2001 Ruling 2000-0046523 - Split-up butterfly

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: This is a split-up butterfly of a corporation (Amalco) that was formed by the amalgamation of two predecessor companies (Jco/XXXXXXXXXX and Kco/XXXXXXXXXX .). Jco and Kco carry on XXXXXXXXXX businesses that earn XXXXXXXXXX income and that are specified investment corporations. Mr. A and Mr. B each control 50% of the shares of Jco and Kco, and subsequently, 50% of the shares of Amalco. The purpose of the ruling is to divide the assets of the two companies so that Mr. A and Mr. B can go their separate ways. The major issue is whether Jco and Kco are related to Amalco and can take advantage of the 55(3.1)(a)(i) exception.

Position: The 55(3.1)(a)(i) exception applies and the split-up qualifies for the 55(3)(b) butterfly exception.

Reasons: Jco and Kco are each related to Amalco because they are controlled by the same group of persons acting in concert in all important decisions regarding the affairs of Jco and Kco.

XXXXXXXXXX 2000-004652

XXXXXXXXXX, 2001

Dear Sirs:

Re: XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
Advance Income Tax Ruling

We are writing in response to your letter of XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-referenced taxpayers. We also acknowledge receipt of your facsimiles as well as the information provided in various telephone conversations.

Throughout this letter, the corporate and individual taxpayers, and other related organizations will be referred to as follows:

XXXXXXXXXX Jco

XXXXXXXXXX Kco

XXXXXXXXXX Mr. A

XXXXXXXXXX Mr. B

XXXXXXXXXX CLP

The Tax Services Office of Jco, Mr. A and Mr. B is XXXXXXXXXX . The Tax Services Office of Kco is XXXXXXXXXX. The personal tax returns of Mr. A and Mr. B as well as the corporate tax returns of Jco and Kco are filed at the XXXXXXXXXX Taxation Centre. All the individual and corporate taxpayers are resident in Canada for the purposes of the Act.

To the best of your knowledge, and that of any of the taxpayers, none of the issues involved in this ruling request is:

(i) involved in an earlier return of any of the taxpayers or a related person;

(ii) being considered by a tax services office or taxation centre in connection with a previously filed tax return of any of the taxpayers or a related person;

(iii) under objection by any of the taxpayers or a related person;

(iv) before the courts; or

(v) the subject of a ruling previously issued by the Income Tax Rulings Directorate.

DEFINITIONS

In this letter, unless otherwise expressly stated, the following terms have the meanings specified:

(a) "Act" means the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.), c.1, as amended to the date hereof;

(b) "adjusted cost base" ("ACB") has the meaning assigned to that term by section 54 of the Act;

(c) "agreed amount" in respect of a property means the amount that the transferor and the transferee of the property have agreed upon in an election under subsection 85(1) of the Act;

(d) "BCA" means the Canada Business Corporations Act and, where applicable, its predecessor statutes;

(e) "Canadian-controlled private corporation" ("CCPC") has the meaning assigned to that term by subsection 125(7) of the Act;

(f) "capital dividend account" ("CDA") has the meaning assigned to that term by subsection 89(1) of the Act;

(g) "capital property" has the meaning assigned to that term by section 54 of the Act;

(h) "CICA" means the Canadian Institute of Chartered Accountants;

(i) "cost amount" has the meaning assigned to that term by subsection 248(1) of the Act;

(j) "depreciable property" has the meaning assigned to that term by subsection 13(21) of the Act;

(k) "distribution" has the meaning assigned to that term by subsection 55(1) of the Act;

(l) "eligible property" has the meaning assigned to that term by subsection 85(1.1) of the Act;

(m) "forgiven amount" has the meaning assigned to that term by subsection 80(1) and 80.01(1) of the Act;

(n) "paid-up capital" ("PUC") has the meaning assigned to that term by subsection 89(1) of the Act;

(o) "principal amount" has the meaning assigned to that term by subsection 248(1) of the Act;

(p) "refundable dividend tax on hand" ("RDTOH") has the meaning assigned to that term by subsection 129(3) of the Act;

(q) "series of transactions or events" includes the transactions or events referred to in subsection 248(10) of the Act;

(r) "significant influence" is defined in paragraph 3050 of the CICA handbook. A corporation is also considered to have significant influence over a second corporation if the first corporation has significant influence over a third corporation that has significant influence over the second corporation;

(s) "specified financial institution" ("SFI") has the meaning assigned to that term by subsection 248(1) of the Act;

(t) "specified investment business" has the meaning assigned to that term by subsection 125(7) of the Act;

(u) "stated capital" and "stated capital account" have the meaning assigned to those terms by section 24 of the BCA;

(v) "substantial interest" has the meaning assigned to that term by subsection 191(2) of the Act;

(w) "taxable Canadian corporation" ("TCC") has the meaning assigned to that term by subsection 89(1) of the Act; and

(x) "taxable dividend" has the meaning assigned to that term by subsection 89(1) of the Act.

Our understanding of the facts, proposed transactions and purpose of the proposed transactions is as follows:

FACTS

The Distributing Corporations

1. Jco is a taxable Canadian corporation and a Canadian-controlled private corporation incorporated on XXXXXXXXXX under the provisions of the BCA. Jco carries on a XXXXXXXXXX business. Jco's taxation year end is XXXXXXXXXX.

Jco's issued and outstanding share capital consists of XXXXXXXXXX Class A Common voting shares ("Jco Common Shares"). The shareholders and their respective holdings of Jco are as follows:

Name of Shareholder Number of Shares

Mr. A XXXXXXXXXX Jco Common Shares

Mr. B XXXXXXXXXX Jco Common Shares

The shares of Jco were received by each of Mr. A and Mr. B upon initial subscription for cash on the date Jco was incorporated. All of the issued and outstanding shares of Jco are capital property in the hands of each of the shareholders. The aggregate paid-up capital of the XXXXXXXXXX Jco Common Shares is $XXXXXXXXXX.

2. Jco is earning XXXXXXXXXX income and did not employ more than 5 full-time employees throughout any of its taxation years since the date of its incorporation. Jco is carrying on a specified investment business.

3. Jco currently has a capital dividend account balance of nil and does not have, and will not have at any time before the proposed transactions described below are carried out, any unutilized losses or deductions for tax purposes. It is not anticipated that Jco will have any RDTOH immediately prior to the beginning of the proposed transactions.

4. Kco is a taxable Canadian corporation and a Canadian-controlled private corporation incorporated on XXXXXXXXXX under the provisions of the BCA. Kco carries on a XXXXXXXXXX business. Kco's taxation year end is XXXXXXXXXX.

Kco's issued and outstanding share capital consists of XXXXXXXXXX Common voting shares ("Kco Common Shares"). The shareholders and their respective holdings of Kco are as follows:

Name of Shareholder Number of Shares

Mr. A XXXXXXXXXX Kco Common Shares

Mr. B XXXXXXXXXX Kco Common Shares

The shares of Kco were received by each of Mr. A and Mr. B upon initial subscription for cash on the date Kco was incorporated. All of the issued and outstanding shares of Kco are capital property in the hands of each of the shareholders. The aggregate paid-up capital of the XXXXXXXXXX Kco Common Shares is $XXXXXXXXXX.

5. Kco is earning XXXXXXXXXX income and did not employ more than 5 full-time employees throughout any of its taxation years since the date of its incorporation. Kco is carrying on a specified investment business.

6. Kco currently has a capital dividend account balance of nil and does not have, and will not have at any time before the proposed transactions described below are carried out, any unutilized losses or deductions for tax purposes. It is not anticipated that Kco will have any RDTOH immediately prior to the beginning of the proposed transactions.

7. The land and buildings owned by both Jco and Kco are capital property.

8. Mr. A and Mr. B are XXXXXXXXXX. Mr. A and Mr. B have always acted jointly and in concert as shareholders in respect of all important decisions regarding Jco and Kco. In particular, all decisions regarding dividends to be paid by Jco and Kco, financing or refinancing of their assets, XXXXXXXXXX , and elections of the directors of Jco and Kco were made in concert between Mr. A and Mr. B. The directors of both Jco and Kco were Mr. A and Mr. B at all times since their incorporation. Mr. A and Mr. B remain equal partners in other businesses in which they have common control.

Furthermore, Jco and Kco have always filed their respective corporate tax returns on the basis that they are related to each other and, in particular, have filed T2 Schedule 36 - Agreement Among Related Corporations - Part I.3 Tax.

PROPOSED TRANSACTIONS

Amalgamation of Jco and Kco

9. Jco and Kco will amalgamate under the provisions of the BCA to form a new corporation ("Amalco"). The only consideration Mr. A and Mr. B will receive on the amalgamation will be shares of Amalco as follows:

Name of Shareholder Number and Class of Shares

Mr. A XXXXXXXXXX Amalco Common shares

Mr. B XXXXXXXXXX Amalco Common shares

The Amalco Common shares will be fully voting and participating shares. All of the issued and outstanding shares of Amalco will be capital property in the hands of each of the shareholders.

The Transferee Corporations

10. Mr. A will incorporate a new corporation ("HoldcoA") under the provisions of the BCA. HoldcoA will be a taxable Canadian corporation and a Canadian-controlled private corporation. The authorized share capital of HoldcoA will consist of Common shares ("HoldcoA Common Shares") and Preferred shares ("HoldcoA Preferred Shares").

11. The HoldcoA Preferred Shares will have the following attributes:

(a) each HoldcoA Preferred Share will be redeemable, subject to applicable law, at any time at the option of the issuer for an amount equal to $XXXXXXXXXX per share (the "HoldcoA Redemption Amount");

(b) each HoldcoA Preferred Share will be retractable, subject to applicable law, at any time at the option of the holder for an amount equal to the HoldcoA Redemption Amount;

(c) the holder of each HoldcoA Preferred Share will be entitled to a non-cumulative dividend of XXXXXXXXXX% per month calculated on the HoldcoA Redemption Amount. No dividend can be declared on any other class of shares of the issuer if the resulting realizable value of the net assets of the issuer after payment of such dividend would be less than the aggregate HoldcoA Redemption Amount of all of the HoldcoA Preferred Shares then outstanding;

(d) the holder of each HoldcoA Preferred Share will be entitled, upon the liquidation, dissolution or winding-up of the issuer, to a payment, in priority to all other classes of shares of the issuer, of an amount equal to the HoldcoA Redemption Amount to the extent of the amount or value of property available under applicable law for payment to shareholders upon dissolution, but will be entitled to no more than the amount of that payment; and

(e) the holder of each HoldcoA Preferred Share will be entitled to vote at meetings of shareholders of the issuer on the basis of one vote per share.

12. Mr. B will incorporate a new corporation ("HoldcoB") under the provisions of the BCA. HoldcoB will be a taxable Canadian corporation and a Canadian-controlled private corporation. The authorized share capital of HoldcoB will consist of Common shares ("HoldcoB Common Shares") and Preferred shares ("HoldcoB Preferred Shares").

13. The HoldcoB Preferred Shares will have the following attributes:

(a) each HoldcoB Preferred Share will be redeemable, subject to applicable law, at any time at the option of the issuer for an amount equal to $XXXXXXXXXX per share (the "HoldcoB Redemption Amount");

(b) each HoldcoB Preferred Share will be retractable, subject to applicable law, at any time at the option of the holder for an amount equal to the HoldcoB Redemption Amount;

(c) the holder of each HoldcoB Preferred Share will be entitled to a non-cumulative dividend of XXXXXXXXXX% per month calculated on the HoldcoB Redemption Amount. No dividend can be declared on any other class of shares of the issuer if the resulting realizable value of the net assets of the issuer after payment of such dividend would be less than the aggregate HoldcoB Redemption Amount of all of the HoldcoB Preferred Shares then outstanding;

(d) the holder of each HoldcoB Preferred Share will be entitled, upon the liquidation, dissolution or winding-up of the issuer, to a payment, in priority to all other classes of shares of the issuer, of an amount equal to the HoldcoB Redemption Amount to the extent of the amount or value of property available under applicable law for payment to shareholders upon dissolution, but will be entitled to no more than the amount of that payment; and

(e) the holder of each HoldcoB Preferred Share will be entitled to vote at meetings of shareholders of the issuer on the basis of one vote per share.

Classification of Property

14. Immediately before the proposed transfer of property described in paragraph 20 below, the assets of Amalco will be classified into three types of property for the purposes of a distribution pursuant to paragraph 55(3)(b) of the Act, as follows:

(a) cash or near-cash property, comprising all of the current assets of Amalco, including cash and accounts receivable;

(b) business property, comprising all of the assets of Amalco, other than cash or near-cash property, any income from which would, for the purposes of the Act, be income from an active business carried on by Amalco (other than a specified investment business); and

(c) investment property, comprising all of the assets of Amalco, other than cash or near-cash property, any income from which would, for the purposes of the Act, be income from property or from a specified investment business.

For the purposes of this distribution, the investment by Amalco in CLP, which comprises a 50% interest as a limited partner in a limited partnership, the assets of which consist of an interest in a XXXXXXXXXX property and ancillary assets, will be categorized as investment property.

For greater certainty, any tax accounts, such as the balance of any non-capital losses, RDTOH or CDA of Amalco, will not be considered to be property for purposes of the proposed transactions described herein.

Allocation of Liabilities to Types of Property

15. In determining the net FMV of each property or type of property owned by Amalco immediately before the transfer of property described in paragraph 20 below, the liabilities of Amalco will be allocated to, and deducted in the calculation of the net FMV of, each property or type of property of Amalco as follows:

(a) mortgages that relate to a particular immovable property will be primarily allocated to the immovable property they are attached to. Any part of a given mortgage that exceeds the tax cost of the immovable property it is attached to will be allocated to other assets transferred to the Transferee that will receive such mortgage and immovable property. If the FMV of the immovable property is less than the tax cost, the mortgage allocated to the immovable property will not exceed its FMV;

(b) accounts payable and accrued liabilities, corporation taxes and shareholders' loans will be allocated to the investment assets since these liabilities pertain to the rental activities of Amalco.

For the purpose of calculating the net FMV of the property of Amalco, deferred income taxes, if any, will be ignored.

Transfer of Amalco Shares to HoldcoA and HoldcoB

16. Mr. A will transfer all of his XXXXXXXXXX Amalco Common shares to HoldcoA. As the sole consideration, HoldcoA will issue XXXXXXXXXX HoldcoA Common Shares to Mr. A.

17. In respect of the transfer described in paragraph 16 above, Mr. A and HoldcoA will elect, jointly and in prescribed form and within the time limits referred to in subsection 85(6) of the Act, to have the rules in subsection 85(1) of the Act apply to the transfer of the XXXXXXXXXX Amalco Common shares to HoldcoA. The agreed amount specified in the election will be equal to the ACB to Mr. A of the transferred shares immediately before the transfer. For greater certainty, the ACB of the transferred shares will not exceed the FMV of the shares.

The amount that will be added to the stated capital of the HoldcoA Common Shares as a result of the acquisition of the Amalco Common shares by HoldcoA will be equal to the PUC of the shares so transferred.

18. Mr. B will transfer all of his XXXXXXXXXX Amalco Common shares to HoldcoB. As the sole consideration, HoldcoB will issue XXXXXXXXXX HoldcoB Common Shares to Mr. B.

19. In respect of the transfer described in paragraph 18 above, Mr. B and HoldcoB will elect, jointly and in prescribed form and within the time limits referred to in subsection 85(6) of the Act, to have the rules in subsection 85(1) of the Act apply to the transfer of the XXXXXXXXXX Amalco Common shares to HoldcoB. The agreed amount specified in the election will be equal to the ACB to Mr. B of the transferred shares immediately before the transfer. For greater certainty, the ACB of the transferred shares will not exceed the FMV of the shares.

The amount that will be added to the stated capital of the HoldcoB Common Shares as a result of the acquisition of the Amalco Common shares by HoldcoB will be equal to the PUC of the shares so transferred.

Transfer of Amalco Property to HoldcoA and HoldcoB

20. Amalco will then transfer all of its property to HoldcoA and HoldcoB by transferring a portion of its cash or near cash property, business property, if any, and investment property such that the net FMV of each type of property so transferred to HoldcoA and HoldcoB (after allocating and deducting the liabilities of Amalco, in the manner described in paragraph 15 above) will be equal to that proportion of the net fair market value of all property of Amalco of that type determined immediately before such transfer that

(a) the aggregate fair market value, immediately before the transfer, of all of the shares of the capital stock of Amalco owned by HoldcoA or HoldcoB, as the case may be, at that time

is of

(b) the aggregate fair market value, immediately before the transfer, of all of the issued and outstanding shares of the capital stock of Amalco at that time.

As consideration for the property so transferred, HoldcoA and HoldcoB will each assume a portion of the liabilities of Amalco as described in paragraph 15 above, and HoldcoA and HoldcoB will issue to Amalco that number of HoldcoA Preferred Shares and HoldcoB Preferred Shares, respectively, such that the aggregate redemption and retraction amount and FMV of the HoldcoA Preferred Shares and HoldcoB Preferred Shares so issued will be equal to the net fair market value of the assets received by HoldcoA and HoldcoB, respectively, which is the amount by which the FMV of the property transferred to HoldcoA and HoldcoB exceeds the liabilities assumed by HoldcoA and HoldcoB, respectively.

For greater certainty, Amalco will transfer to HoldcoA and HoldcoB a portion of its interest in CLP, such that the net FMV of each portion so transferred will be equal to each transferee's respective share, as determined by the formula described in paragraph (a) and (b) herein, of the net fair market value of the partnership interest owned by Amalco immediately before such transfer.

21. In respect of the transfers described in paragraph 20 above, Amalco and HoldcoA and Amalco and HoldcoB will respectively elect, jointly and in prescribed form and within the time limits referred to in subsection 85(6) of the Act, to have the rules in subsection 85(1) of the Act apply to the transfer of each asset of Amalco that is an eligible property to HoldcoA and HoldcoB, respectively. The agreed amount specified in such elections in respect of each eligible property so transferred that has a FMV in excess of its cost amount to Amalco will be an amount that is not less than the least of:

(a) the amounts specified in subparagraphs 85(1)(d)(i), (ii) or (iii) of the Act in the case of eligible capital property, if any;

(b) the amounts specified in subparagraphs 85(1)(e)(i), (ii) or (iii) of the Act in the case of depreciable property of a prescribed class; and

(c) the amounts specified in subparagraphs 85(1)(c.1)(i) or (ii) of the Act in the case of capital property (other than depreciable property of a prescribed class).

In each case, the agreed amount will not exceed the FMV of the respective property, nor will it be less than the amount permitted under paragraph 85(1)(b) of the Act.

The liabilities assumed as consideration for a property transferred pursuant to subsection 85(1) of the Act will not exceed the agreed amount in respect of that property. To the extent that any mortgage liability secured by a transferred property exceeds the agreed amount in respect of that property, the excess mortgage liability will be assumed as consideration for the transfer of other assets. The liabilities allocated to a property other than a property transferred pursuant to subsection 85(1) of the Act will not exceed the FMV in respect of that property.

The subsection 85(1) elections referred to herein will exclude any cash, accounts receivable and prepaid expenses.

22. HoldcoA will add to its stated capital account in respect of the HoldcoA Preferred Shares issued to Amalco an amount equal to the FMV of the property transferred from Amalco to HoldcoA, less the liabilities of Amalco assumed by HoldcoA. Pursuant to subsection 85(2.1) of the Act, the PUC of the HoldcoA Preferred Shares will be reduced to the aggregate cost to HoldcoA, immediately after the transfer, of the property transferred less the FMV of the liabilities of Amalco assumed by HoldcoA therefor.

.

HoldcoB will add to its stated capital account in respect of the HoldcoB Preferred Shares issued to Amalco an amount equal to the FMV of the property transferred from Amalco to HoldcoB, less the liabilities of Amalco assumed by HoldcoB. Pursuant to subsection 85(2.1) of the Act, the PUC of the HoldcoB Preferred Shares will be reduced to the aggregate cost to HoldcoB, immediately after the transfer, of the property transferred less the FMV of the liabilities of Amalco assumed by HoldcoB therefor.

Redemption of HoldcoA Preferred Shares and HoldcoB Preferred Shares

23. Immediately after the transfer of property from Amalco to HoldcoA as described in paragraph 20 above, and before the end of that day, HoldcoA will redeem the HoldcoA Preferred Shares held by Amalco and will issue to Amalco a non-interest-bearing promissory note payable on demand (the "HoldcoA Note") having a principal amount and FMV equal to the aggregate redemption amount of the HoldcoA Preferred Shares. Amalco will accept the HoldcoA Note as full payment of the aggregate redemption amount of the HoldcoA Preferred Shares so redeemed.

Immediately after the transfer of property from Amalco to HoldcoB as described in paragraph 20 above, and before the end of that day, HoldcoB will redeem the HoldcoB Preferred Shares held by Amalco and will issue to Amalco a non-interest-bearing promissory note payable on demand (the "HoldcoB Note") having a principal amount and FMV equal to the aggregate redemption amount of the HoldcoB Preferred Shares. Amalco will accept the HoldcoB Note as full payment of the aggregate redemption amount of the HoldcoB Preferred Shares so redeemed.

Repurchase of the Amalco Common Shares

24. Immediately following the redemption of the HoldcoA Preferred Shares, and before the end of the day, Amalco will repurchase the XXXXXXXXXX Amalco Common shares held by HoldcoA and will issue to HoldcoA a non-interest-bearing promissory note payable on demand (the "Amalco Note #1") having a principal amount and FMV equal to the aggregate FMV of the repurchased shares. HoldcoA will accept the Amalco Note #1 as full payment of the aggregate FMV of the XXXXXXXXXX Amalco Common shares so repurchased.

Immediately following the redemption of the HoldcoB Preferred Shares, and before the end of the day, Amalco will repurchase the XXXXXXXXXX Amalco Common shares held by HoldcoB and will issue to HoldcoB a non-interest-bearing promissory note payable on demand (the "Amalco Note #2") having a principal amount and FMV equal to the aggregate FMV of the repurchased shares. HoldcoB will accept the Amalco Note #2 as full payment of the aggregate FMV of the XXXXXXXXXX Amalco Common shares so repurchased.

Cancellation of Promissory Notes

25. The HoldcoA Note will be set off against the Amalco Note #1 and the HoldcoB Note will be set off against the Amalco Note #2, and all of the notes will be cancelled.

Winding-up and Dissolution of Amalco

26. The shareholders of Amalco will, by special resolution, resolve to wind-up and dissolve Amalco. There will be no distribution of assets upon winding-up since there will be no property left in Amalco.

27. After completion of the proposed transactions, HoldcoA and HoldcoB will carry on business independently of each other.

ADDITIONAL INFORMATION

28. None of the taxpayers have any outstanding tax liabilities that could be affected by the proposed transactions.

29. The shares of Jco and Kco held by each of Mr. A and Mr. B were not acquired in contemplation of the proposed transactions set out in paragraphs 9 to 27 above.

30. Jco, Kco and Amalco do not own shares of any corporation over which they exercise significant influence within the meaning of section 3050 of the CICA Handbook.

31. None of the corporations referred to herein is, or will be, a specified financial institution.

32. None of the corporations referred to herein will be a corporation described in any of paragraphs (a) to (f) of the definition of "financial intermediary corporation" in subsection 191(1) of the Act.

33. Amalco, HoldcoA and HoldcoB will each have the financial capacity to honour, upon presentation for payment, the amount payable under the promissory note issued by it as part of the proposed transactions.

34. No assets have been or will be acquired or disposed of, and no liabilities have been or will be incurred, by Jco, Kco or Amalco in contemplation of and before the proposed transfer of property described in paragraph 20 above, except as described in this letter.

35. Jco, Kco and Amalco will not dispose of any of their assets as part of the proposed series of transactions, and will not dispose of any of their assets to an unrelated person or partnership subsequent to the proposed transactions, except as described in this letter.

36. Mr. A and Mr. B will not dispose of their shares of Jco, Kco, Amalco, HoldcoA or HoldcoB as part of the proposed series of transactions except as described in this letter.

37. None of the shares referred to herein, including the shares to be issued as described in the proposed transactions are, or will be, at any time during the implementation of the proposed transactions described herein:

(a) the subject of any undertaking or agreement that is referred to in subsection 112(2.2) of the Act as a "guarantee agreement";

(b) a share that is issued or acquired as part of a transaction, event or series of transactions or events of the type described in subsection 112(2.5) of the Act; or

(c) the subject of a dividend rental arrangement referred to in subsection 112(2.3) of the Act as that term is defined in subsection 248(1) of the Act.

PURPOSE OF THE PROPOSED TRANSACTIONS

38. Mr. A and Mr. B wish to carry on the businesses of Jco and Kco as separate businesses independent of each other. Mr. A and Mr. B have serious and fundamental disagreements on how the businesses of Jco and Kco should be carried on and can no longer work successfully together in respect of these businesses.

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and purpose of the proposed transactions, and provided that the proposed transactions are completed in the manner described above, our rulings are as follows:

A. Subject to the application of subsections 69(11) and 13(21.2) of the Act as they may apply to the transfers referred to herein, the provisions of subsection 85(1) of the Act will apply to:

(a) the transfer of the Amalco Common shares held by each of Mr. A and Mr. B to HoldcoA and HoldcoB, respectively, as described in paragraphs 16 to 19 above; and

(b) the transfer of each eligible property of Amalco that is the subject of an election under subsection 85(1) of the Act to HoldcoA and HoldcoB, as described in paragraphs 20 and 21 above;

such that the agreed amount in respect of each such transfer will be deemed to be the transferor's proceeds of disposition of the property and the transferee's cost thereof pursuant to paragraph 85(1)(a) of the Act. For greater certainty, paragraph 85(1)(e.2) of the Act will not apply to the transfers referred to herein.

For the purpose of the joint elections described in paragraph 21 above, the reference in subparagraph 85(1)(e)(i) of the Act to "the undepreciated capital cost to the taxpayer of all property of that class immediately before the disposition" shall be interpreted to mean that proportion of the undepreciated capital cost to the taxpayer of all property of that class that the FMV of the transferred asset immediately before the disposition is of the FMV of all property of that class immediately before the disposition.

B. As a result of the redemption by HoldcoA of the HoldcoA Preferred Shares and the redemption by HoldcoB of the HoldcoB Preferred Shares, as described in paragraph 23 above, and the repurchase by Amalco of the Amalco Common shares held by HoldcoA and HoldcoB, as the case may be, as described in paragraph 24 above:

(a) by virtue of paragraphs 84(3)(a) and 84(3)(b) of the Act:

(i) HoldcoA will be deemed to have paid, and Amalco will be deemed to have received, a taxable dividend equal to the amount by which the amount paid to redeem the HoldcoA Preferred Shares exceeds the PUC thereof, immediately before such redemption;

(ii) Amalco will be deemed to have paid, and HoldcoA will be deemed to have received, a taxable dividend equal to the amount by which the amount paid to repurchase the Amalco Common shares held by HoldcoA exceeds the PUC thereof, immediately before such repurchase.

(iii) HoldcoB will be deemed to have paid, and Amalco will be deemed to have received, a taxable dividend equal to the amount by which the amount paid to redeem the HoldcoB Preferred Shares exceeds the PUC thereof, immediately before such redemption; and

(iv) Amalco will be deemed to have paid, and HoldcoB will be deemed to have received, a taxable dividend equal to the amount by which the amount paid to repurchase the Amalco Common shares held by HoldcoB exceeds the PUC thereof, immediately before such repurchase;

(b) the dividends deemed to be received by Amalco, HoldcoA and HoldcoB as a result of the redemptions and repurchases referred to in Ruling B(a) above will be included in each corporation's income pursuant to paragraph 12(1)(j) of the Act, and will be deductible by each corporation in computing its taxable income pursuant to subsection 112(1) of the Act. For greater certainty, the provisions of subsections 112(2.1), 112(2.2), 112(2.3), and 112(2.4) of the Act will not apply to deny the application of the subsection 112(1) deduction in respect of such dividends;

(c) the dividends deemed to be received by Amalco, HoldcoA and HoldcoB as a result of the redemptions and repurchases referred to in Ruling B(a) above will be excluded from the proceeds of disposition of such shares by virtue of paragraph (j) of the definition of "proceeds of disposition" in section 54 of the Act, and any loss arising from the disposition of those shares will be reduced by the amount of such dividends pursuant to subsection 112(3) of the Act;

(d) by virtue of paragraph 191(2)(a) of the Act, each recipient of a deemed dividend will have a substantial interest in the payer of the deemed dividend immediately before the redemptions referred to in paragraphs 23 and 24 above. In particular:

(i) Amalco will have a substantial interest in HoldcoA immediately before the redemption of the HoldcoA Preferred Shares held by Amalco, and HoldcoA will have a substantial interest in Amalco immediately before the repurchase of the Amalco Common shares held by HoldcoA; and

(ii) Amalco will have a substantial interest in HoldcoB immediately before the redemption of the HoldcoB Preferred Shares held by Amalco, and HoldcoB will have a substantial interest in Amalco immediately before the repurchase of the Amalco Common shares held by HoldcoB.

Consequently, neither Amalco, HoldcoA nor HoldcoB will be subject to Part IV.1 tax under section 187.2 of the Act or to Part VI.1 tax under section 191.1 of the Act in respect of:

(iii) the dividends deemed to have been paid by HoldcoA to Amalco upon the redemption of the HoldcoA Preferred Shares since each such dividend will be an "excepted dividend" within the meaning of paragraph (b) of the definition of "excepted dividend" in section 187.1 of the Act where Amalco is the recipient of the particular dividends, and will be an "excluded dividend" within the meaning of paragraph (a) of the definition of "excluded dividend" in subsection 191(1) of the Act where HoldcoA is the payer of the particular dividends;

(iv) the dividends deemed to have been paid by Amalco to HoldcoA upon the repurchase of the Amalco Common shares since each such dividend will be an "excepted dividend" within the meaning of paragraph (b) of the definition of "excepted dividend" in section 187.1 of the Act where HoldcoA is the recipient of the particular dividends, and will be an "excluded dividend" within the meaning of paragraph (a) of the definition of "excluded dividend" in subsection 191(1) of the Act where Amalco is the payer of the particular dividends;

(v) the dividends deemed to have been paid by HoldcoB to Amalco upon the redemption of the HoldcoB Preferred Shares since each such dividend will be an "excepted dividend" within the meaning of paragraph (b) of the definition of "excepted dividend" in section 187.1 of the Act where Amalco is the recipient of the particular dividends, and will be an "excluded dividend" within the meaning of paragraph (a) of the definition of "excluded dividend" in subsection 191(1) of the Act where HoldcoB is the payer of the particular dividends; and

(vi) the dividends deemed to have been paid by Amalco to HoldcoB upon the repurchase of the Amalco Common shares since each such dividend will be an "excepted dividend" within the meaning of paragraph (b) of the definition of "excepted dividend" in section 187.1 of the Act where HoldcoB is the recipient of the particular dividends, and will be an "excluded dividend" within the meaning of paragraph (a) of the definition of "excluded dividend" in subsection 191(1) of the Act where Amalco is the payer of the particular dividends; and

(e) by virtue of paragraph 186(4)(a) of the Act, Amalco will be connected with each of HoldcoA and HoldcoB, and HoldcoA and HoldcoB will each be connected with Amalco. Provided that neither Amalco, HoldcoA nor HoldcoB is entitled to a dividend refund in respect of its taxation year in which it is deemed to pay the dividend referred to in Ruling B(a)(i) to (a)(iv) above, neither Amalco, HoldcoA nor HoldcoB will be subject to Part IV tax under subsection 186(1) of the Act in respect of such dividend.

C. Provided that, as part of the series of transactions or events that includes the proposed transactions described herein, there is not:

(a) a disposition of property in the circumstances described in subparagraph 55(3.1)(b)(i) of the Act;

(b) an acquisition of control in the circumstances described in subparagraph 55(3.1)(b)(ii) of the Act;

(c) an acquisition of property in the circumstances described in subparagraph 55(3.1)(b)(iii) of the Act; or

(d) an acquisition of property in the circumstances described in paragraphs 55(3.1)(c) or 55(3.1)(d) of the Act;

which has not been described herein, then by virtue of paragraph 55(3)(b) of the Act, subsection 55(2) of the Act will not apply to the taxable dividends referred to in Ruling B(a) above and, for greater certainty, subsection 55(3.1) of the Act will not apply to deny the exemption from subsection 55(2) provided by paragraph 55(3)(b) of the Act.

D. The settlement and cancellation of the HoldcoA Note, HoldcoB Note, Amalco Note #1 and Amalco Note #2, as described in paragraph 25 above, will not give rise to a "forgiven amount" within the meaning of subsections 80(1) and 80.01(1), and will not result in an income inclusion, in and by themselves.

E. The provisions of subsections 15(1), 56(2), 56(4) and 246(1) of the Act will not apply to the proposed transactions described herein, in and by themselves.

F. Subsection 245(2) of the Act will not be applied to the proposed transactions, in and by themselves, to re-determine the tax consequences confirmed in the rulings given.

The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R4 dated January 29, 2001 and are binding on the Canada Customs and Revenue Agency provided that the proposed transactions are completed by XXXXXXXXXX.

The above rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.

COMMENTS

1. Nothing in this ruling should be construed as implying that the Canada Customs and Revenue Agency has agreed to or reviewed:

(a) the determination of the fair market value or ACB of any particular asset or the paid-up capital of any shares referred to herein; or

(b) any tax consequences relating to the facts and proposed transactions described herein other than those specifically described in the rulings given above.

Yours truly,

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

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