2014 Ruling 2014-0539791R3 - Paragraph 212(1)(b)

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 interest paid in accordance with the Plan of Arrangement under CCAA in the situation described in the ruling would be considered "participating debt interest" under subsection 212(3) of the Act.
2. Whether the entering by particular note holders into the Settlement Agreement with the borrower and voting in favour of the Plan of Arrangement, in and of themselves, will result in such note holders being considered to deal not at arm's length with the borrower.

Position: 1. No.
2. No.

Reasons: 1. Interest payable in the situation described in the ruling does not meet the conditions of participating debt interest under subsection 212(3) of the Act. The fact that interest would be paid by the Trust based on the available cash in the Trust after repaying the principal amounts of the Notes (i.e., the fact that the Trust will not be able to pay all the interest it owes on the various classes of Notes) does not impact the conclusion that the interest on the Notes is not being computed by reference to revenue, profit, cash flow, commodity price or any other similar criterion.
2. Consistent with our position described in Income Tax Folio S1-F5-C1, there is nothing to suggest that in the situation at hand, the entering into of the Settlement Agreement with the Trust and the voting in favour of the Plan by the Non-Resident Holders would, in and of themselves, result in the Bank or the other Non-Resident Holders being considered to not deal at arm's length with either the Trust or the Trustee for the purposes of the Act.

XXXXXXXXXX
2014-053979

XXXXXXXXXX, 2014

Dear XXXXXXXXXX:

Re: XXXXXXXXXX
Advance Income Tax Ruling

This is in reply to your letter of XXXXXXXXXX which contained an advance income tax ruling request on behalf of the above-noted taxpayer. We also acknowledge the additional information provided to us in your emails and phone calls, the last of which was dated XXXXXXXXXX.

The rulings given are based solely on the Facts, Proposed Transactions, Additional Information, and Purpose of the Proposed Transactions described below. Any documentation submitted in respect of your request does not form part of the Facts, Proposed Transactions and Additional Information, and any references thereto are provided solely for the convenience of the reader.

We understand that, to the best of your knowledge and that of the taxpayer involved, none of the issues involved in this advance income tax ruling:

(i) is in an earlier return of the above-noted taxpayer or a related person;

(ii) is being considered by a Tax Services Office or Tax Centre in connection with a previously filed tax return of the above-noted taxpayer or a related person;

(iii) is under objection by the above-noted taxpayer or a related person;

(iv) is before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; or

(v) is the subject of a ruling previously issued by the Income Tax Rulings Directorate.

Unless otherwise stated, all references to a statute are to the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.), c.1, as amended, (the "Act").

Our understanding of the Facts, Proposed Transactions, Additional Information, and Purpose of the Proposed Transactions is as follows:

Definitions

The following definitions apply in respect of this advance income tax ruling. Throughout this advance income tax ruling, the singular should be read as plural and vice versa where the circumstances so require.

(a) XXXXXXXXXX;

(b) XXXXXXXXXX;

(c) "BA" means Bankers' acceptances;

(d) "Bank" means XXXXXXXXXX;

(e) "CCAA" means the Companies' Creditors Arrangement Act, RSC 1985, chap. C-36;

(f) XXXXXXXXXX;

(g) "CDSs" means Credit Default Swaps entered into by the Trust and the Bank and described in paragraph 4 below;

(h) "Fund" means XXXXXXXXXX;

(i) "indexed debt obligation" has the meaning assigned by subsection 248(1) of the Act;

(j) "Interest" means interest on the Notes computed pursuant to Section XXXXXXXXXX of the Plan, as more fully described in paragraph 17 below;

(k) "Litigation" means the litigation between the Trust and the Bank XXXXXXXXXX, as more fully described in paragraph 8 below;

(l) "Non-Resident Holders" means the Bank and certain of its subsidiaries none of which are related to the Trust or Trustee;

(m) "Noteholder" means a holder of any of the Notes;

(n) "Notes" means, collectively, Notes A, Notes B and Notes C;

(o) "Notes A" means XXXXXXXXXX notes issued by the Trust and described in paragraph 2(a) below;

(p) "Notes B" means XXXXXXXXXX notes issued by the Trust and described in paragraph 2(b) below;

(q) "Notes C" means XXXXXXXXXX notes (floating rate notes) issued by the Trust and described in paragraph 2(c) below;

(r) "Plan" means the plan of compromise and arrangement pursuant to the CCAA applied for by the Trustee on XXXXXXXXXX, as more fully described in paragraph 13 below, for the purpose of implementing the settlement set forth in the Settlement Agreement, including, among other things, repaying of the Notes, making of the distributions to the Noteholders, and winding-up of the Trust;

(s) "securities lending arrangement" has the meaning assigned by subsection 260(1) of the Act;

(t) "Settlement Agreement" means the settlement agreement dated XXXXXXXXXX and entered into by the Trust and the Non-Resident Holders, as more fully described in paragraphs 11 and 12 below;

(u) "Trust" means XXXXXXXXXX; and

(v) "Trustee" means XXXXXXXXXX, the issuer trustee of the Trust.

Facts

1. The Trust was established in XXXXXXXXXX, as a special purpose trust, to acquire and hold income-producing assets financed through the issuance of asset-backed notes. The Trust's address is XXXXXXXXXX. The Trust's Tax Services Office is XXXXXXXXXX and its Tax Centre is the XXXXXXXXXX Tax Centre. The Trust is a resident of Canada for purposes of the Act.

2. The Trust issued three classes of notes: namely, Notes A, Notes B and Notes C:

a. Notes A had terms XXXXXXXXXX;

b. Notes B had terms XXXXXXXXXX;

c. Notes C had terms XXXXXXXXXX.

3. The Notes did not represent a mortgage, hypothecary claim or similar debt obligation secured by, or on an agreement for sale or similar obligation with respect to, real property situated outside Canada or an interest in any such real property, or to immovables situated outside Canada or a real right in any such immovable. The Notes were not indexed debt obligations and were not issued under a securities lending arrangement.

4. The Trust entered into certain CDSs with the Bank. As the Trust's obligations under the CDSs were long term, the Trust issued notes (such as the Notes) on a continuous basis to the public to initially fund the collateral required to be provided under the CDSs and, thereafter, to fund repayment of the principal on the Notes as they became due. In the ordinary course, at the conclusion of the CDSs, the collateral would be returned to the Trust and used to repay the principal on the Notes then outstanding.

5. The Trust did not have any existence or purpose outside the issuance of the Notes and the transactions entered into between the Trust and the Bank.

6. XXXXXXXXXX. As a result of XXXXXXXXXX, when the Notes became due, the Trust was unable to repay the Notes through the issuance of additional notes or other debt securities and the principal amount of all the Notes remained outstanding.

7. XXXXXXXXXX.

8. XXXXXXXXXX the Trust became involved in the protracted Litigation with the Bank. XXXXXXXXXX.

9. XXXXXXXXXX.

10. XXXXXXXXXX.

11. In late XXXXXXXXXX, the Trust and the Bank entered into arm's length negotiations in order to settle the Litigation. These negotiations ultimately led to the entering into of the Settlement Agreement by the Trust and the Non-Resident Noteholders and the filing by the Trustee, before XXXXXXXXXX, of an application in respect of the Plan. Pursuant to the Settlement Agreement, the Bank and the Trust agreed to put an end to the Litigation and allow a substantial distribution to the Noteholders. The Fund, although not a party to the Settlement Agreement, supported this approach.

12. The Settlement Agreement included, among others, the following terms:

(a) the Bank would pay the following amounts to the Trust:

(i) $XXXXXXXXXX under the CDSs,

(ii) $XXXXXXXXXX as an unpaid amount under the CDSs,

(iii) $XXXXXXXXXX (computed as at XXXXXXXXXX) representing interest owing by the Bank to the Trust XXXXXXXXXX, and

(iv) additional interest on the amounts referred to in (i) to (iii) above until the date of payment;

(b) the proceeds referred to in (a), together with a portion of other funds held by the Trust, would be used to repay the principal amount of the Notes in full;

(c) interest would be computed and paid to all Noteholders in accordance with the Plan;

(d) the settlement and other distributions to Noteholders would be effected by way of the Plan; and

(e) the Litigation would be terminated without cost.

13. The Fund, the Bank and the other Noteholders voted in favour of the Plan, and XXXXXXXXXX.

14. During the month of XXXXXXXXXX, the Bank made the payments to the Trust described in subparagraph 12(a) above, and, pursuant to the Plan, the Trust paid the principal amounts of the Notes ($XXXXXXXXXX) to the Noteholders.

15. At the time of the repayment of the principal amounts of the Notes, the Fund was the largest Noteholder and held XXXXXXXXXX% of the Notes outstanding. The Non-Resident Holders held XXXXXXXXXX% of the Notes outstanding, which they had acquired in the secondary market. Thus, the Fund and the Non-Resident Holders held XXXXXXXXXX% of all the outstanding Notes immediately prior to their repayment.

16. The Non-Resident Holders are the only non-residents who owned the Notes at all relevant times. None of the Non-Resident Holders is a prescribed international organization or agency listed in the Income Tax Regulations 806 and 806.1.

17. Pursuant to the Plan, the Interest on Notes A and Notes C is computed daily on the basis of the Bank of Canada average XXXXXXXXXX month BA rate, while the Interest on Notes B is computed daily on the basis of the Bank of Canada average XXXXXXXXXX month BA rate + XXXXXXXXXX%.

18. After the payment of the principal amounts of the Notes described in paragraph 14 above, the Trust does not have sufficient funds to pay all the Interest. Furthermore, payments of the Interest to the Noteholders will be further impacted by certain factors such as the costs of implementing the Plan and any income tax liability that may exist and that will have to be paid by the Trust prior to any payment of the Interest.

Proposed Transactions

19. The Trust will pay the Interest to each Noteholder. Each Noteholder's payment will be based on that Noteholder's pro rata share of the funds available at the time of the payment determined based on the ratio of the aggregate amount of the Interest due to such Noteholder to the aggregate amount of the Interest due to all Noteholders.

Additional Information

20. Pursuant to the Plan, the recourse of the Noteholders to receive the Interest is limited to the assets of the Trust that remain after the repayment of the principal amount owing on the Notes and after the payment by the Trust of its other obligations (as described in paragraph 18 above). The Noteholders will not be entitled to receive any amount from the Trust in respect of their Notes other than: (i) the principal amount owing, and (ii) the Interest.

21. The Trustee will obtain a certificate pursuant to subsection 159(2) of the Act prior to payment of the Interest to the Noteholders.

22. In order to be approved (as stated in paragraph 13 above), the Plan required the favourable vote of the Noteholders holding at least XXXXXXXXXX% of all the Notes.

23. The Trust no longer carries on any activity and has no employees. It will thus be dissolved after the payments to its creditors in accordance with the terms of the Plan.

Purpose of the Proposed Transactions

24. The purpose of the Proposed Transactions is to allow the payment of the Interest by the Trust to the Noteholders pursuant to the Plan.

Rulings

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant Facts, Proposed Transactions, Additional Information, and Purpose of the Proposed Transactions and provided further that the Proposed Transactions are completed in the manner described above, we rule as follows:

A. The payments of the Interest by the Trust to the Non-Resident Holders, described in paragraph 19 above, are not "participating debt interest" within the meaning of the definition in subsection 212(3) of the Act.

B. The entering by the Non-Resident Holders into the Settlement Agreement and their voting in favour of the Plan, in and of themselves, will not result in any of the Non-Resident Holders being considered to not deal at arm's length, within the meaning of the Act, with either the Trust or the Trustee.

Comments

The above Rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R6 dated August 29, 2014, and are binding on the CRA provided that the Proposed Transactions are completed prior to XXXXXXXXXX.

The Rulings given are based solely on the Facts, Proposed Transactions, Additional Information, and Purpose of the Proposed Transactions described above. Any documentation submitted in respect of your request does not form part of the Facts and Proposed Transactions, and any references thereto are provided solely for the convenience of the reader. Nothing in this letter should be construed as implying that the Canada Revenue Agency has agreed to, reviewed or has made any determination in respect of any tax consequences relating to the Facts and Proposed Transactions described herein other than those specifically described in the Rulings given above and in particular, without limiting the generality of the foregoing, in respect of:

• any issues concerning whether the Trust or the Trustee deal with the Non-Resident Holders at arm's length for reasons other than those listed in the Rulings above;
• any issues concerning the residency of the Non-Resident Holders;
• any tax compliance issues arising from the distributions by the Trust or any of the other parties involved in the distributions; and
• the GST implications of any of the Proposed Transactions.

Yours truly,

XXXXXXXXXX
For Director
International Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch