28 May 1986 Income Tax Severed Letter 5-1358 - [Cross-Border Parent and Subsidiary Company Loans]

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.

C. Savage

(613) 957-2111

May 28, 1986

Dear Sirs:

This is in response to your request of April 4, 1986 for our opinion with respect to the application of subparagraph 40(2)(g)(ii) and subsection 85(4) of the Income Tax Act (the "Act") to a hypothetical situation which you described as follows:

1. Parent corporation is incorporated in Canada and carries on an active business in Canada. It also owns 1007 of the issued and outstanding shares of Subsidiary.

2. Subsidiary is incorporated under the laws of a state of the United States. It tarries on an active business in the United States only. It is a foreign affiliate of Parent.

3. Parent capitalized Subsidiary with issued equity of $1,000 and a non interest bearing advance on open account.

4. The current fair market value of Subsidiary is less than the amount of the issued equity and the advance.

5. Parent and Subsidiary agree to exchange the loan payable for equity of Subsidiary.

6. Additional common shares of Subsidiary are issued to Parent in exchange for the loan payable to Parent.

7. At a subsequent time the common shares of Subsidiary are sold by Parent to an arm's length party at fair market value.

In our opinion

i) On the disposition of the loan to Subsidiary Parent will realize a capital loss on the exchange equal to the excess of the adjusted cost base of the loan over the greater of the fair market value of the loan and the fair market value of the shares received as consideration for the disposition.

ii) The capital loss will be deemed to be nil pursuant to subparagraph 40(2)(g)(ii) of the Act.

iii) The opening cost to Parent of the additional shares of Subsidiary will be equal to the lesser of the fair market value of the loan for which they were issued and the fair market value of the shares received.

iv) The provisions of subsection 85(4) of the Act will apply to add the amount of Parent's capital loss on the disposition to the adjusted cost base of Parent's shares of Subsidiary. The provisions of paragraph 69(l)(a) of the Act will not be applicable to deny the addition provided for in subsection 85(4) of the Act.

V) In the event of a sale of the shares of Subsidiary, Parent's capital gain or loss will be computed as the proceeds of disposition, less the adjusted cost base of the shares, as increased by subsection 85(4) of the Act.

The above comments are an expression of Our opinion based on the hypothetical situation which you described. As stated in Information Circular 70-6R these comments are not binding on the Department. The application of the provisions of the Act to an actual situation can only be determined by examining all of the relevant facts either at the time of assessment in the case of a completed transaction or on submission of a request for a ruling in the case of a proposed transaction.

We hope this will be of assistance.

Yours truly,

for Director Reorganizations and Non-Resident Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch