2016 Ruling 2016-0645351R3 - Loss consolidation

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: Whether related corporations can undertake a loss consolidation by utilizing an inter-company debt to create interest expense in a profitco and interest income in the lossco.

Position: Yes.

Reasons: The proposed transactions conform to our requirements for loss consolidation arrangements.

XXXXXXXXXX							2016-064535

XXXXXXXXXX, 2016

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling Request
XXXXXXXXXX

We are writing in response to your letter of XXXXXXXXXX, in which you requested an advance income tax ruling on behalf of the Taxpayers. We also acknowledge the information provided in various emails and telephone conversations.

Except as disclosed in paragraph 7 hereof, to the best of your knowledge and that of the Taxpayers, none of the issues involved in the ruling request is:

i. in an earlier return of any of the Taxpayers or a related person;

ii. being considered by a tax services office or a tax centre in connection with a tax return already filed by any of the Taxpayers or a related person;

iii. under objection by any of the Taxpayers or a related person;

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

v. the subject of a ruling previously issued by the Directorate to any of the Taxpayers or a related person.

The Taxpayers have confirmed that the proposed transactions described herein will not result in the Taxpayers or any person related to the Taxpayers being unable to pay any of their outstanding tax liabilities.

Unless specified otherwise, all statutory references herein are to provisions or parts of the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) c. 1, as amended to the date hereof (the “Act”) and all references to monetary amounts are in Canadian dollars.

This document is based solely on the facts described below. Any documentation submitted with your request does not form part of the facts except as expressly referred to herein, and any references thereto are otherwise provided solely for the convenience of the reader.

DEFINITIONS:

“Affiliate” means XXXXXXXXXX;

“Affiliate Additional Loans” means the additional loans made by Parent to Affiliate as described in paragraph 15 below;

“Affiliate Initial Loans” means the initial loans made by Parent to Affiliate as described in paragraph 15 below;

“Affiliate Loans” means the Affiliate Initial Loans and the Affiliate Additional Loans or either of them;

“affiliated persons” has the meaning assigned by subsection 251.1(1);

“Back-to-Back Additional Loans” means the additional loans made by Affiliate to Parent as described in paragraph 16 below;

“Back-to-Back Additional Repayments” means the repayment by Parent of the Back-to-Back Additional Loans as described in paragraph 21.

“Back-to-Back Initial Loans” means the initial loans made by Affiliate to Parent as described in paragraph 16 below;

“Back-to-Back Initial Repayments” means the repayment by Parent of the Back-to-Back Initial Loans as described in paragraph 21.

“Back-to-Back Loans” means the Back-to-Back Initial Loans and the Back-to-Back Additional Loans or either of them;

XXXXXXXXXX;

XXXXXXXXXX;

“Corporate Group” means the XXXXXXXXXX;

“CRA” means the Canada Revenue Agency;

“dividend rental arrangement” has the meaning assigned by subsection 248(1);

XXXXXXXXXX;

XXXXXXXXXX;

“Lossco” means XXXXXXXXXX;

“Lossco Additional Preferred Share Subscriptions” means the additional subscriptions by Parent for Preferred Shares of Lossco as described in paragraph 17 below;

“Lossco Additional Preferred Shares” means the additional Preferred Shares to be issued by Lossco to Parent as described in paragraph 17 below;

“Lossco Initial Preferred Share Subscriptions” means the initial subscriptions by Parent for Preferred Shares of Lossco as described in paragraph 17 below;

“Lossco Initial Preferred Shares” means the initial Preferred Shares to be issued by Lossco to Parent as described in paragraph 17 below;

“Lossco Preferred Share Subscriptions” means the Lossco Initial Preferred Share Subscriptions and the Lossco Additional Preferred Share Subscriptions or either of them;

“Lossco Preferred Shares” means the Lossco Initial Preferred Shares and the Lossco Additional Preferred Shares or either of them;

“non-capital loss” has the meaning assigned by subsection 111(8);

“Parent” means the XXXXXXXXXX;

“Parent Additional Loans” means the additional loans made by Lossco to Parent as described in paragraph 18 below;

“Parent Initial Loans” means the initial loans made by Lossco to Parent as described in paragraph 18 below;

“Parent Loans” means the Parent Initial Loans and the Parent Additional Loans or either of them;

“Preferred Shares” means shares of the capital stock of Lossco as defined in paragraph 14 below;

XXXXXXXXXX;

“Proposed Transactions” means the transactions described in paragraphs 14 to 28 below;

“public corporation” has the meaning assigned by subsection 89(1);

XXXXXXXXXX;

“related persons” has the meaning assigned by section 251;

XXXXXXXXXX

XXXXXXXXXX;

“taxable Canadian corporation” has the meaning assigned by subsection 89(1).

FACTS:

1. Parent is a XXXXXXXXXX. It is a taxable Canadian corporation, XXXXXXXXXX. Since XXXXXXXXXX, there have been no acquisitions of control of Parent or Lossco and there are no planned acquisitions of such corporations in the future.

2. Parent’s registered address is XXXXXXXXXX. Its Tax Centre is the XXXXXXXXXX Tax Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office. Parent’s taxation year-end is XXXXXXXXXX.

3. Lossco is a wholly-owned subsidiary of Parent. Lossco is a corporation existing under the laws of XXXXXXXXXX. Lossco is a taxable Canadian corporation, XXXXXXXXXX.

4. Lossco’s registered address is XXXXXXXXXX. Its Tax Centre is the XXXXXXXXXX Tax Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office. Lossco’s taxation year-end is XXXXXXXXXX.

5. Affiliate is a wholly-owned subsidiary of Parent and was incorporated under the Canada Business Corporations Act. Affiliate is a taxable Canadian corporation, XXXXXXXXXX.

6. Affiliate’s registered address is XXXXXXXXXX. Its Tax Centre is the XXXXXXXXXX Tax Centre and its Tax Services Office is the XXXXXXXXXX Tax Services Office. Affiliate’s taxation year-end is XXXXXXXXXX.

7. As at XXXXXXXXXX, Lossco had a balance of non-capital loss carryforwards of $XXXXXXXXXX, as reported on its federal tax return filed for the taxation year ending XXXXXXXXXX. These losses were incurred in Lossco’s taxation years ending XXXXXXXXXX and were incurred pursuant to transactions entered into in the ordinary course of Lossco’s business. XXXXXXXXXX. In addition, Lossco reported $XXXXXXXXXX of non-capital losses on its federal tax return for its taxation year ending XXXXXXXXXX. The following table summarizes the non-capital losses:

			XXX	XXX	XXX	XXX		Total
Non-Capital
Losses per
tax return		XXX	XXX	XXX	XXX		XXX
XXX			XXX	XXX				XXX
XXX			XXX					XXX
XXX			XXX					XXX
XXX				XXX				XXX
Ending 		XXX	XXX	XXX	XXX		XXX
Balance

8. Lossco has a permanent establishment in each of the provinces and territories listed below and, for its taxation year ending XXXXXXXXXX, its provincial/territorial income was allocated (or would be allocated if it had taxable income) as follows:

Province/Territory	Allocation
XXXXXXXXXX			XXXXXXXXXX

9. The unconsolidated financial statements of Lossco for its fiscal year ended XXXXXXXXXX indicate that Lossco had:

i. assets of approximately $XXXXXXXXXX;

ii. liabilities of approximately $XXXXXXXXXX; and

iii. total shareholder’s equity of approximately $XXXXXXXXXX.

10. Parent’s taxable income for its XXXXXXXXXX taxation years prior to its taxation year ending XXXXXXXXXX was as follows:

Taxation Year Ending	Taxable Income
XXXXXXXXXX			XXXXXXXXXX

11. It is expected that Parent will be able to fully utilize the interest paid or payable on the Parent Loans made to it against its income for its taxation year ending XXXXXXXXXX. Parent’s taxable loss for its tax year ending XXXXXXXXXX, as reported on its federal tax return for its taxation year ending XXXXXXXXXX is $XXXXXXXXXX.

12. Parent has a permanent establishment in each of the provinces and territories listed below and, for its taxation year ending XXXXXXXXXX, its provincial/territorial income was allocated as follows:

Province/Territory	Allocation
XXXXXXXXXX			XXXXXXXXXX

13. The consolidated financial statements of Parent for its fiscal year ended XXXXXXXXXX indicate that Parent and its subsidiaries had (XXXXXXXXXX):

a. assets of approximately $XXXXXXXXXX;

b. liabilities of approximately $XXXXXXXXXX;

c. total shareholder’s equity of approximately $XXXXXXXXXX; and

d. subordinated debt of approximately $XXXXXXXXXX, capital trust securities of approximately $XXXXXXXXXX and preferred share liabilities of approximately $XXXXXXXXXX.

PROPOSED TRANSACTIONS

14. Lossco’s share capital will be reorganized to create a new class of non-voting, cumulative dividend, redeemable, retractable preferred shares, issuable in series (the “Preferred Shares”). The cumulative dividends payable on the Preferred Shares will be calculated by reference to the redemption/retraction price of the Preferred Shares at a rate for a particular series equal to the interest rate on the Parent Loans plus a small spread of approximately XXXXXXXXXX%. Dividends on the Preferred Shares will be payable XXXXXXXXXX in arrears, except that (i) the first dividend may, if the Proposed Transactions are entered into on XXXXXXXXXX, be payable at the XXXXXXXXXX that begins after the day the Proposed Transactions are entered into, and (ii) the last dividend (which may also be the first dividend if the Proposed Transactions are entered into within the same XXXXXXXXXX in which they are unwound) may, if the Proposed Transactions are unwound (as described in paragraph 25 below) prior to XXXXXXXXXX, be payable in connection with the unwinding of the Proposed Transactions. The terms of the Preferred Shares will provide that the payment of the redemption or retraction price may be satisfied, at Lossco’s option, either by (i) cash payment or (ii) the delivery of indebtedness of the holder of the shares having an aggregate principal amount equal to the redemption or retraction price.

15. On a particular day to be determined by Parent, Parent will make a series of loans to Affiliate (the “Affiliate Initial Loans”). On one or more other days determined by Parent, Parent may make a series of additional loans to Affiliate (the “Affiliate Additional Loans”). The aggregate of the Affiliate Loans will not exceed $XXXXXXXXXX. The Affiliate Loans will constitute unsubordinated indebtedness of Affiliate and will be repayable by Affiliate or on the demand of Parent at any time without premium or penalty. The Affiliate Loans will be non-interest bearing.

16. Affiliate will use the total proceeds received by it from the Affiliate Initial Loans to make a series of loans to Parent on the same day the proceeds are received (the “Back-to-Back Initial Loans”). Affiliate will use the total proceeds received by it on a particular day from the Affiliate Additional Loans made on that day to make a series of loans to Parent on the same day the proceeds are received (the “Back-to-Back Additional Loans”). The aggregate of the Back-to-Back Loans will not exceed $XXXXXXXXXX. The Back-to-Back Loans will constitute unsubordinated indebtedness of Parent and will be repayable by Parent or on the demand of Affiliate at any time without premium or penalty. The Back-to-Back Loans will be non-interest bearing.

17. Parent will use the total proceeds received by it from the Back-to-Back Initial Loans to subscribe (the “Lossco Initial Preferred Share Subscriptions”), on the same day the proceeds are received, for Preferred Shares in the capital of Lossco having an aggregate redemption/retraction price equal to the subscription price therefor (the “Lossco Initial Preferred Shares”). Parent will use the total proceeds received by it on a particular day from the Back-to-Back Additional Loans made on that day to subscribe (the “Lossco Additional Preferred Share Subscriptions”), on the same day the proceeds are received, for Preferred Shares in the capital of Lossco having an aggregate redemption/retraction price equal to the subscription price therefor (the “Lossco Additional Preferred Shares”). A separate series of Preferred Shares may be used on each different day Preferred Shares are issued. XXXXXXXXXX.

18. Lossco will use the total proceeds received by it from the Lossco Initial Preferred Share Subscriptions to make a series of loans to Parent on the same day the proceeds are received (the “Parent Initial Loans”). Lossco will use the total proceeds received by it on a particular day from the Lossco Additional Preferred Share Subscriptions made on that day to make a series of loans to Parent on the same day the proceeds are received (the “Parent Additional Loans”). The aggregate of the Parent Loans will not exceed $XXXXXXXXXX. The Parent Loans will constitute unsubordinated indebtedness of Parent and will be repayable by Parent at any time without penalty.

19. Simple interest will accrue on each of the Parent Loans and will be calculated at a rate of approximately XXXXXXXXXX% per annum. The interest rate would not exceed a reasonable commercial arm’s length rate. The interest rate was determined having regard to the rate that Lossco would be expected to pay if it were to borrow a similar amount on similar terms from an arm’s length lender.

20. The interest on each of the Parent Loans will be paid XXXXXXXXXX, except that (i) the first interest payment may, if the Proposed Transactions are entered into on XXXXXXXXXX, be made at the XXXXXXXXXX that begins after the day the Proposed Transactions are entered into, and (ii) the last interest payment (which may also be the first interest payment if the Proposed Transactions are entered into within the same XXXXXXXXXX in which they are unwound) may, if the Proposed Transactions are unwound (as described in paragraph 25 below) prior to XXXXXXXXXX, be made in connection with the unwinding of the Proposed Transactions. There is no “right to reduce” the interest on the Parent Loans and the interest is not otherwise “contingent” such that no portion of the interest on the Parent Loans will be considered to be a “contingent amount” as defined in Subsection 143.4(1) of the Act.

21. Parent will use the total proceeds received by it on the Parent Initial Loans to repay, on the same day such proceeds are received, the Back-to-Back Initial Loans (the “Back-to-Back Initial Repayments”). Parent will use the total proceeds received by it on a particular day from the Parent Additional Loans made on that day to repay, on the same day the proceeds are received, the Back-to-Back Additional Loans made on that same day (the “Back-to-Back Additional Repayments”).

22. Affiliate will use the total proceeds received by it from the Back-to-Back Initial Repayments to repay, on the same day such proceeds are received, the Affiliate Initial Loans. Affiliate will use the total proceeds received by it on a particular day from the Back-to-Back Additional Repayments made on that day to repay, on the same day the proceeds are received, the Affiliate Additional Loans made on that same day.

23. Lossco will pay dividends equal to the amount of the dividends payable by it on the Lossco Preferred Shares.

24. Parent will pay interest on the Parent Loans when due and payable.

25. Prior to the end of Parent’s taxation year ending XXXXXXXXXX, the following transactions will occur on one or more days:

a. Lossco will pay the balance of any accrued and unpaid dividends on the Lossco Preferred Shares that will be redeemed under paragraph 25.c below;

b. Parent will pay the balance of any accrued and unpaid interest on such portion of the Parent Loans that will be cancelled under paragraph 25.d below;

c. Lossco will redeem all or a portion of the Lossco Preferred Shares held by Parent for their aggregate redemption amount and will deliver to Parent, as payment of the redemption amount, Parent Loans having an aggregate principal amount equal to the redemption amount;

d. The delivery of the Parent Loans as payment of the redemption amount, as described in paragraph 25.c above, will result in Parent’s obligations under the applicable Parent Loans being discharged and cancelled.

26. The transactions described in paragraph 25 above will result in, on or prior to XXXXXXXXXX, the payment of all accrued dividends on the Lossco Preferred Shares, the payment of all accrued interest on the Parent Loans, the redemption of all Lossco Preferred Shares and the repayment of all Parent Loans.

27. The loss consolidation arrangement described in paragraphs 14 to 25 above is anticipated to be undertaken in the taxation year of Affiliate, Parent and Lossco ending on XXXXXXXXXX.

28. It is anticipated that the Proposed Transactions will fully utilize all of Lossco’s non-capital loss carryforwards as reported on Lossco’s federal tax return for its taxation year ending XXXXXXXXXX, as may be revised as described in paragraph 7 hereof, plus the additional $XXXXXXXXXX of non-capital losses incurred in its taxation year ending XXXXXXXXXX. It is also anticipated that the Parent Loans will remain outstanding for a period of one month following the implementation of the Proposed Transactions. However, the actual amount of Lossco’s non-capital loss carryforwards that should be utilized as a result of the Proposed Transactions will depend on Lossco’s net income or loss position for its taxation year ending XXXXXXXXXX determined without regard to the Proposed Transactions and the amount of the Parent Loans. Lossco’s net income or loss for its taxation year ending XXXXXXXXXX determined without regard to the Proposed Transactions cannot be predicted with any certainty at this time because it is highly dependent on XXXXXXXXXX. However, the amount of the Parent Loans (up to $XXXXXXXXXX) will be based on reasonable estimates, taking into account the anticipated one month duration of the Proposed Transactions and the XXXXXXXXXX% interest rate, so that the amount of the interest earned by Lossco should be sufficient to allow Lossco to fully utilize its available non-capital loss carryforwards in computing its taxable income for its taxation year ending XXXXXXXXXX but it is not anticipated that this will create more interest income than is needed.

ADDITIONAL INFORMATION

29. Parent will have at all times the solvency and liquidity to service the Parent Loans.

30. Lossco will have the financial capacity to satisfy the applicable solvency test and liquidity test under the XXXXXXXXXX in order to pay dividends on the Lossco Preferred Shares as described in paragraph 23 and to redeem the Lossco Preferred Shares as described in paragraph 25.c.

31. XXXXXXXXXX.

32. The Lossco Preferred Shares will not, at any time during the implementation of the Proposed Transactions described in paragraphs 14 to 25 above, be:

a. XXXXXXXXXX;

b. the subject of a dividend rental arrangement (and nor will any of the dividends paid on the Lossco Preferred Shares in the course of the Proposed Transactions be received as part of a dividend rental arrangement);

c. the subject of any secured undertaking of the type described in paragraph 112(2.4)(a); or

d. issued for consideration (nor will Lossco receive any other property, directly or indirectly, from an investor or any property substituted therefore) that is or includes:

i. an obligation of the type described in subparagraph 112(2.4)(b)(i), other than an obligation of a corporation that is related (otherwise than by reason of a right referred to in paragraph 251(5)(b)); or

ii. any right of the type described in subparagraph 112(2.4)(b)(ii).

33. Parent, Affiliate and Lossco are affiliated persons and are related to each other, and will remain affiliated persons and related persons while the Proposed Transactions are in place. Parent, Lossco and Affiliate have been affiliated persons and related persons since the acquisition of Lossco by Parent XXXXXXXXXX. Parent and Affiliate have been affiliated persons and related persons since the acquisition of Affiliate by the Corporate Group on XXXXXXXXXX.

34. XXXXXXXXXX.

35. XXXXXXXXXX.

PURPOSE OF THE PROPOSED TRANSACTIONS

The purpose of the Proposed Transactions is to effect a tax consolidation of Parent and Lossco by causing Lossco to earn interest income on the Parent Loans, thus permitting Lossco to utilize its non-capital loss carry forwards and to have Parent incur interest expense to reduce its income for its current taxation year.

RULINGS PROVIDED

Provided that

(a) the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, Proposed Transactions and the purposes of the proposed transactions,

(b) the Proposed Transactions are completed in the manner described above, and

(c) there are no other transactions which may be relevant to the rulings requested,

we rule that:

A. Provided that Parent has a legal obligation to pay interest on the Parent Loans and that the Lossco Preferred Shares continue to be held by Parent for the purpose of gaining or producing income therefrom, in computing its income for its taxation year ending XXXXXXXXXX, Parent will be entitled to deduct, pursuant to paragraph 20(1)(c) and subsection 20(3) of the Act, the lesser of: (i) the interest paid or payable in respect of the Parent Loans for the taxation year (depending on the method regularly followed by Parent in computing its income for the purposes of the Act); and (ii) a reasonable amount in respect thereof.

B. The dividends received (or deemed to be received) by Parent in respect of the Lossco Preferred Shares in its taxation year ending XXXXXXXXXX, will be taxable dividends that will be deductible in computing the taxable income of Parent for its taxation year ending XXXXXXXXXX pursuant to subsection 112(1), and, for greater certainty, such deductions will not be precluded by any of subsections 112(2.1), 112(2.2), 112(2.3) or 112(2.4).

C. XXXXXXXXXX will apply to the dividends described in Ruling B because the dividends will be excepted dividends within the meaning assigned by section 187.1 of the Act XXXXXXXXXX.

D. The provisions of subsections 15(1), 56(2), 69(1), 69(4), 69(11) and 246(1) will not apply as a result of entering into the Proposed Transactions, in and by themselves.

E. The delivery of the Parent Loans to Parent in satisfaction of the redemption amount of the Lossco Preferred Shares as described in paragraph 25.c above will not give rise to any “forgiven amount” for purposes of section 80.

F. Subsection 245(2) will not be applied as a result of entering into 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 general limitations and qualifications set out in Information Circular 70-6R7 dated April 22, 2016, and are binding on the CRA provided that the Proposed Transactions are entered into on or before XXXXXXXXXX.

The above rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.

COMMENTS

Nothing in this letter 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;

(c) the provincial income tax implications relating to the allocation of income and expenses under the Proposed Transactions;

(d) the application or non-application of a general anti-avoidance provision of any province; and

(e) any tax consequences relating to the Facts and Proposed Transactions described herein, other than those specifically described in the rulings given above.

Yours sincerely,

XXXXXXXXXX
for Director
Partnerships and Corporate Financing Section
Reorganizations Division
Income Tax Rulings Directorate