10 February 1997 Internal T.I. 9701277 - PURCHASE AND SALE AGREEMENT - PART I.3

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:

1.Where a purchase and sale agreement has an effective date prior to the purchaser's 1992 year-end and is subject to a condition precedent that is not satisfied until after its 1992 year-end, did the purchaser acquire the assets in its 1992 taxation year?

2Whether the obligation created under the purchase and sale agreement should be included in computing the purchaser's capital for 1992 under paragraph 181.2(3)(b) or (d)?

Position:

1.No. Since the condition precedent was fulfilled in the purchaser's 1993 taxation year, the purchaser acquired the assets in 1993. Accordingly, for Part I purposes, the purchaser is not entitled to claim capital cost allowance on the assets for 1992.

2.In our view, the obligation under the purchase and sale agreement does not constitute a reserve nor does it have the characteristics of a note. Therefore, no amount in respect of the obligation should be included in computing the purchaser's capital for 1992.

Reasons:

1.It is the Department's view that the date of disposition of property sold is the date on which beneficial ownership is intended to pass to the purchaser and the time at which the vendor has an absolute but not necessarily immediate right to be paid. As long as a condition precedent remains unsatisfied, the vendor does not have an absolute right to be paid.

2.While the obligation under the purchase and sale agreement appears on the purchaser's balance sheet, it does not come within the scope of subsection 181.2(3).

			February 10, 1997

	CALGARY TAX SERVICES OFFICE     	HEADQUARTERS
	International Audit                	J. Leigh
	                                   	952-1505
	Attention: Darren McNeil
			7-970127

XXXXXXXXXX ("A Co") - Part I.3

This is in reply to your memorandum dated January 8, 1997 in which you requested our views on whether the liability created under a purchase and sale agreement and reflected on A Co's balance sheet for its 1992 taxation year should be included in computing A Co's capital for Part I.3 tax purposes.

It is our understanding that A Co, a Canadian company operating in Canada in the XXXXXXXXXX The purchase and sale agreement setting forth the terms and conditions in the letter of intent was executed on XXXXXXXXXX Pursuant to the agreement, the transaction had an effective date of XXXXXXXXXX and a closing date of XXXXXXXXXX. In addition, the completion of the agreement was subject to a number of conditions precedent, including the following:

" XXXXXXXXXX "

A Co recorded the acquisition on its books as a debit to "fixed assets" and a credit to "accounts payable" in respect of its XXXXXXXXXX taxation year. A Co claimed maximum capital cost allowance on the assets for its 1992 taxation year. XXXXXXXXXX

It is your view that since the condition precedent relating to regulatory approval was not fulfilled until after XXXXXXXXXX, the liability reflected on A Co's balance sheet as at XXXXXXXXXX is not enforceable and is therefore a contingent liability. Your question to us is whether the liability should be included in computing A Co's capital under paragraph 181.2(3)(b) of the Income Tax Act (the "Act") as a reserve or under paragraph 181.2(3)(d) of the Act as an indebtedness represented by bonds, debentures, notes, mortgages, bankers' acceptances or similar obligations.

The key issue to be resolved is whether A Co. in fact acquired the assets in its 1992 taxation year. Based on our review of the terms of the purchase and sale agreement dated XXXXXXXXXX, it is clear that the condition precedent requiring that any and all necessary regulatory or governmental approvals be obtained prior to closing was not satisfied until after XXXXXXXXXX. As you have noted, paragraph 5 of IT-170R states in part:

"it is the Department's view that the sale price of any property sold is brought into account for income tax purposes when the vendor has an absolute but not necessarily immediate right to be paid. As long as a 'condition precedent' remains unsatisfied, the Department's view is that the vendor does not have an absolute right to be paid."

Paragraph 6 of IT-170R states:

"A 'condition precedent' is an event (beyond the direct control of the vendor) that suspends completion of the contract until the condition is met or waived and that could cancel the contract 'ad initio' if it is not met or waived."

The Department affirmed the above position at the 1987 Round Table and reaffirmed it at the 1991 Round Table. Consistent with the Department's stated position, it is our view that the assets were acquired by A Co in its 1993 taxation year and not in its 1992 taxation year since the condition precedent was not satisfied until after XXXXXXXXXX. Accordingly, for purposes of Part I, the capital cost of the assets should not have been added to Class 39 and Class 41 in 1992 and no capital cost allowance should have been claimed on these assets for 1992.

Regarding the Part I.3 tax implications, you raised the point that since the obligation under the agreement is of a contingent nature a possible argument is that the obligation may constitute a reserve for Part I.3 tax purposes. Paragraph 181.2(3)(b) of the Act includes in a corporation's capital "the amount of its reserves for the year, except to the extent that they were deducted in computing its income for the year under Part I". For Part I.3 purposes, the term "reserves" is defined in subsection 181(1) of the Act as "the amount at the end of the year of all of the corporation's reserves, provisions and allowances (other than allowances in respect of depreciation or depletion) and, for greater certainty, includes any provision in respect of deferred taxes". Accordingly, the definition of reserve is broad enough to encompass not only amounts that have been appropriated from retained earnings or a surplus but also amounts, such as deferred revenue, that have been received or earned but have not been included in retained earnings through the income statement. In our view, the contingent liability relating to the purchase and sale agreement does not come within this broad reserve definition and therefore would not be included in the capital of A Co under paragraph 181.2(3)(b) of the Act.

Finally, we note that the obligation cannot be considered a type of indebtedness described in any of paragraph 181.2(3)(c), (d) or (f) of the Act based on our view that A Co did not have a legal obligation to pay the purchase price until the condition precedent was satisfied which did not occur until after XXXXXXXXXX. Accordingly, it is our opinion that no amount in respect of the obligation should be included in computing A Co's capital for Part I.3 purposes for 1992.

We hope that our comments will be of assistance to you.

Chief
Financial Institutions Section
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate