Translation disclaimer
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: Three individuals ("A", "B" and "C") own all of the issued and outstanding shares of the capital stock of a holding corporation ("Holdco") in equal proportions. Holdco and another individual ("D") own all of the issued and outstanding shares of the capital stock of an operating corporation ("Opco") in equal proportions. D would dispose of his shares of the capital stock of Opco to Holdco in consideration for the issuance of one non-voting preferred share of the capital stock of Holdco and a note. Section 85 would apply to this share transfer. 1) Whether the deeming provision in paragraph 84.1(2)(b) would apply in this situation. 2) Whether shares have to be voting for the purpose of the application of paragraph 84.1(2.2)(b).
Position: 1) No. 2) No.
Reasons: Wording of the Act and previous positions.
June 23, 2010
Montreal Tax Services Office Income Tax Rulings Directorate
Canada Revenue Agency
305 René-Lévesque Boulevard West J. Lafrenière
Montreal QC H2Z 1A6 (613) 941-2956
Attention: Mr. Bruno Bevacqua
2010-036816
Request for opinion - Application of subsections 84.1(2) and 84.1(2.2) of the Income Tax Act
This is in response to your email of May 19, 2010, in which you requested our views on the application of subsections 84.1(2) and 84.1(2.2) of the Income Tax Act (the "Act") in a particular situation.
1) Particular Situation
You have presented us with the situation described below (the "Particular Situation") as part of your request for an opinion.
a) Three individuals, A, B, and C each held one-third of the issued and outstanding shares of the capital stock of a corporation ("Holdco");
b) Holdco and another individual, D, each held half of the issued and outstanding shares of the share capital of an operating corporation ("Opco");
c) D disposed of D’s shares of the capital stock of Opco to Holdco in consideration for a non-voting preferred share and a note of Holdco. D and Holdco made an election pursuant to subsection 85(1) in respect of such transfer of shares in the prescribed form and within the time prescribed by subsection 85(6).
2) Your Questions respecting the Particular Situation
You wish to know how to interpret subsections 84.1(2) and (2.2) for the purpose of applying section 84.1 to the Particular Situation. Specifically, you are seeking our comments on the potential application of the deeming provision in paragraph 84.1(2)(b) to the Particular Situation. You are also interested in the characteristics that the shares must have, for the purposes of the "group" concept under paragraph 84.1(2.2)(b). In this regard, you are considering whether an individual receiving non-voting shares could be part of a group of persons described in paragraph 84.1(2.2)(b).
3) Our Comments respecting the Particular Situation
Comments respecting the potential application of paragraph 84.1(2)(b) to the Particular Situation
To begin with, we have assumed that D, along with Holdco and Opco, are resident in Canada and that the shares of the capital stock of Holdco held by D are capital property to D.
The purpose of section 84.1 is to prevent the withdrawal of a corporation's surplus as a tax-free return of capital, through a transfer of shares by an individual resident in Canada to a corporation with which the individual does not deal at arm's length, and through, inter alia, the use of the capital gains deduction.
Paragraph 84.1(2)(b) provides that a taxpayer referred to in subsection 84.1(1) is deemed not to deal at arm's length with the purchaser (i.e., the corporation that purchases the shares of the capital stock of the corporation referred to in subsection 84.1(1)) if the taxpayer:
(i) was, immediately before the disposition, one of a group of fewer than 6 persons that controlled the subject corporation, and
(ii) was, immediately after the disposition, one of a group of fewer than 6 persons that controlled the purchaser corporation, each member of which was a member of the group referred to in subparagraph 84.1(2)(b)(i);
Subsection 84.1(2.2) provides additional rules of interpretation for the purposes of paragraph 84.1(2)(b):
(a) in determining whether or not a taxpayer referred to in that paragraph was a member of a group of fewer than 6 persons that controlled a corporation at any time, any shares of the capital stock of that corporation owned at that time by
(i) the taxpayer’s child (as defined in subsection 70(10)), who is under 18 years of age, or the taxpayer’s spouse or common-law partner,
(ii) a trust of which the taxpayer, a person described in subparagraph 84.1(2.2)(a)(i) or a corporation described in subparagraph 84.1(2.2)(a)(iii), is a beneficiary, or
(iii) a corporation controlled by the taxpayer, by a person described in subparagraph 84.1(2.2)(a)(i) or 84.1(2.2)(a)(ii) or by any combination of those persons or trusts
are deemed to be owned at that time by the taxpayer and not by the person who actually owned the shares at that time;
(b) a group of persons in respect of a corporation means any 2 or more persons each of whom owns shares of the capital stock of the corporation;
(c) a corporation that is controlled by one or more members of a particular group of persons in respect of that corporation is considered to be controlled by that group of persons; and
(d) a corporation may be controlled by a person or a particular group of persons even though the corporation is also controlled or deemed to be controlled by another person or group of persons.
Initially, D (the Taxpayer) and Holdco (the Purchaser) form a group (the Initial Group) which controls Opco (the Subject Corporation).
Following the transfer by D of the shares of the capital stock of Opco (the Subject Corporation) to Holdco (the Purchaser), the latter is controlled by a group of 4 persons consisting of A, B, C and D (the Final Group).
In this regard, paragraph 84.1(2.2)(b) provides that a group is defined as 2 or more persons each of whom owns shares. In the Particular Situation, we are of the view that individuals A, B and C do not own shares of the capital stock of Opco immediately before the disposition. Furthermore, paragraph 84.1(2.2)(a) would not apply to deem the shares of the capital stock of Opco owned by Holdco to be owned by individuals A, B, and C.
Consequently, Holdco is not a member of the Final Group. In addition, A, B and C are not members of the Initial Group. Consequently, the deeming provision in paragraph 84.1(2)(b) could not apply in this case.
However, in accordance with paragraph 251(1)(c), it is a question of fact whether persons not related to each other are, at a particular time, dealing with each other at arm's length. Thus, unrelated persons may or may not be dealing with each other at arm's length, depending on the facts and circumstances relating to a particular situation. In this regard, each transaction or series of transactions must be considered individually. With respect to the Particular Situation, it is impossible for us to determine whether Holdco and D are "factually" not dealing with each other at arm's length since such a determination would require an analysis of all the facts and circumstances relating to a particular situation and since your email only briefly describes a hypothetical situation. However, we refer you to paragraphs 22 to 26 of Interpretation Bulletin IT-419R2, Meaning of Arm's Length, dated June 8, 2004, which outline the general guidelines followed by the Canada Revenue Agency in determining whether or not persons are dealing with each other at arm's length at a particular time. Paragraph 23 of Interpretation Bulletin IT-419R2 states, inter alia, that the following criteria have generally been used by the courts in determining whether parties to a transaction are not dealing at “arm's length”:
- was there a common mind which directs the bargaining for both parties to a transaction;
- were the parties to a transaction acting in concert without separate interests; and
- was there “de facto” control.
In light of the foregoing and notwithstanding the non-application of paragraph 84.1(2)(b), we are unable to confirm that section 84.1 would not be applicable in the context of the Particular Situation, in respect of the disposition of the shares of the capital stock of Opco by D to Holdco.
In closing on this point, we are of the view that if it were found that Holdco's interposition between, on the one hand, A, B and C and, on the other hand, Opco was part of a series of transactions designed to prevent the application of the deeming provision in paragraph 84.1(2)(b), then the application of subsection 245(2) would need to be considered.
Comments on the characteristics of shares and the concept of group of persons in paragraph 84.1(2.2)(b)
The Agency considers that since paragraph 84.1(2.2)(b), which defines the concept of group of persons for the purposes of paragraph 84.1(2)(b), refers only to "shares", a person who holds only non-voting shares and another person who holds voting shares may indeed form a group of persons within the meaning of paragraph 84.1(2.2)(b) and for the purposes of applying paragraph 84.1(2)(b). In this regard, we refer you, among others, to the following Technical Interpretations: F9406355 and E9305575.
If you wish additional information regarding this, please do not hesitate to contact us.
Stéphane Prud'Homme, Notary, M. Fisc.
for the Director
Corporate Reorganizations and Resource Industry Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch.
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2010
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2010
Email this Content