominal value of its shares to create "distributable reserves" for XXXXXXXXXX corporate law purposes, without changing the number of issued and outstanding shares and without making any payment to Parent.
25. An extraordinary general meeting (an "EGM") of Forco will be convened at which a dividend will be declared. The dividend will become a debt owing to Parent. Following the EGM, the debt will be satisfied by Forco distributing the Canco1 Preferred Shares to Parent.
26. Canco1 will be wound-up into Parent under subsection 88(1) of the Act. Immediately before the wind-up, Parent will own XXXXXXXXXX % of the shares of each class of the capital stock of Canco1. The New Forco Note will be settled as a result of the wind-up as a matter of law due to a merger of rights of debtor and creditor. Parent will file an election under subsection 80.01(4) of the Act to deem the New Forco Note to have been settled for an amount equal to Canco1's cost amount.
27. It is anticipated that Forco will be liquidated into Parent and formally dissolved in XXXXXXXXXX .
Reorganization of the Partnership:
28. The terms of the GP Note will be amended to change the governing law from XXXXXXXXXX to XXXXXXXXXX . Legal counsel will confirm that this amendment will not result in a novation of the debt from a legal perspective. The amending document will confirm that it is not the intention of the parties to novate the note and to create a new contract, but merely that the existing debt obligation continue to exist as amended.
29. The terms of the GP Note will be amended to add a conversion feature allowing the holder to convert such note into a new note that bears interest at the rate of XXXXXXXXXX % per annum (the "New GP Note"). Legal counsel will confirm that this modification will not result in a novation of the debt from a legal perspective. In this respect, the amending document will confirm that it is not the intention of the parties to novate the note and to create a new contract, but that the existing debt obligation continues to exist as modified.
30. The articles of Canco2 will be amended to add a class of redeemable and retractable non-voting preferred shares entitled to a preferential non-cumulative dividend at a reasonable rate and whose redemption price will be subject to a standard price adjustment clause (the "Canco2 Preferred Shares").
31. The Partnership will exercise the conversion right and exchange the GP Note for the New GP Note. Upon the conversion, the GP Note will be cancelled and replaced with the New GP Note.
32. Approximately XXXXXXXXXX months after the conversion described in 31 above, the Partnership will sell the New GP Note to Canco2 in exchange for Canco2 Preferred Shares having a redemption value equal to the fair market value of the New GP Note, subject to the price adjustment clause. No rollover election under subsection 85(2) of the Act will be filed in respect of this transfer.
33. The Partnership will be wound-up and an undivided interest in the Canco2 Preferred Shares will be distributed to Subco and Parent in proportion to their respective interests.
34. Subco will distribute its undivided interest in the Canco2 Preferred Shares to Parent by way of a dividend in kind.
35. Canco2 will be wound-up into Parent under subsection 88(1) of the Act. Immediately before the wind-up, Parent will own XXXXXXXXXX % of the shares of each class of the capital stock of Canco2. The New GP Note will be settled as a result of the windup as a matter of law due to a merger of rights of debtor and creditor. Parent will file an election under subsection 80.01(4) of the Act to deem the New GP Note to have been settled for an amount equal to Canco2's cost amount.
Purpose of the Proposed Transactions:
36. The purpose of the proposed transactions is to windup wholly-owned legal entities before Parent emerges from creditor protection in order to eliminate remnants in the corporate group and avoid potential tax consequences that may occur upon or following emergence from creditor protection if an acquisition of control occurs as part of the emergence transaction.
Rulings Given:
Provided that the preceding statements constitute complete and accurate disclosure of all the relevant facts, proposed transactions and purpose of the proposed transactions, and provided that the proposed transactions are completed in the manner described above, we rule as follows:
A. Provided that neither the change of governing law as described in 20 above nor the addition of the conversion right described in 21 above created a novation of the Forco Note, neither the change of governing law nor the addition of the conversion right to the Forco Note resulted in a "disposition" of the Forco Note, as defined in subsection 248(1) of the Act.
B. Section 51.1 of the Act applied to the conversion of the Forco Note into the New Forco Note as described in 21 and 23 above, such that Forco was considered to have disposed of the Forco Note for proceeds equal to its ACB and to have acquired the New Forco Note for the same amount.
C. The conversion of the Forco Note for the New Forco Note as described in 23 above will not give rise to a "forgiven amount" for Parent for the purposes of section 80 of the Act.
D. The provisions of paragraphs 40(2)(e.1) and 53(l)(f.11) of the Act will apply to the transfer of the New Forco Note to Canco1, as described in 24 above, such that (i) the capital loss realized by Forco on the disposition of the New Forco Note will be deemed to be nil, and (ii) the the amount of the loss so denied will be added to the ACB to Cancol of the New Forco Note.
E. The amount of the dividend by Forco satisfied by the distribution to Parent of the Canco1 Preferred Shares as described in 26 above, will be deductible in computing Parent's taxable income pursuant to paragraph 112(1)(b) of the Act.
F. Provided the election referred to in subsection 80.01(4) of the Act is filed in a timely manner, the extinction of the New Forco Note as a result of the wind-up of Canco1, as described in 27 above, will not give rise to a "forgiven amount" for Parent for the purposes of section 80 of the Act.
G. Provided neither the change of governing law, as described in 29, nor the addition of the conversion right as described in 30 above creates a novation of the GP Note, neither the change of governing law nor the addition of the conversion right to the GP Note will result in a "disposition" of the GP Note as defined in subsection 248(1) of the Act.
H. Section 51.1 of the Act will apply to the conversion of the GP Note into the New GP Note, as described in 30 and 32 above, such that the Partnership will be considered to have disposed of the GP Note for proceeds equal to its ACB and to have acquired the New GP Note for the same amount.
I. The conversion of the GP Note for the New GP Forco Note, as described in 32 above will not give rise to a "forgiven amount" for Parent for the purposes of section 80 of the Act.
J. Parent will not realize a foreign exchange gain under subsection 39(2) of the Act as a result of the conversion of the GP Note for the New GP Note, as described in 32 above.
K The provisions of paragraphs 40(2)(e.1) and 53(1)(f.11) of the Act will apply to the transfer of the New GP Note to Canco2, as described in 33 above, such that (i) the capital loss realized by the Partnership on the transfer will be deemed to be nil, and (ii) the amount of the loss so denied will be added to the ACB to Canco2 of the New GP Note.
L. Provided the election referred to in subsection 80.01(4) of the Act is filed in a timely manner, the extinction of the New GP Note on the wind-up of Canco2, as described in 36 above, will not give rise to a "forgiven amount" for Parent for the purposes of section 80 of the Act.
M. Provided the election referred to in subsection 80.01(4) of the Act is filed in a timely manner, Parent will not realize a foreign exchange gain under subsection 39(2) of the Act as a result of the settlement of the New GP Note upon the wind-up of Canco2 as described in 36 above.
N. The provisions of subsection 245(2) of the Act will not be applicable as a result of the proposed transactions, in and by themselves, to re-determine the tax consequences confirmed in the rulings given.
The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 dated May 17, 2002 and are binding on the CRA provided that the proposed transactions are completed by XXXXXXXXXX .
The above rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.
Nothing in this ruling should be construed as implying that the CRA has agreed to, reviewed or has made any determination in respect of:
(a) the fair market value or adjusted cost base of any property or the paid up capital of any shares referred to herein;
(b) the amount of any non-capital loss, net capital loss or any other amount of any corporation referred to herein; nor
(c) any tax consequences relating to the facts and proposed transactions described herein other than those specifically described in the rulings given above.
Yours truly,
XXXXXXXXXX
for Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
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