30 November 1997 Ruling 9802993 - BUTTERFLY REORGANIZATION

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: butterfly exemption 55(3)(b) ruling

Position: favourable rulings given

Reasons: no unusual features

XXXXXXXXXX
XXXXXXXXXX 980299
XXXXXXXXXX

Attention: XXXXXXXXXX

XXXXXXXXXX, 1998

Dear Sir:

Re: XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

This is in reply to your letter of XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-noted taxpayers.

We understand that to the best of your knowledge and that of the taxpayers involved, none of the issues involved in this advance ruling request is being considered by a Tax Services Office or a Taxation Centre in connection with a tax return already filed and none of the issues is under objection or appeal.

DEFINITIONS

Non-statutory terms:

In this letter unless otherwise expressly stated:

a) XXXXXXXXXX;

b) "Applicants" means Distributor, Transferee, Shareholder 1, Shareholder 2, Shareholder 3 and Shareholder 4;

c) "Distributor" means the corporation whose assets will be subject to distribution, namely XXXXXXXXXX;

d) "Transferee" refers to a company yet to be incorporated to be the recipient of assets on the butterfly distribution;

e) "Shareholder 1" refers to XXXXXXXXXX;

f) "Shareholder 2" refers to XXXXXXXXXX;

g) "Shareholder 3" refers to XXXXXXXXXX;

h) "Shareholder 4" refers to XXXXXXXXXX;

i) "Housing loan" refers to a loan to Shareholder 4 pursuant to subparagraph 15(2)(a)(ii), as the provision read at the time of the loan, with a balance owing at XXXXXXXXXX of about $XXXXXXXXXX. This loan is repayable, and has been repaid, at $XXXXXXXXXX per month without interest and is expected to be about $XXXXXXXXXX at the time of the butterfly distribution;

j) XXXXXXXXXX, a corporation in which Shareholder 4 has an interest;

k) "XXXXXXXXXX Advances" refers to an amount receivable by Distributor from XXXXXXXXXX in the amount of about $XXXXXXXXXX;

l) "XXXXXXXXXX" refers to XXXXXXXXXX, a company owned by a brother of Shareholders 3 and 4, and operating in XXXXXXXXXX. The Applicants own no shares, and have no rights to acquire shares in this company; and

m) "XXXXXXXXXX Advances" refers to amounts due by XXXXXXXXXX to Distributor, in an amount of approximately $XXXXXXXXXX at XXXXXXXXXX. An amount of $XXXXXXXXXX of this loan has been repaid by XXXXXXXXXX. The payment has arisen independently, from proceeds of property sales by XXXXXXXXXX. This transaction was not in anticipation of the butterfly. At the time of the butterfly distribution, this note is anticipated to be about $XXXXXXXXXX. These advances bear interest at XXXXXXXXXX%, and income from this investment has been disclosed as inactive income by Distributor in its tax filings.

STATUTORY TERMS

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) "ACB" means "adjusted cost base" as that expression is defined in section 54 and subsection 248(1);

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

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

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

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

g) "distribution" has the meaning assigned by subsection 55(1);

h) "dividend rental arrangement" has the meaning assigned by subsection 248(1);

i) "farm loss", "net capital loss" and "non-capital loss" have the meanings assigned by subsection 111(8);

j) "guarantee agreement" has the meaning assigned by subsection 112(2.2);

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

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

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

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

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

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

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

r) "stated capital" has the meaning assigned in section 26 of the XXXXXXXXXX; and

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

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

FACTS

1. Distributor is a "Canadian-controlled private corporation" and a "taxable Canadian corporation". Distributor was incorporated on XXXXXXXXXX under the laws of XXXXXXXXXX. Distributor carries on, under the trade name "XXXXXXXXXX", two related businesses:

a) The Farming business, which includes XXXXXXXXXX, the raising of crops including grain, canola and hay, raising of cattle, and feeding of cattle. This business has been almost exclusively managed and operated by XXXXXXXXXX (Shareholder 3).

b) The XXXXXXXXXX business, which includes XXXXXXXXXX construction and marketing, transporting and XXXXXXXXXX. This business has been almost exclusively operated and managed by XXXXXXXXXX (Shareholder 4).

2. These two businesses originally were formed as a XXXXXXXXXX business by Shareholders 1 and 2. After an estate freeze, the growth in Distributor was transferred to Shareholders 3 and 4. Under their management, the XXXXXXXXXX business eventually diversified into the Farming and XXXXXXXXXX businesses according to the interests of Shareholders 3 and 4.

3. The taxation year of Distributor ends on XXXXXXXXXX.

4. The only issued and outstanding shares of Distributor are XXXXXXXXXX Class A common voting shares ("Common Shares") and XXXXXXXXXX redeemable, retractable, non-voting preferred shares ("Preferred Shares") held by their holders as capital property as follows:

	Holder			Number

	XXXXXXXXXX (Shareholder 1)	XXXXXXXXXX Class F Preferred
	XXXXXXXXXX (Shareholder 2)	XXXXXXXXXX Class F Preferred
	XXXXXXXXXX (Shareholder 3)	XXXXXXXXXX Class A Common
	XXXXXXXXXX (Shareholder 4)	XXXXXXXXXX Class A Common

5. The aggregate paid-up capital ("PUC") of the XXXXXXXXXX Common Shares is $XXXXXXXXXX. The aggregate paid-up capital of the XXXXXXXXXX Preferred Shares is $XXXXXXXXXX.

6. Distributor calculates its income on the cash basis as permitted under section 28 for the Farming business, but not for the XXXXXXXXXX business.

7. Distributor currently has a balance of capital dividend account of approximately $XXXXXXXXXX, and does not have, and will not have before the proposed transactions described below are carried out, any unutilized losses or deductions for tax purposes except a reserve under section 28 from the prior year.

8. It is anticipated that there may be RDTOH before payment of any fiscal XXXXXXXXXX dividends, with a reported carryforward from XXXXXXXXXX of $XXXXXXXXXX. Due to an error in the XXXXXXXXXX income tax return where deemed dividends on the preferred share redemptions were not considered in the calculation of the dividend refund, application will be made to amend the return to recover the $XXXXXXXXXX of RDTOH so that the carryforward will become nil. Those deemed dividends were correctly reported by the individual recipients in their personal income tax returns, however.

Shareholders of Distributor

9. All of the individuals are resident in Canada for purposes of the Act.

10. XXXXXXXXXX (Shareholder 1) is the husband of XXXXXXXXXX (Shareholder 2), and these two are the natural parents of XXXXXXXXXX (Shareholder 3) and XXXXXXXXXX (Shareholder 4).

Transferee

11. XXXXXXXXXX% of the voting common shares of Transferee, which are all of the outstanding shares, are to be issued to XXXXXXXXXX (Shareholder 4).

12. Transferee will be incorporated under the XXXXXXXXXX, and will be a "Canadian-controlled private corporation" and a "taxable Canadian corporation".

Newco

13. Newco will be incorporated under the XXXXXXXXXX, and will be a "Canadian-controlled private corporation" and a "taxable Canadian corporation".

14. XXXXXXXXXX% of the common shares of Newco will be owned by Transferee, and Newco will therefore be a wholly owned subsidiary of Transferee.

Classification of Property

15. Immediately before the transfers of property described in paragraph 38 below, the property of Distributor will be classified into three types of property for the purposes of a distribution pursuant to paragraph 55(3)(b), as follows:

a) cash or near-cash property, comprised of the current assets of Distributor including cash, deposits, accounts receivable, inventory, patronage reserves, materials and supplies, and rights arising from the prepayment of certain expenses ("prepaid expenses");

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

c) investment property, comprising all of the assets of Distributor other than cash or near-cash property, any income from which would, for the purposes of the Act, constitute income from property or from a specified investment business.

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

16. For the purposes of determining the types of property:

a) The housing loan receivable from XXXXXXXXXX (Shareholder 4) will be considered investment property;

b) The XXXXXXXXXX Advances will be considered investment property;

c) The XXXXXXXXXX Advances will be considered investment property;

d) NISA accounts will be considered business property; and

e) shares and reserves in Co-operative organizations from which Distributor purchases goods used in its business (including, for greater certainty, shares and reserves in XXXXXXXXXX) will be classified as business property.

Allocation of Liabilities to Types of Property

17. In determining the net FMV of each type of property owned by Distributor, immediately before the transfers of property described in paragraph 38 below, the liabilities of Distributor will be allocated to, and deducted in the calculation of the net FMV of, each type of property of Distributor as follows:

a) Current liabilities of Distributor (including the estimated current portion of long-term debt) will be allocated to each cash or near-cash property in the proportion that the fair market value of each such property is of the fair market value of all cash or near-cash property. The allocation of current liabilities as described herein will not exceed the aggregate fair market value of all the cash or near-cash property of Distributor;

b) any accounts receivable, inventory and prepaid expenses of Distributor, that are initially classified in accordance with paragraph (a) as cash or near-cash property, that will relate to a business that will be carried on by Distributor or Transferee and that will be collected, sold, or consumed by such corporation in the ordinary course of that business, will then be reclassified as business property and the net fair market value thereof, determined after the allocation of current liabilities described in (a) herein, will be included in the net fair market value of business property and will not be included in the net fair market value of cash or near cash property;

c) liabilities of Distributor, other than current liabilities (which current liabilities will include the estimated current portion of long-term debts), that relate to a particular property, will then be allocated to the particular property (and effectively to the type to which the particular property belongs) to the extent of its fair market value. Liabilities that pertain to a type of property, but not to a particular property, will then be allocated to that type of property, but not in excess of the net fair market value of such type of property after the allocation of liabilities to a particular property, as described herein; and

d) any liabilities ("excess unallocated liabilities"), that remain after the allocations described in steps (a) to (c) are made (including excess current liabilities, if any), will then be allocated to the cash or near-cash property, business property, and investment property of Distributor based on the relative net fair market value of each type of property prior to the allocation of such excess unallocated liabilities.

18. For the purpose of calculating the net fair market value of the types of property of Distributor;

a) deferred taxes will not be considered;

b) deferred revenue will be considered to be a liability to the extent that the amount of such deferred revenue gives rise to a legal obligation to repay such amount should the services not be provided or goods not delivered;

c) all loans will be considered to be related to business property, and therefore no loans payable will be considered to relate to investment property. These debts have been incurred in support of the purchase of equipment and land;

d) RDTOH recovery anticipated from amending the XXXXXXXXXX income tax return will be considered an asset valued at the amount of the estimated recovery; and

e) an estimate of income taxes payable on fiscal XXXXXXXXXX income to the date of the distribution will be considered a current liability.

No Acquisitions or Dispositions as Part of Series

19. No property has or will become property of Distributor and no liabilities have been or will be incurred by Distributor in contemplation of and before the transfers described below, except as described herein.

20. Except as outlined herein, Distributor has no specific intention of disposing of any assets currently owned to an unrelated person following the proposed transactions and Distributor will not dispose of any of its assets as part of the series proposed transactions except as described herein.

21. Shareholders 1, 2, 3 and 4 will not dispose of their shares of Distributor or Transferee as part of the series of proposed transactions except as disclosed herein. For greater certainty, the annual redemption of preferred shares by Shareholders 1 and 2 prior to and subsequent to the Distribution to cover their drawings is not part of the series of transactions since this course of conduct has and would continue to occur whether or not the butterfly distribution occurred, and since the redemptions are governed by personal needs for cash from time to time by Shareholders 1 and 2.

Other Facts and Representations

22. None of the corporations referred to herein is, or will be, a specified financial institution.

23. None of the shares referred to herein (including the shares to be issued as described in the proposed transactions) is or will be subject to a guarantee agreement, within the meaning referred to in subsection 112(2.2).

24. None of the corporations referred to herein has, or will have, entered into a "dividend rental arrangement", as defined in subsection 248(1), in respect of any of the shares to be redeemed as part of the proposed transactions.

25. None of the issued shares referred to herein (including the shares to be issued as described in the proposed transactions) has been or will be issued or acquired as part of a transaction or event or series of transactions or events of the type described in subsection 112(2.5).

26. None of the corporations referred to herein will be a corporation described in any of paragraphs a) to f) of the definition of "financial intermediary corporation" in subsection 191(1).

27. Each of Distributor, and Transferee will have the financial capacity to honour, upon presentation for payment, the amount payable under the promissory note issued by it as part of the proposed transactions.

PROPOSED TRANSACTIONS

Capital Dividend

28. A dividend shall be paid of an amount no greater than the capital dividend account of Distributor to the common shareholders. Distributor shall elect under subsection 83(2), in prescribed manner and prescribed form, such that the dividend shall be deemed to be a capital dividend. The dividend shall be paid to the individual common shareholders (being Shareholders 3 and 4) in advance of any of the proposed transactions which follow herein.

Incorporation of Transferee

29. Shareholder 4 will incorporate Transferee, a new corporation under the XXXXXXXXXX. Transferee will be a private corporation and a taxable Canadian corporation.

30. The authorized share capital of Transferee will consist of common shares ("Transferee Common Shares") and preferred shares.

31. The authorized share capital of Transferee will include one class of an unlimited number of preferred shares ("Transferee Preferred Shares") having the following attributes:

a) each Transferee Preferred Share will be redeemable, subject to applicable law, at any time at the option of the issuer for an aggregate amount ("Redemption Amount") equal to the FMV of the property received therefor, net of any liabilities assumed, by the issuer at the time of issuance;

b) each Transferee Preferred Share will be retractable, subject to applicable law, at any time at the option of the holder at a retraction amount equal to the Redemption Amount;

c) the holder of each Transferee Preferred Share will be entitled to a non-cumulative cash dividend as and when declared by the Board of Directors from time to time, which dividend need not also be declared on any other class of shares of the issuer if the resulting realizable value of the net assets of the issuer after payment of the dividends would be less than the aggregate of the Redemption Amounts of all of the Preferred Shares then outstanding;

d) the holder of each Transferee Preferred Share will be entitled, upon the liquidation, dissolution or winding-up of the issuer, to a payment in priority to all other classes of shares of the issuer of an amount equal to the Redemption Amount to the extent of the amount or value of property available under applicable law for payment to shareholders upon dissolution, but will be entitled to no more than the amount of that payment;

e) the holder of each Transferee Preferred Share will not be entitled to vote at meetings of shareholders of the issuer, other than as provided under the XXXXXXXXXX; and

f) for the purpose of subsection 191(4), the terms and conditions of the Preferred Shares to be issued as described herein will specify an amount in respect of each Preferred Share, including an amount for which the share is to be redeemed, acquired or cancelled. The amount to be specified in respect of each Preferred Share, at the time of its issuance by a resolution to be made by the board of directors, will be expressed as a dollar amount, will not be determined by a formula and will be equal to the FMV of the property received as consideration for such share.

Incorporation of Newco

32. Newco will be incorporated as a new corporation under the XXXXXXXXXX. Newco shall be a private corporation and a taxable Canadian corporation.

33. The authorized share capital of Newco will consist of common shares ("Newco Common Shares") and preferred shares.

The authorized share capital of Newco will include one class of an unlimited number of preferred shares ("Newco Preferred Shares") having the following attributes:

a) each Newco Preferred Share will be redeemable, subject to applicable law, at any time at the option of the issuer for an aggregate amount ("Redemption Amount") equal to the FMV of the property received therefor, net of any liabilities assumed, by the issuer at the time of issuance;

b) each Newco Preferred Share will be retractable, subject to applicable law, at any time at the option of the holder at a retraction amount equal to the Redemption Amount;

c) the holder of each Newco Preferred Share will be entitled to a non-cumulative cash dividend as and when declared by the Board of Directors from time to time, which dividend need not also be declared on any other class of shares of the issuer if the resulting realizable value of the net assets of the issuer after payment of the dividends would be less than the aggregate of the Redemption Amounts of all of the Preferred Shares then outstanding;

d) the holder of each Newco Preferred Share will be entitled, upon the liquidation, dissolution or winding-up of the issuer, to a payment in priority to all other classes of shares of the issuer of an amount equal to the Redemption Amount to the extent of the amount or value of property available under applicable law for payment to shareholders upon dissolution, but will be entitled to no more than the amount of that payment;

e) the holder of each Newco Preferred Share will not be entitled to vote at meetings of shareholders of the issuer, other than as provided under the XXXXXXXXXX; and

f) for the purpose of subsection 191(4), the terms and conditions of the Preferred Shares to be issued as described herein will specify an amount in respect of each Preferred Share, including an amount for which the share is to be redeemed, acquired or cancelled. The amount to be specified in respect of each Preferred Share, at the time of its issuance by a resolution to be made by the board of directors, will be expressed as a dollar amount, will not be determined by a formula and will be equal to the FMV of the property received as consideration for such share.

35. Transferee will subscribe for one Newco Common Share on incorporation of Newco for the sum of one dollar. Newco will add $XXXXXXXXXX in aggregate to the stated capital account in respect of the Newco Common Shares it issues.

Sale of Distributor Shares to Transferee by Shareholder 4

36. Shareholder 4 will transfer to Transferee all of his XXXXXXXXXX Common Shares of Distributor in exchange for an equal number of Transferee Common Shares of Transferee having a fair market value equal to the fair market value of the Common Shares of Distributor so transferred. These shall be the original incorporating shares of Transferee issued. The aggregate addition to the stated capital of Transferee in respect of all of the common shares it issues to Shareholders 4 will be $ XXXXXXXXXX. No non-share consideration will be paid.

37. Shareholder 4 and Distributor will jointly elect under subsection 85(1), in prescribed form and within the time limits prescribed by subsection 85(6), in respect of the Common Shares so transferred. The agreed amount specified in the election will be equal to the adjusted cost base to Shareholder 4 of the transferred shares, namely $XXXXXXXXXX, which amount will not exceed the FMV of the transferred shares. The adjusted cost base of the shares so transferred will be less than their FMV at the time of the transfer.

Sale of Distributor Assets to Newco

38. Distributor will sell at fair market value to Newco cash or near-cash property and business property which consists of:

a) XXXXXXXXXX% of the cash or near cash, if any, of Distributor immediately prior to the transfer;

b) all of the business property of Distributor used in carrying on the XXXXXXXXXX Business;

c) XXXXXXXXXX% of the investment property; and

d) possibly some additional business property such as inventory.

39. As a result of such transfers, the net fair market value of the cash or near-cash property and business property and investment property received by Newco (after allocating and deducting, in the manner described in paragraph 17 above, the assumed liabilities of Distributor) will be equal to the proportion of the net fair market value of the cash or near-cash property and business property and investment property respectively, of Distributor, immediately before the transfer, that:

(i) the aggregate of the fair market value, immediately before the transfer, of all shares of the capital stock of Distributor owned by Transferee at that time

is of

(ii) the fair market value immediately before the transfer of all of the issued shares of the capital stock of Distributor at that time (the "Butterfly Proportion").

40. In consideration for such transfer Newco will assume certain liabilities of Distributor and will issue to Distributor Newco Preferred Shares, having an aggregate redemption and retraction amount and fair market value equal to the amount by which the fair market value of the transferred properties that will be received by Newco exceeds the fair market value of the liabilities assumed by Newco.

41. In respect of the transfers described in the paragraph 38 above, Distributor and Newco will jointly elect pursuant to subsection 85(1), in prescribed form and within the time limits prescribed by subsection 85(6), to transfer each asset that is an eligible property, within the meaning of subsection 85(1.1), and that has a FMV in excess of its cost amount to Distributor, at an agreed amount that is not less than the least of:

a) the amounts specified in subparagraphs 85(1)(d)(i), (ii) or (iii) in the case of eligible capital property;

b) the amounts specified in subparagraphs 85(1)(e)(i), (ii) or (iii) in the case of depreciable property of a prescribed class; and

c) the amounts specified in subparagraphs 85(1)(c.1)(i) or (ii) in the case of capital property (other than depreciable property of a prescribed class), inventory, or any other property described in paragraph 85(1)(c.1).

42. In each case, the agreed amount will not exceed the FMV of the respective property, nor will it be less than the amount permitted under paragraph 85(1)(b).

43. For the purposes of the joint election described herein, the reference to "the undepreciated capital cost to the taxpayer of all property of that class immediately before the disposition" found in paragraph 85(1)(e)(i) will be interpreted to mean that proportion of the undepreciated capital cost to the taxpayer of all of the property of that class that the FMV of the assets immediately before the disposition is of the FMV of all property of that class immediately before the disposition.

44. The subsection 85(1) election referred to herein will exclude any cash, accounts receivable and prepaid expenses.

45. The fair market value of each eligible property transferred will exceed or be equal to the agreed amount.

46. Newco will add to its stated capital account in respect of the Newco Preferred Shares so issued an amount equal to the aggregate of the cost amounts of the property transferred from Distributor less the fair market value of the liabilities of Distributor assumed by Newco.

47. The liabilities assumed will be allocated to specific properties transferred. The amount of liabilities to be allocated to a property transferred pursuant to subsection 85(1) will not exceed the elected amount in respect of that property. The amount of liabilities allocated to property other than a property transferred pursuant to subsection 85(1) will not exceed the fair market value in respect of the property.

Redemption of Newco Preferred Shares

48. Immediately after the transfer of the assets to Newco, and before the end of that day, Newco will redeem its Newco Preferred Shares held by Distributor and will issue to Distributor a non-interest-bearing demand promissory note (the "Newco Note") having a principal amount and fair market value equal to the redemption price of the Newco Preferred Shares.

Windup of Newco into Transferee

49. Newco will then be wound up into its parent, Transferee. As a result of the windup, the Newco Note will become a liability of Transferee.

Repurchase of Distributor Common Shares

50. Immediately following the foregoing windup of Newco into Transferee, Distributor will purchase for cancellation, at FMV, all of the (XXXXXXXXXX) Common Shares of Distributor held by Transferee. Distributor will pay the purchase price for such shares by issuing to Transferee a non-interest-bearing demand promissory note having a principal amount and FMV equal to the FMV of the Common Shares so purchased for cancellation ("Distributor Note"). Transferee will accept the Distributor Note in full payment of the purchase price of the Common Shares sold to Distributor.

51. Each of Distributor and Transferee has the financial capacity to honour, upon presentation for payment, the amount payable under the Transferee Note or Distributor Note, as the case may be.

52. The Transferee Note will be set off against the Distributor Note and they will be cancelled.

PURPOSE OF THE PROPOSED TRANSACTIONS

Shareholder 3 and Shareholder 4 wish to carry on the Farming and XXXXXXXXXX businesses respectively, as separate businesses independent of each other. Shareholder 3's objective is to pursue the Farming business exclusively, make all of the decisions in respect of that business and have all of the opportunity for profit in respect of that business alone. Shareholder 4's objective is to pursue the XXXXXXXXXX Business exclusively, make all of the decisions in respect of that business, and have all of the opportunity for profit in respect of that business alone.

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 85(1) will apply, subject to the application of subsections 69(11), 85(4) and 85(5.1) as they may apply to the transfer:

a) of all the Distributor Common Shares to Transferee by Shareholder 4 as described in paragraph 36 above; and

b) by Distributor to Newco of any eligible property relating to the XXXXXXXXXX Business, or investments as described in paragraph 38 above;

such that the agreed amount in respect of each transfer will be deemed to be the proceeds of disposition to the transferor and the cost thereof to the transferee. For greater certainty, paragraph 85(1)(e.2) will not apply to the transfers referred to herein.

B. Section 84.1 will apply to the sale of the XXXXXXXXXX Distributor Common Shares to Transferee referred to in paragraph 36 of the Proposed Transactions such that the PUC of the XXXXXXXXXX Transferee Common Shares issued as consideration for the sale by Shareholder 4 of the XXXXXXXXXX Distributor Common Shares will be equal to the PUC of the XXXXXXXXXX Distributor Common Shares to Shareholder 4 immediately before that sale. No dividend will be deemed to arise under paragraph 84.1(1)(b).

C. In respect of the purchase, described in paragraph 50 above, by Distributor of the Distributor Common Shares held by Transferee, the amount, if any, by which the amount paid to purchase the particular shares exceeds the PUC of the particular shares immediately before the disposition:

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

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

D. In respect of the redemption, described in paragraph 48 above, by Newco of the Newco Preferred Shares held by Distributor, the amount, if any, by which the amount paid to redeem the particular shares exceeds the PUC of the particular shares immediately before the disposition:

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

(ii) will be deemed pursuant to paragraph 84(3)(b) to be a dividend received by the holders of such shares.

E. The dividends described in paragraph C and D above:

(i) will be deductible in computing the taxable income of the recipient corporation pursuant to the provisions of subsection 112(1), and such deduction will not be prohibited by any of subsections 112(2.1), (2.2), (2.3) or (2.4);

(ii) 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 paragraph C and D 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);

(iii) no taxes under Part IV. 1 will be payable by a holder in respect of a dividend referred to in paragraph C and D above, as each such dividend will be an excepted dividend by virtue of paragraph (c) of the definition thereof in section 187.1 since each corporation is a private corporation;

(iv) no taxes under part VI. 1 will be payable by an issuer of the preferred shares in respect of a dividend referred to in paragraph C and D above, as each such dividend will be an excluded dividend by virtue of the substantial interest exemption in paragraph (a) of the definition thereof in subsection 191(1) by virtue of the related party exemption in the definition of substantial interest in paragraph 191(2)(a); and

(v) no taxes under Part IV will be payable in respect of a dividend referred to in paragraph C and D above, except to the extent provided in paragraph 186(1)(b).

F. The Common Shares of Distributor held by Shareholder 4 will not cease to be capital property to Shareholder 4 solely as a result of the proposed transactions described herein.

G. The proposed repayment of the Transferee Note and the Distributor Note will not result in an income inclusion or in the application of the provisions of section 80, in and of themselves.

H. The provisions of subsection 55(2) will not apply to the dividends described in ruling C 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.

I. The proposed transactions, in and of themselves, will not result in the application of subsection 15(1), 56(2) or 246(1).

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

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

Nothing in this letter should be construed as implying that the Department has agreed to or accepted:

(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

(b) any tax consequences arising from the facts or proposed transactions described above other than those specifically confirmed in the rulings given.

OPINION

Provided that:

(a) our understanding of the facts and proposed transactions is complete and accurate;

(b) section 55 is amended in substantially the same form as proposed in Bill C-28 which received first reading on December 10, 1997;

(c) as part of the series of transactions or events that includes the proposed transactions described herein, there is not:

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

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

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

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

which has not been described herein,

it is our opinion that by virtue of paragraph 55(3)(b), subsection 55(2) will not apply to the taxable dividends described in rulings C and D above and, for greater certainty, subsection 55(3.1) will not apply to deny the exemption under paragraph 55(3)(b).

Yours truly,

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

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