17 August 1990 Income Tax Severed Letter ACC9301 - Granting of Option by Corporation

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.

900829
                                                   M.P. Sarazin
                                                   (613) 957-2125

24(1)

Attention: 19(1)

Dear Sirs:

Re: Subsection 49(1) and Paragraph 7(3)(b) of the Income Tax Act (Canada) (the "Act")

We are writing in response to your letter dated May 11, 1990 in which you requested our technical interpretation regarding the application of subsection 49(1) and paragraph 7(3)(b) of the Act to the following hypothetical situation.

Facts

1. Corporation A owns all of the issued and outstanding shares of Corporation B.

2. Certain employees of Corporation A will be granted an option to acquire some of the issued shares held by Corporation A of Corporation B.

It is your view that Corporation A would have an income inclusion equal to the fair market value of the option on the date of the grant pursuant to the provisions of subsection 46(l) of the Act.

In order to position itself in the same position that would result if no benefit were conferred upon the employees, You believe that paragraph 7(3)(b) of the Act should not apply to prohibit Corporation A from claiming a deduction equivalent to the income inclusion under subsection 49(l) of the Act.

Since, as described in paragraph a of Interpretation Bulletin IT-96R4 , the exception in paragraph 49(l)(b) of the Act does not apply to an option granted by a corporation to acquire shares of another corporation, the provisions of subsection 49(l) will apply to the options granted by Corporation A. Consequently, Corporation A will be deemed to have disposed of a property (the option) with an adjusted cost base of nil. The amounts paid (not the fair market value of the option) by the employees to Corporati on A for the option to buy shares in Corporation B would normally represent the proceeds of disposition for Corporation A. The capital gain, if any, realized on the granting of the option would equal such proceeds of disposition less the adjusted cost base of nil. Normally, employees do not pay for the granting of such an option and, as such the proceeds of disposition would generally be nil with no resultant capital gain under subsection 49(l) of the Act. If the employees subsequently exercise their option, then any proceeds received by Corporation A as consideration for the granting of the option would be added to the proceeds received as consideration for the sale of the shares of Corporation B by virtue of subsection 49(3) of the Act. Corporation A would be entitled to file an amended return for the period in which any deemed gain from the disposal of the option was taxed and the provisions of subsection 49(4) of the Act allow for the reassessment of amended returns to exclude from income the deemed gain under subsection 49(l) included in a prior year by the grantor. As can be seen from this analysis, any income inclusion under section 49 with respect to the granting of the option by Corporation A should generally arise only where Corporation A has, in fact, realized a gain as a result thereof.

The provisions of paragraph 7(3)(b) of the Act would apply to deny the deduction of any expenses, or losses which would otherwise be deductible under any provision of the Act, relating to the sale or issue of the capital stock of the corporation or of a corporation with which it does not deal at arm's length. To the best of our knowledge there is no provision of the Act which would permit Corporation A to claim a deduction for any amount which would be included in its income by virtue of subsection 49(l) of the Act.

We trust our comments will be of assistance.

Yours truly,

for Director Reorganizations and Non-Resident Division Rulings Directorate Legislative and Intergovernmental Affairs Branch