25 September 1998 External T.I. 98071150 - Sale of Shares of a Non-resident Company

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.

Principal Issues: Tax consequence of sale of shares of a foreign country

Position: Realization of capital gain based on the fair market value of the shares over their adjusted cost base

Reasons: section 38 of the Act

XXXXXXXXXX 								980711
S. Leung
Attention:  XXXXXXXXXX 

September 25, 1998

Dear Sirs:

Re: Sale of Shares of a Non-resident Company

We are writing in reply to your letter of March 19, 1998 in which you requested our view as to the tax consequences and the reporting requirements of the transactions described below.

1. Mr. A immigrated to Canada in XXXXXXXXXX and has become a resident of Canada for Canadian income tax purposes since that time.

2. In XXXXXXXXXX , prior to Mr. A's immigration to Canada, Mr. A acquired XXXXXXXXXX % of a company incorporated in the United Kingdom ("Engco") for (XXXXXXXXXX . The remainder of the shares of Engco was owned by XXXXXXXXXX individuals who are residents of the United Kingdom.

3. In XXXXXXXXXX , Mr. A incorporated a company in Canada ("Canco") which was dormant at the time of the transactions described in 4 below.

4. Mr. A received an offer from a private company incorporated in the United Kingdom ("Acquirer") to purchase all the shares of Engco and Canco for (XXXXXXXXXX plus a further (XXXXXXXXXX provided certain budget and sale targets have been met. The purchase price is made up of XXXXXXXXXX % cash and the balance shares of Acquirer.

5. The shares of Acquirer will have no market until Acquirer becomes a public company. Even then no person can sell more than 30% of his or her shares of Acquirer during the first year following the listing of the shares on a stock exchange.

Our Comments

The situation outlined in your letter appears to relate to an actual situation involving identifiable taxpayers. Accordingly, the applicable District Taxation Office should be consulted with respect to the income tax liabilities of such a taxpayer. However, we can offer the following general comments.

For Canadian tax purposes, when Mr. A sold his shares of Engco and Canco to Acquirer in exchange for cash and shares of Acquirer, he realized a capital gain equal to the amount by which the total of the cash consideration and the fair market value of the shares of Acquirer that he received exceeds the adjusted cost base to him of the shares of Engco and Canco that he owned. The determination of the fair market value of the shares of Acquirer received by Mr. A would take into account the purchase and sale agreement mentioned above and the marketability of such shares. The adjusted cost base to Mr. A of the shares of Engco and Canco that he owned would be the fair market value of such shares immediately before he became a resident of Canada. There would not be any deferral in recognizing the capital gain on the sale of the shares of Engco and Canco except for that portion of the sale price that is not readily determinable. With respect to the latter point we enclose for your perusal Interpretation Bulletin IT-426 which describes the cost-recovery method that Mr. A could use to report the capital gain on the sale of shares under an earnout agreement where certain conditions are met.

The taxable portion of the capital gain is required to be included in Mr. A's T1 income tax return for the year in which the capital gain is realized.

As mentioned above, you should contact the appropriate tax services office with respect to the detailed tax consequences of the above-noted transactions.

Yours truly,

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