30 November 1996 Ruling 9716483 - RCA LETTER OF CREDIT

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:

What amount will be considered as a contribution to an RCA where an employer funds the RCA with a letter of credit that will reduce its line of credit, where the line of credit is secured by the assets of the employer?

Position:

The actual contribution to the RCA, i.e. twice the fee payable for the letter of credit, would constitute the contribution to the RCA and not the security attached to the letter of Credit.

Reasons:

Previous rulings given. The nature of the security given would be very difficult to evaluate. No actual assets set aside to secure the Letter of Credit.

XXXXXXXXXX						971648
XXXXXXXXXX

Attention: XXXXXXXXXX

XXXXXXXXXX, 1997

Dear Sirs:

Re: XXXXXXXXXX
Advanced Income Tax Ruling

This is in reply to your letter dated XXXXXXXXXX, as supplemented by your letters dated XXXXXXXXXX, wherein you requested an advance income tax ruling with respect to the income tax treatment of a retirement compensation arrangement.

We have been advised that to the best of your knowledge none of the issues involved herein are being considered by a Tax Services Office or Taxation Centre of Revenue Canada in connection with a tax return already filed and that none of the issues are under objection or appeal.

Our understanding of the facts and the proposed transactions is as follows.

FACTS

Employer is a corporation incorporated under the Canada Business Corporations Act. Its head office is located at XXXXXXXXXX. It is served by the XXXXXXXXXX Tax Services Office and the XXXXXXXXXX Taxation Centre.

XXXXXXXXXX ("Sub"), a wholly-owned subsidiary of Employer, is a corporation incorporated under the Canada Business Corporations Act. Its head office is located at XXXXXXXXXX. It is served by the XXXXXXXXXX Tax Services Office and the XXXXXXXXXX Taxation Centre.

XXXXXXXXXX, a wholly-owned subsidiary of Employer is a corporation incorporated under the Canada Business Corporations Act. Its address is XXXXXXXXXX. It is served by the XXXXXXXXXX Tax Services Office and the XXXXXXXXXX Taxation Centre.

XXXXXXXXXX, a wholly-owned subsidiary of Sub, is a corporation incorporated under XXXXXXXXXX provincial legislation. Its head office is located at XXXXXXXXXX. It is served by the XXXXXXXXXX Tax Services Office and the XXXXXXXXXX Taxation Centre.

XXXXXXXXXX, a wholly-owned subsidiary of Sub, is a corporation incorporated under XXXXXXXXXX provincial legislation. Its head office is located at XXXXXXXXXX. It is served by the XXXXXXXXXX Tax Services Office and the XXXXXXXXXX Taxation Centre.

Employer has established Supplemental Executive Retirement Plans (each a "SERP") with respect to certain of its key executives (the "Executives").

With respect to each executive there is a separate agreement which takes into account the executive's individual circumstances.

The purpose of the SERPs is to provide the Executives with supplemental retirement benefits over and above the maximum permitted under Employer's registered pension plan.

The future liability with respect to the SERPs is estimated to be $XXXXXXXXXX. It is currently unfunded and unsecured.

Employer, through Sub, (collectively, the "Company"), has existing credit facilities (individually referred to as the "Credit Facility") with the XXXXXXXXXX (the "Bank") consisting of an operating line of credit in the amount of $XXXXXXXXXX, a non-revolving term credit facility of $XXXXXXXXXX (of which $XXXXXXXXXX is outstanding) and a revolving term credit facility of $XXXXXXXXXX.

The Credit Facility is evidenced by an agreement dated XXXXXXXXXX and amendments thereto dated XXXXXXXXXX (collectively referred to herein as the "Credit Agreement").

Any letter of credit issued by the Bank to Employer, Sub, XXXXXXXXXX would, by virtue of Schedule A of the Credit Agreement amendment dated XXXXXXXXXX, reduce Sub's general operating line of credit. The Credit Facility is secured by the following (the "Security"):

a guarantee from XXXXXXXXXX up to a maximum of $XXXXXXXXXX, together with interest thereon from the date of demand;

a debenture in the principal amount of $XXXXXXXXXX granting a first fixed and specific charge over all the land, buildings, equipment, furniture and fixtures of XXXXXXXXXX as collateral security for the guarantee provided in paragraph a. above;

a general assignment of book debts and assignment of inventory from each of the following companies, Sub, Employer, XXXXXXXXXX;

unlimited guarantees of Employer, XXXXXXXXXX;

debentures or other appropriate instruments from each of the following companies, Employer, Sub, XXXXXXXXXX granting first fixed and specific charges over all their principal assets other than inventory and first floating charges over all their undertaking and other property;

assignment by Employer of its shares in Sub;

assignment by Sub of all shares of XXXXXXXXXX; and

postponement by Employer of the debt of $XXXXXXXXXX owed by Sub to Employer behind all rights of the Bank.

All of the Security is presently outstanding and has been provided as general continuing collateral security by the Company to the Bank to secure all of its obligations under the Credit Agreement and all of the Credit Facilities under the Credit Agreement as a whole.

None of the Security can be attributed to or is specifically attached to any specific obligation or Credit Facility (either the operating facility, any availment under the operating facility or any other of the Credit Facilities) established under the Credit Agreement.

The Security only becomes enforceable should the Company be in default of its obligations to the Bank pursuant to the Credit Agreement or the Security. Until such default, the floating charges contained in the Security would not crystallize or attach to any specific asset.

PROPOSED TRANSACTIONS

In order to secure its obligations under the SERPs, Employer intends to establish a trust (the "Trust"). The obligation of the trustee of the Trust (the "Trustee") will be to provide the benefits under the SERPs which will be secured by an irrevocable letter of credit (the "Letter of Credit") issued by the Bank in favour of the Trustee, in the amount of the total present value of the vested component of the pension liability, as calculated by the SERP's actuary. It is intended that the Trust would constitute a retirement compensation arrangement as defined in subsection 248(1) of the Income Tax Act (the "Act").

Employer would make an initial contribution to the Trust in an amount equal to twice the fee payable by the Trust to the Bank for the issuance of an irrevocable Letter of Credit. This fee would be a function of the face amount of the Letter of Credit, which would in turn be determined by the SERP's actuary.

Employer would make further contributions to the Trust from time to time in amounts sufficient to provide the after-tax amount required to fund any applicable renewal fees in respect of the irrevocable Letter of Credit. The Trustee would use the net funds received from Employer to obtain the Letter of Credit from the Bank.

The Trustee would be the beneficiary of the Letter of Credit.

Pursuant to the terms of the Trust, the Trustee would only be entitled to draw upon the Letter of Credit in the following circumstances:

Employer failed to pay any amount owed to any of the Executives pursuant to its obligation under that executive's SERP;

Employer failed to provide the Trustee any contributions required in order for the Trustee to pay any renewal fees in respect of the Letter of Credit;

the Trustee received a notice from the Bank indicating that it would not renew the Letter of Credit, and Employer had not arranged for a replacement before the scheduled expiry; or

if any proceeding was instituted by or against Employer that would cause it to become insolvent or bankrupt.

None of the Security nor any of the assets of the Company have been set aside to specifically secure the Letter of Credit.

All Security is generally available for the secured creditor and thereafter the assets are available to all other creditors of the Company.

Of the total Credit Facilities of $XXXXXXXXXX, the amount used by the letter of credit would be approximately XXXXXXXXXX% (approximately $XXXXXXXXXX).

Employer intends to pay the annual pensions of the Executives under the SERPs out of its general revenues. The Letter of Credit is therefore intended to secure Employer's promise to provide the Executives with the agreed upon SERP. It is not intended to fund the SERP.

PURPOSE OF THE PROPOSED TRANSACTIONS

The purpose of establishing the Trust and securing the pension obligation by the irrevocable Letter of Credit held by the Trust is to enable Employer to honour its obligations under the SERPs and to provide the Executives with a pension with the maximum level of security and the minimum level of current funding possible.

RULINGS GIVEN

Provided the above statements of facts and proposed transactions are accurate and constitute a complete disclosure of all the relevant facts and proposed transactions, we rule as follows:

A.The establishment of the Trust and the initial contribution by Employer, as described in paragraph 12.a. above, to the Trust will result in the establishment of a "retirement compensation arrangement" ("RCA") as that term is defined in subsection 248(1) of the Act. The Security as described in paragraph 9 above will not constitute a contribution to an RCA;

B.The contributions to the Trust, as described in paragraph 12 above, will be deductible by Employer to the extent permitted by paragraph 20(1)(r) of the Act. No amount will be deductible under paragraph 20(1)(r) of the Act by Employer in respect of the Security described in paragraph 9 above;

C.The Executives will not be required to include any amount in income by virtue of the Trustee obtaining the letter of credit as described in paragraph 12 above. Pursuant to paragraph 56(1)(x) of the Act, an Executive will be required to include in income any payments received by that Executive out of the Trust.

These rulings are given subject to the general limitations and qualifications set forth in Information Circular 70-6R3 dated December 30, 1996 issued by Revenue Canada, and are binding provided the proposed arrangement is entered into on or before six months from the date of this letter.

Yours truly,

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