26 July 1995 External T.I. 9514695 - ACTIVE BUSINESS ASSETS - SECURITY FOR LOAN

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 marketable securities held by a corporation as security for a line of credit constitute an active business asset.

Position TAKEN:

Question of fact.

Reasons FOR POSITION TAKEN:

Where a financing arrangement that is fundamental to the business operations requires certain security to be maintained and it is reasonable to conclude from the facts that the security is employed and at risk in the business, the security may be considered to be used in the business. However, if there is no real expectation that the security will be resorted to, one could conclude that the security was not used in the business.

									5-951469
XXXXXXXXXX							C. Chouinard

Attention: XXXXXXXXXX

July 26, 1995

Dear Sir:

Re: Active Business Assets - Marketable Security

We are writing in response to your memorandum of May 30, 1995, wherein you inquire whether a marketable security held by a corporation as security for a line of credit with a financial institution would be considered to be an asset used in an active business for purposes of the definition of "qualified small business corporation share" in subsection 110.6(1) of the Income Tax Act (the "Act").

Our Comments

Written confirmation of the tax implications inherent in particular transactions are given by this Directorate only where the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R2. Where the particular transactions are completed, the enquiry should be addressed to the relevant Tax Services Office. Therefore, while we are unable to provide an opinion in respect of the situation outlined in your memorandum, we are prepared to offer the following comments.

Our general views as to when cash or near cash property held by a corporation will be considered to be used in the course of an active business are as follows:

1.It is a question of fact, to be determined after a review of all the relevant circumstances, whether certain assets are used in a business. The relevant circumstances include the actual use to which the asset was put in the course of the business, the nature of the business involved and practice in the particular industry.

2.Cash or near cash property is considered to be used principally in the business if its withdrawal would destabilize the business. The Supreme Court of Canada in the Ensite case (86 DTC 6521) considered the issue of whether property was used or held in the course of carrying on business and held that the proper test is whether the property is employed and risked in the business. A business purpose for the use of the property is not enough. The threshold of the test is met when the withdrawal of the property would have a decidedly destabilizing effect on the corporate operations themselves. The test is not whether the taxpayer was forced to use the property to do business; the test is whether the property was used to fulfil a requirement which had to be met in order to do business.

3.Cash which is temporarily surplus to the needs of the business and is invested in short-term income producing investments could be considered to be used in the business.

4.Cash balances which accumulate and are then depleted in accordance with the annual seasonal fluctuations of an ongoing business will generally be considered to be used in the business but a permanent balance in excess of the company's reasonable working capital needs will generally not be considered to be so used.

5.The accumulation of funds in anticipation of the replacement or purchase of capital assets or the repayment of a long-term debt will not generally in itself qualify the funds as being used in the business.

6.Cash or near cash property is considered to be used principally in the business if its retention fulfils a requirement which had to be met in order to do business, such as certificates of deposits required to be maintained by a supplier.

7.The Department recognizes that prudent financial management requires businesses to maintain current assets (including inventories and accounts receivables, as well as cash and near cash properties) in excess of current liabilities and will consider this requirement in assessing whether cash or near cash assets are used principally in a business. In the Department's view, cash and near cash assets held to offset the non-current portion of long term liabilities will not generally be considered to be used in the business.

Where a financing arrangement that is fundamental to the business operations requires certain security to be maintained and it is reasonable to conclude from the facts that the security is employed and at risk in the business, the security may be considered to be used in the business. In order to draw this conclusion in a factual situation, there would have to be a financial relationship of dependence of some substance between the security and the business. If there is no real expectation that the security will be resorted to, one could conclude that the security was not used in the business. In our view, the employment of marketable securities merely as collateral is not generally sufficient to enable it to be considered to be used in a business.

We trust that these comments will be of assistance.

Yours truly,

R. Albert
for Director
Business and General Division
Income Tax Rulings and Interpretations Directorate
Policy and Legislation Branch