23 June 1992 Income Tax Severed Letter - Capital gains exemption — dividend non-payment

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.

SUBJECT: CAPITAL GAINS EXEMPTION - DIVIDEND NON-PAYMENT SECTION: 110.6(8), 110.6(1)]

SUBSECTION 110.6(8)

The questions dealt with how the provision applies to a particular scenario.

SCENARIO

Year 1, CS subscribed for a nominal amount by MR.X Year 5, CS of MR.X fmv $1 million Year 6, PS subscribed for by MR.X Year 8, PS redeemed Year 9, CS of MR.X fmv $2 million, value attributed to non-payment of PS dividends is $200,000

• a) Does 110.6(8) apply if a $400,000 capital gain is triggered and a related capital gains deduction claimed?
• RESPONSE -- if we could answer his questions directly - NO because the underlying capital gain is $2 million and if we reduce the fmv of the CS by the amount of the dividends not paid the underlying capital gain is $1.8 million which is still in excess of the amount of the capital gain triggered and to which the deduction applies
• Based on letters in the research file, the Department considers that the capital gain first reported and to which the deduction applies must relate to the non-payment of dividends. Where large underlying capital gains are involved such as in scenario presented there should rarely be a problem unless the non payment of dividends is of comparable size.
• For example in this scenario the fmv related to the non payment of dividends could have been $1.6 million ($2 million - $400,000) before the capital gains deduction would have been effected here.
• b) No answer required as the answer to a is the provisions do not apply. This question asks if the fmv attributed to the non-payment of dividends it deducted from the capital gain deduction claimed will the provision not apply. This is not the correct way of applying the provision. We don't need to consider the non payment of dividends as they apply to the capital gains deduction first. We first apply them to determine the `true' capital gain and then we determine if this is less than the actual capital gain claimed. If so, then the provision applies.
• c) There is no requirement in the provision for arm's length or non- arm's length dealings. The provision would apply to both equally.
• d) The value of the CS at the time the PS shares are issued has no effect on the application of this provision. We look at the capital gain in the aggregate and no timing issues as to when the capital gain arose are involved.

The response is worded to as to have general application and so that there is no direct application to the queries asked.