9 August 1994 External T.I. 9333125 - CAPITAL GAINS EXEMPTION

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

-Whether a controlling corporate partner also controls the corporations that the partnership controls.

-Whether the assets of the partnership are looked at for the purpose of the asset test in the definition of a qualified small business corporation share when determining whether the shares of the corporate partner qualify.

Position TAKEN:

-Yes

-Yes

Reasons FOR POSITION TAKEN:

-Previous Departmental positions

		933312
XXXXXXXXXX	B. Kerr

August 9, 1994

Dear Sirs:

Re: Capital Gains Exemption

This is in response to your letter of November 16, 1993, wherein you outlined a situation where a husband owned all of the shares of a corporation and his spouse owned all of the shares of another corporation. The husband's corporation owns a controlling interest in a partnership and his spouse's corporation owns the remaining partnership interest. The partnership in turn owns all of the shares of a third corporation and 40% of the shares of a fourth corporation. For the purpose of determining whether the shares held by each individual spouse in their respective corporation's would be considered to be "qualified small business corporation shares" within the meaning of subsection 110.6 of the Income Tax Act, you have asked us a series of questions relating to the control of the third corporation and the ownership of the partnership assets. We apologize for the delay in responding.

Unless otherwise stated all references to statute are references to the Income Tax Act S.C. 1970-71-72, c.63 as amended consolidated to June 10, 1993 (the "Act").

Our Comments

The situation described in your letter appears to involve actual proposed transactions with identifiable taxpayers. Assurance as to the tax consequences of actual proposed transactions will only be given in the context of an advance income tax ruling. The procedures for requesting an advance income tax ruling are outlined in Information Circular 70-6R2 dated September 28, 1990, and the Special Release thereto dated September 30, 1992, issued by Revenue Canada, Taxation. However, we can offer the following general comments.

The term "qualified small business corporation share" of an individual at any particular time as defined in subsection 110.6(1) of the Act requires, inter alia, that it be a share of a small business corporation owned by the individual, the individual's spouse or a partnership related to the individual and that throughout that part of the 24 months preceding that time it was not owned by anyone other than the individual or a person or partnership related to the individual. During this period more than 50% of the fair market value of the assets of the corporation must be attributable to assets used principally in an active business carried on by the corporation or by a corporation related to it, or to shares or indebtedness of one or more other corporations that were connected with the corporation, or to a combination of each. The term "small business corporation" is defined in subsection 248(1) and the general meaning of a "connected corporation" is found in subsection 186(4) of the Act.

In order to include the shares or debt of corporations connected with the particular corporation in this determination, two additional tests pertaining to the preceding 24 months must also be met: one of which concerns ownership of the share or debt and, the other, the use of the connected corporation's assets similar to the asset test for the particular corporation stated above. However, one of the exceptions to this is that if all or substantially all of the fair market value of the assets of the particular corporation or one of the connected corporations cannot be attributable to assets described above, the 50% asset test requirement for the connected corporation becomes an all or substantially all requirement and the meaning of a connected corporation for this purpose is modified to add a second condition that the other corporation own shares of the particular corporation and if any corporation in which the other corporation owns shares, also owns shares of the particular corporation, then these shares are deemed to be owned by the other corporation.

It is our view, as outlined in paragraph 13 of Interpretation Bulletin IT-64R3, that the word "control" as expressed in the Act generally means the right of control that rests in ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the Board of Directors. Such control is referred to as de jure control.

In addition, it is our view, as outlined in paragraph 33 of IT-64R3 that it is possible for a person to have de jure control over a corporation without ownership of any of its shares, provided that person controls one or more other corporations which, singly or between them, have voting control of the first mentioned corporation. This view is consistent with the reasoning adopted by the courts in the decision in the case of Vineland Quarries & Crushed Stone Ltd. v M.N.R., 66 DTC 5092 (Ex. Ct.), affirmed by 67 DTC 5283 (S.C.C.). Also, as outlined in paragraph 3 of Interpretation Bulletin IT-302R direct control of a corporation is the ownership of its controlling shares. Indirect control of a particular corporation includes ownership of the controlling shares of an intermediary corporation that, in turn, owns the controlling shares of the particular corporation. This would also be our view where the intermediary shareholder is a partnership. In other words, where a partnership owns more than 50% of the issued voting shares of a corporation and where a particular partner is entitled without restriction, to exercise more than 50% of the votes that may be cast at a meeting of the partnership, it is our view that the particular partner controls the corporation.

It is also our view as stated in paragraph 6 of Interpretation Bulletin IT-486R, that "where a corporation has a partnership interest as one of its assets, it is the underlying partnership assets (to the extent of the corporation's interest therein) that are used in determining whether all or substantially all of the corporations assets are used in an active business. Provided that these assets are used in an active business carried on primarily in Canada by the partnership, they will qualify." This would also be our view with respect to the 50% test and these partnership assets would also be used in determining whether "all or substantially all" or "50%" of the corporation's assets are shares or indebtedness of one more small business corporations that were at that time connected with the particular corporation.

We trust that these comments will be of assistance.

Yours truly,

R. Albert
for Director
Business and General Division
Rulings Directorate
Policy and Legislation Branch