15 May 1996 External T.I. 9603975 - RRSP INVESTMENT IN CCPC

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:

Investment in a business corporation as a qualified investment for an RRSP

Position:

Routine reply on 4900(6) and (12) with update for October 31/95 passage of amendments (no discussion of transitional rules with respect to property acquired between Dec. 2/92 and November 29/94).

Reasons: N/A

		960397
XXXXXXXXXX		P. Spice

Attention: XXXXXXXXXX

May 15, 1996

Dear Sirs:

Re: Subsections 4900(6) and (12) of the Income Tax Regulations

This is in reply to your facsimile transmission of January 22, 1996, in which you describe a proposed acquisition of shares in a Canadian-controlled private corporation ("CCPC") by annuitants of registered retirement savings plans ("RRSPs"). You ask for an opinion concerning the tax consequences resulting from the purchase.

Although the Department will provide technical interpretations of specific provisions of the Income Tax Act (the "Act"), we are unable to provide them in the context of a completed or proposed transaction. Questions with respect to completed transactions should be addressed to your local tax services office. Technical interpretations relating to proposed transactions are available by applying for an advance income tax ruling in accordance with the guidelines in Information Circular 70-6R2 and the Special Release thereto. We can, however, provide the following general comments which we trust will assist you.

A "qualified investment" for an RRSP is a term defined in subsection 146(1) of the Act. Generally an RRSP can invest in shares of a corporation if the shares are listed on a prescribed stock exchange in Canada or in a country other than Canada, or if the corporation is a "public corporation" as defined in the Act - see the current version of Interpretation Bulletin IT-391 for more information on public corporation status. (A copy is available from your local tax services office). It should be noted that for purposes of the Act, life insurance corporations are considered to be public corporations.

When the shares of a corporation do not qualify as investments for an RRSP as noted above, they may qualify if they are shares of a Canadian-controlled private corporation (CCPC) which is an "eligible corporation" and the annuitant of the RRSP is not a "designated shareholder" of that company. These latter two terms are defined and the relevant provisions are contained in sections 4900 through 5103 of the Income Tax Regulations (the "Regulations").

In brief, an "eligible corporation" is generally a taxable Canadian corporation which uses substantially all (90% or more) of its property in a "qualifying active business". Specifically excluded from this definition are securities dealers, financial institutions, corporations whose principal business is the lending of money or the purchasing of debt, and non-resident controlled corporations.

A "qualifying active business" is also a defined term which generally includes any business which is carried on in Canada except one where the principal purpose is to earn income from property in the form of interest, dividends, rent, royalties or gains from dispositions of property. A qualifying business may, however, include a business of leasing property other than real property, and a retail or wholesale business.

A corporation's business will be considered to have been carried on in Canada if at least 50% of its employees are engaged in the business in Canada or at least 50% of its salaries or wages are paid for services provided in Canada in respect of the business. If the corporation is part of a group of related corporations, the combined services of their employees and the combined salaries and wages paid must be considered in making this determination.

With respect to property acquired by the RRSP after November 29, 1994, a "designated shareholder" of a corporation is any RRSP annuitant who at the time

(a)is, or is related to, a "specified shareholder" (generally, a person who directly or indirectly holds 10% or more of the shares of any class of shares of the corporation), unless the cost amount of all the shares (basically the shares of the corporation and of any related corporations owned directly or indirectly by the RRSP annuitant or the related person, and any such shares the RRSP annuitant or related person has a right to acquire) is, in total, less than $25,000. For this purpose, an annuitant of an RRSP is deemed to own the shares owned by the RRSP (see definition of "specified shareholder" in paragraph 248(1)(b) of the Act);

(b)is or is related to a member of a partnership that controls the corporation in any manner;

(c)is or is related to a beneficiary under a trust that controls the corporation in any manner;

(d)is or is related to an employee of the corporation where the employees control the corporation, except where the corporation is controlled by one person or a related group of persons; or

(e)does not deal at arm's length with the corporation.

As you note in your facsimile, where the employees have the majority of the voting shares, an employee will be considered a "designated shareholder". If, however, one employee controls the corporation, other employee shareholders will not be "designated shareholders".

Note that the conditions respecting both the "eligible corporation" and the "designated shareholder" must be satisfied at the time the RRSP acquires the shares and thereafter. Should the annuitant become a "designated shareholder" of the corporation or the corporation fail to be an "eligible corporation" at a later date, the shares will become non-qualified investments for the RRSP.

Subsection 4900(12) of the Regulations (applicable after December 2, 1992) was introduced to allow a share of the capital stock of a "small business corporation" to be a qualified investment for an RRSP, provided that the RRSP annuitant is not a "connected shareholder" of the corporation immediately after the acquisition of the share. The corporation must be a "small business corporation" at the time the share is acquired by the RRSP or at the end of the taxation year of the corporation ending before the time the share is acquired. For this purpose, a "small business corporation" is a Canadian corporation that is not directly or indirectly controlled by one or more non-residents. In addition, to qualify as a "small business corporation" all or substantially all (90% or more) of the fair market value of the corporation's assets must be attributable to assets that were:

a) used principally (50% of the time or more) in an active business carried on primarily in Canada by the particular corporation or by a corporation related to it,

b)shares or indebtedness of other small business corporations which were connected with the particular corporation, or

c)assets described in a and b above.

With respect to property acquired by an RRSP after November 29, 1994, a "connected shareholder" of a corporation is a "specified shareholder" as defined in subsection 248(1) of the Act (generally, a person who directly or indirectly holds 10% or more of the shares of any class of shares of the corporation). However, an annuitant who is a "specified shareholder" of the corporation will not be a "connected shareholder" if he or she deals at arm's length with the corporation and the cost amount of all the shares (basically the shares of the corporation and of any related corporations owned directly or indirectly by the RRSP annuitant or the related person, and any such shares the RRSP annuitant or related person has a right to acquire) is, in total, less than $25,000. For this purpose, an annuitant of an RRSP is deemed to own the shares owned by the RRSP (see definition of "specified shareholder" in paragraph 248(1)(b) of the Act).

As you note, shareholders who have identical numbers of shares which represent 10% or more of the issued shares may be treated differently where the shareholders' cost amount of the shares are not the same because they were acquired at different times.

Note that the conditions respecting the "small business corporation" must be satisfied only once, that being at the time the shares are acquired by the RRSP or at the end of the taxation year of the corporation ending before the time the share is acquired. Similarly, the conditions respecting the "connected shareholder" must be satisfied only once, that being at the time immediately after the shares are acquired by the RRSP. (This means that for the $25,000 and 10% tests discussed in the previous paragraph, the shares acquired by the RRSP are included.) Should the corporation fail to remain a "small business corporation" or the annuitant become a "connected shareholder" at a later time the shares will not consequently become non-qualified investments for the RRSP. In accordance with subsection 4900(13) of the Regulations a share of a "small business corporation" will become non-qualified, however, if:

(i) an individual provides services to or for, acquires goods from, or is provided services by, the issuer of the share or a person related to the issuer;

(ii) an amount is received by the RRSP in respect of the share; and

(iii) the amount can reasonably be considered to be

(A) on account of or in lieu or in satisfaction of, payment for the services to or for the issuer or the person related to the issuer, or

(B) in respect of the acquisition of the goods from, or services provided by, the issuer or the person related to the issuer.

Due to the detail and complexity of the Regulations regarding these issues, the foregoing comments are meant only to provide an overview of the relevant provisions and under no circumstances should they be considered either comprehensive or all inclusive.

With respect to your query concerning the capital gains exemption on a sale of "qualified small business corporation shares" to an RRSP, any investment by an RRSP must be acquired for fair market value. While the annuitant cannot claim a capital loss on a sale of a capital property to the annuitant's RRSP, the annuitant is eligible for the capital gains deduction under subsection 110.6(2.1) of the Act provided the conditions therein are satisfied.

The above comments are an expression of opinion only and do not bind the Department. We trust, however, that they will be of assistance to you.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch