7 December 2015 External T.I. 2015-0585171E5 F - 7(1)(b) benefit and 110(1.1) election -- translation

Principal Issues: Prior to the sale of the shares of a corporation to an arm’s length purchaser, in a situation where paragraph 7(1)(b) applies, whether the arm’s length purchaser who also wants to purchase the stock options of an employee can make an election under subsection 110(1.1).

Position: No.

Reasons: While subsection 110(1.1) does not necessarily require that the person purchasing the stock options of an employee be otherwise entitled to a deduction in respect of the options, that person must be the particular qualifying person or a person with whom the particular qualifying person does not deal at arm’s length.

XXXXXXXXXX 2015-058517
Lucie Allaire, LL.B
CPA, CGA, D. Fisc.

December 7, 2015

Dear Madam,

Subject: Sale of stock options

This letter is in response to your emails of April 29, 2015 and May 4, 2015 in which you wished to know whether an employee was entitled to the deduction under paragraph 110(1)(d) of the Income Tax Act (the "Act") where a third party bought its stock options.

Unless otherwise stated, all statutory references are references to the provisions of the Act.

In this regard, you described a situation where an employee held stock options in the employer's Canadian-controlled private corporation (the “Corporation") with which the employee dealt at arm's length and of which the employee was not a shareholder. A third party ("Third Party"), who dealt at arm's length with the employee and the employer, acquired all the shares of the Corporation as well as all the stock options of the employee.

Our Comments

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R6, Advance Income Tax Rulings and Technical Interpretations.

Paragraph 110(1)(d) permits the deduction of half of the value of the benefit deemed by subsection 7(1) to have been received by the taxpayer in the year in respect of a security that a particular qualifying person has agreed to sell or issue under an agreement, or in respect of the transfer or other disposition of rights under the agreement. To qualify for this deduction, certain conditions must be met.

Specifically, subparagraph 110(1)(d)(i) requires that the security was acquired under the agreement by the taxpayer or a person not dealing at arm's length with the taxpayer in circumstances described in paragraph 7(1)(c), in order for the deduction in computing taxable income to be applicable.

However, subsection 110(1.1) provides in particular that the condition in subparagraph 110(1)(d)(i) is not required to be met if the particular qualifying person elects that neither it nor a person with whom it does not deal at arm’s length will deduct an amount in respect of a payment to or for the benefit of a taxpayer for the taxpayer’s transfer or disposition of rights under the agreement.

In this regard, we are of the view that a particular qualifying person can make the election provided in subsection 110(1.1) to the extent that it or a person with which it does not deal at arm’s length makes a payment to an employee respecting a disposition described in paragraph 7(1)(b). Furthermore, the fact that no deduction would be available in computing the income of the person having made the payment would not prevent the particular qualifying person from making the election.

Moreover, the definition of "qualified person" in subsection 7(7), which applies in particular for the purposes of subsection 110(1.1), provides that it includes a corporation. To determine which is the qualifying person for the purposes of paragraph 110(1)(d), subsection 110(1.1) and section 7, one must determine who is the qualifying person who agreed to issue or sell securities.

In the above situation, the Corporation appears to be the particular qualifying person which had agreed to issue or sell the shares. In contrast, the Third Party could not qualify as a qualifying person for purposes of the application of subsection 110(1.1) prior to the purchase of the shares of the Corporation because, at that time, it and the Corporation dealt with each other at arm’s length.

Consequently, the election in subsection 110(1.1) cannot be made and the employee would not be eligible for the deduction under paragraph 110(1)(d), even if the conditions of subsection 110(1)(d), other than that contained in subparagraph (i) thereof, were satisfied.

We trust that our comments will be of assistance.

Louise J. Roy, CPA, CGA
Manager
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch