23 July 1980 Income Tax Severed Letter

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.

July 23, 1980

ST. CATHERINES DISTRICT OFFICE

HEAD OFFICE J.R. Gold 593-6937

E. Steinbachs, Audit Division

This is in reply to your memorandum dated June 9, 1980 concerning the tax implications of

a) the lease cancellatian payment of XXX made in 1978 by XXX to XXX, and

b) transactions related thereto.

In point 4 of your memorandum you set out XXX position that

a) it did not acquire the buildings pursuant to the lease cancellation agreement of June 12, 1978 because the said buildings were already its property; and

b) it only lacked the "right of occupation" of the property (which is, we presume, what XXX claims it paid for).

We reconsidered the problem and, provided the buildings are immovable (as you indicated in our recent telephone conversation), we agree there may be some merit to this argument. However, our interpretation of the tax consequences of the transaction differ substantially from that of the taxpayer.

In computing a taxpayer's income for a taxation year from a business or property, paragraph 20(1)(z) of the Act allows as a deduction an amount paid by the taxpayer to a person in an arms-length transaction for the cancellation of a lease of property of the taxpayer leased by him to that person.

In our view the best position for the Department to take in the attendant circumstances (we have assumed that XXXX was already the legal and beneficial owner of the buildings immediately before the said leased cancellation agreement was entered into), is that XXX payment of XXX was for the right of occupation to both the land and the buildings and that only the portion of such payment attributable to the right of occupation of the land would be allowable under paragraph 20(1)(z) of the Act as the building was not an asset leased by the taxpayer. It would therefore be necessary to obtain an apportionment of such payment into its constituent components and our suggestion is that such apportionment be based on the relative values of the land and buildings.

If the portion of the payment attributable to occupancy of the building is in respect of a business carried on by XXX such portion would qualify as an eligible capital expenditure under paragraph 14(5)(b) of the Act. If not in respect of a business, it would not, in our view, be deductible at all.

The lease indenture of XXX states that the buildings were to become the property of the lessor at the end of the demised term or earlier if the term was forfeited for breach of covenants or otherwise. We received an informal opinion from Taxation Services to the effect that in normal circumstances and notwithstanding this clause in the lease indenture, ownership of the buildings would rest with the lessor at the time such buildings became affixed to the land.

Notwithstanding these comments, we think that the alternative approach discussed in our previous memo would be applicable if it should be decided, presumably in court, that the payment was in part for the building.

In summary we feel that both approaches to the basic problem at hand support the same course of assessing action and should be considered as the matter proceeds.

As for the purchase by XXX equipment, chattels, and good will, our expectation is that theses values are reasonable. In our recent telephone conversation, we adduced that it is it the xxx very favourable location which is almost exclusively responsible for XXX highly satisfactory earnings performance in recent years. If so, our view is that little if any portion of the amounts paid by XXX can be attributed to goodwill.

On the other side of the coin, it is our view that the amount received by XXX is in respect of XXX leasehold interest in the property. Regulation 1102(5) allowed XXXX to include certain of its leasehold costs in Class 3 or 6 and an allocation of the proceeds of disposition of its leasehold interest would therefore be necessary to arrive at the proper portion of such proceeds creditable to each class of assets. To the extent that the proceeds attributable to each of Class 3, 6, or 13 assets exceed the ACB of the leasehold interest in such class, a capital gain will result.

From our analysis of the capital cost schedule attached to XXX 1979 tax return, it would appear that XXXX has incorrectly set up certain leasehold costs in Class 1 instead of Class 13. The mis-classified property should be transferred under subsection 13(6) of the Act so as to facilitate proper tax treatment, with respect to the proceeds of disposition of the portion of XXX leasehold interest attributable to Class 13 assets.

ORIGINAL SIGNED J. DAMAN

Chief Finance, Insurance, & Leasing Section Specialty Corporations Rulings Division Corporate Rulings Directorate Legislation Branch