8 June 2021 External T.I. 2020-0864051E5 - CEWS - Asset transfer rules

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.

Principal Issues: Where an eligible entity acquires assets comprising of an operating division from a non-arm's length corporation, are the remaining assets of the non-arm’s length corporation that were not used in operating the division required to be considered when ascertaining whether the acquired assets meet the all or substantially all requirement described in subparagraph 125.7(4.1)(b)(i) of the Act?

Position: Where the remaining assets were employed and risked in the non-arm's length corporation’s business such that their withdrawal would have a decidedly destabilizing effect on corporate operations, such assets must be considered when ascertaining whether the condition in subparagraph 125.7(4.1)(b)(i) is met.

Reasons: If a corporation is incorporated to earn income by doing business, there is a general presumption that profits arising from its activities are derived from a business.

XXXXXXXXXX
2020-086405
Bob Naufal

Attention: XXXXXXXXXX

June 8, 2021

Dear XXXXXXXXXX,

Re: Canada Emergency Wage Subsidy and Asset Sales

We are writing in response to your correspondence dated September 21, 2020 requesting a technical interpretation regarding the Canada Emergency Wage Subsidy (CEWS). More specifically, you have asked whether the asset transfer provisions under subsections 125.7(4.1) and (4.2) of the Income Tax Act (Act) would apply in a given situation.

Briefly, in the situation that you describe, an eligible entity (ACo) acquired certain assets from BCo, a non-arm’s length corporation. The assets acquired by ACo comprised of all machinery, infrastructure, contracts, goodwill, real property, and inventory relating to a division operated by BCo (the Division Assets). You also advise that BCo retained other property that include life insurance policies, a building, intercompany loans and investments in related parties (collectively referred to as Other Assets) that were not used to operate the Division. Moreover, you advise that after the transfer of the Division Assets, ACo continued operating the Division with the same customers and vendors and employing the former employees of BCo.

You have asked whether the Other Assets of BCo must be considered when ascertaining whether the Division Assets meet the all or substantially all requirement described in subparagraph 125.7(4.1)(b)(i) of the Act such that ACo and BCo are eligible to jointly elect under paragraph 125.7(4.1)(e) of the Act.

Our comments

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R11, Advance Income Tax Rulings and Technical Interpretations.

In general terms, special rules are available under subsection 125.7(4.2) of the Act that adjust the qualifying revenue of an eligible entity in respect of a qualifying period where the eligible entity acquired assets of a person or partnership during the qualifying period or at any time before that period, where the conditions described in subsection 125.7(4.1) of the Act are met. In this regard, where such conditions are met, the acquirer will include in calculating its qualifying revenue for its prior reference period or current reference period, as the case may be, the amount of the qualifying revenue of the seller for that period that is reasonably attributable to the acquired assets (the assigned revenue). In addition, the assigned revenue is to be subtracted from the qualifying revenue of the seller for its prior reference period or current reference period, as the case may be, for the qualifying period.

Subsection 125.7(4.1) of the Act provides that subsection 125.7(4.2) of the Act applies to an eligible entity in respect of a qualifying period if

(a) the eligible entity acquired assets (the “acquired assets”) of a person or partnership (the “seller”) during the qualifying period or at any time before that period;

(b) immediately prior to the acquisition, the fair market value of the acquired assets constituted:

(i) all or substantially all of the fair market value of the property of the seller used in the course of carrying on business; or

(ii) if the seller and the eligible entity deal with each other at arm’s length, all or substantially all of the property of the seller that can reasonably be regarded as being necessary for the eligible entity to be capable of carrying on a business of the seller, or part of a business of the seller, as a business;

(c) the acquired assets were used by the seller in the course of a business carried on by it in Canada;

(d) it is reasonable to conclude that none of the main purposes of the acquisition was to increase the amount of the wage subsidy; and

(e) the eligible entity elects in respect of the qualifying period and files the election in prescribed form and manner with the Minister or, if the seller is in existence during the qualifying period, the eligible entity and the seller jointly elect in respect of that period and so file with the Minister.

In any particular situation, it is always a question of fact as to whether or not a taxpayer is carrying on business. If a corporation is incorporated to earn income by doing business, there is a general presumption that profits arising from its activities are derived from a business.

In addition, the issue of whether property was used or held by a corporation in the course of carrying on a business was considered by the Supreme Court of Canada in Ensite Limited v. Her Majesty the Queen, [1986] 2 CTC 459, 86 DTC 6521. The court held that the holding or using of property must be linked to some definite obligation or liability of the business and that a business purpose test for the use of the property was not sufficient. The property had to be employed and risked in the business to fulfil a requirement which had to be met in order to do business. In this context, risk means more than a remote risk. If the withdrawal of the property would have a decidedly destabilizing effect on the corporate operations, the property would generally be considered to be used in the course of carrying on a business. The determination of whether a property was employed and risked in a business is a question of fact.

We consider the Court’s comments in Ensite applicable to the situation described in your request. Accordingly, it is our view that where the Other Assets were employed and risked in BCo’s business such that their withdrawal would have a decidedly destabilizing effect on BCo’s operations, such assets must be considered when ascertaining whether, immediately prior to the acquisition by ACo, the fair market value of the Division Assets constituted all or substantially all of the fair market value of the property of BCo used in the course of carrying on business under subparagraph 125.7(4.1)(b)(i).

We trust our comments will be of assistance.

Yours truly,

Bob Naufal
Manager
for Division Director
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch