Section 110

The two equal partners (“PartnerCo1” and “PartnerCo2”) of “Partnership” subscribe for voting redeemable retractable preferred shares of a corporation (“ManagementCo”) which had been newly formed by them. ManagementCo hires employees to fulfill its new contract to manage the Partnership and grants the employees options to acquire non-voting common shares of ManagementCo (the “Option Shares”) with an exercise price equal to their current modest fair market value and specified vesting and forfeiture conditions. In general, vested options may be exercised on the occurrence of a specified exit event (e.g., IPO or sale of the Partnership assets), or after XX years of service (or earlier “not for cause” termination or death. The options may be physically exercised, or cash-surrendered for their in-the-money value, at the optionee’s election. The preferred share proceeds will then be used by ManagementCoto acquire shares of a newly-incorporated subsidiary (“ManagementSubCo”) which, in turn, will use those proceeds to acquire an interest in the Partnership. The optionees will have the right to sell Option Shares to PartnerCo1 and PartnerCo2 for an amount not exceeding their fair market value.

Ruling re s. 110(1)(d) deduction for 50% of s. 7(1)(a) or (b) benefit.

CRA first stated that Placer Dome, Chrysler and McAnulty “stand for the proposition that an arrangement to issue or sell shares need not be a detailed written contract to fall within the scope of section 7 or paragraph 110(1)(d), but nonetheless must create legally binding rights and enforceable obligations.”

Respecting options with FMV exercise prices granted by the corporate employer which expire on a pro-rata basis over a five-year period, and which are exercisable upon the corporation subsequently notifying of its decision on the number of options that each employee may exercise, the Directorate stated:

[A]n agreement to issue shares… would be considered to arise only at the time the notice is sent by the corporation to the employee and only in respect of the number of shares set out in the notice. Before that time, the employee had no enforceable right to acquire the shares and the corporation had no binding obligation to issue the shares. Consequently, the employee would not qualify for the paragraph 110(1)(d) deduction where the share price had increased from the date of the grant to the date of the notice.

A further situation discussed was where a trust is established by the employer to acquire and hold shares of the corporation for employees, but allocations among the employees are entirely at the discretion of the trustees – so that CRA would consider that there is no agreement to acquire the shares until such discretion is exercised.

A Canadian-controlled private corporation issues treasury shares to the employee holder of a stock option (with a fair market value exercise price) equal in value to the in-the-money value of the option. After finding that s. 7(1)(b) rather than s. 7(1)(a) applied to this disposition of the employee’s rights, CRA stated:

[S]ubparagraph 110(1)(d)(i) will not be satisfied as an employee does not “acquire the share under the agreement”, as required under subparagraph 110(1)(d)(i). As mentioned above, the employee does not exercise the employee’s right to acquire shares under the stock option; rather, the employee disposes of their right to acquire shares under the stock option.

In response to a question regarding an employer's reporting requirements where a deceased employee was deemed to have disposed of unexercised stock options under s. 7(1)(e), CRA commented:

[A]s a result of the amendment to subparagraph 110(1)(d)(i) that requires a taxpayer to acquire shares under the stock option agreement, a deduction pursuant to paragraph 110(1)(d) may not be available in circumstances where paragraph 7(1)(e) applies after March 4, 2010.

An employee stock option plan is amended by providing that each of the existing options will have an associated SAR added which entitles the holder of the SAR to surrender the stock option to which the SAR relates for a cash payment equal to the value of the option.

Where an employee has transferred employee stock options to a controlled corporation, the deduction under s. 110(1)(d) may not be available to the corporation if the employee dies before exercise given the requirement in s. 110(1)(d)(ii)(B) that the taxpayer (the corporation) had been dealing at arm's length with the grantor of the option immediately after the option was granted. This requirement cannot be met if the corporation did not exist at the time the option was granted.

Although a reduction in the exercise price for an employee stock option would not give rise to a disposition of the option, such reduction would result in the condition in s. 110(1)(d)(iii) not being satisfied.

(See also 21 October 1996 T.I. 5-963321.)

Where an annuitant transfers an employee stock option having an accrued gain to his RRSP with the RRSP then exercising and selling the shares, the annuitant is entitled to the 25% deduction under s. 110(1)(d) provided the conditions in that paragraph are met.

Where an employee surrenders her rights under a phantom stock plan and receives an option to acquire shares in the employer company with an exercise price equal to the difference between the fair market value of the shares at the time the option was granted and the value of the units under the phantom stock plan surrendered by her, the value of the surrendered units will be included in her income, but such amount will be considered to be paid by her for the right to acquire the shares under the stock option plan for purposes of ss.7(1) and 110(1)(d)(ii).

RC does not as a general rule express an opinion on the reasonableness of a method proposed to be used in arriving at the fair market value of a property at a particular point in time, and will become involved only after the fact if it considers the value assigned to the property to be unreasonable in the circumstances.

For the purposes of determining the fair market value of the share, RC will not permit the deduction of a discount to reflect savings resulting from the avoidance of brokerage fees or issuance costs that might have been incurred on a public offering.

Where a private corporation issues stock options to its employees, which are "in the money" at the time of issuance, and it subsequently becomes a public corporation, employees may exercise their options. Would a gift of the acquired shares allow the employee to benefit both from a s. 110(1)(d.1) and s. 110(1)(d.01) deduction?

After noting that “subparagraph 110(1)(d.01)(iii) provides that the gift must be made in the year and on or before the day that is 30 days after the day on which the taxpayer acquired the security” and that “A taxpayer who wishes to benefit from the deduction provided in paragraph 110(1)(d.1) must inter alia hold the securities … for a minimum period of two years,” CRA stated:

[A] taxpayer who is only eligible for the deduction under paragraph 110(1)(d.1) will not be eligible for the deduction listed in paragraph 110(1)(d.01) because it will be impossible for the taxpayer to satisfy both the requirement of subparagraph 110(1)(d.01)(iii) and that of subparagraph 110(1)(d.1)(ii).

Where there is a gift of the proceeds from a short sale of optioned shares on the same day as the option is exercised in a cashless exercise, the conditions in ss. 110(2.1) and 110(1)(d.01) will not be considered to have been satisfied.

Options are exercised and the shares donated to a charity within 30 days. After noting that a taxpayer who does not make the s. 7(1.31) identification is subject to s. 7(1.3), CRA stated:

In order to qualify for the deduction under paragraph 110(1)(d.01), the gift must be made in the year and on or before the day that is 30 days after the day on which the taxpayer acquired the security. However, under subsection 7(1.3) a taxpayer is deemed to have disposed of securities that are identical property in the order in which the taxpayer acquired them. … In addition, paragraphs 7(1.3)(a) and (b) include presumptions with respect to the timing of the acquisition of such securities. As well, pursuant to paragraph 7(1.3)(a), "a taxpayer holding both deferral and non-deferral securities is considered to dispose of the non-deferral securities first.” … Depending on the circumstances, the application of the presumptions in subsection 7(1.3) could result in the requirement of paragraph 110(1)(d.01) in respect of the acquisition of securities in the year of disposition not being satisfied.

A Canadian-controlled private corporation issues treasury shares to the employee holder of a stock option (with a fair market value exercise price) equal in value to the in-the-money value of the option . After finding that s. 7(1)(b) rather than s. 7(1)(a) applied to this disposition of the employee’s rights, CRA found that for this reason a deduction under s. 110(1)(d.1) would not be available.

Contrary to the earlier position in an 18 October 1999 TI (No. 991926), the Agency now is of the view "that paragraph 110(1)(d.1) of the Act could apply to the disposition of shares acquired under a securities option that was exchanged for a securities option issued by a Canadian-controlled private corporation and the exchange was subjected to the provisions of subsection 7(1.4) of the Act. Even though subsection 7(1.4) of the Act does not include a specific reference to paragraph 110(1)(d.1) of the Act, the disposition of a security acquired under an exchanged security option which results in an income inclusion under paragraph 7(1)(a) by virtue of subsection 7(1.1) would satisfy the condition in subparagraph 110(1)(d.1)(i) of the Act".

In response to a query as to whether the taxpayer is considered a member of the Canadian Forces and if the missions in which the taxpayer has participated qualify as either international operational missions or prescribed missions, CRA responded:

Under the Act, it is the responsibility of the Department of National Defence to identify international operational missions that have a risk premium of level 3 or higher. As for the missions covered for the purposes of subclause 110(1)(f)(v)(v)(A)(II), they are provided for in [Reg.] 7500 … . The Canada Revenue Agency therefore does not have the authority to make those determinations. Furthermore …, it would appear that the … operations in which the taxpayer participated are missions referred to for the purposes of subclause 110(1)(f)(v)(A)(A)(II).

… [T]he question of whether someone is a member of the Canadian Forces must be resolved in light of the relevant provisions of the National Defence Act. It provides that a member of the Canadian Forces is an officer or non-commissioned member who is a member of the Regular or Reserve Force.

Where an employee in receipt of a home relocation loan is transferred again and pays off the first loan, and receives another loan which will qualify as a home relocation loan, the deduction under s. 110(1)(j) will be available. Nothing in the legislation precludes back-to-back home relocation loans if an employee is indeed transferred and a new loan entered into after the previous one is extinguished.

An employee is entitled to a deduction for a reimbursement by the employer of interest cost on a loan or mortgage taken out from a related party to acquire a residence upon relocation, where the employer was involved in the initial granting of the loan, for example, negotiating, recommending it, guaranteeing it or agreeing to pay part of the interest.