7 March 1985 Income Tax Severed Letter 5-7286 - []

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.

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This is in reply to your letter of January 2, 1985 in which you request us to reconsider our views, as given in our letter to you dated December 9, 1983 (5-5511), concerning the interaction of subparagraph 95(2)(f)(ii) and subsection 85.1(3) of the Income Tax Act (the "Act") in the following circumstances:

• 1. A Canadian corporation ("C") acquired 100% of the shares of a U.K. operating company ("UKO") at the end of 1977 when one pound was equivalent to $2.10 Canadian. The acquisition cost was 100,000 pounds or $210,000 Canadian.
• 2. During 1980, the shares of UKO were sold to a new U.K. holding company ("UKH") on a share-for-share exchange covered by subsection 85.1(3) of the Act. There was no non-share consideration issued by UKH and the fair market value of UKO at the time of the transfer was in excess of $100,000 pounds. The exchange rate at the time was one pound to $2.80 Canadian.
• 3. During 1982, the shares of UKO were sold by UKH to an unrelated purchaser for cash in the amount of 200,000 pounds. The exchange rate at the time was one pound to $2.00 Canadian resulting in Canadian dollar equivalent sale proceeds to UKO of $400,000 Canadian.
• 4. At all times between acquisition in 1977 and sale in 1982, C owned directly (or indirectly through UKH) 100% of all the outstanding shares of UKO.
• 5. At the time of sale in 1982, the "exempt surplus" of UKO was 50,000 pounds. There was no taxable surplus then on hand.
• 6. At the time of sale, the shares of UKO qualified as "excluded property" as defined in paragraph 95(1)(a.1) of the Act as all or substantially all of UKO's property was used or held principally for the purpose of gaining or producing income from an active business.

Your concern was with respect to the computation of the capital gain to UKH on the disposition of the UKO shares in 1982 and in particular the appropriate rate of exchange to convert the Canadian dollar adjusted cost base of shares of UKO to U.K. currency to compare against the U.K. currency proceeds of disposition (200,000 pounds).

You presented three alternatives as follows:

• (i) the rate of exchange prevailing on the date (1977) when C originally acquired UKO;
• (ii) the rate of exchange prevailing on the date (1980) the shares of UKO were acquired by UKH in a share-for-share exchange pursuant to the provisions of subsection 85.1(3) of the Act; or
• (iii) the rate of exchange on the date (1982) of the ultimate sale of shares of UKO by UKH.

In 5-5511 we indicated that in our opinion alternative (i) was the appropriate rate of exchange at which to convert the Canadian dollar adjusted cost base to U.K. currency. As a result of our recent experience with foreign exchange problems as they relate to paragraphs 88(3)(b), 95(2)(c), (d) and (e) of the Act as they interact with subparagraph 95(2)(f)(ii) of the Act, we have reconsidered that opinion.

It is now our view that alternative (ii) provides the rate of exchange at which to convert the Canadian dollar adjusted cost base to U.K. currency.

In addition, we concur with your view that on the disposition of a controlled foreign affiliate of a taxpayer where one or more shares of the capital stock of another foreign affiliate of the taxpayer have been disposed of to the taxpayer, the fundamental intent of subsection 88(3) of the Act is to allow for the rollover of the shares so disposed of at their historic Canadian dollar adjusted cost base even if they are considered to be excluded property. With this in mind we have recommended that the Act be amended to allow for such a rollover.

We trust that this information will be of assistance to you.