1999 Ruling 9922383 - REDUCTION OF PAID-UP CAPITAL

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: Reduction of paid-up capital by a public corporation under subsections 84(4.1) and 84(2).

Position: The reduction in paid-up capital falls under the exemption in subsections 84(4.1) and 84(2) because the PUC reduction was not created by a conversion of pre-1972 capital surplus on hand. Furthermore, the corporation has discontinued and sold one of its businesses and reorganized its remaining business activities.

Reasons: On XXXXXXXXXX , the company consolidated its common share capital and reduced its PUC to nil in order to eliminate its accumulated deficit. The company then issued common shares as a public offering and to acquire two operating companies. Effectively, the PUC of the shares of the company begins with the issuance of common shares in XXXXXXXXXX , after the previous reduction in the PUC. As a result, none of the current repayment of PUC relates to pre-1972 capital surplus on hand. Furthermore, the corporation has ceased to carry on and sold all the assets relating to its manufacturing division, and reorganized its remaining business activities.

XXXXXXXXXX 992238

Attention: XXXXXXXXXX

XXXXXXXXXX , 1999

Dear Sirs:

Re: 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 taxpayer. We also acknowledge receipt of your facsimiles as well as the information provided in our various telephone conversations.

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

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

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

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

(iv) before the courts and there is no judgment that has been issued in which the time limit for appeal to a higher court has not expired; and

(v) the subject of a ruling previously issued by the Income Tax Rulings and Interpretations 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, and unless otherwise stated, every reference herein to a part, section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act;

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

(c) "BCA1" means the Company Act (XXXXXXXXXX) and, where applicable, its predecessor statutes;

(d) "BCA2" means the Business Corporations Act (XXXXXXXXXX) and, where applicable, its predecessor statutes;

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

(f) "public corporation" has the meaning assigned to that term by subsection 89(1) of the Act;

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

(h) "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

1. XXXXXXXXXX ("S Corp") is a taxable Canadian corporation and a public corporation whose shares trade on the XXXXXXXXXX Stock Exchange. The last fiscal year end of S Corp was XXXXXXXXXX.

2. S Corp was incorporated XXXXXXXXXX under the provisions of the BCA1 XXXXXXXXXX The company XXXXXXXXXX continued under the provisions of the BCA2 XXXXXXXXXX.

3. On XXXXXXXXXX consolidated its common share capital and reduced its PUC to nil in order to eliminate its accumulated deficit. S Corp then issued common shares as a public offering and to acquire two operating companies. Effectively, the PUC of the shares of S Corp begins with the issuance of common shares in XXXXXXXXXX, after the previous reduction in the PUC. As a result, none of the current repayment of PUC relates to pre-1972 capital surplus on hand.

4. S Corp currently operates two separate and distinct business divisions. XXXXXXXXXX ("Division O") is in the business XXXXXXXXXX The manufacturing division XXXXXXXXXX ("Division M"), XXXXXXXXXX.

5. Division M consists of assets used in the manufacturing of XXXXXXXXXX goodwill XXXXXXXXXX and all of the shares of a 100% owned Canadian subsidiary corporation XXXXXXXXXX ("SubCo").

6. SubCo owns an international sales company incorporated in XXXXXXXXXX called XXXXXXXXXX ("SalesCo") which sells Division M products internationally, and XXXXXXXXXX% of a United States company, called XXXXXXXXXX ("US Corp") which was incorporated to sell XXXXXXXXXX.

7. The head office of Division M is in XXXXXXXXXX, where all of the operations for Canadian manufacturing and sales take place. Division M has separate employees, employee compensation plans, stock option benefits, payroll, administration, and accounting systems from Division O. The chief operating officer of Division M is a senior vice-president of S Corp and operates autonomously from the Division O vice-presidents.

8. S Corp owns XXXXXXXXXX% of a Canadian company, called XXXXXXXXXX ("P Corp") that is involved in XXXXXXXXXX. This subsidiary's operations are completely separate from S Corp's other operations.

9. The authorized share capital of S Corp consists of an unlimited number of Class A voting common shares, an unlimited number of Class B non-voting common shares, an unlimited number of Class 1 preferred shares, and XXXXXXXXXX Class 1 Series A preferred shares.

10. The issued and outstanding share capital of S Corp consists of XXXXXXXXXX Class A voting common shares which have an aggregate PUC of $XXXXXXXXXX or $XXXXXXXXXX per share. No Class B non-voting common shares, Class 1 preferred shares, or Class 1 Series A preferred shares are issued and outstanding.

11. S Corp has agreed to sell all of the assets of Division M to a competitor ("Purchaser") effective XXXXXXXXXX. SalesCo and US Corp have also agreed to sell all of their assets effective XXXXXXXXXX. All employees of Division M will become employees of the Purchaser.

PROPOSED TRANSACTIONS

12. S Corp will amalgamate with SubCo to form a new corporation ("AmalCo") as part of the company's efforts to reorganize its business operations. After the amalgamation, AmalCo will carry on using the name of S Corp. Since all of Division M's international operations will be sold, there is no longer a need for SubCo, the Canadian holding company. Furthermore, since SalesCo will cease to exist after the sale, eliminating SubCo will simplify the distribution of any remaining assets of SalesCo directly to S Corp, without having to deal with an additional Canadian company.

13. After the amalgamation, all of Division M's assets, inventory and goodwill will be sold to Purchaser. The exact amount of the proceeds is yet to be determined. It is anticipated that the pre-tax income will exceed $XXXXXXXXXX.

14. The proceeds of the sale will be used by AmalCo to pay any taxes due on the sale, reduce its outstanding debt obligations, and fund Division O's 1999/2000 capital expenditures.

15. AmalCo will distribute the cash remaining after the payments set out in paragraph 14 by passing a special shareholders resolution to reduce the paid-up capital of the Class A voting common shares. The exact amount of the PUC reduction will depend on the net proceeds realized. S Corp estimates that it will return approximately $XXXXXXXXXX or $XXXXXXXXXX per share to its shareholders. Of this amount, S Corp estimates that the PUC reduction will be approximately $XXXXXXXXXX per share.

PURPOSE OF THE PROPOSED TRANSACTIONS

16. S Corp received an unsolicited offer for Division M's assets from an arm's length party and has agreed to sell effective XXXXXXXXXX. The offer represents a very reasonable return on the company's investment in the division. Since the shareholders of S Corp invested capital in a company that includes Division M and the company has sold an asset that is part of the company's capital base with potential significant future value, management feels that it is appropriate to return a portion of the cash from the sale of the division to the shareholders and reorganize S Corp. Therefore, after the division is sold, AmalCo will distribute a significant portion of the after-tax proceeds to its shareholders by reducing the PUC of its outstanding common shares. S Corp's focus, as it goes forward, will be on XXXXXXXXXX.

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. The amount received by a shareholder of AmalCo in respect of the reduction of the paid-up capital of the Class A voting common shares described in paragraph 15 above will, by virtue of subparagraph 53(2)(a)(ii), be deducted in calculating the adjusted cost base of the Class A voting common shares and, pursuant to subsection 84(2), no portion of such amount will be deemed to be a dividend.

B. Subsection 84(4.1) will not apply to deem any amount paid by AmalCo to its shareholders on the reduction of the paid-up capital of the Class A voting common shares, as described in paragraph 15 above, to be a dividend.

C. Subsection 84(2) will apply to deem any amount paid by AmalCo to a shareholder in excess of the reduction in the paid-up capital of the Class A voting common shares, as described in paragraph 15 above, to be a dividend.

D. Subsection 15(1) will not apply to include any amount distributed to a shareholder on a reduction of the paid-up capital of AmalCo as described in paragraph 15 above, or deemed to be a dividend pursuant to subsection 84(2), in computing the income of a shareholder of AmalCo for the year.

E. 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 70-6R3 dated December 30, 1996 and are binding on Revenue Canada 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 future amendments to the Act, whether currently proposed or not, which could have an effect on the rulings provided herein.

COMMENTS

1. Subsection 55(2) may apply to the dividend in Ruling C above, received by a corporation resident in Canada in respect of which the corporation is entitled to a deduction under subsection 112(1) or 138(6), unless none of the purposes of the dividend is to effect a significant reduction in the portion of the capital gain that, but for the dividend, would have been realized on a disposition at fair market value of a share of the capital stock of any corporation immediately before the dividend.

2. Nothing in this ruling should be construed as implying that Revenue Canada 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 International Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch

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