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: Determination of purpose in s. 55(2)
Position: Based on facts, including, but not limited to, the actions taken by the parties to the dividend and their motivation. See Ludco (2001 SCC 62).
Reasons: See Response
Tax Executive Institute Liaison Meeting November 17, 2015
Section 55 of the Income Tax Act
Ordinary commercial structures typically include a parent corporation with a number of subsidiaries and sub-subsidiaries, both domestic and foreign. A common and prudent cash-management business practice is to move and manage cash within such a group by paying intercorporate dividends.
In the past, a Canadian company could confidently pay a Canada-to-Canada intercorporate dividend without the dividend being taxed as long as the transaction was truly an “inter-group” transaction, relying on the related-party exception of Income Tax Act subsection 55(3). A Canadian company could also rely on the “safe income” exception for this purpose. However, due to the complexity of the safe-income calculation and the long history of some subsidiaries, Canadian corporations typically have not incurred the time and expense of ascertaining a safe-income balance to support an intercorporate ordinary dividend.
We have heard informally that the revisions to section 55, which are intended to strengthen its anti-avoidance purposes, are not intended to require taxpayers to resort to share reorganizations followed by share redemptions in the place of ordinary course dividends. We have also heard that these revisions are not intended to tax intercorporate ordinary course dividends that cannot be established to derive from “safe income.” However, TEI members remain concerned that, because all dividends result in a reduction of the fair-market value of shares held by the dividend payor and increase the cost of properties held by the dividend recipient, the CRA may try to reassess ordinary course dividends on the basis that a purpose of every dividend is a tainted purpose.
Can the CRA confirm its positions on these concerns for the record? Also, assuming the revisions to section 55 are not intended to apply to ordinary course dividends (and taxation of these ordinary course dividends that cannot be established to be from “safe income” will not occur), can the CRA comment as to whether the following scenarios would be ordinary course dividends?:
a. Paying dividends up a corporate chain to fund a parent corporation’s dividend.
b. Paying dividends up a corporate chain to fund general corporate expenses such as servicing debt, funding growth, and repurchasing shares.
c. Paying dividends up a corporate chain to settle intragroup indebtedness resulting from centralized banking systems.
d. Paying dividends between corporations in a closely held group to facilitate intergroup loss utilization as previously sanctioned by the CRA.
Finally, what does the CRA consider to be “significant” in the context of applying proposed subparagraphs 55(2.1)(b)(i) and (ii)?
A dividend is subject to subsection 55(2) if one of the purposes of the payment or the receipt of the dividend is to significantly:
- Reduce the gain on shares,
- Reduce the value on shares, or
- Increase the cost amount of property held by the dividend recipient.
Whether a reduction of gain or value or increase in cost is significant is a question of fact. The "significant" aspect could be measured in terms of an absolute dollar amount or on a percentage basis.
The determination of purpose is based on facts that are particular to the situation, including, but not limited to, the actions taken by the parties to the dividend and their motivation. In Ludco (2001 SCC 62), the Court was of the view that “in the interpretation of the Act, as in other areas of law, where purpose or intention behind actions is to be ascertained, courts should objectively determine the nature of the purpose, guided by both subjective and objective manifestations of purpose.”
Although a dividend on a share would normally result in a reduction of value of the share, or an increase in cost of property of a dividend recipient, it’s not the result that determines the application of proposed subsection 55(2.1). It’s the purpose and the motivation behind the purpose that could be established by finding the answer to questions such as: (i) “What does the taxpayer intend to accomplish with a reduction in value or increase in cost?; (ii) How would such reduction in value or increase in cost be beneficial to the taxpayer?; (iii) What actions did the taxpayer take in connection with the reduction in value or increase in cost?”
Without limiting the application of the purpose test, a dividend that is directly or indirectly instrumental in the creation of an accrued loss on any share that may be used, or has the potential to be used, to shelter a gain on some other property provides an indication that the FMV reduction purpose exists (for example, one might consider transferring a property with an accrued income or capital gain to the corporation that issued shares that have an accrued loss). Also, the use or possibility of using an increased cost amount of properties to shelter a gain is an indication that the purpose of the dividend is to increase cost.
Where a dividend is paid pursuant to a well-established policy of paying regular dividends and the amount of the dividend does not exceed the amount that one would normally expect to receive as a reasonable dividend income return on equity on a comparable listed share issued by a comparable payer corporation in the same industry, the CRA would consider that the purpose of the payment of such dividend is not described in proposed paragraph 55(2.1)(b).
In other circumstances, the purpose or absence of purpose can only be determined by a review of all the particular facts, and the question does not provide enough information to make such determination.
Although paragraph 19(h) of IC70-6R6 indicates that the CRA will not issue an advance income tax ruling in situations involving primarily a factual determination, the CRA will consider issuing a favourable opinion under proposed subsection 55(2) where all manifestations of purpose and corroborating circumstances support the absence of one of the purposes described in proposed paragraph 55(2.1)(b). The opinion would be conditional on the representation made by the taxpayer that the purposes for which the dividend was paid do not include one of the purposes described in proposed paragraph 55(2.1)(b) and on the completeness of the description of all the manifestations of such purpose and corroborating circumstances.
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