2 June 2010 Internal T.I. 2010-0357921I7 - Replacement Property - Amalgamation

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: Can property acquired by a predecessor corporation, prior to an amalgamation, be considered to have been acquired by the amalgamated corporation for purposes of applying the replacement property rules found in section 44 of the Income Tax Act?

Position: Yes.

Reasons: See response.

									June 2, 2010

	Technical Applications and Valuations Division	HEADQUARTERS
	Audit Professional Services Directorate		Income Tax Rulings
	Compliance Programs Branch				  Directorate
	Attention:  David Shugar				James Atkinson CGA
									(519) 457-4832

									2010-035792

Replacement Property Rules Upon Amalgamation

This is in response to your email dated February 19, 2010 concerning the application of the replacement property rules found in section 44 of the Income Tax Act ("Act").

Based upon our review of the information provided in your email, our understanding of the facts is as follows:

1. Opco sells a property ("Opco Property") on XXXXXXXXXX and reports a capital gain in its taxation year ending XXXXXXXXXX . The Opco Property meets the definition of "former business property" in subsection 248(1) of the Act.

2. Opco incorporates a subsidiary ("Subco 1").

3. On XXXXXXXXXX , Subco 1 purchases XXXXXXXXXX % of the shares of an arm's length Canadian-controlled private corporation ("Subco 2").

4. Subco 2's assets include a property ("Subco 2 Property") which it has owned for over XXXXXXXXXX years.

5. On XXXXXXXXXX , Opco, Subco 1 and Subco 2 amalgamate under the provisions of section 87 of the Act to form a new corporation ("Amalco").

6. The Subco 2 Property would satisfy the conditions of subsection 44(5) of the Act as a "replacement property" for the Opco Property had Opco purchased the Subco 2 Property directly. Had this been the case, Opco would be entitled to avail itself of the replacement property rules found in subsection 44(1).

7. Amalco claims that the Subco 2 Property, previously owned by Subco 2, is a "replacement property" within the meaning of subsection 44(5), acquired by Amalco to replace the Opco Property disposed of by Opco on XXXXXXXXXX .

You have requested our views as to whether the word "acquired", used in subsections 44(1) and (5) of the Act, includes property of a predecessor corporation that becomes the property of a new corporation formed as a consequence of an amalgamation. You point out that on an amalgamation, no new corporation is created, nor are the predecessor corporations extinguished as a matter of corporate law. Consequently, property cannot normally be said to be "acquired" by the amalgamated corporation as a consequence of such a corporate reorganization. If this is so, the requirements of subsection 44(1) and (5) of the Act are not met in the instant case, insofar as they would require that there be an acquisition of a replacement property by Amalco.

You also note that paragraph 22 of IT-259R4, Exchange of Property, which discusses the CRA's position and application of the replacement property rules, states that it may not be reasonable to conclude that property acquired by a corporation prior to an amalgamation is a replacement property for property disposed of by a predecessor corporation that is included in the amalgamation.

Finally, you have considered the rule contained in paragraph 87(2)(l.3) of the Act which, in the case of a new corporation formed upon amalgamation, provides that the new corporation will be considered to be a continuation of the predecessor corporation for purposes of the replacement property rules. As we understand it, you feel that this provision permits the replacement property rules to apply in respect of a replacement property subsequently acquired by the amalgamated corporation, where that property is replacing a former business property of a predecessor that was disposed of prior to the amalgamation. However, in the circumstances you have described, the disposition of the former property by Opco and the acquisition of the Subco 2 Property by the predecessor Subco 2 occurred prior to the amalgamation. In such a case, you believe that paragraph 87(2)(l.3) of the Act may not apply and Amalco cannot be considered to have acquired a replacement property for purposes of section 44.

Our Comments

Subsections 13(4) and 44(1) of the Act permit a taxpayer to elect to defer the recognition of income or capital gains where a former property is involuntarily disposed of, or a former property that is a "former business property" (as defined in subsection 248(1) of the Act) is voluntarily disposed of. The deferment is permitted, pursuant to subsection 13(4) in the case of recapture of capital cost allowance on disposition of depreciable property, if "the taxpayer acquires a depreciable property of a prescribed class of the taxpayer that is a replacement property for the taxpayer's former property" and, pursuant to subsection 44(1) in the case of a capital gain on the disposition of capital property, if "the taxpayer has ... acquired a capital property that is a replacement property for the taxpayer's former property".

To be considered a replacement property for purposes of subsections 44(1) and 13(4), a particular property must meet all the requirements outlined in the definitions in subsections 44(5) and 13(4.1), respectively, of the Act.

There is no definition in the Act of the word "acquire". The Black's Law Dictionary, Eight Edition, defines the verb "acquire" as "To gain possession or control of; to get or obtain" and the word "acquisition" as "1. The gaining of possession or control over something . 2. Something acquired."

Interpretation Bulletin IT-259R4, Exchanges of Property, states in paragraph 9 that "a taxpayer is considered to have acquired replacement property at the time the acquisition would ordinarily be considered to have been made under the provisions of the Act and the general principles of law".

In the context of a qualifying amalgamation, section 87 of the Act provides a set of rules that, in essence, permit a rollover at the shareholder level, as well as a flow through of certain tax accounts. Paragraph 87(2)(d), which applies for the purpose of sections 13 and 20 and any regulations made under paragraph 20(1)(a), provides rules for determining the capital cost (and the undepreciated cost) of depreciable property and paragraph 87(2)(e), for determining the cost of non-depreciable capital property to the new corporation in respect of a particular property of a predecessor corporation, which, as referred to in paragraph 87(1)(a), has otherwise "become" the property of the new corporation as a consequence of the amalgamation. Both paragraphs 87(2)(d) and (e) refer to the particular property as property that "has been acquired by the new corporation from a predecessor corporation".

Paragraph 87(2)(l.3) specifically applies for the purposes of sections 13 and 44 and the definition "former business property" in subsection 248(1) to a new corporation formed by amalgamation where before the amalgamation, property of a predecessor corporation was involuntarily disposed of or was a former business property of the predecessor corporation. Paragraph 87(2)(l.3) provides that the new corporation shall be deemed to be the same corporation as, and a continuation of, the predecessor corporation, in respect of the former property and any replacement property acquired therefor.

The CRA position regarding the replacement property rules on a section 87 amalgamation is set out in paragraph 22 of IT-259R4. Paragraph 22 of IT-259R4 indicates that the purpose of paragraph 87(2)(l.3) is to prevent the deferral rules in sections 13 and 44 from being lost and further states the following:

"While paragraphs 87(2)(l.3) and 88(1)(e.2) prevent the deferral rules from being lost, it may not be reasonable to conclude that property acquired by a corporation prior to an amalgamation or acquired by the parent corporation as a consequence of the winding-up of a subsidiary corporation is a replacement property for property disposed of by the amalgamated corporation, by a predecessor corporation that is included in the amalgamation, or by the parent corporation where a subsidiary has been wound up. Each situation must be considered on its facts to determine whether it is reasonable to conclude that the acquired property is a replacement property for the former property or former business property." (Emphasis added.)

XXXXXXXXXX

Given the wording of subsections 13(4) and 44(1), paragraphs 87(2)(d), (e) and (l.3) of the Act and the CRA published position in paragraph 22 of IT-259R4, for purposes of applying the replacement property rules, the Opco Property is not precluded from being considered a "former business property" of Amalco merely because it was owned by Opco and not Amalco and the Subco 2 Property is not precluded from being considered a "replacement property" of Amalco where the conditions of subsections 44(5) and 13(4.1), as applicable, are otherwise met.

Although it is implicit in paragraph 22 of IT-259R4 that the CRA accepts that a particular property of a predecessor corporation may be considered to be acquired to replace a former property disposed of by another predecessor corporation, it is also clear in the same paragraph of the bulletin that, for the purpose of applying the replacement property rules, the particular property must meet all the conditions of the definition of replacement property.

You have advised that the Subco 2 Property would satisfy the conditions of subsection 44(5) of the Act had it been acquired by Opco, absent an amalgamation. In our view, whether a property can be regarded as replacement property of a former property disposed of is ultimately a question of fact. In particular, we note that paragraph 44(5)(a) requires a "reasonable to conclude" test in that it must be reasonable to conclude that a property was acquired to replace the former property. That is, in order for a particular property to be considered a replacement property, there must be a causal relationship between the acquisition and disposition of the properties under consideration.

As indicated in paragraph 22 of IT-259R4, it should not be assumed that the mere act of amalgamation creates an acquisition of replacement property for which it is "reasonable to conclude" that a property of the new corporation can be said to replace former property of a predecessor corporation for purposes of applying the replacement property rules. Each situation must be considered on its facts.

We trust these comments are of assistance.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the CRA's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the electronic library version, or they may request a severed copy using the Privacy Act criteria, which does not remove client identity. You should make requests for this latter version to Mrs. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client

S. Parnanzone
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch