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This translation was prepared by Tax Interpretations Inc. The CRA did not issue this document in the language in which it now appears, and is not responsible for any errors in its translation that might impact a reader’s understanding of it or the position(s) taken therein. See also the general Disclaimer below.
Principal Issues: [TaxInterpretations translation]
Are the corporations associated in this situation?
Position: Yes
Reasons: Application of provisions at 256(1.2)
XXXXXXXXXX 5-981902
R. Gagnon
Attention: XXXXXXXXXX
July 15, 1999
Dear Sir/Madam,
Subject: Section 256 of the Act
This is in response to your letter of July 23, 1998 in which you asked us questions regarding the application of section 256 and subsection 125(3) of the Income Tax Act (the "Act") to the situation described below.
Unless otherwise indicated, all references to legislation below are references to the provisions of the Act.
Facts
1. ABC Ltd., Z Ltd., X Ltd. and Y Ltd. are "taxable Canadian corporations" and "Canadian-controlled private corporations" within the meaning of subsections 89(1) and 125(7), respectively. ABC Ltd. and Z Ltd. each carry on an active business.
2. Mr. X, Mr. Y, Mr. D and Mr. E are individuals resident in Canada for the purposes of the Act. Mr. X, Mr. Y, Mr. D and Mr. E are not related to each other under paragraph 251(2)(a).
3. The end of the taxation year for ABC Ltd., Z Ltd., X Co. Ltd. and Y Co. Ltd. is September 30.
4. The issued and outstanding share capital of ABC Ltd. consisted solely of 930 common shares of one class as of June 30, 199X. As of June 30, 199X and thereafter, X Ltd. and Y Ltd. held 475 and 455 common shares, respectively, of the share capital of ABC Ltd.
5. The issued and outstanding share capital of Z Ltd. consisted, as of June 30, 199X, solely of 976 common shares of the same class. Mr. X and Mr. Y each held 410 common shares of Z Ltd. as of June 30, 199X, and thereafter. In addition, Mr. D and Mr. E each held 78 common shares of Z Ltd. as of June 30, 199X, and thereafter.
6. All of the issued and outstanding shares of the share capital of X Ltd. and Y Ltd. were held by Mr. X and Mr. Y, respectively.
7. We have assumed that the fair market value ("FMV") of each issued and outstanding common share of the capital stock of ABC Ltd. and Z Ltd. was the same for shares of the same corporation.
In the above situation, the group of persons consisting of Mr. X and Mr. Y was deemed to control ABC Ltd. and Z Ltd. because Mr. X and Mr. Y together owned (by application of paragraph 256(1.2)(d)) all of the common shares of ABC Ltd. and 84% of the common shares of Z Ltd.
Your Questions and Our Comments
The situation described appears to us to be an actual situation involving individual taxpayers. As stated in paragraph 22 of Information Circular 70-6R3 dated December 30, 1996, it is the practice of our Directorate not to issue written opinions regarding proposed transactions otherwise than by way of advance income tax rulings. Furthermore, when it comes to whether a completed transaction has received appropriate tax treatment, that determination rests first with the relevant Tax Services Office. However, we can offer the following general comments, which may not fully apply to the situation described.
Question 1
Are ABC Ltd. and Z Ltd. associated with each other under subsection 256(1)?
Our Comments
For the purposes of determining whether two corporations are associated under subsection 256(1), it is necessary to establish by which person or group of persons each corporation is controlled, directly or indirectly in any manner whatever. That concept of control includes de jure control and de facto control under subsection 256(5.1). Subsection 256(5.1) provides that when the expression "controlled, directly or indirectly, in any manner whatever" is used in the Act, a corporation is deemed to be so controlled by a person or group of persons where the person or group of persons has any direct or indirect influence that, if exercised, would result in control in fact of the corporation, unless the exception in subsection 256(5.1) applies. In addition, section 256 provides for several special rules that must be considered in determining whether two corporations are associated.
In determining the de jure control of a corporation for the purposes of the Act, consideration must be given to the corporate law governing the corporation, the register of shareholders, the articles and by-laws of the corporation, and any unanimous shareholder agreement (see Duha Printers (Western) Ltd., 98 DTC 6334 (SCC)).
The information available in the above situation is insufficient and does not allow us to determine whether the corporations are associated under the application of the concepts of legal control and factual control. Nevertheless, based solely on the information available, we are of the view that ABC Ltd. and Z Ltd. are associated under paragraph 256(1)(b) in the situation described above, because of the special rules set out in paragraphs 256(1.2)(a) to (d).
Paragraph 256(1.2)(d) provides that, for the purposes of applying, among other things, subsections 256(1) and (1.2), that where shares of the capital stock of a corporation are owned, at any time by another corporation, those shares shall be deemed to be owned at that time by any shareholder of the holding corporation in a proportion equal: (i) the fair market value of the shares of the capital stock of the holding corporation owned at that time by the shareholder, and (ii) the fair market value of all the issued shares of the capital stock of the holding corporation outstanding at that time. Consequently, under paragraph 256(1.2)(d), Mr. X and Mr. Y are deemed to be the owners of the issued and outstanding common shares of ABC Ltd. held by X Ltd. (475 common shares) and Y Ltd. (455 common shares), respectively, in the situation described above.
Paragraph 256(1.2)(a) provides, for the purposes of applying, among other things, subsections 256(1) and (1.2), that a group of persons in respect of a corporation means any two or more persons each of whom owns shares of the capital stock of the corporation. In the above situation, Mr. X and Mr. Y therefore constitute a group of persons with respect to ABC Ltd. (see the previous paragraph concerning paragraph 256(1.2)(d)) and Z Ltd.
For the purposes of applying, among other things, subsections 256(1) and (1.2), paragraph 256(1.2)(c) provides, among other things, that a group of persons that owns, at any time, common shares of the capital stock of a corporation whose FMV is more than 50% of the FMV of all the issued and outstanding common shares of the capital stock of that corporation is deemed to control that corporation at that time.
It should be noted that subparagraph 256(1.2)(b)(ii) provides, among other things, that a particular group of persons may control a corporation notwithstanding that the corporation is also controlled or deemed to be controlled by another person or group of persons. Consequently, the group of persons consisting of Mr. X and Mr. Y could control ABC Ltd. even if Mr. X had legal control of ABC Ltd. in the above situation.
Paragraph 256(1)(b) provides, among other things, that two corporations are associated with each other where both of the corporations were controlled, directly or indirectly in any manner whatever, by the same person or group of persons. Given that paragraphs 256(1.2)(a) to (d) ensure that Mr. X and Mr. Y constitute a group of persons that controls both ABC Ltd. and Z Ltd., those corporations are associated with each other under paragraph 256(1)(b).
In addition, X Ltd. is associated with ABC Ltd. under paragraphs 256(1)(a) and 256(1.2)(c). Paragraph 256(1.2)(c) provides, among other things, that a corporation that owns, at any time, common shares of the capital stock of another corporation whose FMV is more than 50% of the FMV of all the issued and outstanding common shares of the capital stock of that corporation is deemed to control that corporation at that time. Consequently, X Ltd. is deemed to control ABC Ltd. under paragraph 256(1.2)(c) because it owns 51% of the common shares of ABC Ltd. Paragraph 256(1)(a) provides that two corporations are associated with each other if one controls the other, directly or indirectly in any manner whatever. Consequently, X Ltd. and ABC Ltd. are associated. It should be noted that X Ltd. and ABC Ltd. could also be associated with each other under paragraph 256(1)(b) if Mr. X has de jure control of ABC Ltd. (ultimate control) and X Ltd.
Subsection 256(2) provides that where two corporations would, but for that subsection, not be associated with each other at any time, and are associated with a third corporation at that time, they will be deemed to be associated with each other at that time, except that, for the purposes of section 125, if the third corporation so elects, in prescribed form, for the taxation year that includes that time, it will not to be associated with either of the two corporations during that year and will be deemed to have a nil business limit for that year. In the above situation, X Ltd. and Z Ltd. are associated with each other under subsection 256(2) because they are both associated with ABC Ltd. and would not be associated with each other without subsection 256(2), unless ABC Ltd. exercises the election provided for in subsection 256(2).
Question 2
Does the allocation of the $200,000 limit provided for in subsection 125(3) apply to ABC Ltd. and Z Ltd. for the 199X taxation year of those corporations?
Our Comments
Subsection 125(3) provides that if all the Canadian-controlled private corporations that are associated with each other in a taxation year file with the Minister in prescribed form an agreement that assigns for the purpose of section 125 a percentage to one or more of them for the year, the business limit for the year of each of the corporations is the amount so allocated to it.
In the above situation, ABC Ltd., Z Ltd. and X Ltd. would be associated with each other in the year 199X if the election provided for in subsection 256(2) is not made by ABC Ltd. Consequently, the $200,000 limit would then have to be allocated among those three corporations for the 199X taxation year in order for the allocation to be valid for the purposes of subsection 125(3).
This opinion does not constitute an advance ruling and, as stated in paragraph 22 of Information Circular 70-6R3 dated December 30, 1996, it does not bind the Ministry with respect to a particular factual situation.
We apologize for the delay in responding to your request.
Best regards,
Maurice Bisson, CGA
for the Director
Corporate Reorganizations and
International Operations Division
Income Tax Rulings and
Interpretations Directorate
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