1 April 1997 External T.I. 9705575 - STOCK OPTIONS IN RRSP

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:

Tax consequences of transferring either employee stock option or shares of non-resident corporation acquired under such an option to an RRSP.

Position:

1)Shares or option may be qualified investment;
2) will be foreign property;
3) deduction under 146(5) in amount equal to fmv of option or shares;
4) income inclusion to employee under either 7(1)(a) or (c);
5) deduction for annuitant under 110(1)(d) if conditions satisfied but probably not prescribed shares in this specific fact situation;
6) capital gain to employee but no capital loss on disposition to RRSP;
7) employee's capital gain reduced by section 7 income inclusion on disposition of shares to RRSP;
8) generally no capital gain or loss to RRSP when RRSP disposes of shares;

9) will be double taxation if RRSP continues to hold shares on amount included in employee's income under 7(1)(c) when RRSP is commuted or retirement income commences.

Reasons:

1) if shares are listed on prescribed stock exchange;
2) 206(1)(d) or (f) of "foreign property" definition;
3) contribution is equal to value of property transferred to RRSP;
4) employee subject to income inclusion either when he exercises option or when RRSP trust exercises option;
5) 110(1)(d) deduction available equal to 1/4 of section 7 income inclusion at time shares acquired by either employee or RRSP but since employer corporation has obligation to redeem or acquire shares at par if employee leaves within 2 years, shares are not prescribed by virtue of Reg. 6204(1)(a)(vi);
6) disposition to RRSP at fmv of either option or shares may result in capital gain to employee but any capital loss is deemed to be nil under 40(1)(g);
7) addition to acb of shares of the amount of the section 7 income inclusion pursuant to 53(1)(j);
8) RRSP trust is exempt from Part 1 tax except in rare circumstances;

9) delay in section 7 benefit inclusion on a non-arm's length transfer of option results in tax to employee on growth to point in time at which RRSP exercises option which is taxed again under 146(8) when paid out.

XXXXXXXXXX 970557

April 1, 1997

Dear XXXXXXXXXX:

Re: Employee Stock Options and Transfer to a Registered Retirement Savings Plan

This is in reply to your facsimile transmission of February 26, 1997, in which you ask several questions concerning a proposed transfer of shares or stock options to your registered retirement savings plan ("RRSP").

Your request relates to a specific proposed transaction and as indicated in Information Circular 70-6R3, we do not express opinions on specific proposed transactions other than as a reply to an advance income tax ruling. (A copy of this Information Circular is available at your local taxation services office or may be accessed through the Department's internet site at: http://www.rc.gc.ca). We may provide, however, our general positions on the issues raised by your query. Please note that such positions may not be applicable in specific situations.

A share listed on a prescribed stock exchange outside Canada is a qualified investment for an RRSP trust, and the National Association of Securities Dealers Automated Quotation System ("NASDAQ") is such a prescribed stock exchange. A warrant or right to acquire (which includes an option), either immediately or in the future, property that is a qualified investment is also a qualified investment for an RRSP trust. Please refer to Interpretation Bulletin IT-320R2 ("Registered Retirement Savings Plans - Qualified Investments") for more information on this topic although please note that paragraph 14 thereof no longer reflects the law. The warrant or right need not be listed. Copies of Interpretation Bulletins are available at your local taxation services office or may be viewed at the above-noted internet site.

Note that if an RRSP trust acquires a share, or an option for a share, of a non-resident corporation which share is not listed on a prescribed stock exchange, the annuitant will be subject to an income inclusion for the year of acquisition pursuant to subsection 146(10) of the Income Tax Act (the "Act"). When the RRSP disposes of the non-qualified investment, the annuitant is entitled to a deduction pursuant to subsection 146(6) of the Act. Please refer to paragraph 2 of IT-320R2 concerning the calculation of these amounts.

A share of a non-resident corporation is a foreign property and an RRSP trust is subject to a 20% limit (based on the cost amounts of all property held in the RRSP trust) on investments in foreign property. Please refer to Interpretation Bulletin IT-412R2 ("Foreign Property of Registered Plans") for more information on this topic. However, if the share is a non-qualified investment for the RRSP trust, it is not subject to the Part XI tax on excessive foreign property holdings.

An agreement by an employer to issue the employer's shares to an employee (an "employee stock option") is governed by section 7 of the Act. Where the shares are issued to the RRSP trust the tax consequences may differ depending on whether the employee stock option is exercised by the employee or by the RRSP trust. The following addresses the two different situations.

A.Where the employee exercises the employee stock option and directs the employer to issue the shares to the RRSP trust the tax consequences (other than those discussed above) generally are as follows:

1. The employee is subject to an income inclusion pursuant to paragraph 7(1)(a) of the Act equal to the amount, if any by which

(a)the fair market value of the shares at the time the employee acquired them

exceeds

(b) the total of the amount paid or to be paid to the employer by the employee and any amount paid by the employee to acquire the employee stock option.

2.The "cost amount" of the shares for purposes of determining any capital gain or loss on a disposition of the shares is equal to the amount paid for the shares plus, in accordance with paragraph 53(1)(j) of the Act, any amount included in the employee's income under section 7 of the Act. See A. 6 below.

3. The Rulings Directorate does not provide opinions or advance rulings concerning the "fair market value" of property. However, please note the Department's following general position (paragraph 9 of Interpretation Bulletin IT-113R4: "Benefits to Employees - Stock Options"):

If an employee acquires shares pursuant to a stock option agreement, the provisions of which prohibit transfer of the shares for a period of time, the employee is considered to have "acquired" the shares within the meaning of section 7. The value of the shares is considered to be the fair market value of identical shares at the time of acquisition that have no trading restriction less an appropriate discount in respect of the restriction.

Further information concerning valuations may be obtained from the Valuations Services Section of the Calgary Tax Services Office.

4.A deduction is available to the employee in the year the section 7 income inclusion occurs under paragraph 110(1)(d) of the Act if the conditions therein are satisfied. Note that where the employer corporation has, either absolutely or contingently, the obligation or right to redeem, acquire or cancel the shares in whole or in part other than for an amount that approximates the fair market value of the shares, the deduction will not be available.

5.The employee is entitled to a deduction pursuant to subsection 146(5) of the Act equal to the fair market value of the shares issued to the RRSP trust provided the employee has a sufficient "unused RRSP deduction room". Any amount which cannot be deducted currently can be carried forward indefinitely and deducted in subsequent years in which the employee has room. If an undeducted contribution results in a "cumulative excess amount" as defined in Part X.1 of the Act, there will be a penalty tax applicable for each month the cumulative excess amount exists. For more information concerning the deduction for RRSP contributions and the cumulative excess amount, please refer to the 1996 RRSP and Other Registered Plans for Retirement Guide. Copies of guides are available at your local taxation services office.

6.The employee will be subject to an income inclusion with respect to any taxable capital gains in respect of the disposition of the shares to the RRSP trust. Any capital loss on such a disposition is deemed to be nil by virtue of clause 40(1)(g)(iv)(B) of the Act. For general information concerning capital gains and losses, please refer to the 1996 Capital Gains Guide.

7.An RRSP trust is generally not subject to tax and there will not usually be any tax consequences on any disposition (including the redemption, acquisition or cancellation of the shares by the employer corporation) of the shares by the RRSP. If a capital loss is incurred on the disposition of the shares by an RRSP trust, the loss cannot be used to reduce the annuitant's income.

B.Where the employee transfers the employee stock options to the RRSP trust and the RRSP exercises the options, the tax consequences are generally as follows:

1.On transfer of the options to the RRSP, the annuitant is entitled to a tax deduction under 146(5) of the Act equal to the fair market value of the option. See A. 5 above concerning this deduction.

2. When the RRSP trust exercises the option, the annuitant is taxed pursuant to paragraph 7(1)(c) on the excess of the fair market value of the share over the total of the amount paid by the RRSP for the share and any amount paid by the annuitant to acquire the option.

3. If the conditions in paragraph 110(1)(d) of the Act are met, the annuitant is entitled to a deduction. See comments under A. 4 above.

4. The "cost amount" of the share to the RRSP trust is equal to the price paid plus, as set out in paragraph 53(1)(j) of the Act, the benefit deemed by section 7 to have been received by the annuitant.

5. On the disposition of the shares by the RRSP the tax consequences are as outlined in A. 7 above.

6. Finally, where the RRSP trust continues to hold the shares and distributes its property (either periodically, upon maturity, to the annuitant or spouse or in a lump sum) the recipient will be taxed on the fair market value of the shares at the time of payment out in accordance with subsection 146(8) and paragraph 56(1)(h) of the Act. This will include an amount representing the growth on the shares from the date the employee acquired the option to the date the RRSP exercised the option, an amount which has already been taxed under paragraph 7(1)(c) although this amount may have been reduced by virtue of a deduction under paragraph 110(1)(d) of the Act.

Although the foregoing comments are not binding on the Department, we trust they will be of assistance to you.

Yours truly,

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