30 November 1997 Ruling 9731063 - DIVISIVE REORGANIZATION - SPLIT-UP

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: divisive reorganization - split-up

Position: no issues

Reasons: no issues

XXXXXXXXXX
XXXXXXXXXX 						3-973106
XXXXXXXXXX 

Attention: XXXXXXXXXX

XXXXXXXXXX, 1998

Dear Sirs:

Re: XXXXXXXXXX (the "Estate")
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX ("Opco 1")
XXXXXXXXXX ("Opco 2")
Advance Income Tax Ruling

This is in reply to your letter of XXXXXXXXXX in which you requested various advance income tax rulings on behalf of the above-noted taxpayers. We also acknowledge your letters of XXXXXXXXXX and our telephone conversations in connection herewith.

We understand that, to the best of your knowledge and that of the taxpayers involved, none of the issues involved in the requested rulings is being considered by any tax services office or any taxation centre in connection with a tax return already filed, or is under objection or appeal.

Definitions

In this letter unless otherwise expressly stated:

(a) "Act" means the Income Tax Act, R.S.C. 1985 (5th Supp.) c.1 as amended to the date hereof, and unless otherwise stated, every reference herein to a part, section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act;

(b) XXXXXXXXXX;

(c) "adjusted cost base" has the meaning assigned by section 54;

(d) "agreed amount" in respect of a property means the amount that the transferor and the transferee of the property have agreed upon in their election under subsection 85(1) in respect of the property;

(e) "Canadian-controlled private corporation" has the meaning assigned by subsection 125(7);

(f) "capital dividend account" has the meaning assigned by subsection 89(1);

(g) "capital property" has the meaning assigned by section 54;

(h) "cost amount" has the meaning assigned by subsection 248(1);

(i) "depreciable property" has the meaning assigned by subsection 13(21);

(j) "forgiven amount" has the meaning assigned by assigned by subsections 80(1) and 80.01(1);

(k) "eligible property" has the meaning assigned by subsection 85(1.1);

(l) "paid-up capital" has the meaning assigned by subsection 89(1);

(m) "personal trust" has the meaning assigned by subsection 248(1);

(n) "private corporation" has the meaning assigned by subsection 89(1);

(o) "RDTOH" means "refundable dividend tax on hand" which has the meaning assigned by subsection 129(3);

(p) "Regulations" means the Income Tax Regulations;

(q) "restricted financial institution" has the meaning assigned by subsection 248(1);

(r) "series of transactions or events" has the meaning assigned by subsection 248(10);

(s) "specified financial institution" has the meaning assigned by subsection 248(1);

(t) "specified investment business" has the meaning assigned by subsection 125(7); and

(u) "taxable Canadian corporation" has the meaning assigned by subsection 89(1).

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

FACTS

1. Opco 1 is a corporation incorporated under the laws of the province of XXXXXXXXXX. Opco 1 is a Canadian-controlled private corporation and a taxable Canadian corporation.

The issued and outstanding shares of Opco 1 are held as follows:

		Shareholder

		Estate                                           XXXXXXXXXX shares
		XXXXXXXXXX                              XXXXXXXXXX share
		XXXXXXXXXX                              XXXXXXXXXX share

The paid-up capital of the issued shares of Opco 1 is nominal.

2. Opco 2 is a corporation incorporated under the laws of the province of XXXXXXXXXX. Opco 2 is a Canadian-controlled private corporation and a taxable Canadian corporation.

The issued and outstanding shares of Opco 1 are held as follows:

		Shareholder

		Estate                                           XXXXXXXXXX shares
		XXXXXXXXXX                              XXXXXXXXXX share
		XXXXXXXXXX                              XXXXXXXXXX share

The paid-up capital of the issued shares of Opco 2 is nominal.

3. XXXXXXXXXX died on XXXXXXXXXX. At the time of his death XXXXXXXXXX was a resident of Canada. At the time of XXXXXXXXXX death he had held XXXXXXXXXX shares in Opco 1 and 1 share in Opco 2. The issued shares of Opco 1 and Opco 2 previously owned by XXXXXXXXXX are now owned by the Estate.

4. The terms of the Last Will and Testament of XXXXXXXXXX provide, inter alia, that the residue of the estate shall be held in trust for XXXXXXXXXX from the date of death, to pay the income equally to XXXXXXXXXX and upon dissolution of the trust to distribute the capital equally to XXXXXXXXXX or their issue. The executors of the Estate are XXXXXXXXXX and an independent third party, XXXXXXXXXX.

The Estate is a personal trust.

5. XXXXXXXXXX are the only children of the late XXXXXXXXXX is a resident of Canada and XXXXXXXXXX is a resident of the United States.

XXXXXXXXXX have equal ownership and control, directly and indirectly through their respective interests in the Estate, over Opco 1 and Opco 2. Although differences have arisen, XXXXXXXXXX have always acted in concert to control Opco 1 and Opco 2 and will act in concert to control Amalco (a new corporation formed on the amalgamation of Opco 1 and Opco 2 as described in paragraph 21 below) for the period until the purchase for cancellation of Amalco's Class A shares described in paragraph 27 below.

6. Substantially all the assets of Opco 1 and Opco 2 are rental properties, a portion of which are farm land, located in and around XXXXXXXXXX (the "Properties"). Income from the Properties has been reported by Opco 1 and Opco 2 as income from a specified investment business.

7. The estimated fair market value of the Properties is $XXXXXXXXXX, made up as follows:

Estimated
Main Assets held by Opco 1 Fair Market Value

XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

Main Assets held by Opco 2

XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

8. Opco 1 had RDTOH of $XXXXXXXXXX and a capital dividend account of nil as at XXXXXXXXXX. Opco 2 had RDTOH of $XXXXXXXXXX and a capital dividend account of nil as at XXXXXXXXXX. Opco 1 and Opco 2 do not expect any change to their RDTOH and their capital dividend accounts at the time of the payment of dividends described in paragraph 19 below.

9. Immediately before the transfers of property described in paragraph 24 below (the "Butterfly Transfer"), the property of Amalco, a new corporation formed on the amalgamation of Opco 1 and Opco 2 as described in paragraph 20 below, will be classified into two types of property for the purposes of a distribution, as follows:

(a) cash or near-cash property, comprising all of the current assets of Amalco, including any cash, deposits, marketable securities, accounts receivable, inventory and rights arising from prepaid expenses (referred to as "prepaid expenses");

(b) investment property, comprising all of the assets of Amalco, other than cash or near-cash property, any income from which would, for the purposes of the Act, be income from property or a specified investment business.

The Butterfly Transfer will be carried out on a gross fair market value basis.

For greater certainty, any tax accounts, such as the balance of any RDTOH account or capital dividend account of Amalco, will not be considered property for purposes of the proposed transactions described herein.

10. None of Opco 1, Opco 2, Amalco or XXXXXXXXXX are either restricted financial institutions or specified financial institutions.

11. No property has or will become property of, and no liabilities have been or will be incurred by Opco 1, Opco 2 or Amalco in contemplation of and before the Butterfly Transfer, except as described herein.

12. There are not, and will not be at any time prior to the completion of the proposed transactions described herein, any guarantee agreements in respect of any of Opco 1, Opco 2, Amalco or XXXXXXXXXX shares.

13. None of Opco 1, Opco 2, Amalco or XXXXXXXXXX has entered, or will enter,into a dividend rental arrangement in respect of any of the shares to be redeemed as part of the Proposed Transactions.

14. None of the shares of Amalco or XXXXXXXXXX will be issued or acquired as part of a series of transactions described in subsection 112(2.5).

15. The Class A common shares and Class D preferred shares of XXXXXXXXXX and the common shares of Amalco held by XXXXXXXXXX and the Estate will not be redeemed or disposed of as part of the series of transactions which includes the Butterfly Transfer. Neither Amalco nor XXXXXXXXXX will dispose of assets constituting more than 10% of the fair market value of assets received in the Butterfly Transfer as part of the series of transactions that includes the Butterfly Transfer.

ADDITIONAL INFORMATION

16. Differences have arisen between XXXXXXXXXX which have affected the proper administration of the Properties. The Trustees of the Estate have approached the Public Trustee of XXXXXXXXXX and a Justice of the Court of Queen's Bench of XXXXXXXXXX, both of whom have tentatively given their approval to a reorganization of the Estate and the distribution of the assets of Opco 1 and Opco 2.

17. The Properties will be distributed as follows:

					                                              Estimated
	XXXXXXXXXX  			                            Fair Market Value

XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

			                                                                     Estimated
	XXXXXXXXXX  and the Estate 			                 Fair Market Value

XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

PROPOSED TRANSACTIONS

17. XXXXXXXXXX will incorporate a new corporation under the XXXXXXXXXX will be a taxable Canadian corporation and a Canadian-controlled private corporation.

The authorized share capital of XXXXXXXXXX will consist of:

(a) an unlimited number of Class A voting common shares which entitle the holder to have one vote per share at all meetings of the shareholders;

(b) an unlimited number of Class B non-voting common shares; and

(c) an unlimited number of Class C preferred shares and Class D preferred shares, each having the following attributes:

(i) redeemable and retractable for a specified amount equal to the fair market value of the property for which the shares are issued (net of liabilities assumed by the corporation);

(ii) the Class C preferred shares are entitled to a non-cumulative dividend at the fixed rate of XXXXXXXXXX % per annum (or such greater amount as may be set by the directors from time to time, not to exceed a reasonable amount) of the redemption amount and the Class D preferred shares are entitled to a non-cumulative dividend at the fixed rate of XXXXXXXXXX % per annum of the redemption amount;

(iii) entitled to a prior return of the redemption amount on a liquidation, dissolution, or winding-up of the corporation;

(iv) may be purchased, redeemed or cancelled by the corporation in the manner provided in the XXXXXXXXXX at the option of either the corporation or the holder for a price not less than the lesser of:

(A) the aggregate redemption amount of such shares to be purchased at the particular time; and

(B) the realizable value of the net assets of the corporation immediately before such purchase;

(v) provide that any preference, right, condition or limitation attaching to the preferred shares can only be amended by a special resolution of the holders of each class of shares of the corporation each voting separately as a class;

(vi) restrict the payment of dividends on other classes of shares so that no such dividends may be paid on any other class of shares of the corporation so as to reduce the value of the preferred shares then outstanding; and

(vii) the holders of the Class C preferred shares will be entitled to one vote per share at all meetings of the shareholders. The Class D preferred shares will be non-voting.

The articles of incorporation will also provide that subject to the provisions of paragraph (vi) herein, dividends may be declared and paid on any class of shares to the exclusion of any other class of shares of the corporation.

18. On incorporation, XXXXXXXXXX will subscribe for XXXXXXXXXX Class A common shares of XXXXXXXXXX for $XXXXXXXXXX.

19. Before the amalgamation of Opco 1 and Opco 2, as described in paragraph 20 below, each of Opco 1 and Opco 2 will pay to its respective shareholders dividends in an amount that would result in a refund of the RDTOH in each of Opco 1 and Opco 2.

The purpose of the payment of these dividends by Opco 1 and Opco 2 is to avoid circularity in the calculation of Amalco's RDTOH.

20. Opco 1 and Opco 2 (referred to in this paragraph as "predecessor corporations") will amalgamate under the provisions of the XXXXXXXXXX to form a new corporation ("Amalco") in such manner that:

(a) all the property (except amounts receivable from any predecessor corporation or shares of the capital stock of any predecessor corporations) of the predecessor corporations immediately before the merger will become property of Amalco by virtue of the merger;

(b) all the liabilities (except amounts payable to any predecessor corporation) of the predecessor corporations immediately before the merger will become liabilities of Amalco by virtue of the merger; and

(c) all the shareholders of the predecessor corporations before the merger will receive shares of the capital stock of Amalco by virtue of the merger.

On the amalgamation, the holders of the common shares of the predecessor corporations will receive common shares of Amalco, which common shares will have a fair market value equal to the fair market value immediately before the amalgamation of the common shares of Opco 1 and Opco 2. The stated capital of the common shares of Amalco, immediately after the issue of such shares on the amalgamation, will be equal to the aggregate of the paid-up capital of the common shares of the predecessor corporations immediately before the merger.

21. Pursuant to the receipt of an order of the Court of Queen's Bench of XXXXXXXXXX, the executors of the Estate will distribute one-half of the Estate's property to XXXXXXXXXX in satisfaction of her capital interest in the Estate.

22. XXXXXXXXXX will transfer all of the Amalco common shares that she owns (including those received from the Estate as described in paragraph 22 above) to XXXXXXXXXX. As sole consideration for such transfer, XXXXXXXXXX will issue to XXXXXXXXXX Class D preferred shares with a redemption price equal to the fair market value at the time of the transfer of the Amalco common shares transferred by XXXXXXXXXX to XXXXXXXXXX will add to the stated capital account maintained for its Class D preferred shares an amount equal to the paid-up capital of the shares transferred.

23. XXXXXXXXXX will jointly elect in prescribed form within the time limit referred to in subsection 85(6), to have the provisions of subsection 85(1) apply to the transfer. The agreed amount in respect of the shares so transferred will be equal to the adjusted cost base to XXXXXXXXXX immediately before the transfer, which amount will be less than the fair market value of such shares.

24. Amalco will sell, at fair market value, to XXXXXXXXXX a portion of the cash or near-cash property and investment property described in paragraphs 7 and 17 above. As a result of such transfers, the fair market value of the cash or near-cash property and investment property received by XXXXXXXXXX will be equal to or approximate the proportion ("XXXXXXXXXX Proportion") of the fair market value of each type of property of Amalco immediately before the transfer, that:

(a) the fair market value, immediately before the transfer, of all the shares of the capital stock of Amalco owned by XXXXXXXXXX at that time

is of

(b) the fair market value immediately before the transfer of all of the issued shares of the capital stock of Amalco at that time.

Although the proportion of the net fair market value of Amalco's cash or near-cash property and investment property transferred to XXXXXXXXXX may not be exactly equal to the XXXXXXXXXX Proportion, it will be approximately equal to the XXXXXXXXXX Proportion. Any difference between the fair market value of the cash or near-cash property and investment property transferred to XXXXXXXXXX from Amalco and the XXXXXXXXXX Proportion of the fair market value of Amalco's cash or near-cash property and investment property will not exceed XXXXXXXXXX% of the XXXXXXXXXX Proportion of the fair market value of the cash or near-cash property or investment property of Amalco, as the case may be.

In consideration for such transfers, XXXXXXXXXX will issue XXXXXXXXXX Class C preferred shares and assume a portion of the liabilities of Amalco equal to the XXXXXXXXXX Proportion. The XXXXXXXXXX Class C preferred shares issued by XXXXXXXXXX will have a redemption amount equal to the fair market value of the properties at the time of the transfer less the amount of liabilities assumed by XXXXXXXXXX. The liabilities assumed by XXXXXXXXXX, in respect of eligible properties transferred, will not exceed the aggregate of the agreed amounts in respect of such properties. XXXXXXXXXX will allocate any liabilities assumed to specific property acquired in such manner that the amount of liabilities allocated to a particular property will not exceed the agreed amount of that property.

XXXXXXXXXX will add to the stated capital account maintained for its Class C preferred shares an amount equal to the amount by which the aggregate of the cost amounts, in the case of eligible properties, and the fair market value, in the case of other properties, of the properties transferred to XXXXXXXXXX exceeds the liabilities assumed by XXXXXXXXXX.

25. Amalco and XXXXXXXXXX will jointly elect, in prescribed form within the time limit referred to in subsection 85(6), to have the provisions of subsection 85(1) apply to the transfer of each property of Amalco that is an eligible property and is transferred to XXXXXXXXXX. The agreed amount for the purposes of subsection 85(1) in respect of such property will be:

(a) where the particular property is inventory or capital property (other than depreciable property of a prescribed class), the lesser of the cost amount of the property to Amalco immediately before the transfer and the fair market value of such property; and

(b) where the particular property is depreciable property of a prescribed class, the least of the amounts specified in subparagraphs 85(1)(e)(i), (ii) and (iii) and for the purpose of the joint election described herein, the reference to "the undepreciated capital cost to the taxpayer of all the property of that class immediately before disposition.." in subparagraph 85(1)(e)(i) will be read to mean the proportion of the undepreciated capital cost to the taxpayer of all of the property of that class that the fair market value of the asset immediately before the disposition is of the fair market value of all property of that class immediately before the disposition.

The fair market value of each property will equal or exceed the agreed amount in respect thereof.

26. XXXXXXXXXX will redeem the XXXXXXXXXX Class C preferred shares issued to Amalco in the Butterfly Transfer, by the issuance of a demand non-interest-bearing note (the "XXXXXXXXXX Note") having a principal amount and fair market value equal to the redemption price of the XXXXXXXXXX Class C preferred shares of XXXXXXXXXX so redeemed.

27. Amalco will purchase for cancellation its Class A shares held by XXXXXXXXXX in consideration for the issue to XXXXXXXXXX of a non-interest-bearing note (the "Amalco Note") having a principal amount and fair market value equal to the fair market value of the Class A shares so purchased.

28. The XXXXXXXXXX Note will be set off against the Amalco Note, and the notes will all be cancelled.

29. XXXXXXXXXX will resign as an executor of the Estate. XXXXXXXXXX will remain as executors.

PURPOSE OF THE PROPOSED TRANSACTIONS

30. The purpose of the proposed transactions is to allow each of XXXXXXXXXX to resolve their differences regarding the administration of the Estate. The separation of their interests in Opco 1 and Opco 2 will enable them to own their various property interests independently from one another.

RULINGS

Provided that the above statements are accurate and constitute complete disclosure of all of the relevant facts, proposed transactions and the purposes of the proposed transactions, we confirm the following:

A. The provisions of subsection 107(2) will apply to the distribution of the Amalco common shares to XXXXXXXXXX as described in paragraph 21 above, with the result that the proceeds of disposition to the Estate of such shares will equal the cost amount thereof to the Estate immediately before that time. XXXXXXXXXX will be deemed to have acquired the Amalco common shares so distributed to her at a cost equal to the amount determined under paragraph 107(2)(b) and to have disposed of her capital interest in the Estate for proceeds determined in accordance with paragraph 107(2)(c).

B. On the redemption by XXXXXXXXXX of its XXXXXXXXXX Class C preferred shares held by Amalco described in paragraph 26 above and the purchase for cancellation by Amalco of its Class A shares held by XXXXXXXXXX described in paragraph 27 above, the amount, if any, by which the amount paid to redeem or purchase these shares, as the case may be, exceeds the paid-up capital of these shares immediately before the redemption or purchase for cancellation, as the case may be,:

(i) will be deemed pursuant to paragraph 84(3)(b) to be a dividend received by the holder of such shares; and

to the extent that they are taxable dividends, such dividends will:

(ii) be deductible by each recipient pursuant to subsection 112(1) and the provisions of subsections 112(2.1) to 112(2.4) will not apply to deny the subsection 112(1) deduction in respect of such dividends;

(iii) by virtue of the application of paragraph (j) of the definition "proceeds of disposition" in section 54, the amount of a deemed dividend described in (i) above, will be excluded from the proceeds of disposition of the shares, and any loss arising from the disposition of those shares will be reduced by the amount of such dividends pursuant to subsection 112(3);

(iv) no taxes under Part IV.1 will be payable by a holder in respect of a dividend referred to in (i) above, as each such dividend will be an excepted dividend by virtue of paragraph (c) of the definition thereof in section 187.1;

(v) no taxes under Part VI.1 will be payable by an issuer of the shares in respect of a dividend referred to in (i) above, as each such dividend will be an excluded dividend by virtue of paragraph (a) of the definition thereof in subsection 191(1); and

(vi) no taxes under Part IV will be payable in respect of a dividend referred to in (i) or (ii) above, except to the extent provided in paragraph 186(1)(b).

C. The provisions of subsection 55(2) will not apply to the dividends described in Ruling B above, by virtue of the application of paragraph 55(3)(b) provided that, as part of the series of transactions that includes the proposed transactions described herein, there is no:

(a) disposition of property in the circumstances described in subparagraph 55(3.1)(b)(i);

(b) acquisition of control in the circumstances described in subparagraph 55(3.1)(b)(ii);

(c) acquisition of property in the circumstances described in paragraph 55(3.1)(c); or

(d) acquisition of property in the circumstances described in paragraph 55(3.1)(d)

which has not been described herein.

D. The extinguishment of the XXXXXXXXXX Note and Amalco Note described in paragraph 28 above will not give rise to a "forgiven amount".

E. The provisions of subsections 15(1), 56(2) and paragraph 85(1)(e.2) will not apply as a result of the proposed transactions, in and by themselves.

F. Subsection 245(2) will not be applied to the proposed transactions, in and by themselves, to redetermine the tax consequences confirmed in the ruling given.

These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R3 dated December 30, 1996, 1990 issued by Revenue Canada and are binding provided that the proposed transactions are completed before XXXXXXXXXX.

These rulings are based on the Act as it currently reads and do not take into account any future amendments, whether currently proposed or not, to the Act.

COMMENTS

1. Nothing in this ruling should be construed as implying that the Department has agreed to or reviewed:

(a) the determination of the fair market value or adjusted cost base of any property referred to herein, or the paid-up capital of any shares; or

(c) any tax consequences relating to the facts and proposed transactions described herein other than those specifically described in the rulings given above.

2. In the event of a subsequent disposition of any shares of XXXXXXXXXX or Amalco, nothing in this ruling should be construed as implying that the transactions described herein will not, for the purposes of paragraph 55(3.1)(b) or paragraph 110.6(7)(a), be considered to be part of a series of transactions or events which includes such subsequent disposition of shares of XXXXXXXXXX.

Yours truly,

for Director
Reorganizations and International Division
Income Tax Rulings and Interpretations
Directorate
Policy and Legislation Branch

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