2018 Ruling 2018-0767431R3 - Post-mortem pipeline

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. Does paragraph 84.1(1)(b) deem a dividend in the Proposed Transactions? 2. Does subsection 84(2) apply to the Proposed Transactions? 3. Does the GAAR apply to the Proposed Transactions?

Position: 1. No. Favourable Rulings Given. 2. No. Favourable Rulings Given. 3. No. Favourable Rulings Given.

Reasons: The Proposed Transactions are in accordance with the Act, relevant jurisprudence and are consistent with our previous positions.

XXXXXXXXXX								2018-076743

XXXXXXXXXX, 2018

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling – Post-mortem pipeline

XXXXXXXXXX

This is in reply to your letter dated XXXXXXXXXX in which you requested an advance income tax ruling (“Ruling”) on behalf of the Taxpayers.

We understand that to the best of your knowledge and that of the Taxpayers, none of the proposed transactions and/or issues involved in this Ruling are the same as or substantially similar to transactions and/or issues that are:

(a) in a previously filed return of the Taxpayers or a related person;

(b) being considered by a tax services office or taxation centre in connection with a previously filed tax return of the Taxpayers or a related person;

(c) under objection by the Taxpayers or a related person;

(d) the subject of a current or completed court process involving the Taxpayers or a related person; or

(e) the subject of a ruling previously considered by the Income Tax Rulings Directorate in relation to the Taxpayers or a related person.

Unless otherwise noted, all references herein to sections or components thereof are references to the Income Tax Act, RSC 1985, c 1 (5th Supp), as amended (the “Act”) and all references to monetary amounts are in Canadian dollars.

This document is based solely on the facts and proposed transactions described below. The documentation submitted with the request does not form part of the facts and proposed transactions, and any references thereto are provided solely for the convenience of the reader.

DEFINITIONS

In this letter, unless otherwise noted, the following terms have the meaning specified herein. All references in the singular include the plural.

“A” means XXXXXXXXXX;

“A’s children” means the adult children of A, who are XXXXXXXXXX;

“ACB” means “adjusted cost base” and has the meaning assigned in section 54;

“ACo” means XXXXXXXXXX, a corporation incorporated under Act1 on XXXXXXXXXX;

“ACo Class A Special Shares” means the Class A Special Shares in the capital of ACo of which ACo is authorized to issue an unlimited amount, as described in Paragraph 7 of this letter;

“ACo Common Shares” means the common shares in the capital of ACo of which ACo is authorized to issue an unlimited amount, as described in Paragraph 6 of this letter;

“ACo Debt” means a non-interest-bearing, demand promissory note that ACo owes to the Estate (formerly to A), with a principal amount of $XXXXXXXXXX (this was also the principal amount at the time of A’s death);

“ACo Shares” means collectively, all of the ACo Class A Special Shares and the ACo Common Shares owned by A at the time of his death and then owned by the Estate after A’s death, as the case may be;

“Act1” means the XXXXXXXXXX;

“agreed amount” means the amount agreed on by the transferor and transferee in respect of a transfer of an eligible property in a joint election filed pursuant to subsection 85(1);

“Amalco” means a corporation to be formed on the amalgamation of ACo and Newco, as described in the Proposed Transactions;

“arm’s length” has the meaning assigned in subsection 251(1);

“Beneficiaries” means collectively A’s children, who are the equal beneficiaries under A’s Will;

“Board of Directors” means the board of directors of ACo, which is comprised of Executor;

“Business” means dealing and investing in Marketable Securities as described in further detail in Paragraph 32;

“capital gain” has the meaning assigned in paragraph 39(1)(a);

“capital property” has the meaning assigned in section 54;

“CCPC” means “Canadian-controlled private corporation” and has the meaning assigned in subsection 125(7);

“CDA” means “capital dividend account” and has the meaning assigned in subsection 89(1);

“CRA” means the Canada Revenue Agency;

“disposition” has the meaning assigned in subsection 248(1);

“eligible property” has the meaning assigned in subsection 85(1.1);

“Estate” means the estate of A governed by the terms of the Will, which will be designated as a GRE when the Executor files the first tax return for the Estate;

“Executor” means the executor of the Estate as appointed by A in his Will, specifically, XXXXXXXXXX, one of A’s children;

“FMV” or “fair market value” means the highest price expressed in terms of money or money’s worth available in an open and unrestricted market between informed, prudent parties, acting at arm’s length and under no compulsion to act;

“GRE” means “graduated rate estate” and has the meaning assigned in subsection 248(1);

“GRIP” means “general rate income pool” and has the meaning assigned in subsection 89(1);

“Marketable Securities” means a diversified portfolio of investment property that includes cash and cash equivalents, government and corporate bonds, shares of public corporations and units in mutual funds;

“Newco” means a corporation to be incorporated under the provisions of Act1 as described in the Proposed Transactions;

“Newco Class A Preferred Shares” means the Class A Preferred Shares in the capital of Newco of which Newco will be authorized to issue an unlimited amount, as described in Paragraph 22 of this letter;

“Newco Common Shares” means the common shares in the capital of Newco of which Newco will be authorized to issue an unlimited amount, as described in Paragraph 21 of this letter;

“Newco Note” means a non-interest-bearing, demand promissory note to be issued by Newco to the Estate, as described in Paragraph 24;

“Paragraph” refers to a numbered paragraph in this letter;

“proceeds of disposition” has the meaning assigned in section 54;

“Proposed Transactions” means the proposed transactions that are described under the heading Proposed Transactions below;

“PUC” means “paid-up capital” and has the meaning assigned in subsection 89(1);

“QSBC Shares” means “qualified small business corporation shares” and has the meaning assigned in subsection 110.6(1);

“RDTOH” means “refundable dividend tax on hand” and has the meaning assigned in subsection 129(3);

“resident of Canada” means resident of Canada for the purposes of the Act;

“series of transactions or events” means a series of transactions or events as interpreted by the courts for purposes of the Act and includes the transactions or events referred to in subsection 248(10);

“taxable Canadian corporation” has the meaning assigned in subsection 89(1);

“V-Day basis” means the amount, if any, described in subparagraph 84.1(2)(a.1)(i) for purposes of element “B” of paragraph 84.1(1)(a) and element “E” of paragraph 84.1(1)(b); and

“Will” means the secondary last will and testament of A executed on XXXXXXXXXX.

FACTS

1. A died on XXXXXXXXXX. A was a resident of Canada at all relevant times, including at the time of his death.

2. At the time of A’s death, he owned the following ACo Shares, which represented all the issued and outstanding shares of ACo:

Class					Number	PUC ($)	ACB ($)	Redemption
											 Value ($)

ACo Common Shares		      XXXX		XXXX		XXXX		XXXX
ACo Class A Special Shares	XXXX		XXXX		XXXX		XXXX

3. The ACo Shares were capital property to A during his lifetime and at the time of his death.

4. According to the Will, the ACo Shares owned by A at the time of his death are to be divided into XXXXXXXXXX equal parts and distributed equally to the Beneficiaries.

5. Pursuant to paragraph 70(5)(a), A was deemed to have disposed of the ACo Shares immediately before his death and to have received proceeds of disposition equal to the FMV of such shares at that time. The following table details the proceeds of disposition and capital gains to be reported in A’s terminal income tax return in respect of each class of ACo Shares:

Class			Number	Proceeds of	ACB($)	Capital Gain
					Disposition ($)				($)
ACo
Common 		XXXX		XXXX		      XXXX			XXXX
Shares

ACo Class A	XXXX	XXXX		XXXX			XXXX
Special Shares

Total			XXXX		XXXX			XXXX

6. The terms and conditions of the ACo Common Shares entitle the holder to one vote per share, non-cumulative dividends as and when declared by the Board of Directors and participation in the remaining assets of ACo in the event of a wind-up, dissolution or liquidation of ACo.

7. The terms and conditions of the ACo Class A Special Shares do not entitle the holder to vote except as otherwise provided under Act1, and each share is redeemable and retractable at a price equal to the FMV of the consideration paid to acquire such share on issuance. The terms and conditions also entitle the holder to annual non-cumulative dividends at a rate of XXXXXXXXXX% of the redemption price, as and when declared by the Board of Directors. On the winding-up, liquidation or dissolution of ACo, the holder of an ACo Class A Special Share is entitled to the amount of its redemption price plus any declared but unpaid dividends in priority to any participation by the holders of shares ranking junior to the ACo Class A Special Shares.

8. Pursuant to paragraph 70(5)(b), the Estate was deemed to have acquired the ACo Shares for an amount equal to the proceeds of disposition as stated in Paragraph 5, at the time of A’s death.

9. The Estate holds the ACo Shares as capital property.

10. The Estate is a resident of Canada, and its first taxation year-end will be on XXXXXXXXXX.

11. Each of the Beneficiaries is a resident of Canada.

ACo

12. At all relevant times ACo was and is a taxable Canadian corporation and a CCPC. ACo has a XXXXXXXXXX taxation year-end.

13. ACo operates the Business. At the time of A’s death, ACo’s assets primarily consisted of cash (representing approximately XXXXXXXXXX% of the FMV of the assets of ACo) and Marketable Securities.

14. At the time of A’s death, the FMV and ACB of ACo’s Marketable Securities were $XXXXXXXXXX and $XXXXXXXXXX, respectively, and the cash balance within the Marketable Securities represented less than XXXXXXXXXX% of the FMV of the Marketable Securities at that time.

15. At the time of A’s death, ACo’s liabilities primarily consisted of the ACo Debt.

16. On XXXXXXXXXX, ACo had the following balances in its tax accounts:

a) RDTOH—XXXXXXXXXX;
b) GRIP—$XXXXXXXXXX; and
c) CDA—$XXXXXXXXXX.

17. [Reserved].

PROPOSED TRANSACTIONS

The Proposed Transactions will occur in the order presented unless otherwise indicated, with the exception of filing the applicable election forms, which will be filed within the applicable due dates, unless otherwise indicated, following the completion of the Proposed Transactions.

18. ACo will repay approximately $XXXXXXXXXX of the ACo Debt to the Estate using its cash on deposit at its bank. The Estate will use these funds in part for its expenses or as a reserve for such expenses, and it will make an interim distribution to one or more of the Beneficiaries with the balance of that amount, if any.

19. Newco will be incorporated under the provisions of Act1. Newco will be a taxable Canadian corporation and a CCPC.

20. Newco’s authorized share capital will entitle it to issue Newco Common Shares and Newco Class A Preferred Shares.

21. The terms and conditions of the Newco Common Shares will entitle the holder to one vote per share, non-cumulative dividends as and when declared by the board of directors of Newco, and participation in the remaining assets of Newco in the event of a wind-up, dissolution or liquidation of Newco.

22. The terms and conditions of the Newco Class A Preferred Shares do not entitle the holder to vote, and each share is redeemable and retractable at a price equal to the FMV of the consideration paid to acquire such share on issuance. The terms and conditions also entitle the holder to non-cumulative dividends as and when declared by the board of directors of Newco at a maximum rate each year equal to XXXXXXXXXX% of the redemption price of each such share. On the winding-up, liquidation or dissolution of Newco, the holder of each Newco Class A Preferred Share is entitled to the redemption price of each share plus any accrued but unpaid dividends in priority to any participation by the holders of the Newco Common Shares.

23. The Estate will subscribe for XXXXXXXXXX Newco Common Shares for $XXXXXXXXXX, and therefore the Estate will control Newco.

24. The Estate will transfer its ACo Shares to Newco, and in exchange the Estate will receive the following consideration from Newco:

a) The Newco Note, which will have a principal amount and FMV equal to the lesser of:

(i) the aggregate FMV of the ACo Shares at the date of A’s death, less $XXXXXXXXXX; and

(ii) the aggregate FMV of the ACo Shares at the date of the transfer, less $XXXXXXXXXX; plus

b) XXXXXXXXXX Class A Newco Preferred Shares with a redemption amount and a FMV equal to $XXXXXXXXXX plus the excess, if any, between the FMV of the ACo Shares at the date of transfer and at the date of A’s death.

The Estate and Newco will jointly elect, in prescribed form and within the time referred to in subsection 85(6), to have the provisions of subsection 85(1) apply to the transfer of the ACo Shares held by the Estate to Newco. The agreed amount will be equal to the ACB of the ACo Shares to the Estate immediately before this transfer, subject to paragraph 85(1)(c). For greater certainty, the agreed amount will not be less than the lesser of the two amounts specified in paragraph 85(1)(c.1), and will not be less than the amount described in paragraph 85(1)(b).

Newco will add $XXXXXXXXXX to the legal stated capital account of the Newco Class A Preferred Shares which, for greater certainty, will not exceed the maximum amount that could be added to the PUC of these shares without resulting in an adjustment in computing the PUC of such shares having regard to paragraph 84.1(1)(a).

The sum of the principal amount of the Newco Note and the PUC of the XXXXXXXXXX Newco Class A Preferred Shares will not exceed the FMV of the ACo Shares immediately before the date of A’s death.

25. ACo will continue to carry on the Business for at least twelve months following the transfer of the ACo Shares to Newco, as described in Paragraph 24.

26. During the twelve-month period following the transfer of the ACo Shares to Newco, and consistent with its history of paying annual dividends to its shareholder, ACo will pay dividends to Newco in an amount approximately equal to its after-tax net income. Newco will pay dividends to the Estate in an amount approximately equal to the dividends it will receive from ACo. The Estate will allocate the dividends it receives from Newco to the Beneficiaries, in accordance with the Will.

27. Twelve months after the transfer of the ACo Shares to Newco, ACo will be amalgamated with Newco to form Amalco.

28. In accordance with subsection 87(1), all of the property and all of the liabilities of Newco and ACo immediately before the amalgamation, including the ACo Debt, will become property and liabilities of Amalco. In addition, the Estate will receive shares in Amalco.

29. The authorized share capital of Amalco will be the same as Newco’s authorized share capital. Moreover, the PUC and ACB of each class of shares that the Estate will hold in Amalco after the amalgamation will be equal to the PUC and ACB of the corresponding classes of issued and outstanding shares that the Estate held in Newco immediately prior to the amalgamation.

30. After the amalgamation, Amalco will begin to make payments on the Newco Note to the Estate. For greater certainty, the amount paid in any single quarter of the first year that the Newco Note is outstanding after the amalgamation will not exceed 15% of the principal amount of the Newco Note when it was first issued.

31. Amalco will continue to carry on the Business in the foreseeable future; however, Amalco will sell some of its Marketable Securities in order to make payments to settle the Newco Note. Amalco will settle the ACo Debt at a time that is after the completion of the Proposed Transactions.

ADDITIONAL INFORMATION

32. ACo’s Business has been operated by the Board of Directors since XXXXXXXXXX with advice from ACo’s accountant and ACo’s investment advisers. ACo’s investment advisers developed an investment strategy for ACo. The investment strategy is to generate income and capital gains on various types of medium to high-risk investments (i.e., equity, bonds and mutual funds), while recognizing that the shareholders do not intend to withdraw capital within the next XXXXXXXXXX years. This investment strategy was approved by the Board of Directors, and is reviewed by the Board of Directors at least annually, or as circumstances require. Trading activities occur at various times throughout ACo’s taxation year based on the advice of the investment advisers from their analysis of market trends.

33. During the year before his death, A attended regular meetings with ACo’s accountant and the investment advisers to review the performance of the Business. He met with ACo’s accountant approximately XXXXXXXXXX times each year to review the Marketable Securities of ACo and to discuss other matters pertaining to corporate governance and administration of ACo. A also met at least annually with ACo’s investment adviser. Prior to A’s passing, Executor became engaged in regular communications with ACo’s investment advisor regarding ACo’s Business. There will not be any material change to the Business operations until a date that is after the completion of the Proposed Transactions.

34. A did not claim a deduction under section 110.6 in respect of the ACo Shares or any shares for which they were substituted, within the meaning of subsection 248(5). There was no person not dealing at arm’s length with A, and with the Estate, that previously claimed a deduction under section 110.6 in respect of the ACo Shares or any shares for which they were substituted, within the meaning of subsection 248(5).

35. For greater certainty, there is no V-Day basis included in the ACB of the ACo Shares represented to us, or any shares for which they were substituted, within the meaning of subsection 248(5).

36. The Proposed Transaction steps in Paragraphs 18 to 24 will be completed within XXXXXXXXXX of the date of this letter.

PURPOSE OF THE PROPOSED TRANSACTIONS

37. The purpose of the Proposed Transactions is to return to the Estate, an amount up to the FMV of the ACo Shares immediately before A’s death, while minimizing the inherent double tax exposure that can result from the application of subsections 70(5), 84(2) and 84(3).

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all relevant facts, additional information, proposed transactions and purpose of the Proposed Transactions, and provided that the Proposed Transactions are completed in the manner described above, we confirm the following:

A. Section 84.1 will not apply to deem the Estate to have received a dividend from Newco on the disposition of the ACo Shares to Newco, as described in Paragraph 24, provided that the aggregate of the:

(i) PUC of the Newco Class A Preferred Shares, and
(ii) FMV of the Newco Note

received as consideration for the ACo Shares, immediately after the disposition, is equal to or less than the ACB of the ACo Shares to the Estate immediately before the disposition, as modified by paragraph 84.1(2)(a.1).

B. Subsection 84(2) will not apply as a result of the Proposed Transactions, in and by themselves, to deem ACo to have paid, and the Estate to have received, a dividend on the ACo Shares held by the Estate.

C. The provisions of subsection 245(2) will not apply as a result of the Proposed Transactions, in and by themselves, to re-determine the tax consequences stated in the rulings given above.

The above rulings are given subject to the limitations and qualifications set forth in Information Circular 70-6R8 issued on November 1, 2018 and are binding on the CRA, provided that the Proposed Transactions are completed within the time frame described in this letter.

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

COMMENTS

Unless otherwise expressly confirmed, nothing in this letter should be construed as implying that the CRA has confirmed, reviewed, made any determination, or accepted any method for the determination in respect of:

(a) the FMV or ACB of any property referred to herein, or the PUC in respect of any share referred to herein;

(b) the balance of the RDTOH, GRIP or CDA for any corporation described herein;

(c) the Executor’s ability to complete the Proposed Transactions under the terms of the Will;

(d) whether any person described herein deals, or does not deal, with any other person at arm’s length; or

(e) any other tax consequence (including provincial tax consequences) relating to the facts, proposed transactions or any transaction or event taking place either prior to the Proposed Transactions or subsequent to the Proposed Transactions, whether described in this letter or not, other than those specifically described in the rulings given above, including, but not limited to the tax consequences associated with the settlement of the ACo Debt, as well as the distribution of any other assets of the Estate, other than those specifically described in the rulings given above; and, including whether any of the Proposed Transactions would also be included in a series of transactions or events that includes other transactions or events that are not described in this letter.

Nothing in this letter should be construed as confirmation, express or implied, that, for the purpose of any of the rulings given above, any adjustment to the FMV of the properties transferred or the redemption amount of the shares issued as consideration, whether pursuant to a price adjustment clause or otherwise, will be effective retroactively to the time of the transfer or issuance of shares. Furthermore, none of the rulings given in this letter are intended to apply to, or in the event of, the operation of a price adjustment clause, since such adjustment will be due to circumstances that do not constitute proposed transactions that are seriously contemplated. The general position of the CRA with respect to price adjustment clauses is stated in Income Tax Folio S4-F3-C1, Price Adjustment Clauses, updated to November 26, 2015.

Yours truly,

XXXXXXXXXX
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch