30 September 1988 Income Tax Severed Letter 5-6125 - [880930]

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.R. Bowen (613) 957-2094

SEP 30 1988

Dear Sirs:

We are writing in reply to your letter of May 31, 1988, wherein you requested our interpretation of the amount of capital cost allowance ("CCA") which may be claimed by a corporation in respect of property acquired in the following situation.

Facts

Our understanding of the facts of the situation is as follows:

1) On June 1, 1987, Corporation A acquired property from Corporation B in a transaction in respect of which an election was made under subsection 85(1) of the Income Tax Act (the "Act"). Upon receiving all of the common shares on the rollover of the property, Corporation B became the sole shareholder of Corporation A. The property acquired by Corporation A was classified as class 29 property by Corporation B.

2) The undepreciated capital cost (the "UCC") of the class 29 property on June 1, 1987 totalled, XXX and was comprised of:

a) UCC of the property that was owned by either Corporation B or A for a period of at least 364 days before June 17, 1987

b) UCC of the property that was not owned by either Corporation B or A for a period of at least 364 days before June 17, 1987

Total UCC of the property 
transferred from Corporation B to A               XXXX

3) Corporation C was incorporated solely for the purpose of acquiring the shares of Corporation A from Corporation B. On June 17th, 1987, Corporation C acquired all of the outstanding shares of Corporation A, which resulted in a change of control to which subsection 249(4) of the Act applies.

4) On June 30th, 1987, Corporation A and Corporation C were amalgamated pursuant to the provisions of subsection 87(1) of the Act to form Corporation AC. The first taxation year of Corporation AC ended June 30, 1988.

5) Corporation A did not file an income tax return for the period June 1 to June 17th, 1987. However, Corporation A did file a return for the period June 17 to June 30th, 1987. No capital cost allowance was claimed by Corporation A for the period June 1 to 30, 1987.

Additional Facts Assumed

1) There were no other acquisitions of class 29 property made by Corporation AC in the fiscal year ended June 30, 1988.

2) Corporations A, B, C and AC are taxable Canadian corporations within the meaning of paragraph 89(1)(i) of the Act.

3) The property was originally acquired by Corporation B from an arm's length party at fair market value. The capital cost to Corporation B of the property having a UCC of XXX and XXXX respectively. The elected amount under paragraph 85(l)(a) of the Act for the total property is XXX (i.e. the UCC of the property).

4) The fair market value of the property transferred by Corporation B to Corporation A at the time of the transfer is greater than the UCC of the property to Corporation B.

5) Corporation AC is deemed to be related to Corporation C pursuant to subsection 251(3.1) of the Act.

6) Subsection 85(5) of the Act is applicable.

Our Comments

A) Transfer of Property to Corporation A

Where subsection 85(5) of the Act is applicable to depreciable property which has been transferred to a corporation under subsection 85(1) of the Act, the capital cost to the transferor of the transferred property is deemed to be the capital cost to the transferee. Where the elected amount under paragraph 85(1)(a) of the Act equals the UCC of the property, the transferee, in effect, assumes the UCC of the property from the transferor. In addition, pursuant to paragraph 1102(14)(a) of the Income Tax Regulations (the "Regulations"), the property of a prescribed class of the transferor is deemed to be property of the same prescribed class to the transferee. As well, class 29 property will be designated property to the tranferee for the purpose of paragraph 1100(l)(ta) of the Regulations, if the transferor continuously owned the property for the period from a day that was at least 364 days before the end of the taxation year of the transferee during which he acquired the property to the day it was acquired by the tranferee (per paragraph 1100(2.2)(f) of the Regulations). If this condition is not met, then the class 29 property transferred to the transferee will be subject to the normal half-year rule for capital cost allowance described in subclause 1100(l)(ta)(i)(B)(II) of the Regulations. Where subsection 85(5) is applicable to the property acquired by the transferee, for the purposes of subclause 1100(l)(ta)(i)(A)(II) of the Regulations, the class 29 property will be acquired by that corporation in a "specified transaction".

Therefore, in your example, Corporation A will have acquired class 29 property, of which the property having a capital cost of XXXX and a UCC of XXX will be considered designated property acquired in a specified transaction. The balance of the class 29 property acquired will not be designated property.

B) Change in Control

Where there is a change in control of the corporation after January 15, 1987, the taxation year of a corporation is deemed to end immediately before an acquisition of control takes place and a new taxation year is deemed to have started at the time of the acquisition of control (per subsection 249(4) of the Act). Therefore, the corporation whose control has been acquired is required to file a T2 Corporation Income Tax Return for the period ending immediately before the change in control. This return is required to be filed pursuant to paragraph 150(1)(a) of the Act and must be filed regardless of whether or not there is any loss or income to report. Therefore, Corporation A is required to file an income tax return for the period June 1 to 17, 1987.

The calculation of the undepreciated capital cost and the capital cost allowance for the taxation year ending immediately prior to the change in control will be subject to subsections 13(24) and 13(25) of the Act. In the "Technical Notes to a Notice of Ways and Means Motion Relating to Income Tax" issued on June 3, 1987, the Department of Finance indicated that:

"New subsection 13(24) of the Act adds a special rule that applies where a corporation has acquired a depreciable property within the 12-month period ending immediately before a change of control of the corporation and the property was not used, or acquired for use, in a business carried on before that period. Under this special rule, the capital cost of property acquired in the 12-month period will not be included in computing undepreciated capital cost until after the change of control... The purpose of this special rule is to prevent the transfer of depreciable property in contemplation of a change of control in order to reduce taxable income where the persons acquiring control would not themselves be in position to use the capital cost allowance or investment tax credit op the property.

This special rule does not apply where the property was owned by the corporation ... or a person related to the corporation throughout the period commencing immediately before the 12-month period and ending when the property was acquired by the corporation. ... Where a corporation has been incorporated or otherwise formed during the 12-month period, it is treated by new subsection 13(25), for the purpose of this related person exception, as having been in existence during the period commencing immediately before the 12-month period and ending immediately after it was incorporated or otherwise formed, and as having been related throughout that period to the person or persons whom it was related ... throughout the period of its existence ending immediately before the change of control."

In your example, Corporation A and B would be deemed to be related for the period June 17, 1986 to June 17, 1987. Therefore, property that was owned by Corporation B prior to June 17, 1986 and transferred to Corporation A on June 1, 1987 would be exempt from the application of subsection 13(24) of the Act, as this property was owned by either Corporation A or B for the 12 months prior to the change in control on June 17, 1987. As a result, CCA could be claimed by Corporation A for the period June 1 - June 17, 1987 on class 29 property having a UCC of XXX but not on the property having a UCC of XXX)

C) Amalgamation

Where corporations amalgamate under subsection 87(1) of the Act, the first taxation year of the corporation formed as a result of the amalgamation is deemed to have commenced at the time of the amalgamation and the taxation year of each predecessor corporation is deemed to have ended immediately before the amalgamation. Where depreciable property is transferred from the predecessor corporation to a newly amalgamated corporation, subparagraph 87(2)(d)(i) of the Act provides that the capital cost to the new corporation of depreciable property of a prescribed class acquired from a predecessor corporation is deemed to be the amount that was the capital cost thereof to the predecessor corporation. The effect of subparagraph 87(2)(d)(ii) is that the UCC of property of a prescribed class immediately after the amalgamation will be the aggregate of the UCC of property of that class of all of the predecessor corporations immediately before the amalgamation.

Pursuant to subsection 1102(14) of the Regulations, a property of a prescribed class of the transferor is deemed to be property of the same prescribed class to the transferee. A property that was designated property of the predecessor corporation will also be designated property of the amalgamated corporation pursuant to paragraphs 1100(2.2)(c) and (g) of the Regulations. However, there is a proposed change to these two regulations. As per subclauses 1(7), 3(3) and 24(3) of the Draft Regulations - Capital Cost Allowance outlined in "Income Tax Regulations, Legislation and Explanatory Notes" issued on December 16, 1987 by the Department of Finance, for property acquired by a taxpayer after June 17, 1987 (other than property acquired after that date and before 1990 pursuant to an agreement in writing entered into by the taxpayer before June 18, 1987), subsections 1100(2.2) and 1102(14) of the Regulations will no longer apply when there is an amalgamation. Instead, the new rule will require that the property must be acquired by a taxpayer from a person with whom the taxpayer was not dealing at arm's length at the time the property was acquired in order for these regulations to apply. Subsection 251(3.1) of the Act indicates the circumstances under which a newly amalgamated corporation and any predecessor corporations shall be deemed to be related persons.

In your example, Corporation A and C will have a deemed year end of June 30, 1987, that being the date immediately prior to the amalgamation. Corporation AC's first taxation year will also commence on that date. Corporation A and C must file an income tax return for the period of June 17 to 30, 1987. The capital cost of the class 29 depreciable property to Corporation AC will be deemed to be the capital cost to Corporation A and the UCC of that class 29 property will effectively transfer from Corporation A to Corporation AC. Corporation AC will acquire the designated property of Corporation A in a specified transaction (i.e. a transaction to which subsection 87(1) applies).

D) Corporation AC's Class 29 CCA

Paragraphs 18 and 19 of Interpretation Bulletin IT-147R2 provide an explanation of the calculation of the maximum CCA available for class 29 as determined under paragraph 1100(l)(ta) of the Regulations.

The maximum CCA which Corporation AC may claim in respect of its 1988 taxation year is computed per paragraph 1100(l)(ta) of the Regulations as follows: An amount not exceeding the aggregate of:

i) the aggregate of

A) the lesser of                                     Subtotals            Totals

i) 50% of the capital cost of designated property acquired in the year (50% of XXX)

ii) UCC in respect of designated property acquired by virtue of specified transaction

B) 25% of the lesser of

I) UCC not including designated property acquired during the year II) capital cost of non-designated property acquired during the year

                                                      Subtotals   
    ii) the lesser of

        A) excess of UCC over capital cost of
           all property acquired in the year           NIL

B) an amount equal to the aggregate of

          I) 50% of capital cost of property acquired
             in preceding years                                         NIL

         II) excess from clause A over amounts 
             related to prior years                    NIL
                                                                     NIL
                                                       NIL

Available CCA as at June 30, 1988 for Corporation AC              $86,562.50
                                                                  ==========

These comments represent our opinion of the law as it applies generally. As indicated in paragraph 24 of Information Circular 70-6R dated December 18, 1978, this opinion is not a ruling and accordingly, it is not binding on Revenue Canada, Taxation. Furthermore, part of the comments relate to the applicability of draft regulations related to capital cost allowance, tabled in the House of Commons on December 16, 1987, and are only valid provided the draft regulations are enacted into law in substantially the same form.

We trust these comments will be of assistance.

Yours truly,

Original Signed by

T. HARRIS

for Director

Small Business and General Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch