29 June 1998 External T.I. 9802105 - : Safe Income in Holding Company Shares

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

Whether there is safe income in shares of holding company attributable to safe income of shares of a corporation where there is no significant influence.

Position:

Yes.

Reasons:

Provided that it can be clearly demonstrated that the safe income in the shares of the subsidiary where there is no significant influence contributed to the gain in the shares of the holding company.

Attention: XXXXXXXXXX

Dear Sirs:

Re: Income earned or realized by a corporation

We are writing in response to your letter of January 20, 1998 wherein you requested our opinion regarding the application of subsection 55(2) of the Act¹ and the calculation of "income earned or realized by a corporation" ("safe income") in respect of a situation described in your letter.

The situation described in your letter relates to the shares of a public corporation held by a corporate shareholder over which the shareholder corporation does not exercise significant influence and which shares are portfolio investments to its owner.^{fn 2}

In order to access the safe income on hand attributable to the shares of the public corporation, the corporate shareholder will transfer the public corporation shares to a new holding company pursuant to the provisions of subsection 85(1). In consideration for the transfer, the transferor will receive shares of the holding company. The holding company will then increase the paid-up capital of its shares by an amount determined to be the safe income on hand attributable to the public corporation shares now held by the holding company. The increase in paid-up capital will be deemed pursuant to subsection 84(1) to be a dividend paid at that time on the shares of the holding company and will result in an increase to the adjusted cost base of the holding company's shares held by its shareholder pursuant to paragraph 53(1)(b). The shares of the holding company would then be sold to an arm's-length purchaser and the gain realized at that time would have been reduced by the amount of the safe income on hand attributable to the public corporation shares.

You have requested our opinion as to whether there is safe income in the shares of the holding company as a result of the transactions described herein and whether subsection 55(2) would apply to the deemed dividend resulting from the increase in paid-up capital of the shares of the holding company.

Our comments

It is the Department's opinion that, in computing the safe income of a corporation, the shares of a corporation over which the shareholder corporation exercises significant influence should be consolidated and the shares that represent portfolio investments should not be consolidated. However, Mr. Michael A. Hiltz commented in his paper "Section 55: An Update" in the 1984 Conference Report of the Canadian Tax Foundation that:

"...., the Department is prepared to make an exception in cases where a corporation does not exercise significant influence, if it can be clearly demonstrated (emphasis added) that the income of the other corporation contributed to the unrealized gain on the shares."

Therefore, in a situation such as the one described in your letter, the safe income on hand attributable to the public corporation's shares transferred to the holding company would ordinarily be included in the determination of the safe income on hand of the shares of the holding company at the safe-income determination time.

The foregoing opinions are not rulings and in accordance with the guidelines set out in Information Circular 70-6R3 dated December 30, 1996, are not binding on the Department.

Yours truly,

for Director
Reorganizations and International Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch