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:
An overview of the situation is that an individual will be the holder of a debenture in respect of indebtedness owed by a closely held corporation. The debenture is to bear a rate of interest such that the principal amount of the debenture is equal to its fair market value at the time of issuance. Interest for a year in respect of the debenture will be paid to the holder during the year or, in the alternative, on the death of the individual.
The individual will donate the debenture to a foundation (an agent of the province) or a charity. In donating the debenture, the individual may make a request with respect to the use of the property. On the death of the individual, the corporation will use the proceeds of a term life insurance policy to repay the indebtedness which may include interest.
1.If a request is made concerning the use of the donation, will it qualify as a "gift"?
2.Can the arrangement be considered to be an "avoidance transaction" as this term is defined in subsection 245(3) of the Act in relation to subsection 245(2) of the Act.
Position TAKEN:
1.Since there may not be "unfettered use" with respect to the donation, it might not qualify as a gift. However, it also noted that the Department accepts that a donation qualifies as a gift in certain circumstances where it is subject to a general direction.
2.The application of subsection 245(2) is a consideration.
Reasons FOR POSITION TAKEN:
1.The position taken is consistent with comments made in other correspondence.
2.The overall arrangement gives the impression that it was put in place so that the individual would be considered to have made a gift for the purposes of section 118.1 of the Act in circumstances where the principal amount of the debenture will not be paid until after death of the individual. The arrangement also facilitates the deduction of interest on an annual basis (assuming the requirements of paragraph 20(1)(c) are met) even though it (or a portion thereof) might not be paid until after the death of the individual. We also note that reference was made to 3-912412 (XXXXXXXXXX), the circumstances of which were referred to the GAAR Committee.
933441
XXXXXXXXXX M. Eisner
Attention: XXXXXXXXXX
August 30, 1994
Dear Sirs:
Re: Donation of Debt Instrument to Charity
This is in reply to your letter of November 25, 1993 in which you requested our views on a situation where a debt instrument is transferred to a foundation or a charity. We apologize for the delay in replying.
In your letter, you have set out circumstances which are common to situations involving the proposed transfer of a debt instrument to an agent of the government of a province or a charity. Confirmation of the tax consequences of proposed transactions will only be provided in response to a request for an advance income tax ruling following a review of the relevant facts and documentation. The procedures for requesting an advance income tax ruling are set out in Information Circular 70-6R2 and the related Special Release dated September 30, 1992. We are, however, prepared to provide you with the following general comments which should not be construed as having been made in respect of an actual fact situation.
In the comments that follow, unless otherwise stated, all references to statute are to the Income Tax Act 1970-71-72, c.63 as amended consolidated to June, 10, 1993 (the Act).
The circumstances of the type of situation with which you are concerned are set out below:
1.A foundation (The Foundation) which is a corporation has been established specifically for the benefit of a registered charity (the Charity) which satisfies the definition of this term found in subsection 248(1) of the Act. The Foundation is an agent of a government of a province and was established for the purpose of providing grants and real and personal property to the Charity.
2.An individual has a significant interest in a closely held corporation. A debenture will be issued by the corporation to the individual with respect to indebtedness owed by the corporation to the individual. Interest will be payable in respect of the debenture such that the principal amount thereof will be equal to its fair market value at the time of issuance. Under the terms of the debenture, interest is payable annually. Any interest that is unpaid will accrue and bear interest at the same rate as on the principal and be paid at maturity. In addition, the debenture will be secured as set out in 3(b) below.
3.(a)The Corporation will be the owner of a life insurance policy on the life of the individual under which the death benefit payable as a consequence of the individual's death would not be less than the face value of the debenture.
(b)The debenture will provide that the corporation is to provide a first fixed charge against the life insurance policy or a portion of the proceeds payable thereunder to the holder of the debenture. The terms will also provide that the corporation covenants to ensure that it will maintain the policy such that the proceeds payable thereunder will always be sufficient for it to satisfy the full amount of its obligations under the debenture (i.e. the principal and interest). In addition, the corporation may grant a fixed floating charge over all or a portion of its remaining property.
4.(a)The individual will donate the debenture to the Charity or the Foundation. In donating the property, the donor may make a request as to the use of the property. The donor will not receive any consideration as a result of making the transfer.
(b)The donor will direct the corporation to assign the life insurance policy to the donee.
(c)Upon the death of the donor, the corporation will use the insurance proceeds from the life insurance policy to pay the indebtedness in respect of the debenture.
5.The statute creating the Foundation expires in the early part of 1996 unless continued for one or more periods by the Lieutenant Governor in Council.
In commenting on the above situation, we have assumed that a term life insurance policy would be involved and that if any interest is not paid on an annual basis (see 2 above), the proceeds payable on the death of the donor would at least be equal to the interest outstanding plus the principal amount of the debenture. In addition, our comments below have been made on the presumption that the Foundation is an agent of a province for the purposes of the definition of "total crown gifts" contained in subsection 118.1(1) of the Act. However, in any factual situation, this fact would have to be ascertained.
It is the Department's position that if the fair market value of a donation cannot be reasonably determined, no deduction pursuant to section 118.1 would be allowable. While it seems that this issue could arise in a situation such as that set out above, our comments are based on the assumption that this is not the case.
Our comments on the above situation are as follows:
(a)It is the Department's position that a "gift" for the purposes of section 118.1 of the Act must be regarded as such at common law. In this regard, it is our view that such a gift is a voluntary transfer of real or personal property from a donor, who must freely dispose of his or her property to a donee, who receives the property given. The transaction must not result directly or indirectly in a right, privilege, material benefit or advantage to the donor or to a person designated by the donor. To qualify, the donation must be in the form of an outright gift. Any legal obligation (i.e., a direction with respect to the use of the funds) imposed on the donee would cause the transfer to lose its status as a gift. Further, in order for an expenditure to be considered a gift it must be made without conditions, from a detached and disinterested generosity, and out of affection, respect, or charity or like impulses, and not from the constraining forces of any moral or legal duty. The donee must have an unfettered right to use a donation as it wishes. However, it is the Department' general practice to view donations subject a general direction from the donor as acceptable, provided that no benefit accrues to the donor, the directed gift does not benefit any person not dealing at arm's length with the donor and decisions regarding utilization of the donation within a program rest with the donee.
The circumstances you describe indicate that a donor may request (see 4 above) that the property transferred to the Foundation be used for a certain purpose without the existence of a legal obligation concerning the use of the property. On the basis that the Foundation would transfer the property to the Charity along with the "request", we would consider whether this request or direction places any restriction as to the use of the transferred property, or related income, on the Charity. If so, the donation would fail to qualify as a gift. However, as noted above, if the "request" were considered to be of a general nature, we would normally consider that the Charity would still have unfettered use of the property and the related income. In this regard, our comments would be similar if the donation were to be made directly to the Charity.
(b)In the above type of situation, the creation of the debenture involves the individual and his or her closely held corporation. The overall arrangement also gives the impression that it was put in place so that the individual would be considered to have made a gift for the purposes of section 118.1 of the Act in circumstances where the principal amount of the debenture will not be paid until after the death of the individual. In addition, the arrangement facilitates the deduction of interest for each year (it is assumed that this meets the requirements of paragraph 20(1)(c) of the Act) although the interest may be paid either during the year or, in the alternative, on the death of the individual. As well, the interest would also be payable to a recipient described in section 118.1. Consequently, consideration would be given as to whether the purpose of the overall arrangement could be regarded as being an "avoidance transaction" as that term is defined in subsection 245(3) of the Act in relation to subsection 245(2) of the Act.
As a final comment, we emphasize that the determination of the tax consequences of an actual situation can only be made following a review of all the relevant facts and documentation and that there might be considerations other than those set out above. Accordingly, you may wish to apply for an advance income tax ruling.
We trust that our comments will be of assistance to you.
Yours truly,
J.A. Szeszycki
for Director
Business and General Division
Rulings Directorate
Policy and Legislation Branch
cc: Charitable Organizations Division
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