5 November 2009 Internal T.I. 2009-0315901I7 - stop-loss rules - financial institutions

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: Does 112(5.2) apply to reduce a loss in the amount of a dividend declared but not received at the time of disposition of shares by a financial institution?

Position: Yes

Reasons: Subsection 112(5.2) applies to a disposition of a share by a taxpayer at any time.

								November 5, 2009

Toronto East TSO						Income Tax Rulings Directorate
200 Town Centre Crt					Sylvie Danis
Scarborough, Ontario					(613) 957-3496
M1P 4Y3			

Attention:  	Iftekhar Shariff			2009-031590
		Senior Tax Avoidance Auditor		

XXXXXXXXXX

We are writing in response to your email dated March 27, 2009 where you enquired about the application of subsection 112(5.2) of the Income Tax Act ("the Act") in a particular situation.

Our understanding of the relevant facts in this situation, upon which we have based our views, are as follows:

1. XXXXXXXXXX ("the taxpayer") is a financial institution as defined in 142.2(1) of the Act for the taxation years in question. The taxpayer's taxation year ends XXXXXXXXXX .

2. In XXXXXXXXXX , the taxpayer purchased XXXXXXXXXX shares of XXXXXXXXXX from the market at a price of $XXXXXXXXXX each for a total cost of $XXXXXXXXXX . The shares in question are mark-to-market property of the taxpayer as defined in 142.2(1) of the Act.

3. During the XXXXXXXXXX year, XXXXXXXXXX announced that it would wind up the business by declaring $XXXXXXXXXX per share of return of capital and $XXXXXXXXXX per share in dividends for a total of $XXXXXXXXXX in dividends payable to the taxpayer in XXXXXXXXXX . As a result of the ROC, the taxpayer's new adjusted cost basis per share became $XXXXXXXXXX (XXXXXXXXXX minus XXXXXXXXXX )/share.

4. On XXXXXXXXXX announced that it would cancel all outstanding shares issued. At the same time, a final dividend of $XXXXXXXXXX per shares was declared but it was only to be payable in XXXXXXXXXX .

5. Since the shares were cancelled in XXXXXXXXXX , the taxpayer claimed a loss of $XXXXXXXXXX ($XXXXXXXXXX x XXXXXXXXXX per shares). In XXXXXXXXXX , the stop loss rules were applied to the $XXXXXXXXXX in dividends (see (3) above) received in the year which reduced the loss from $XXXXXXXXXX to $XXXXXXXXXX ($XXXXXXXXXX minus $XXXXXXXXXX ).

6. A dividend of $XXXXXXXXXX ($XXXXXXXXXX per share as noted above) was received by the taxpayer in XXXXXXXXXX . The taxpayer claimed a deduction under subsection 112(1) with respect to the dividend.

The question we are asked is whether the stop loss rules in subsection 112(5.2) apply to reduce the remaining loss of $XXXXXXXXXX claimed by the taxpayer in XXXXXXXXXX to nil?

The stop loss rules in subsection 112(5.2) of the Act will apply to a disposition where subsection 112(5) or 112(5.1) applies. Subsection 112(5.1) provides that where a disposition of a share is an actual disposition, the taxpayer did not hold the share throughout the 365-day period that ended immediately before the disposition; and the share was a mark-to-market property of the taxpayer for a taxation year that begins after October 1994 and in which the taxpayer was a financial institution, subsection 112(5.2) will apply to the disposition. The terms "financial institution" and "mark-to-market property" for purposes of section 112 are defined in subsection 142.2(1).

In general terms, subsection 112(5.2) prevents a taxpayer from obtaining a deduction for the part of the taxpayer's overall loss in respect of a share, to the extent that the taxpayer has received dividends on the share. Subsection 112(5.2) applies "to the disposition of a share by a taxpayer at any time" to reduce the loss as determined by a formula which considers "where the taxpayer is a corporation, a taxable dividend received by the taxpayer on the share, to the extent of the amount that was deductible under this section or subsection 115(1) or 138(6) in computing the taxpayer's taxable income earned in Canada for any taxation year."

In our view, where a dividend has been declared but not paid on a share at the time of the disposition of such share, subsection 112(5.2) will apply at the time the dividend is received to adjust the proceeds of disposition in a previous year as the preamble to subsection 112(5.2) applies to "the disposition of a share by a taxpayer at any time". If the intent was to limit the application to a particular year, such as the year a dividend was received, the provision would have been worded differently. For example, the wording could have been "... this subsection applies to a disposition of a share by a taxpayer in the taxation year" as opposed to "at any time". In addition, paragraph (b) of the component B in 112(5.2) could have limited the adjustment to the proceeds, by inserting words such as the underlined: "a taxable dividend received before that time by the taxpayer" or "a taxable dividend received in the year or in a preceding year by the taxpayer".

As such, in a scenario as noted above, where the taxpayer is a financial institution, the shares are mark-to-market property and the shares were held less than 365 days, subsection 112(5.2) will apply to reduce the loss with respect to a dividend received after the disposition of such shares since the preamble to subsection 112(5.2) applies to "the disposition of a share by a taxpayer at any time".

We trust that these comments will be of assistance.

Yours truly,

F. Lee Workman
Manager
Charitable and Financial Institutions Sectors
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch