31 July 1995 External T.I. 9518445 - 50731

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.

		951844
XXXXXXXXXX		D.A. Palamar

Attention: XXXXXXXXXX

July 31, 1995

Dear Sir:

Re: Subsection 55(3.1) of the Income Tax Act (the "Act")

This is in response to your letter of June 23, 1995 wherein you requested our views regarding the interpretation of the above-captioned provision.

You have used the following example to illustrate the matter in issue.

A widely held corporation's assets consist of 25% cash and 75% business property. The shareholders wish to divide the corporation into two corporations. This objective is achieved by having the shareholders transfer 50% of their shares to a new transferee corporation, followed by a butterfly reorganization in which 50% of the cash and business property of the distributing corporation is transferred to the transferee corporation. After this reorganization, the cash in the transferee corporation is distributed to its shareholders as a return of capital. The shareholders then use this cash to make an investment in another corporation.

Your Views

In your view paragraph 55(3.1)(c) would cause the butterfly reorganization to be offside. The acquisition of the shares of the third corporation with the cash that was acquired on the return of capital by the transferee corporation would put the butterfly offside, if more than 10% of the fair market value of the third corporation is attributable to the cash that was used to subscribe for those shares. On a technical basis it appears that the problem arises from the fact that the reference to property in clause 55(3.1)(c)(ii)(B) is not modified by the parenthetical expression "(other than money and indebtedness that is not convertible into other property)".

You are also of the view that the same problem may not exist in paragraph 55(3.1)(d) because clause (ii)(B) thereof refers to "property described in clause (A)", which, in your view, refers to property that is modified by the description in the preamble of subparagraph (d)(ii).

Our Views

We agree with your interpretation of both paragraphs 55(3.1)(c) and (d). In our view, this interpretation appears to be inconsistent with the policy underlying subsection 55(3.1). Accordingly, we will be forwarding a copy of this letter to the Department of Finance.

The foregoing comments are given in accordance with the practice referred to in paragraph 21 of IC 70-6R2 and are not binding on Revenue Canada.

Yours truly,
for Director
Reorganizations and Foreign Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch