2 March 1990 Income Tax Severed Letter 59558 F - Capital Gains Exemption for Small Business Corporation Share

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.

Re: Subsection 110.6(1) of the Income Tax Act (Canada) (the "Act")

This is in reply to your letter of February 1, 1990 in which you requested our views as to the interpretation of clause (c)(ii)(A) of the definition of "qualified small business corporation share" ("QSBC Share") contained in subsection 110.6(1) of the Act in the context of the hypothetical fact situation outlined herein.

Assume that X Co is a small business corporation, within the meaning of subsection 248(l) of the Act, and also that if the shares of X Co were sold they would be QSBC Shares.  The only property of X Co consists of properly used in an active business.

The aggregate fair market value of such property is $1,000,000 of which $600,000 is attributable to inventory, machinery and goodwill and the remainder is attributable to land and buildings.

X Co proposes to transfer the inventory, machinery and goodwill to a newly incorporated wholly-owned subsidiary. ("Subco") in exchange for common shares of Subco on a fair market blue basis in order to separate the land and buildings from the future, liabilities arising from the operation of the business.  After the transfer, the land and buildings would continue to be used in the business which would be carried on by Subco.

After the transfer, X Co would have property with a fair market value of $1,000,000 comprised of the bland and buildings and shares of a corporation connected with X Co, all of the assets of which would be used in an active business carried. on by a related corporation.  However, you are, of the view that the shares of Subco owned by X Co may not be assets described in subparagraph (c)(ii) of the definition of QSBC Share ("eligible securities") assuming that the determination time, within the meaning of such definition, is within 24 months of the transfer.

Opinions

We are in agreement with your view that the shares of Subco would not be eligible securities assuming that the determination time was within 24 months of the transfer to Subco, for the reasons described below.

Clause (c)(ii)(A) of the definition of QSBC Share provides that for shares held by a corporation (X Co in this case) to be eligible securities, such shares, must not have been owned by any person other than the corporation or a person related to the corporation "throughout that part of the 24 month Immediately preceding ,the determination time that ends at the time the corporation acquired such shares".  In our view, the words in quotation marks refer to that period of time, If any, which commences 24 months before, the determination, time and ends at the time that the corporation acquired the shares in question.

Paragraph 11O.6(14)(f) provision that where shares are issued after June 13, 1988 by a corporation to, a particular person, except in certain specified cases which are not applicable in the situation described herein, the shares shall be deemed to have been owned immediately before their issue by a person who was not related to the particular person.  Paragraph 110.6(14)(f) applies for purposes of the definition of QSBC Share, including clause (c)(ii)(A) thereof.

Applying the above comments Co the situation described herein, the shares of Subco Issued to X Co would be deemed by paragraph 110.6(14) (f) to have been owned by a person not related to X Co immediately before the time of their issue.  As this time would be within the time period which commences 24 months before the determination time and ends at the time X Co would acquire the shares of Subco, the shares of Subco would not be eligible securities by virtue of clause (c)(ii)(A) of the definition of QSBC Share.

Since the value of the shares of Subco would comprise more than 50-of the value of all of the assets of X Co at some time during the 24 month period preceding the determination time, the shares of X Co would not be QSBC Shares by virtue of paragraph (c) of the definition thereof.

The comments contained herein are only expressions of opinion given in accordance with paragraph 24 of Information Circular 70-6R.

Yours truly,

for DirectorReorganizations and Non-Resident DivisionSpecialty Rulings DirectorateLegislative and Intergovernmental  Affairs Branch