31 May 1984 Income Tax Severed Letter RCT 5-6249 F

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.

Dear Sirs:

RE:     Redemption of preferred shares

This is in response to your letter of April 10, 1984 wherein you requested our opinion as to the interpretation of paragraph 54(c) and subsection 85(4) of the Income Tax Act (the "Act") given the following situation.

1. T owns all of the outstanding common and preferred shares of Company X.

2. T acquired the preferred shares of Company X as consideration for the disposition of an asset the fair market value of which at the time of the disposition was $100,000 less than the adjusted cost base ("acb") to T of the asset.

3. The preferred shares of Company X have an aggregate paid-up capital ("PUC") of $300,000, an acb of $400,000, and a redemption amount of $400,000.

4. Company X proposes to redeem for cancellation all of its outstanding preferred shares at their redemption amount of $400,000.

Your understanding is that the redemption would result in a dividend of $100,000, proceeds of disposition of $300,000 and a capital loss of $100,000. In your view the provisions of subsection 85(4) of the Act would not apply to deny the capital loss of $100,000 to T since the preferred shares are not owned by Company X after the redemption thus they are not disposed of to a person as required by that subsection.

In our opinion the provisions of subsection 85(4) of the Act would apply with respect to the capital loss of T as Company X does acquire its preferred shares on the redemption. It is only on the acquisition of the shares by Company X that such shares may be cancelled. Apart from the fact that the ordinary meaning of the word "redemption" contemplates an acquisition it is clear that under corporate law a redemption results in an acquisition of shares. For example subsection 37(5) of the Canada Business Corporations Act provides that "shares ... purchased, redeemed or otherwise acquired by it shall be cancelled ..." also section 123.42 of the Quèbec Companies Act states that "When a company acquires a share of its share capital, the share is cancelled".

In the situation which you described, the capital loss to T arising on the redemption would be deemed to be nil and would be added to the acb to T of his common shares of Company X. We do not agree with your view that the application of subsection 85(4) of the Act results in a perpetual denial to T of his full acb. The amount of the denied capital loss would reduce the amount of a gain on a subsequent arm's length disposition by T of his common shares of Company X.

We trust that this will be of assistance.