9 March 1995 External T.I. 9430255 - BUTTERFLY REORG - CAPITAL GAINS ELECTION

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 subsection 110.6(7) of the Act may apply to deny the capital gains exemption which might otherwise be available upon filing the capital gains election, in respect of shares of a corporation that was reorganized subsequent to February 22, 1994.

Position TAKEN:

Subsection 110.6(7) may apply.

Reasons FOR POSITION TAKEN:

Subsection 110.6(7) may apply where, at the time of the "butterfly" reorganization, the shareholders had formed the intention to sell their shares, and their shares are eventually sold. In these circumstances, the reorganization and the ultimate sale will be considered to form part of the same series of transactions and events.

			5-943025
XXXXXXXXXX		C. Chouinard

Attention: XXXXXXXXXX

March 9, 1995

Dear Sir:

Re: Subsection 110.6(7) of the Income Tax Act

We are writing in response to your letter of November 16, 1994, wherein you requested our comments on the application of subsection 110.6(7) of the Income Tax Act (the "Act") where the capital gains election is filed in respect of shares.

In the situation you describe, the two shareholders of a Canadian-controlled private corporation decided, in December 1993, to undertake a divisive reorganization. All steps were taken to ensure that the reorganization, which was undertaken on August 1, 1994, complied with paragraph 55(3)(b) of the Act. The two shareholders will file the capital gains election in respect of their shares in the corporation to trigger a capital gain and claim their capital gains exemption. You ask whether subsection 110.6(7) of the Act will apply to deny the capital gains exemption which might otherwise be available under subsection 110.6(3) of the Act, in respect of gains triggered by the election.

Our Comments

Written confirmation of the tax implications inherent in particular transactions are given by this Directorate only where the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R2. The following comments are, therefore, of a general nature only, and are not binding on the Department.

Paragraph 110.6(7)(a) of the Act denies the capital gains exemption where the capital gain is realized as part of a series of transactions or events to which subsection 55(2) of the Act would, but for paragraph 55(3)(b) of the Act, apply. It is a question of fact whether or not the preliminary transactions constituting the "butterfly" reorganization are part of the same series that includes the disposition resulting in the realization of the capital gain. In this regard, reference should be made to the extended definition of "series of transactions or events" in subsection 248(10) of the Act. It is our view that a preliminary transaction will form part of the series of transactions that includes the subsequent transactions if, at the time the preliminary transaction is carried out, the taxpayer has the intention to implement the subsequent transactions and the subsequent transactions are eventually carried out. Thus, if at the time of the "butterfly" reorganization, the shareholders had formed the intention to sell their shares, and their shares are eventually sold, the reorganization and the ultimate sale will be considered to form part of the same series even though at the time of the reorganization, the shareholders either had not determined all of the important elements of the subsequent sale such as, for example, the identity of the purchaser or the purchase price and terms of payment or lacked the ability to implement the subsequent sale.

Therefore, in the situation you describe, subsection 110.6(7) of the Act may apply to deny the capital gains exemption which might otherwise be available upon filing the capital gains election if, at the time the decision was made to undertake the divisive reorganization, the shareholders had the intention to dispose of their shares. In our view, the filing of the capital gains election could form part of the series of transactions to the same extent as an actual disposition, since the election gives rise to a deemed disposition of property. Although the shareholders could not have formed the intention to file the capital gains election at the time the decision was made to enter into a reorganization, nevertheless, if they had formed the intention to dispose of their shares at that time, the reorganization and the filing of the capital gains election could be considered to form part of the same series of transactions and events.

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