5 June 1992 Internal T.I. 9207427 F - Capital Surplus On Hand

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.

June 5, 1992

Halifax District OfficeHead Office   Audit ReviewReorganizations and Foreign Division

Attention: Kevin McGuignan

Computation of Pre-1972 Capital Surplus on Hand

This is in reply to your memorandum dated February 20, 1992 to the Audit Technical Support Division which was referred to our division on March 6, 1992 for reply, wherein you ask for comments regarding a computation of Pre-1972 Capital Surplus on Hand ("CSOH") in respect of a letter that was sent to you by 24(1)In that letter, you are asked for your comments on the following situation:

An operating corporation ("OPCO") was incorporated prior to 1972. One of the shareholders owned 20% of the shares of OPCO. The shares had the following attributes:

- Paid-up capital, $100

- Original cost, $100

- Fair market value on valuation day, $100 000

The individual had not elected under ITAR 26(7) at any time. Presumably, the individual transferred his shares of OPCO, after 1971, to his personal holding corporation. The letter refers to a redemption of the shares of OPCO for proceeds of disposition in excess of the valuation day value and the original cost determined without reference to subsection 26(3) of the Income Tax Application Rules, 1971 ("ITAR") and asks if the difference between the fair market value on valuation day and the original cost of the shares to the individual result in an increase in the pre-72 CSOH of the holding corporation under paragraph 88(2.2)(b) of the Income Tax Act (the "Act").

Analysis of the Representative

The representative maintains that paragraph 88(2.1)(b) of the Act requires that the amount be in respect of a capital property of the corporation owned by it on December 31, 1971. In the situation presented, the corporation, acquired the property in a non-arm's length transaction from an individual who owned it on December 31, 1971. The representative concludes that it appears that paragraph 88(2.1)(b) of the Act does not apply to give an increase to the pre-1972 CSOH of the personal holding corporation.

Additionally, a comment is made that it appears that ITAR 26(5) does not apply for the purpose of subsection 88(2.1) of the Act with the wording of ITAR 26(5) "for the purpose of computing, at any particular time after 1971, the adjusted cost base of the property to the subsequent owner". The representative concludes that there appears to be no rollover provision for the purposes of subsection 88(2.1) of the Act that would deem the personal holding corporation to hold the shares on December 31, 1971 and that paragraph 88(2.2)(b) applies only for the purposes of a transaction between two corporations to which section 85 of the Act applied and not such a transaction between a corporation and an individual. The representative concludes that the personal holding corporation will not have any pre-72 CSOH.

Our comments

We agree with the analysis and conclusion of the representative. However, for a  redemption of shares with attributes such as presented, subsection 88(2.1) of the Act would presumably, in any case, result in no amount being added to the CSOH of the holding corporation with the reduction of the proceeds of disposition under subsection 54(h) of the Act for the deemed dividend established under subsection 84(3) of the Act.

ChiefReorganizations and Foreign DivisionSpecialty Rulings DirectorateLegislative and Intergovernmental Affairs Branch