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:
Group loss consolidation - transfer of interest expense to operating subsidiary
Position: OK
Reasons: Previously provided in other rulings
XXXXXXXXXX 972734
XXXXXXXXXX
Attention: XXXXXXXXXX
XXXXXXXXXX, 1997
Dear Sirs:
Re: Advance Income Tax Ruling - XXXXXXXXXX
We are writing in response to your correspondence of XXXXXXXXXX wherein you had requested an advance income tax ruling on behalf of the above noted corporation.
You have advised that, to the best knowledge of XXXXXXXXXX, none of the issues involved in this request for an advance income tax ruling is in an earlier return of either of those corporations or of any related person, is under objection or appeal, is being considered by a Taxation Service Office or Taxation Centre of Revenue Canada in connection with any tax return already filed or is the subject of a ruling previously issued by this Directorate.
The relevant facts, the proposed transactions and the purpose of the proposed transactions is as follows:
FACTS
1.XXXXXXXXXX is a corporation that was incorporated on XXXXXXXXXX. XXXXXXXXXX is a "taxable Canadian corporation" as defined in subsection 89(1) of the Income Tax Act (the "Act"), and is an indirect wholly-owned subsidiary of XXXXXXXXXX, a corporation incorporated under the laws of XXXXXXXXXX. XXXXXXXXXX does not, as yet, have a business number.
2.XXXXXXXXXX, along with its subsidiaries, is XXXXXXXXXX.
3.On XXXXXXXXXX, XXXXXXXXXX completed a series of transactions, the first of which closed on XXXXXXXXXX, whereby it acquired all of the outstanding shares of XXXXXXXXXX. The funds required to complete this acquisition were borrowed by XXXXXXXXXX from arm's length institutional investors (the "Acquisition Debt").
4.The total principal amount of the borrowed money associated with the Acquisition Debt is currently approximately $XXXXXXXXXX. In addition, XXXXXXXXXX has further indebtedness equal to approximately $XXXXXXXXXX (the "Operating Debt"). The amount of the Operating Debt has been loaned by XXXXXXXXXX to fund XXXXXXXXXX operating needs. The interest rate charged by XXXXXXXXXX on such loan to XXXXXXXXXX is a market-based rate that is greater than the interest rate paid by XXXXXXXXXX on the Operating Debt. This replicates historic arrangements whereby XXXXXXXXXX would borrow funds needed by XXXXXXXXXX and on-loan such funds down to XXXXXXXXXX.
5.The Acquisition Debt is currently subject to a variable interest rate. Based on current rates, it is estimated that such rate will be equal to approximately XXXXXXXXXX% in XXXXXXXXXX. For the purposes of this ruling, the term "Acquisition Debt Interest Rate" shall refer to the then current interest rate on the Acquisition Debt, as refinanced from time to time.
6.XXXXXXXXXX is a corporation that has been continued under the Canada Business Corporations Act and is a "taxable Canadian corporation", as defined in subsection 89(1) of the Act.
7.XXXXXXXXXX owns one hundred percent of the issued and outstanding shares of XXXXXXXXXX. The business number of XXXXXXXXXX is XXXXXXXXXX and it files its return of income at the XXXXXXXXXX Taxation Centre.
8.XXXXXXXXXX is a corporation created by an amalgamation under the CBCA and is a "taxable Canadian corporation", as defined in subsection 89(1) of the Act.
9. XXXXXXXXXX.
10. XXXXXXXXXX.
11.As a result of interest charges related to the Acquisition Debt, it is anticipated that XXXXXXXXXX will incur losses in its XXXXXXXXXX and subsequent taxation years (the "Expected Losses"). In XXXXXXXXXX it is anticipated that such losses will total approximately $XXXXXXXXXX. In XXXXXXXXXX, it is anticipated that such losses will total approximately $XXXXXXXXXX. XXXXXXXXXX, on the other hand, is expected to earn a profit in its XXXXXXXXXX and subsequent taxation years. In XXXXXXXXXX, it is anticipated that XXXXXXXXXX profit will be in excess of $XXXXXXXXXX.
PROPOSED TRANSACTIONS
12.XXXXXXXXXX will incorporate a corporation ("Newco") under the XXXXXXXXXX. Newco will be a "taxable Canadian corporation", as defined in subsection 89(1) of the Act. Its taxation year-end will be XXXXXXXXXX.
13.The authorized capital of Newco will consist of two classes of shares, common shares and non-voting, cumulative dividend, redeemable, retractable preferred shares (the "Preferred Shares"). The cumulative dividends payable on the Preferred Shares will be calculated daily by reference to the redemption/retraction price of the Preferred Shares at a rate equal to the then current Acquisition Debt Interest Rate plus one basis point. Dividends will be payable quarterly in arrears on the last day of every quarter.
14.The Common Shares of Newco will be issued to XXXXXXXXXX for $XXXXXXXXXX.
15.XXXXXXXXXX will borrow an amount (the "Principal Amount") on a "daylight loan" basis from an arm's length institutional lender (the "Daylight Loan"). The Principal Amount will be such that interest expected to be received by XXXXXXXXXX on the XXXXXXXXXX Loan, as described in paragraph 16, below, will be sufficient to offset the losses expected to be incurred by XXXXXXXXXX as well as one-third of the losses incurred by XXXXXXXXXX. Based on the estimate of the Acquisition Debt Interest Rate for XXXXXXXXXX as described in paragraph 5, above, and assuming the rulings requested herein are received in time to permit the Daylight Loan to be taken out on XXXXXXXXXX, it is anticipated that the Principal Amount of the Daylight Loan will be approximately $XXXXXXXXXX.
16.XXXXXXXXXX will use the proceeds received from the Daylight Loan to make a demand loan to XXXXXXXXXX (the "XXXXXXXXXX Loan"). Simple interest will accrue on the XXXXXXXXXX Loan and will be calculated daily at a rate equal to the then current Acquisition Debt Interest Rate payable quarterly in arrears on the last day of every quarter.
17.XXXXXXXXXX will use the proceeds from the XXXXXXXXXX Loan to subscribe for Preferred Shares in Newco having an aggregate redemption/retraction price equal to the Principal Amount.
18.Newco will use the proceeds resulting from the issuance of the Preferred Shares to make a demand, interest-free loan to XXXXXXXXXX in an amount equal to the Principal Amount (the "Newco Loan").
19.XXXXXXXXXX will use the proceeds from the Newco Loan to repay the Daylight Loan.
20.On the last day of every quarter while the Newco Loan is outstanding, XXXXXXXXXX may pay a dividend to XXXXXXXXXX and, if so paid, XXXXXXXXXX will then pay a dividend to XXXXXXXXXX equal to the amount of the dividends payable by Newco on that day on the Preferred Shares.
21.Immediately after receiving the dividend described in the previous paragraph, XXXXXXXXXX will make a surplus contribution (a "Contribution") to Newco in an amount equal to the amount of the dividend. Newco will use such funds to pay XXXXXXXXXX the dividends due that day with respect to the Preferred Shares (the "Preferred Share Dividend").
22.Upon receipt of the Preferred Share Dividend, XXXXXXXXXX will pay XXXXXXXXXX the interest due on the XXXXXXXXXX Loan.
23.A Debt Decreasing Transaction may be entered into in circumstances where the interest income on the XXXXXXXXXX Loan is expected to be greater than the amount required to offset XXXXXXXXXX Expected Losses for the year. The need for a Debt Decreasing Transaction could arise for numerous reasons including a partial repayment of the Acquisition Debt. A Debt Decreasing Transaction will be implemented through the following steps:
(a)XXXXXXXXXX will borrow an amount on a daylight loan basis (the "New Daylight Loan"). XXXXXXXXXX will use these funds to pay down the Newco Loan.
(b)Newco will use the funds received through step (a) to redeem Preferred Shares.
(c)XXXXXXXXXX will use the proceeds from the redemption of the Preferred Shares to pay down the XXXXXXXXXX Loan.
(d)XXXXXXXXXX will use the funds received on the repayment of the XXXXXXXXXX Loan to pay down the New Daylight Loan.
24.When XXXXXXXXXX no longer needs any interest income from the XXXXXXXXXX Loan in order to offset its Expected Losses, a final Debt Reducing Transaction as described above will be implemented in order to cause any remaining balance on the XXXXXXXXXX Loan to be fully repaid. Newco will then be wound-up into XXXXXXXXXX.
PURPOSE AND ANALYSIS OF THE PROPOSED TRANSACTIONS
The purpose of the proposed transactions is to consolidate profit and losses within a related group by enabling XXXXXXXXXX to earn sufficient interest income on the XXXXXXXXXX Loan as to eliminate losses that it would otherwise incur in its XXXXXXXXXX and subsequent taxation years. Effectively, the proposed transactions permit the application of interest charges with respect to the Acquisition Debt against the income of XXXXXXXXXX.
RULINGS PROVIDED
Provided that the preceding statements of fact are accurate and complete and the proposed transactions are carried out as described above, the following rulings are provided:
A.Provided that XXXXXXXXXX has a legal obligation to pay interest on the XXXXXXXXXX Loan and provided that the Preferred Shares of Newco continue to be held for the purpose of gaining or producing income (other than income which would be exempt), XXXXXXXXXX will be entitled to deduct, in computing its income for a taxation year, the lesser of the interest paid or payable in respect of that taxation year or a reasonable amount in respect thereof pursuant to paragraph 20(1)(c) of the Act.
B.No amount will be included in the income of Newco pursuant to paragraph 12(1)(x) of the Act in respect of the contributions of capital made by XXXXXXXXXX to Newco as described in paragraph 21 of the Proposed Transactions.
C.Subsection 245(2) of the Act will not be applicable as a result of the proposed transactions, in and by themselves, to redetermine the tax consequences confirmed in the rulings given.
These rulings are provided subject to the limitations and qualifications set out in Information Circular 70-6R3 issued by Revenue Canada on December 30, 1996 and are binding upon the Department provided that the proposed transactions are completed by XXXXXXXXXX. The rulings are based on the Act and the Income Tax Regulations in their present form and does not take into account the effects of any proposed amendments thereto.
Yours truly,
for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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