2021 Ruling 2020-0853941R3 - Split-up butterfly

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 the proposed split-up butterfly transactions described below meet legislative and administrative requirements?

Position: Transactions meet requirements.

Reasons: Consistent with law and administrative requirements.

XXXXXXXXXX							2020-085394

May 31, 2021

Dear XXXXXXXXXX:

Re: XXXXXXXXXX
Advance Income Tax Ruling Request

This is in reply to your letter of XXXXXXXXXX, in which you requested an advance income tax ruling on behalf of the above-noted taxpayers. We also acknowledge the additional information provided to us in subsequent letters and emails, and during our various telephone conversations.

To the best of your knowledge, and that of the taxpayers involved, none of the issues involved in this ruling request is:

(i) in a previously filed tax return of the taxpayers or persons related to the taxpayers;

(ii) being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayers or persons related to the taxpayers;

(iii) under objection by the taxpayers or persons related to the taxpayers;

(iv) the subject of a current or completed court process involving the taxpayers or persons related to the taxpayers; or

(v) the subject of an advance income tax ruling previously issued by the Income Tax Rulings Directorate.

I. ENTITIES INVOLVED

1. Throughout this letter, the entities below will be referred to as follows:

“DC” means XXXXXXXXXX, as more particularly described in Paragraphs 3 to 6;

“Mr. A” means XXXXXXXXXX, an individual who is resident of Canada and resides in the Province of XXXXXXXXXX, as more particularly described in Paragraph 5;

“Mr. B” means XXXXXXXXXX, an individual who is resident of Canada and resides in the Province of XXXXXXXXXX, as more particularly described in Paragraph 5;

“Mr. C” means XXXXXXXXXX, an individual who is resident of Canada, as more particularly described in Paragraph 5; and

“TC” means a corporation to be incorporated under the BCA, as more particularly described in Paragraph 17.

II. DEFINITIONS

Unless otherwise expressly stated, every reference herein to the “Act” or to a part, section or subsection, paragraph or subparagraph and clause or subclause is a reference to the relevant provision of the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) c.1, as amended from time to time and consolidated to the date of this letter and the Income Tax Regulations thereunder are referred to as the “Regulations.”

Unless otherwise noted, all references herein to a currency are a reference to Canadian dollars.

2. In this letter, the following terms have the meanings specified and, where the circumstances so require, the singular should be read as plural and vice versa:

“ACB” means adjusted cost base, as defined in section 54;

“Agreed Amount” in respect of a property means the amount that a transferor and transferee have agreed upon in a joint election under subsection 85(1) in respect of a transfer of an Eligible Property;

“Arm’s Length” has the meaning assigned by subsection 251(1);

“BCA” means the XXXXXXXXXX, as amended to the date hereof;

“CCPC” means “Canadian-controlled private corporation” as that term is defined in subsection 125(7);

“CDA” means capital dividend account as that term is defined in subsection 89(1);

“CRA” means the Canada Revenue Agency;

“Capital Property” has the meaning assigned by section 54;

“DC Class A Common Shares” has the meaning set out in Paragraph 3;

“DC Class K Preferred Shares” has the meaning set out in Paragraph 3;

“DC Dividend 1” means the dividend, deemed by subsection 84(3), to have been paid by DC and received by TC, XXXXXXXXXX DC Class A Common Shares owned by TC, as described in Ruling B;

“DC Dividend 2” means the dividend, deemed by subsection 84(3), to have been paid by DC and received by TC, XXXXXXXXXX DC Class K Preferred Shares owned by TC, as described in Ruling B;

“DC Dividends” means collectively the DC Dividend 1 and the DC Dividend 2, as described in Ruling B;

“DC Redemption 1” has the meaning set out in Paragraph 29;

“DC Redemption 2” has the meaning set out in Paragraph 29;

“DC Redemptions” means collectively the DC Redemption 1 and the DC Redemption 2, as described in Paragraph 29;

“DC Redemption Amount 1” has the meaning set out in Paragraph 29;

“DC Redemption Amount 2” has the meaning set out in Paragraph 29;

“DC Redemption Note 1” has the meaning set out in Paragraph 29;

“DC Redemption Note 2” has the meaning set out in Paragraph 29;

“DC Redemption Notes” means collectively the DC Redemption Note 1 and the DC Redemption Note 2, as described in Paragraph 29;

“DC Transfer” has the meaning set out in Paragraph 23;

“DC A Shares” means collectively the XXXXXXXXXX DC Class A Common Shares and the XXXXXXXXXX DC Class K Preferred Shares owned by Mr. A, as described in Paragraph 3, and then owned by TC, as described in Paragraph 18;

“Depreciable Property” has the meaning assigned by subsection 13(21);

“Distribution Property” has the meaning set out in Paragraph 23;

“Effective Date” means a date chosen by the parties to implement the Proposed Transactions;

“Eligible Dividend” has the meaning assigned by subsection 89(1);

“Eligible Property” has the meaning assigned by subsection 85(1.1);

“ERDTOH” means “eligible refundable dividend tax on hand” as that term is defined by subsection 129(4);

“FMV” means fair market value, being the highest price available in an open and unrestricted market between informed prudent parties acting at Arm’s Length and without compulsion to act, expressed in terms of cash;

“Forgiven Amount” has the meaning assigned by subsections 80(1) and 80.01(1);

“GRIP” means “general rate income pool” as that expression is defined in subsection 89(1);

“Mr. A Transfer” has the meaning set out in Paragraph 18;

“NERDTOH” means “non-eligible refundable dividend tax on hand” as that term is defined by subsection 129(4);

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

“PUC” means paid-up capital, which has the meaning assigned by subsection 89(1);

“Principal Amount” has the meaning assigned by subsection 248(1);

“Proceeds of Disposition” has the meaning assigned by section 54;

“Proposed Transactions” means the transactions described in Paragraphs 17 to 33;

“Related Person” means, in relation to a particular person, another person who is related to the particular person by virtue of subsection 251(2), as modified for the purposes of section 55 by paragraph 55(5)(e);

“Restricted Financial Institution” has the meaning assigned by subsection 248(1);

“Rulings” means the advance income tax rulings labelled “A” to “F” in this letter;

“Series of Transactions or Events” has the meaning assigned by subsection 248(10);

“Short-Term Preferred Share” has the meaning assigned by subsection 248(1);

“Specified Investment Business” has the meaning assigned by subsection 125(7);

“Specified Financial Institution” has the meaning assigned by subsection 248(1);

“Stated Capital” in respect of the share capital of a corporation has the meaning assigned by the statute by which the corporation is governed at the relevant time;

“Substantial Interest” has the meaning assigned by subsection 191(2);

“TC Class A Common Shares” has the meaning set out in Paragraph 17;

“TC Class M Preferred Shares” has the meaning set out in Paragraph 17;

“TC Class M Redemption Amount” has the meaning set out in Paragraph 17;

“TC Dividend” means the dividend, deemed by subsection 84(3), to have been paid by TC and received by DC, arising on the TC Redemption, as described in Ruling B;

“TC Proportion” has the meaning described in Paragraph 23;

“TC Redemption” has the meaning described in Paragraph 27;

“TC Redemption Note” has the meaning set out in Paragraph 27;

“TCC” means “taxable Canadian corporation” as that term is defined in subsection 89(1);

“Taxable Dividend” has the meaning assigned by subsection 89(1);

“Taxable Preferred Share” has the meaning assigned by subsection 248(1); and

“Taxable RFI Share” has the meaning assigned by subsection 248(1).

Our understanding of the Facts, Proposed Transactions and purposes of the Proposed Transactions are as follows:

III. FACTS

DC

3. DC is a TCC and a CCPC, and is governed under the BCA. It was incorporated on XXXXXXXXXX, under the BCA. The head office of DC is located in XXXXXXXXXX. DC files its T2 corporate tax returns with the XXXXXXXXXX Taxation Centre and deals with the XXXXXXXXXX Tax Services Office.

The taxation year of DC ends on XXXXXXXXXX of each year.

The current issued and outstanding share capital of DC consists of:

(a) XXXXXXXXXX Class A voting common shares (DC Class A Common Shares), having one vote per share, all of which are owned equally by Mr. A and Mr. B; and

(b) XXXXXXXXXX Class K non-voting, redeemable and retractable preferred shares (DC Class K Preferred Shares), of which: (i) XXXXXXXXXX shares are owned by Mr. A, and (ii) XXXXXXXXXX shares are owned by Mr. B.

Each DC Class K Preferred Share has a redemption amount of $XXXXXXXXXX.

Mr. A’s XXXXXXXXXX DC Class K Preferred Shares and XXXXXXXXXX DC Class A Common Shares (collectively referred to as the DC A Shares), in aggregate, have a PUC and an ACB of $XXXXXXXXXX and $XXXXXXXXXX, respectively.

Mr. B’s XXXXXXXXXX DC Class K Preferred Shares and XXXXXXXXXX DC Class A Common Shares, in aggregate, have a PUC and an ACB of $XXXXXXXXXX and $XXXXXXXXXX, respectively.

Mr. A’s and Mr. B’s voting common share ownership in DC provides each of them XXXXXXXXXX% of the voting rights in DC.

4. DC operates a XXXXXXXXXX. DC reports its income on a cash basis for income tax purposes.

DC has never had taxable income exceeding the business limit, as defined in subsection 125(2).

As at XXXXXXXXXX:

(a) DC’s assets included:

(i) Cash of $XXXXXXXXXX;

(ii) GST receivable of $XXXXXXXXXX;

(iii) inventory includes XXXXXXXXXX, in aggregate, of $XXXXXXXXXX;

(iv) investments held in patronage equity accounts in XXXXXXXXXX and XXXXXXXXXX, in aggregate of $XXXXXXXXXX;

(v) XXXXXXXXXX account balance of $XXXXXXXXXX;

(vi) Property and equipment including land and buildings, in aggregate of $XXXXXXXXXX; and

(vii) the UCC balances of the following assets:

(A) Class 6 (buildings) of $XXXXXXXXXX;

(B) Class 8 (equipment) of $XXXXXXXXXX;

(C) Class 10 (equipment) of $XXXXXXXXXX; and

(D) Class 50 (equipment) of $XXXXXXXXXX.

(b) DC’s current liabilities included:

(i) accounts payable of $XXXXXXXXXX;

(ii) income taxes payable of $XXXXXXXXXX; and

(iii) shareholders’ loans of $XXXXXXXXXX, of which $XXXXXXXXXX was owing to Mr. A, and $XXXXXXXXXX to Mr. B.

There were no long-term liabilities.

(c) DC had no account balance in its CDA, ERDTOH, NERDTOH or GRIP. XXXXXXXXXX.

As at XXXXXXXXXX, the aggregate FMV of all of the issued and outstanding shares of DC was approximately $XXXXXXXXXX.

5. Mr. A and Mr. B are brothers and Mr. C is the father of Mr. A and Mr. B. All three men are residents of Canada.

As at XXXXXXXXXX:

(a) the aggregate FMV of the DC A Shares was approximately $XXXXXXXXXX; and

(b) the aggregate FMV of Mr. B’s XXXXXXXXXX DC Class A Common Shares and XXXXXXXXXX DC Class K Preferred Shares was approximately $XXXXXXXXXX and $XXXXXXXXXX, respectively, for a total value of $XXXXXXXXXX.

6. The following are some of the relevant facts related to DC’s assets and liabilities:

Goodwill

There is no goodwill in DC, as there is no value attributable to goodwill in connection with DC’s XXXXXXXXXX. DC has no control over prices and regular customers are not generated. Most product XXXXXXXXXX and therefore the business is exposed to potentially large price fluctuations. As this method of selling is common in the XXXXXXXXXX, there is no buyer loyalty.

XXXXXXXXXX account

The XXXXXXXXXX account is a government program designed for taxpayers in the XXXXXXXXXX. The account consists of two funds: Fund 1 and Fund 2. Entities in the XXXXXXXXXX business may deposit certain amounts into Fund 1 and the Federal Government will deposit a matching contribution into Fund 2. The amounts then accumulate interest and the Government portion and the growth are not taxed until the business draws on them. It is intended that this account is utilized when the business suffers financial declines.

The XXXXXXXXXX account is considered cash in nature as it is a savings account that is able to be withdrawn in cash at any time. As such, as described in Paragraph 20, DC’s XXXXXXXXXX account will be considered as cash or near-cash property, for the purposes of the definition of “distribution” in subsection 55(1).

Patronage equity accounts

The patronage equity accounts in XXXXXXXXXX and XXXXXXXXXX are accumulated based on purchases made by the member. Patronage dividends are paid out of these patronage equity accounts annually and are considered to be received in the normal course of operations.

As the equities of these patronage equity accounts are derived from purchases of supplies used in DC’s farming business operations, as described in Paragraph 20, they will be considered as business property, for the purposes of the distribution definition.

Buildings

Neither Mr. A nor Mr. B lives in any of the buildings owned by DC.

Shareholders’ loans

The shareholders’ loans owing to Mr. A and Mr. B are due on demand and are non-interest bearing, as such they are current liabilities of DC.

History of DC Shareholdings

7. Prior to XXXXXXXXXX, Mr. A and Mr. B together operated a XXXXXXXXXX in a joint venture arrangement.

8. On XXXXXXXXXX:

(a) DC was incorporated and each of Mr. A and Mr. B subscribed for XXXXXXXXXX DC Class A Common Share for $XXXXXXXXXX; and

(b) Mr. A and Mr. B each transferred their respective XXXXXXXXXX to DC under subsection 85(1).

As consideration for such transfers, DC issued to each of Mr. A and Mr. B XXXXXXXXXX DC Class A Common Shares, which had, in aggregate, a FMV of $XXXXXXXXXX, and a PUC and an ACB of $XXXXXXXXXX.

No non-share consideration was issued for such transfers.

9. On XXXXXXXXXX, Mr. A and Mr. B each entered into a rollover agreement with DC and transferred their respective land, buildings and equipment to DC under subsection 85(1).

As consideration for such transfers, DC:

(a) with respect to Mr. A, assumed liabilities of Mr. A in the amount of $XXXXXXXXXX, and issued to Mr. A:

(i) a demand, non-interest bearing promissory note of $XXXXXXXXXX; and

(ii) XXXXXXXXXX DC Class K Preferred Shares, which had, in aggregate, a redemption amount and a FMV of $XXXXXXXXXX ($XXXXXXXXXX per share), and a PUC and an ACB of $XXXXXXXXXX; and

(b) with respect to Mr. B, assumed liabilities of Mr. B in the amount of $XXXXXXXXXX, and issued to Mr. B:

(i) a demand, non-interest bearing promissory note in the amount of $XXXXXXXXXX; and

(ii) XXXXXXXXXX DC Class K Preferred Shares, which had, in aggregate, a redemption amount and a FMV of $XXXXXXXXXX ($XXXXXXXXXX per share), and a PUC and an ACB of $XXXXXXXXXX.

The rollover agreements that DC entered into with Mr. A and Mr. B each contained a price adjustment clause which allowed for an adjustment to either the number of shares or redemption value of the shares issued as consideration.

10. On XXXXXXXXXX, Mr. C entered into a rollover agreement with DC and transferred his land and Depreciable Property to DC under subsection 85(1).

As consideration for such transfer, DC issued to Mr. C:

(a) a demand, non-interest bearing promissory note in the amount of $XXXXXXXXXX; and

(b) XXXXXXXXXX DC Class K Preferred Shares, which had, in aggregate, a redemption amount of $XXXXXXXXXX ($XXXXXXXXXX per share), and a PUC and an ACB of $XXXXXXXXXX.

The rollover agreement that DC entered into with Mr. C contained a price adjustment clause which allowed for an adjustment to either the number of shares or redemption value of the shares issued as consideration.

11. On XXXXXXXXXX, Mr. C transferred:

(a) XXXXXXXXXX DC Class K Preferred Shares to Mr. A; and

(b) XXXXXXXXXX DC Class K Preferred Shares to Mr. B,

by way of gift pursuant to subsection 73(4).

12. On XXXXXXXXXX, it was determined that the XXXXXXXXXX DC Class K Preferred Shares that were issued by DC to Mr. C on XXXXXXXXXX, as described in Paragraph 10, were assigned an incorrect redemption amount.

The directors of DC passed a resolution to rectify the error in the redemption amount of the DC Class K Preferred Shares issued to Mr. C, as described in Paragraph 10, by changing the redemption amount of the issued and outstanding DC Class K Preferred Shares (i.e., by dividing the aggregate redemption amount of the DC Class K Preferred Shares (XXXXXXXXXX, as described in Paragraphs 9 and 10) by the issued and outstanding DC Class K Preferred Shares immediately prior to such change (XXXXXXXXXX, as described in Paragraphs 9 and 10)), such that after such change, the issued and outstanding DC Class K Preferred Shares had a redemption amount of $XXXXXXXXXX per share.

The correction to the redemption amount of the issued and outstanding DC Class K Preferred Shares ensured that:

(a) the total redemption amount of those preferred shares would be equal to their appropriate value; and

(b) no benefit was conferred on any individual as a result of the error. Specifically, the DC Class K Preferred Shares issued to Mr. C on XXXXXXXXXX, were gifted by Mr. C to Mr. A and Mr. B equally on XXXXXXXXXX, and after such gift, Mr. A and Mr. B continued to maintain the pro rata interest they held in DC prior to the transactions described in Paragraphs 13 and 14. As a result, there was no benefit conferred by DC on Mr. C, Mr. A or Mr. B.

13. On XXXXXXXXXX, DC redeemed XXXXXXXXXX DC Class K Preferred Shares owned by Mr. B for cash consideration.

14. On XXXXXXXXXX, DC redeemed XXXXXXXXXX DC Class K Preferred owned by Mr. B for cash consideration.

TC

15. Mr. A will incorporate TC under the BCA, as described in Paragraph 17.

Mr. A, Mr. B, DC and TC

16. For the purposes of the Act, other than section 55:

(a) Mr. A and Mr. B are related to each other pursuant to paragraph 251(2)(a), and they constitute a related group (under subsection 251(4)) that controls DC, and each of them is related to DC by virtue of subparagraph 251(2)(b)(ii); and

(b) DC and TC will be related to each other by virtue of subparagraph 251(2)(c)(iii).

However, for the purposes of section 55, by virtue of subparagraph 55(5)(e)(i):

(i) Mr. A and Mr. B are not related to each other, and they do not constitute a related group (under subsection 251(4)) that controls DC;

(ii) each of Mr. A and Mr. B is not related to DC under paragraph 251(2)(b); and

(iii) DC and TC will not be related to each other under paragraph 251(2)(c).

IV. PROPOSED TRANSACTIONS

The Proposed Transactions will occur on the Effective Date in the order presented unless otherwise indicated, with the exception of the filing of any applicable election forms in respect of the Proposed Transactions described in Paragraphs 19 and 25, which will be filed on or before the applicable due date.

Incorporation of TC

17. TC will be incorporated under the BCA, for the purpose of implementing the Proposed Transactions. Mr. A will be the incorporator.

TC will be a CCPC and a TCC. The taxation year-end of TC will be XXXXXXXXXX of each year. It will file a T2 corporate tax return at the XXXXXXXXXX Taxation Centre, and will deal with the XXXXXXXXXX Tax Services Office.

The authorized share capital of TC will include:

(a) an unlimited number of class A voting common shares (the TC Class A Common Shares), one vote per share; and

(b) an unlimited number of class M non-voting, redeemable and retractable preferred shares (the TC Class M Preferred Shares), having a redemption amount (the TC Class M Redemption Amount) equal to the amount by which the aggregate FMV of the property received by TC for the issuance of such shares, exceeds any debt issued or liabilities assumed by TC on their issuance, if any, and then dividing such amount by the number of the TC Class M Preferred Shares issued as consideration therefor.

No shares will be issued by TC to Mr. A on its incorporation.

Mr. A will be the president and sole director of TC.

Butterfly Transactions

Mr. A Transfer

18. Mr. A will transfer (Mr. A Transfer) the DC A Shares to TC.

As consideration for the DC A Shares, TC will issue to Mr. A a certain number of TC Class A Common Shares, having an aggregate FMV equal to the aggregate FMV at that time of the DC A Shares so transferred to TC.

For the purposes of the BCA, the increase to the Stated Capital of the TC Class A Common Shares that are issued to Mr. A as consideration for the DC A Shares, will be an amount equal to the greater of:

(a) the aggregate PUC, immediately before the Mr. A Transfer, in respect of the DC A Shares transferred to TC; and

(b) the aggregate ACB, calculated having regard to paragraph 84.1(2)(a.1), to Mr. A, immediately before the Mr. A Transfer, of the DC A Shares transferred to TC.

For greater certainty, such amount described in Paragraph 18, will not exceed the amount determined as element “B” in paragraph 84.1(1)(a).

TC will hold the DC A Shares as Capital Property.

19. Mr. A and TC will jointly elect, in prescribed form and within the time limits referred to in subsection 85(6), to have the provisions of subsection 85(1) apply in respect of the transfer of the DC A Shares.

The Agreed Amount in respect of the joint election, with respect to the DC A Shares, will be an amount equal to the lesser of the amounts described in subparagraphs 85(1)(c.1)(i) and (ii).

Types of Property

20. Immediately before the DC Transfer, the property of DC will be classified into the following three types of property, for the purposes of the definition of “distribution” in subsection 55(1), as follows:

(a) cash or near-cash property, consisting of all of the current assets of DC, including cash, term deposits, accounts receivable, income tax receivable, GST receivable, prepaid expenses, inventory and XXXXXXXXXX account;

(b) business property, consisting of all of the assets of DC, other than cash or near-cash property, any income from which would, for the purposes of the Act, be income from an active business (other than a Specified Investment Business), including for greater certainty:

(i) land, buildings and equipment; and

(ii) investments held in patronage equity accounts in XXXXXXXXXX and XXXXXXXXXX; and

(c) investment property, consisting of all of the assets of DC, other than cash or near-cash property and business property, any income from which would, for the purposes of the Act, be income from property or income from a Specified Investment Business.

For greater certainty, for the purposes of the DC Transfer:

(i) any tax accounts of DC, such as any non-capital loss, XXXXXXXXXX, net capital loss, and the balance of ERDTOH, NERDTOH, GRIP or CDA, if any, will not be considered property; and

(ii) deferred expenses, if any, which are expenses that are deferred and amortized for accounting purposes, but fully deducted for tax purposes, will not be considered property.

21. In determining the net FMV of each type of property of DC immediately before the DC Transfer, the liabilities of DC will be allocated to, and deducted in the calculation of, the net FMV of each such type of property of DC in the following manner:

(a) all current liabilities will be allocated to each cash or near-cash property of DC in the proportion that the FMV of each such property is of the aggregate FMV of all cash or near-cash property of DC. The total amount of DC’s current liabilities to be allocated to DC’s cash or near- cash property will not exceed the aggregate FMV of all of DC’s cash or near-cash property;

(b) following the allocation of current liabilities to each cash or near-cash property as described in Paragraph 21(a), any remaining net FMV of any accounts receivable, inventory and prepaid expenses of DC will be reclassified as business property and excluded from the aggregate net FMV of DC’s cash or near-cash property, to the extent that such property will be collected, sold, used or consumed by DC or TC, as the case may be, in the ordinary course of the business to which such property relates (for greater certainty, cash will not be reclassified to business property);

(c) liabilities of DC, other than current liabilities, that relate to a particular property, will then be allocated to the particular property (and effectively to the type of property to which the particular property belongs) to the extent of its FMV. Any excess of such liabilities over the FMV of a particular property, and liabilities that pertain to a particular type of property, but not to a particular property, will then be allocated to that particular type of property, but not in excess of the net FMV of such type of property after the allocation of liabilities to a particular property, as described in Paragraph 21(c); and

(d) if any liabilities remain after the allocations described in Paragraphs 21(a) and (c) are made, such excess unallocated liabilities will then be allocated to each type of property of DC, on the basis of the relative net FMV of each type of property immediately prior to the allocation of such excess unallocated liabilities, but after the allocation of the liabilities described in Paragraphs 21(a) and (c).

For greater certainty, for the purposes of determining the net FMV of each type of property of DC:

(i) the amount of deferred income tax liability, if any, will not be considered a liability, because such amount does not represent a legal obligation;

(ii) amounts owing by DC that have a term of less than 12 months or are due on demand with no fixed terms of repayment will be considered current liabilities;

(iii) current liabilities will include amounts normally classified as current liabilities, including accounts payable, accrued liabilities, bonuses payable, taxes payable, and the current portion of any long-term liabilities; and

(iv) no amount will be considered to be a liability unless it represents a true legal liability that is capable of quantification.

22. Based on the principles described in Paragraphs 20 and 21, to the best of its knowledge, DC will have cash or near-cash property and business property, but no investment property at the time of the DC Transfer.

DC Transfer

23. Immediately following the determination of the types of property and the net FMV of DC’s types of property as described in Paragraphs 20 and 21, DC will transfer to TC (the DC Transfer), a proportionate share of the aggregate net FMV of each type of property owned by DC at that time (collectively referred to as the Distribution Property), such that immediately following the DC Transfer and the corresponding assumptions by TC of DC’s liabilities, as described in Paragraph 24(a) and (b), the aggregate net FMV of each type of property transferred by DC to TC (in each case, determined on the basis of the principles set out in Paragraphs 20 and 21) will be equal to, or approximate, that proportion of each type of property of DC determined by the formula:

					A x B/C 

where

A is the aggregate net FMV, immediately before the DC Transfer, of all property of that type owned at that time by DC;

B is the aggregate FMV, immediately before the DC Transfer, of all of the shares of the capital stock of DC owned at that time by TC; and

C is the aggregate FMV, immediately before the DC Transfer, of all the issued and outstanding shares of the capital stock of DC.

(that proportion is referred to as the TC Proportion)

For the purposes of Paragraphs 23 and 32, the expression “approximate that proportion” means that the discrepancy from that proportion, if any, will not exceed one percent (XXXXXXXXXX%), determined as a percentage of the aggregate net FMV of each type of property of DC that TC has received (or DC has retained) on the DC Transfer, as compared to what TC would have received (or DC would have retained) had it received (or retained) its appropriate pro rata share of the aggregate net FMV of that type of property of DC at that time.

For greater certainty, on the DC Transfer:

(a) the Distribution Property will include cash, accounts receivable, inventory, prepaid expenses, land, buildings and equipment;

(b) the patronage equity accounts in XXXXXXXXXX and XXXXXXXXXX will remain with DC, as these accounts are not readily transferrable; and

(c) the XXXXXXXXXX account will remain with DC. However, in order to distribute a pro rata share of cash to TC, a portion of the XXXXXXXXXX account will be withdrawn and the cash will be transferred by DC to TC.

24. As consideration for the Distribution Property transferred by DC to TC, as described in Paragraph 23, TC will:

(a) assume such of DC’s liabilities, if any, as are specifically secured by assets received by TC;
(b) assume additional liabilities of DC as appropriate, so that on a net FMV basis, TC will receive its pro rata share of each type of property owned by DC, as described in Paragraph 23 (the aggregate amount of the liabilities of DC assumed by TC, as described in Paragraphs 24(a) and (b), is collectively referred as the TC Assumed Liability); and
(c) issue to DC, a number of TC Class M Preferred Shares, which will have, in aggregate, a redemption amount and a FMV equal to the amount by which the aggregate FMV, at the time of the DC Transfer, of the Distribution Property received by TC, exceeds the TC Assumed Liability.

The TC Assumed Liability will include the outstanding balance of the shareholder’s loan owing by DC to Mr. A.

DC will hold its TC Class M Preferred Shares as Capital Property.

25. With respect to the Distribution Property, DC will jointly elect with TC, in prescribed form and within the time allowed by subsection 85(6), to have the provisions of subsection 85(1) apply to the DC Transfer of each Eligible Property of DC, that is transferred by DC to TC.

The Agreed Amount in respect of each such Eligible Property will not be greater than the FMV of such property nor will it be less than the amount permitted under paragraph 85(1)(b). For greater certainty, the Agreed Amount in respect of each such Eligible Property will be within the limits prescribed as follows:

(a) in the case of Capital Property (other than Depreciable Property of a prescribed class) described in paragraph 85(1)(c.1), an amount equal to the lesser of the amounts described in subparagraphs 85(1)(c.1)(i) and (ii);

(b) in the case of Depreciable Property of a prescribed class, an amount equal to the least of the amounts described in subparagraphs 85(1)(e)(i), (ii) and (iii); and

(c) in the case of farm inventory owned in connection with the farming business carried on by DC, an amount determined in accordance with the formula set out in paragraph 85(1)(c.2).

Inventory, land, buildings and equipment that are transferred by DC to TC, as described in Paragraph 23, will be Eligible Property at the time of the DC Transfer.

For greater certainty, the amount of DC’s liabilities to be assumed by TC, as described in Paragraphs 24(a) and (b), and to be allocated to a particular property, in each case:

(i) that is the subject of an election under subsection 85(1), will not exceed the Agreed Amount elected for that particular property; and

(ii) that is not the subject of an election under subsection 85(1), will not exceed the FMV of such particular property.

26. TC will add to the Stated Capital account for the TC Class M Preferred Shares issued to DC, an amount equal to the amount by which the aggregate of the Agreed Amounts, in the case of each Eligible Property, and the aggregate FMV, in the case of other properties, in respect of the Distribution Property transferred to TC, exceeds the TC Assumed Liability.

For greater certainty, the amount added to the Stated Capital account for the TC Class M Preferred Shares to be issued by TC, as partial consideration for the Distribution Property, will not exceed the maximum amount that could be added to the aggregate PUC of the TC Class M Preferred Shares, without a reduction taking place pursuant to subsection 85(2.1).

Share Purchase For Cancellation and Share Redemption

DC and TC

27. Immediately after the DC Transfer, TC will redeem all of the TC Class M Preferred Shares owned by DC (the TC Redemption) for an amount equal to the aggregate TC Class M Redemption Amount.

In satisfaction of the aggregate TC Class M Redemption Amount for such shares, TC will issue a promissory note (the TC Redemption Note), payable to DC on demand without interest or fixed terms of repayment, having a Principal Amount and a FMV equal to the aggregate FMV and the aggregate TC Class M Redemption Amount of the TC Class M Preferred Shares so redeemed.

DC will accept the TC Redemption Note in full payment of the redemption price of the TC Class M Preferred Shares owned by it, and will assume the full risk of the note being dishonoured.

28. TC will not designate the TC Dividend to be an Eligible Dividend under subsection 89(14).

29. Immediately following the redemption of the TC Class M Preferred Shares, as described in Paragraph 27, DC will:

(a) purchase for cancellation TC’s XXXXXXXXXX DC Class A Common Shares (the DC Redemption 1) for an amount (the DC Redemption Amount 1) equal to the aggregate FMV at that time of those XXXXXXXXXX DC Class A Common Shares; and

(b) redeem TC’s XXXXXXXXXX DC Class K Preferred Shares (the DC Redemption 2) for an amount (the DC Redemption Amount 2) equal to the aggregate FMV and the aggregate redemption amount of those XXXXXXXXXX DC Class K Preferred Shares at that time.

(the DC Redemption 1 and the DC Redemption 2 will be collectively referred to as the DC Redemptions).

In satisfaction of:

(i) the DC Redemption Amount 1 for such shares, DC will issue a promissory note (the DC Redemption Note 1), payable to TC on demand without interest or fixed terms of repayment, having a Principal Amount and a FMV equal to the DC Redemption Amount 1; and

(ii) the DC Redemption Amount 2 for such shares, DC will issue a promissory note (the DC Redemption Note 2), payable to TC on demand without interest or fixed terms of repayment, having a Principal Amount and a FMV equal to the DC Redemption Amount 2.

(the DC Redemption Note 1 and the DC Redemption Note 2 will be collectively referred to as the DC Redemption Notes)

TC will accept the DC Redemption Notes in full payment of the purchase price of its XXXXXXXXXX DC Class A Common Shares and the redemption price of its XXXXXXXXXX DC Class K Preferred Shares, and will assume the full risk of the notes being dishonoured.

30. DC will not designate the DC Dividends to be an Eligible Dividend under subsection 89(14).

Promissory Notes Set-Off

31. Immediately following the TC Redemption and the DC Redemptions, the Principal Amount owing by TC to DC under the TC Redemption Note and the aggregate Principal Amount owing by DC to TC under the DC Redemption Notes, which will be equal, will be set-off in full against each other and each such note will be marked paid in full and extinguished.

Property Retained by DC

32. Immediately following the DC Transfer and the assumptions by TC of the TC Assumed Liability, the aggregate net FMV of each type of property retained by DC (determined in each case on the basis of the principles described in Paragraphs 20 and 21) will be equal to or approximate that proportion of the net FMV of all property of DC of that type, determined applying those principles, immediately before the DC Transfer that:

(a) the aggregate FMV, immediately before the DC Transfer, of all of the XXXXXXXXXX DC Class A Common Shares and the 824 DC Class K Preferred Shares owned by Mr. B at that time,

is of

(b) the aggregate FMV, immediately before the DC Transfer, of all the issued and outstanding shares of DC at that time.

For greater certainty, as described in Paragraph 23, on the DC Transfer, DC will retain property including: (i) the patronage equity accounts in Pincher Creek Co-op Equity and United Farmers of Alberta Equity, and (ii) the XXXXXXXXXX account.

Post-Butterfly Transaction

33. Each of TC and DC will operate a XXXXXXXXXX business separate and independent from each other. There will not be any assets jointly owned by TC and DC to operate their XXXXXXXXXX business.

V. ADDITIONAL INFORMATION

34. Except as described herein, no property has been or will be acquired, and no liabilities have been or will be incurred or paid by DC in contemplation of and before the Proposed Transactions, other than in a transaction described in subparagraphs 55(3.1)(a)(i) to (iv).

35. There has not been, and will not be, as part of a Series of Transactions or Events that includes the DC Dividends and the TC Dividend, any disposition or acquisition of property in circumstances described in subparagraphs 55(3.1)(b)(i) or (iii), or an acquisition of control in the circumstances described in subparagraph 55(3.1)(b)(ii), that has not been described herein.

36. None of the property received by TC on the DC Transfer will be acquired by a person unrelated to TC, or by a partnership, as part of a Series of Transactions or Events that includes the DC Dividends and the TC Dividend, in the circumstances described in paragraph 55(3.1)(c).

37. None of the property retained by DC after the DC Transfer will be acquired by a person unrelated to DC, or by a partnership, as part of a Series of Transactions or Events that includes the DC Dividends and the TC Dividend, in the circumstances described in paragraph 55(3.1)(d).

38. None of DC and TC is or will be, at any time during a Series of Transactions or Events that includes the DC Dividends and the TC Dividend, a Specified Financial Institution, a Restricted Financial Institution or a corporation described in any of paragraphs (a) to (f) of the definition of “financial intermediary corporation” in subsection 191(1).

39. None of the shares of DC or TC has been or will be, at any time prior to the completion of the Proposed Transactions:

(a) the subject of any undertaking or agreement that is referred to in subsection 112(2.2) as a “guarantee agreement”;
(b) the subject of a “dividend rental arrangement” referred to in subsection 112(2.3), as that term is defined in subsection 248(1);
(c) the subject of any secured undertaking of the type described in paragraph 112(2.4)(a); or
(d) issued for consideration 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); or

(e) a share that is issued or acquired as part of a transaction, event or Series of Transactions or Events of the type described in subsection 112(2.5).

40. At the time of the TC Redemption, DC will be connected with TC, pursuant to paragraph 186(4)(a) and subsection 186(2), and will have a Substantial Interest in TC.

41. At the time of the DC Redemptions, TC will be connected with DC, pursuant to paragraph 186(4)(a) and subsection 186(2), and will have a Substantial Interest in DC.

42. Each of DC and TC will have the financial capacity to honour, upon presentation for payment, the amount payable under their respective promissory notes issued as part of the Proposed Transactions.

43. The Proposed Transactions will not result in DC or a person who is a Related Person to DC described herein, being unable to pay its existing tax liabilities.

44. The TC Class M Preferred Shares and the DC Class K Preferred Shares are not, and will not be, Taxable RFI Shares; however, those shares are, and will be, Taxable Preferred Shares and Short-Term Preferred Shares.

45. The DC Class A Common Shares are not Taxable Preferred Shares nor Short-Term Preferred Shares.

46. TC will not have a GRIP, ERDTOH or NERDTOH balance at the end of the taxation year in which the TC Dividend is deemed to have been paid.

47. DC will not have a GRIP, ERDTOH or NERDTOH balance at the end of the taxation year in which the DC Dividends are deemed to have been paid.

48. There has never been and there is not currently a shareholders’ agreement binding the shareholders of DC.

VI. PURPOSES OF THE PROPOSED TRANSACTIONS

49. Mr. A and Mr. B have operated DC together since its incorporation. In recent years, the business relationship between Mr. A and Mr. B has deteriorated, and they have found it difficult to work with each other. As there is no unanimous shareholders agreement with a clause commonly referred to as a “shot-gun” clause, neither Mr. A nor Mr. B is able to buy the other party out. Negotiations between Mr. A and Mr. B are at an impasse as it has been determined that it is not financially feasible for a buyout of either shareholder.

The Proposed Transactions will allow Mr. A and Mr. B to have separate ownership and control over their respective pro rata share of DC’s property, so that Mr. A and Mr. B each can XXXXXXXXXX, through TC and DC, respectively, independently from each other.

VII. RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, transactions, Additional Information and the purposes of the Proposed Transactions, and provided that the Proposed Transactions are completed in the manner described above, our Rulings are set forth below:

A. Subject to the application of subsection 69(11), the provisions of subsection 85(1) will apply to:

(a) the transfer, by Mr. A, of the DC A Shares to TC on the Mr. A Transfer; and

(b) the transfer, by DC, of the Distribution Property to TC on the DC Transfer,

such that the Agreed Amount in respect of each transfer of Eligible Property will be deemed to be the transferor’s Proceeds of Disposition and the transferee’s cost of such property pursuant to paragraph 85(1)(a).

For greater certainty,

(c) paragraph 85(1)(e.2) will not apply to the transfers described in Rulings A(a) and (b); and

(d) in applying subsection 85(1) to the DC Transfer, the reference in subparagraph 85(1)(e)(i) to “the undepreciated capital cost to the taxpayer of all property of that class immediately before the disposition” shall be interpreted to mean the portion of the undepreciated capital cost to DC of all property of that class immediately before the disposition that the aggregate FMV at that time of the properties of that class transferred to TC, is of the aggregate FMV at that time of all property of that class.

B. Subsection 84(3) will apply to:

(a) the TC Redemption, to deem TC to have paid, and DC to have received;

(b) the DC Redemption 1, to deem DC to have paid, and TC to have received; and

(c) the DC Redemption 2, to deem DC to have paid, and TC to have received,

a dividend that is a Taxable Dividend, on the:

(d) TC Class M Preferred Shares owned by DC (the TC Dividend); and

(e) the XXXXXXXXXX DC Class A Common Shares (the DC Dividend 1) and the XXXXXXXXXX DC Class K Preferred Shares (the DC Dividend 2) owned by TC
(collectively referred to as the DC Dividends),

in each case, equal to the amount, if any, by which the aggregate amount paid upon such purchase for cancellation or redemption, as the case may be, exceeds the aggregate PUC in respect of such shares immediately before such purchase for cancellation or redemption, and such dividend:

(f) will be included, pursuant to subsection 82(1) and paragraph 12(1)(j), in computing the income of the recipient corporation;

(g) will be deductible by each recipient corporation in computing that recipient corporation’s taxable income, pursuant to subsection 112(1), for the taxation year in which such dividend is deemed to have been received;

(h) will not be a dividend to which any of subsections 112(2.1), (2.2), (2.3) and (2.4) apply to deny the subsection 112(1) deduction described in (g) above;

(i) will be excluded, pursuant to paragraph (j) of the definition of Proceeds of Disposition, in determining the Proceeds of Disposition, to the recipient corporation, of the shares which are redeemed, purchased or cancelled;

(j) will not be subject to tax under Part IV, except as provided in paragraph 186(1)(b);

(k) will not be subject to tax under Part IV.1 or Part VI.1; and

(l) will, by virtue of subsection 112(3), reduce any loss that would otherwise be determined for the particular recipient corporation, in respect of that recipient corporation’s disposition of the shares on which the dividend is deemed to have been received.

C. Provided that as part of a Series of Transactions or Events that includes the DC Dividends and the TC Dividend described in Ruling B, there is not:

(a) an acquisition of property in circumstances described in paragraph 55(3.1)(a);
(b) a disposition of property in the circumstances described in subparagraph 55(3.1)(b)(i);
(c) an acquisition of control in the circumstances described in subparagraph 55(3.1)(b)(ii);
(d) an acquisition of property in the circumstances described in subparagraph 55(3.1)(b)(iii); or
(e) an acquisition of property in the circumstances described in paragraph 55(3.1)(c) or (d),

which has not been described herein, then by virtue of paragraph 55(3)(b), subsection 55(2) will not apply to the DC Dividends and the TC Dividend described in Ruling B. For greater certainty, subsection 55(3.1) will not apply to deny the exemption under paragraph 55(3)(b).

D. The set-off and the extinguishment of the TC Redemption Note and the DC Redemption Notes, as described in Paragraph 31, will not, in and of itself, result in a Forgiven Amount, nor will any of DC and TC otherwise realize any gain or incur any loss therefrom.

E. The provisions of subsections 15(1), 56(2), 69(1) and 246(1) will not be applied, as a result of any of the Proposed Transactions, in and by themselves.

F. The provisions of subsection 245(2) will not be applied, as a result of the Proposed Transactions, in and by themselves, to redetermine the tax consequences confirmed in Rulings A to E.

The Rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R11 issued by the CRA on April 1, 2021, and are binding on the CRA, provided that the Proposed Transactions are completed on or before XXXXXXXXXX.

The 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 confirmed, nothing in the Rulings 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 Stated Capital or PUC of any share, or the ACB or FMV of any property, referred to herein;

(b) any other tax account of any corporation referred to herein;

(c) the characterization of any property described herein to the holder thereof; or

(d) any other tax consequences relating to the facts, transactions, 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, 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.

Yours truly,

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

UNCLASSIFIED