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:rrsp investments in debt obligations
Position TAKEN:routine clarification of the rules
Reasons FOR POSITION:routine
XXXXXXXXXX 5-941883
Attention: XXXXXXXXXX
September 15, 1994
Dear Sirs:
Re: Small Business Investment Trusts ("SBITs")
This is in reply to your letter of July 15, 1994, in which you asked for confirmation of when an SBIT that holds debt obligations of an eligible corporation would be a qualified investment for an RRSP.
RRSPs can invest directly in debt instruments to the extent provided in the Income Tax Act (the "Act") and the Income Tax Regulations (the "Regulations") but can not generally invest in debt instruments of small, closely held corporations. They may, however, hold these investments indirectly through small business investment limited partnerships ("SBILPs") or SBITs under certain conditions.
Subparagraph 4900(6)(c) of the Regulations provides that an interest in an SBIT is a "qualified investment" for a trust governed by an RRSP except as provided in Regulations 4900(8) and (9).
Regulation 4900(8) provides that an SBIT that holds a "small business security" will cease to be a qualified investment of an RRSP if the annuitant of the plan provides services for the issuer of the security or a related person and it is reasonable to consider that any amount received by the SBIT in respect of the security is in satisfaction of or in lieu of a payment for those services. A "small business security" is defined in Regulation 5100(2) and is discussed below. It generally includes shares and certain debt obligations of eligible corporations.
Regulation 4900(9) provides that an SBIT will not be a qualified investment of an RRSP if the annuitant of the RRSP is a "designated shareholder" of the issuer of the security unless, among other things, the security is a share of the capital stock of an "eligible corporation" as defined at Regulation 5100(1) and there are more than 10 beneficiaries of the SBIT and no beneficiary or group of beneficiaries who do not deal with each other at arm's length holds more than 10 per cent of the units of the trust. In other words, an SBIT can not hold debt as a small business security if the annuitant is a designated shareholder of the issuing corporation and can only hold shares if the conditions noted above are met.
The term "designated shareholder" of a corporation is defined in Regulation 4901 and, in general terms, includes any person who:
is, or is related to, a person who separately or together with any other related persons (including any related RRSP) holds 10 per cent or more of the shares of any class of shares of the corporation unless the total cost of those shares is less than $25,000;
is or is related to a member of a partnership that controls the corporation in any manner;
is or is related to a beneficiary under a trust that controls the corporation in any manner;
is or is related to an employee of the corporation where employees of the corporation control the corporation, except where the corporation is controlled by one person or a related group of persons; or
is not at arm's length with the corporation.
An SBIT is defined in subsection 5103(1) of the Regulations and is, in general, a trust that has since its creation:
always been resident in Canada;
always had interests of beneficiaries described by reference to identical units;
never had any beneficiary or group of beneficiaries not dealing with each other at arm's length (including RRSPs) hold more than 30 per cent of the units of the trust;
only undertaken the investment of its funds;
only invested in small business securities where the trust was the first person (other than a broker or securities dealer) to have acquired the securities except where Regulation 5104(1) applies (Regulation 5104(1) allows certain shares to have been previously acquired) or specified properties as defined in Regulation 5100(1) (money, deposits, certain government debt, debt of some listed corporations, trust company GICs and certain investment contracts);
not borrowed any money except for the purpose of earning income from investments and has not had any borrowing that exceeded 20 per cent of its trust capital at the time;
has not accepted deposits; and
has complied with the requirements of regulation 5103(2) pertaining to the investment of its funds.
Small business securities are defined in Regulation 5100(2) as
shares of the capital stock of eligible corporations;
debt obligations of eligible corporations having certain terms and conditions including:
it does not prevent the corporation from incurring other debt; and
it is not secured in any manner; or
it is secured solely by a floating charge on assets of the corporation and is subordinate to other debt other than other small business securities or shareholder loans;
other than debt obligations that exceed certain specified rates of return; and
certain options or rights described in Regulation 5100(2)(c) and (d).
On the other hand, small business securities of a person do not include any shares, debt obligations, options or rights if immediately after they are acquired
the person then holds shares, debt obligations, options or rights of the corporation or any associated corporation having a total cost amount in excess of $10,000,000; and
the total assets of the corporation and all associated corporations exceeds $35,000,000 ($50,000,000 as proposed in February 1992 Ways and Means Motion).
A number of other obligations and interests are included in the definition of a small business security in accordance with paragraphs 5100(2)(g) and (h) of the Regulation. However, these do not relate to your query and are not discussed in this reply.
With respect to your example, it would appear that if the investors are not designated shareholders, and the debt obligations are small business securities the arrangement should comply with the basic requirements described above. However, these comments are based on our understanding of the law as it applies in general and may or may not apply to the circumstances of a particular case. They do not form an advance income tax ruling and they are not binding on the Department.
Yours truly,
for Director
Financial Industries Division
Rulings Directorate
Policy and Legislation Branch
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