Section 186

Subsection 186(1) - Tax on assessable dividends

See Also

Les Entreprises Michèle L'Heureux Inc. v. The Queen, 94 DTC 1693, [1995] 1 CTC 2850 (TCC)

Dussault TCJ. accepted the Minister's "successive calculation method" in solving the circularity issues arising where in the course of a butterfly reorganization the transferee and transferor corporations simultaneously received dividends (thereby simultaneously generating dividend refunds and corresponding Part IV tax liabilities) on the cancellation of cross shareholdings between the two corporations.

Administrative Policy

2014 Ruling 2014-0533601R3 - Spin-off butterfly - subsection 55(2)

matching of PUC of cross-shareholdings to match Part IV tax

A spin-off butterfly reorganization by DC entail a cross-redemption of shareholdings (being the "DC Butterfly Shares" and the "Spinco Redemption Shares") between it and "Spinco." Under the proposed transactions, DC will reduce the stated capital of the DC Butterfly Shares to an amount equaling that of the Spinco Redemption Shares before their redemption ("to ensure that each of Spinco's and DC's respective dividend refunds under subsection 129(1) and respective Part IV tax under paragraph 186(1)(a) (all in respect of the dividends arising on the redemption of the DC Butterfly Shares, and the dividends arising on the redemption of the Spinco Redemption Shares) will be approximately equal to each other, such that each of DC and Spinco will not have any net tax liabilities (i.e., as a result of each corporation's Part IV tax liabilities exceeding such corporation's dividend refund)."

See summary under s. 55(1) – distribution.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution spin-off by CCPC under Plan of Arrangement of two businesses/matching of PUC of cross-shareholdings to match Part IV tax/leased property as business property 978
Tax Topics - Income Tax Act - Section 84 - Subsection 84(1) stated capital distribution effected by set-off 77
Tax Topics - Income Tax Act - Section 86 - Subsection 86(1) new common shares distinct on basis of right to interim financials 97

2014 Ruling 2013-0513211R3 - Butterfly Transaction

split-up CCPC butterfly was structured to avoid Part IV circularity

In a butterfly reorganization for the split-up of DC into three TCs, the Part Iv tax circularity problem is addressed by having DC transfer its properties to respective new Subcos of each TC, so that no s. 186(1)(b) Part IV tax is generated on the redemption of the prefs received by DC as consideration. The Subcos then are wound-up into the TCs, and DC is wound-up under s. 88(2) into the TCs. with non-circular s. 186(1)(b) applying to the resulting s. 88(2)(b)(iii) deemed dividends. See summary under s. 55(1) – distribution.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution transfer to TC subco to avoid Part IV circularity/88(2) wind-up of DC/83(2.1) rep 470

30 June 2014 Internal T.I. 2013-0508411I7 F - Part IV Tax and the Dividend Refund

when to stop circular calculation for cross dividends arising after tuck under

As a result of a tuck under transaction, Investments and XX each held shares in the other. Investments, which had an RDTOH balance at year end, redeemed shares held by XX during the year, thereby giving rise to a deemed dividend; and XX also paid a dividend in that year to Investments. Each dividend resulted in a dividend refund and a Part IV tax liability. The RDTOH balance reported by Investments was incorrect. Moreover, it did not take into account the circular effect of the cross-dividends, so that it did not take this circularity into account in computing its dividend refunds and Part IV tax liability for the year. A reassessment of that year would now be beyond the normal reassessment period. The Directorate stated (TaxInterpretations translation):

The circular calculation is due to the fact that the dividend refund of a corporation has an effect on the Part IV tax payable by the other corporation whose Part IV tax payable affects the dividend refund of the first corporation. In general, the circular calculation of the dividend refund and Part IV tax liability of the affected corporations ceases when the dividend refund of the corporation having paid the smaller dividend is equal to 1/3 of the taxable dividend which it is deemed to have paid in the year.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 152 - Subsection 152(4) - Paragraph 152(4)(a) - Subparagraph 152(4)(a)(i) failure to circularly calculate Part IV tax and dividend refund is neglect given published TIs 268

2013 Ruling 2013-0502921R3 - Split-Up Butterfly - Farm

split-up b/f of farm CCPC with unresolved circularity issue

Butterfly

A standard split-up butterfly of D commences with DC paying a dividend (through issuing demand notes) to each of Son1, Son2 and Mother so as to entitle it to a refund of its RDTOH for that year and with DC designating such dividends as eligible dividends, and also paying capital dividends to them, with the notes and shareholder loans then being repaid in cash. The butterfly reorganization includes the cross-redemption of shares between the three TCs and DC through the issuance of notes, with the notes then being set-off.

Circularity comment

After giving relatively standard butterfly rulings and rulings that the s. 84(3) deemed dividends arising on the redemptions by the TCs and DC will be subject to Part IV tax to the extent described in s. 186(1)(b), CRA noted that this "could give rise to what is referred to as a "circular" calculation of RDTOH," and stated that "the district taxation office at which each of the corporations files its T2 income tax return will have to be consulted in order to determine which corporation will receive the dividend refund and which corporation will be subject to the Part IV tax liability under paragraph 186(1)(b)."

See more detailed summary under s. 55(1) – distribution.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution split-up b/f of CCPC with discontinued farm and unresolved circularity issue 609

2013 Ruling 2012-0443081R3 - Distribution of pre-72 Capital Surplus on Hand

circularity issue

(Amended only re one ruling in 2013-0512531R3)

Current situation

ACo, which is a Canadian-controlled private corporation (with an RDTOH balance) owned by cousins (an unrelated group), owns Class B shares of BCo (which were acquired after V-day) and Class F shares of BCo (which were held on V-day). BCo is a CCPC, holds loans receivable and has pre-72 CSHOH balances as a result of sales of capital properties which had been held on V-Day. ACo and BCo deal at arm's length. The shareholders of ACo wish "to arrange for the receipt of pre-72 CSOH in conjunction with the disposition of the assets giving rise to such pre-72 CSOH."

Proposed transactions
  1. The two family groups of shareholders of ACo will exchange (on a "dirty" s. 85 rollover basis) their Class A and B common shares of ACo (as well as Class D preferred shares) for (i) Class Z preferred shares of Aco having a redemption value equal to the portion of the exchanged shares' value which is attributable to the Class F shares of BCo shares held by Aco, (ii) Class Z.1 shares of Aco whose redemption value is equal to the adjusted cost base of the exchanged shares minus the redemption value of the Class Z shares, and (in the case of the exchanged Class A and B shares) (iii) new common shares (Class X or Y) of Aco.
  2. They will then transfer their Class Z preferred shares of ACo to Newco under s. 85(1) for Class A shares of Newco (in the case of former Class A or B common shareholders of Aco) and for Class 1 to 3 preferred shares of Newco (in the case of previous preferred shareholders of Aco); a similar pref-for-pref transfer occurs re Class D shares of ACo.
  3. ACo will transfer its shares of BCo to Newco for Class 4 preferred shares (in order "to transfer ACo's entitlement to pre-72 CSOH to Newco"), and will elect under s. 85(1) "to ensure that paragraph 88(2.2)(b) applies on the transfer"; PUC will allocated to the Class 4 preferred shares equal to the PUC of the ACo shares held by Newco "to ensure that the deemed dividends on the redemptions [in 4 below] will be equal;"
  4. There will be a cross-redemption of shares between ACo and Newco in consideration for promissory note issuances, giving rise to equal dividends (as a result of the PUC of the Class 4 preferred shares of Newco being established with this end in view), with the promissory notes then being set-off.
  5. BCo will be wound-up and its remaining assets (being cash in an amount not exceeding its pre-72 CSOH) will be distributed ratably to its shareholders, including ACo and Newco.
  6. Newco then will be wound-up, with each shareholder receiving its remaining asset, being cash.
  7. Newco will establish a fiscal year end immediately after 4 "to avoid the possibility of other transactions which could impact the RDTOH balance of Aco."
Rulings

Listed in summary under s. 88(2).

Comment

ACo is expected to have a balance in its RDTOH at its year-end, and the taxation year of Newco in which it redeems its preferred shares owned by ACo will...coincide with the taxation year of ACo in which it redeems the preferred shares owned by Newco. Consequently, this gives rise to what is referred to as a "circular" calculation of RDTOH. You have indicated that you do not wish to avoid this "circularity problem". Consequently...the district taxation office at which each of ACo and Newco files its T2 income tax return will have to be consulted in order to determine which corporation will receive the dividend refund and which corporation will be subject to the Part IV tax liability under paragraph 186(1)(b)... .

2013 Ruling 2012-0449611R3 - single-wing butterfly reorganization

Existing situation

DC, which is a CCPC beneficially owning rental real estate encumbered with mortgages (the "Buildings") and which carries on a specifed investment busines, has Holdco A and B as its (common) shareholders, who also hold shareholder advances and deal with each other at arm's length, and with Holdco B being the controlling shareholder of DC. In connection with the settlement of a lawsuit between Holdco A and its shareholders, and Holdco B and its shareholders, it was agreed that Holdco B would make a payment to the plaintiffs and that there would be a transfer of Buildings on a single-wing butterfly basis to Holdco B.

Proposed transactions
  1. DC will increase the stated capital of its common shares by the applicable multiple of its RDTOH at the end of the taxation year arising from Holdco A's acqusisition of conrol referred to in 3 below, with such increase not exceeding the safe income on hand attributable to the DC common shares of Holdco A and Holdco B at the safe-income determination time. Holdco A and Holdco B will make s. 55(5)(f) designations in respect of the resulting deemed dividend.
  2. DC will transfer a proportionate share of its two types of property (cash and near cash; and investment property, namely, the Buildings and related assets) on a net asset butterfly basis under s. 85(1) to a newly-incorporated subsidiary of Holdco B (Holdco B Sub) in consideration for the assumption of liabilities and for Holdco B Sub Special Shares (which will carry more than 10% and less than 50% of the votes for all Holdco B Sub shares), with Holdco B Sub thereby being connected with DC; the shareholder loans will be considered current liabilities for this purpose;
  3. DC will purchase for cancellation all of the DC common shares held by Holdco B in consideration for issuing a Note, which will be accepted as absolute payment; no s. 256(9) election will be made respecting the resulting acquisition of control of DC by Holdco A.
  4. Holdco B Sub will redeem all of the Holdco B Sub Special Shares held by DC in consideration for issuing a Note, which will be accepted as absolute payment.
  5. Holdco B Sub will be wound–up – and then dissolved.
  6. The two Notes will be set-off.
Purposes of transactions

58. The purpose of the PUC increase [in 1]… is to enable DC to receive a dividend refund equal to the amount of DC's RDTOH at the end of the year that will end immediately before the acquisition of control of DC by Holdco A….

60. The purpose for Holdco B incorporating Holdco B Sub…is to avoid circularity in the calculation of DC's RDTOH and Part IV tax, that would otherwise occur if the Distribution Property were transferred directly to Holdco B by DC.

61. The purpose for DC not filing a subsection 256(9) election [see 3]… is to ensure that the dividend refund that DC will obtain, arising on the PUC increase [in 1]… will occur in the taxation year of DC that will end immediately before the acquisition of control of DC by Holdco A….

Rulings

Standard butterfly rulings.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution single-wing b/f with acquisition of control of DC by its remaining shareholder (helpful re circularity issue) 566

93 C.R. - Q. 44

RC is prepared to consider requests for refunds of Part IV tax paid by a parent for a year in which it received a dividend from a subsidiary (that subsequently carried back a non-capital loss to eliminate the dividend refund giving rise to the Part IV tax) provided that the parent requests such refund in writing, its taxation year is not statute-barred and at the time of the request the parent has refundable dividend tax on hand in an amount equal to the Part IV tax payable in respect of the dividend received from the subsidiary.

4 March 1991 T.I. (Tax Window, No. 2, p. 15, ¶1183)

A private corporation is required to pay Part IV tax under s. 186(1)(b) irrespective whether the payor corporation actually applies for the dividend refund and whether the Minister in fact pays the dividend refund to the payor corporation.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 129 - Subsection 129(1) 22

IT-474R "Amalgamations of Canadian Corporations" under "Rules Respecting Shareholders, Option Holders and Creditors" under "Non-Resident Shareholders"

"A non-resident holder of shares of a predecessor corporation which constitute taxable Canadian property need not comply with the procedures set out in section 116 in respect of the deemed disposition of the old shares on an amalgamation to which subsection 87(4) is applicable".

Articles

Michael N. Kandev, Alan Shragie, "RDTOH on Butterfly", Canadian Tax Highlights, Volume 16, Number 11, November 2008, p. 2.

Use of sub of TC to avoid circularity (p.2)

CRA document 2007-0237361R3 suggests an approach that may permit an allocation of a share of the RDTOH to a departing shareholder in a single-winged butterfly.

The non-recognition of RDTOH as property represents a challenge on a single-winged butterfly. Assume that a distributing corporation (D Co) has three equal corporate shareholders, one of which, the transferee corporation (T Co), wants to leave the venture via a single-winged butterfly. T Co sets up a wholly owned subsidiary to receive its pro rata share of D Co's property and to avoid a circular computation of RDTOH. Upon the single0winged butterfly, T Co's shares in D Co are redeemed or repurchased, and T Co is deemed to receive a taxable dividend, triggering a refund of RDTOH to D Co and a corresponding part IV tax liability to T Co, but T Co cannot shelter its part IV tax liability with any of D Co's RDTOH refund.

Use of s. 84(1) dividend to avoid "transfer (p.2)

In the example given in the ruling, on the day before the butterfly transactions, D Co increased the PUC of its common shares held by its three corporate shareholders in order to move D Co's RDTOH balance on a proportionate basis to its shareholders. The resulting deemed dividend crystallized D Co's RDTOH into property, a receivable, part of which can be distributed by D Co to T Co. In proceeding by way of a PUC increase, there is no "transfer" and thus no "distribution" to which section 55 can apply….

Choice of one-day taxation year for DC (pp.2-3)

…The ruling states that the acquisition of control of D Co by the group composed of its remaining shareholders (subsection 256(9)) triggers a year-end between the PUC increase and the butterfly transactions. D Co chose a new year-end at the end of the day of the butterfly transactions, so that no material aggregate investment income was generated during that one-day taxation year in which the butterfly occurred, thus minimizing any possibility that RDTOH would be generated after the PUC increase.

Potter, "Part IV Tax Complications in Butterfly Transactions", 1992 Canadian Tax Journal, No. 4, p. 992.

Paragraph 186(1)(a)

Administrative Policy

26 November 2020 STEP Roundtable Q. 11, 2020-0839891C6 - Subsection 104(19)

Pt IV tax exemption no longer available because corporate beneficiary was no longer connected at December 31 effective time of s. 104(19) designation

A Canadian resident personal trust receives a dividend from ACo, and distributes the dividend to B Co (a beneficiary) to which A Co is connected – but they cease to be connected corporations by December 31 of that year. Does Part IV tax apply? CRA responded:

[A] taxable dividend designated in favour of a particular beneficiary pursuant to subsection 104(19) will be deemed to have been received by the beneficiary at the time that is the end of the particular taxation year of the trust in which the trust received the dividend … [given that] the designation under subsection 104(19) could only occur at the end of the taxation year of a trust, since … paragraphs 104(19)(a) and (d) require that the designation is made in the [trust] income tax return … [and] it is only at the end of its taxation year that a trust will know its income for the year… .

Accordingly … B Co. would be deemed to have received the taxable dividend on the shares of A Co. on December 31 … and …[a]t that date, A Co. and BCo. are not connected. Therefore, B Co. would be subject to Part IV tax … .

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(19) dividend subject to Pt IV tax because payer and corporate beneficiary no longer connected at December 31 effective date of all s. 104(19) designations 85
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(13) designated dividend included in individual’s terminal return which has a December 31 year end 129
Tax Topics - Income Tax Act - Section 249 - Subsection 249(1) - Paragraph 249(1)(c) individual has a calendar year, even in terminal year 149

30 April 2019 Internal T.I. 2018-0757591I7 F - Part IV tax and trust

a dividend received by a trust and immediately paid to a connected corporate beneficiary was taxed under Part IV if the connection ceased before the trust year end

A discretionary family trust ("Trust") receives a cash taxable dividend on June 20, 2017 on its non-voting common shares of Opco (whose voting shares are held by Mr. A) and immediately distributes that amount to Holdco (a family corporation controlled by Mr. A, and with a June 30 year end) in its capacity of beneficiary. Three days later, the control of Opco is acquired by a third party, resulting in (i) a deemed taxation year end for Opco (but with December 31 being retained as its year end) and (ii) it no longer being connected to Holdco. By virtue of a s. 104(19) designation by Trust in its return for its year ended December 31, 2017, the amount is deemed to be a taxable dividend received by Holdco.

Headquarters indicated that such dividend was subject to Part IV tax in the hands of Holdco because the time at which it was considered to have received the s. 104(19) dividend (the calendar year end of the Trust) was in the taxation year of Holdco (commencing on July 1, 2017) throughout which Opco was no longer connected to Holdco. In reaching this conclusion, it stated:

[T]he CRA's position is to consider that the amount designated to the beneficiary by a trust in accordance with subsection 104(19) is deemed to be received as a dividend by the beneficiary of the trust at the end of the taxation year of the trust in which the trust received the dividend. This position is based inter alia on the fact that the trust cannot make the designation under subsection 104(19) before the end of its taxation year. In addition, it is only at the end of its taxation year that a trust will be able to determine whether all the conditions set out in that provision are satisfied. ...

[T]he taxation year in which the amount received by Holdco from Trust will be deemed to be a taxable dividend for Holdco is the year ending on June 30, 2018. It is also in that year that Holdco may claim the dividend deduction in subsection 112(1). It is therefore in that taxation year that Holdco will be subject to Part IV tax on the dividend paid by Opco to Trust on June 20, 2017.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(19) s. 104(19)-designated dividend not received as dividend until trust year end 223

3 June 2016 External T.I. 2016-0647621E5 F - Dividend designation from a trust - timing

dividend distributed by a trust to a connected corporation can be subject to Part IV tax due to the delayed implied effective date of s. 104(19) designations

A dividend is received by a family trust from a Canadian-controlled private corporation with only operating assets (Opco) and immediately distributed to a corporate beneficiary (Holdco) that is connected at that time with Opco - but ceases to be connected by the end of that calendar year due to an in intervening sale of Opco by the trust. CRA considers that the trust will not enjoy the (s. 186(1)(a)) connected-corporation exemption from Part IV tax even if a timely s. 104(19) designation is made by the trust. The reason is that it considers the s. 104(19) designation to not be effective until the end of the year, at which time Holdco no longer is connected.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(19) designation not effective until end of year 230

28 April 2004 External T.I. 2004-0066231E5 F - Connected Corporations

connected corporation exemption applied at the time of receipt rather than declaration of the dividend

Two related corporations (Holdco A and B, with calendar years) held 51% and 49% of the single class of shares (common shares) of Opco (which had a June 30 year end). On June 30, Opco declared a dividend to its shareholders, on July 1, Holdco A disposed of its Opco shares to an arm's length party, and on November 30, the dividend was paid. Was Holdco A required to pay Pt. IV tax pursuant to s. 186(1)(a)? CRA responded:

Holdco A would be liable to pay Part IV tax pursuant to paragraph 186(1)(a) on the Dividend that it received on November 30 of the Particular Year. This is because, upon receipt of the Dividend, Opco was not connected to Holdco A. Again, it appears to us that the fact that Opco is connected with Holdco A under subsection 186(4) at some time in the particular year other than the time of receipt of the Dividend would be irrelevant for purposes of Part IV tax.

6 February 2004 External T.I. 2004-0057821E5 F - Connected Corporations

connected corporation status is tested at the time of dividend receipt

Opco, which was held as to 51% of its shares (being common shares) by Holdco A (with a calendar year) and 49% by Holdco B (which dealt at arm’s length with Holdco A). One day after Opco declared a dividend (on June 30) on its common shares, Holdco A disposed of all of its shares to an arm’s length third party. The declared dividend was not actually paid, and received by Holdco A and Holdco B, until November 30 of the same year. Is it at the time of receipt of the dividend that the recipient corporation must be connected with the payer in order to be exempted from tax under s. 186(1)(a) - or simply at any time in its taxation year? CRA responded:

[I]t is at the time the dividend is received by a particular corporation that it must be determined whether the payer corporation is connected with the particular corporation for purposes of Part IV tax.

… Holdco A should pay Part IV tax pursuant to paragraph 186(1)(a) on the dividend it received from Opco on November 30 … since at that time Opco was not connected with Holdco A. … [T[he fact that Opco was connected with Holdco A at any other time during Holdco A's taxation year would be irrelevant.

Paragraph 186(1)(b)

Administrative Policy

2021 Ruling 2021-0904311R3 F - Butterfly Reorganization

circularity avoided through intervening taxation year end of transferee corp

On a butterfly transaction, Pt. IV tax circularity issues are avoided by having a year end for the transferee corporation (Newco) occur between Newco’s purchase for cancellation of its preferred shares held by the distributing corporation (DC) in consideration for a demand note, and DC’s purchase for cancellation its shares held by TC for a demand note (so that TC is subject to Pt. IV tax on the second transaction).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution butterfly transaction for a farming corp (DC) of two brothers coupled with an immediate gift of shares of DC and TC to their respective sons under s. 73(4.1) 544
Tax Topics - Income Tax Act - Section 191 - Subsection 191(5) specified amount included in shares issued on butterfly distribution 200

2021 Ruling 2020-0852541R3 F - Split-up XXXXXXXXXX Butterfly

resolution of Part IV tax circularity issue on butterfly to be resolved by local TSO

In its closing comments on a proposed one-wing split-up butterfly in which a portion of the farm business of the “Transferor” was transferred to the new “Transferee” formed by one of the farming brothers, CRA indicated that the transactions may give rise to circular Part IV tax issues and that the Transferor and Transferee should consult their local TSO to determine which corporation should receive the dividend refund and which corporation would be subject to Part IV tax.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution one-wing split-up butterfly with a preliminary cash distribution of life insurance proceeds 263

2021 Ruling 2020-0863171R3 - Gross basis split-up Butterfly

request to TSO for short taxation year to avoid dividend circularity on split-up butterfly

CRA ruled on a butterfly split-up of a rental property company (which was considered to carry on an active business because it had more than five full-time employees) between transferee companies (TCs) formed by its two shareholders, being holding companies for the families of two brothers (one of them, deceased).

Except for preliminary transactions to transfer registered title to the properties to new nominees, the proposed transactions were essentially to commence with DC increasing the PUC of its common shares by the lesser of (a) the safe income on hand attributable to the common shares at that time and (b) the aggregate of (i) its pre-1972 CSOH and (ii) an amount sufficient to trigger a refund of its RDTOH balance at that time, if any. The stated principal purpose of this step was to increase the ACB of the DC common shares, so as to eliminate the capital gain that would otherwise arise as a result of s. 88(2)(b)(ii) deeming the pre-1972 CSOH amount to be proceeds of disposition rather than a deemed dividend on the winding-up of DC at the completion of the transactions.

The ruling letter also indicates that if there is any significant dividend refund on this step, DC likely will submit a request to the relevant TSO to have a change of taxation year end (i.e., to avoid dividend circularity issues).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution CRA rules on gross asset butterfly with preliminary safe income dividend to increase ACB to exceed pre-1972 CSOH 614
Tax Topics - Income Tax Act - Section 88 - Subsection 88(2) - Paragraph 88(2)(b) - Subparagraph 88(2)(b)(ii) butterfly with preliminary safe income dividend to increase ACB to pre-1972 CSOH, avoiding capital gain on wind-up 190

2020 Ruling 2018-0772291R3 F - Multi-wings split-up net asset butterfly 55(3)(b)

split-up butterfly that avoids Pt IV tax circularity by a subsequent wind-up of the distributing corporation

CRA ruled on a simple butterfly for the split-up of a CCPC distributing corporation (DC) with cash, and investment assets, between the respective newly-incorporated transferee corporations (the TCs) for three siblings and their respective family trusts. DC has ERDTOH and NERDTOH balances.

After the creation of cross-shareholdings between DC and the three TCs using the usual plumbing, and the redemption for notes of the prefs held by DC in each TC, the shares held by the TCs in DC are not redeemed, as this would result in Part IV tax circularity issues. Instead, the TCs close off their first taxation years and then, on the following day or so, the TC notes are distributed by DC to the respective TCs on a s. 88(2) winding up of DC.

DC is not to be dissolved until it has received and distributed, on a pro rata basis, the dividend refund.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution split-up butterfly of investment co (DC) between three siblings' transferees (TCs) with extinguishment of TC notes on DC wind-up 399
Tax Topics - Income Tax Act - Section 80 - Subsection 80(1) - Forgiven Amount no application of s. 80 where notes owing by corporation to its shareholders are distributed to them on its winding-up 173

2019 Ruling 2018-0758411R3 - Multi-wing split-up net asset butterfly

Pt. IV tax circularity avoided through winding-up dividend in subsequent year

A butterfly split-up of a DC holding rental property between two transferee corporations (the TCs) for two unrelated families, with undivided interests in the real estate being transferred to each TC in consideration for the assumption of liabilities (in such proportions as to ensure satisfaction of the pro rata distribution requirement) and for voting preferred shares (presumably with somewhat less than 50% of the votes of each TC), which were promptly redeemed for notes.

DC was then to be wound-up into its two shareholders (the TCs) and its sole assets at that time – the two redemption notes owing by the two TCs – distributed to that TC so that the note was extinguished. Apparently, in order to avoid circularity issues, the winding-up dividend (effected through such note distribution) was to occur in a subsequent calendar year (i.e., at the beginning of 2020?).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution butterfly split-up of rental property into co-ownership arrangement, completed by wind-up of DC into TCs and subsequent dividend refund distribution 571

2018 Ruling 2018-0749491R3 - 55(3)(a) Reorganization

circularity avoided through intervening TC year end
This is amended by 2018-0778931R3.

A DC which holds a rental property and an investment portfolio and is owned by Parent and his four children will spin off its investment portfolio in reliance on the s. 55(3)(a) exception to four TCs mostly owned by each of the four children.

Each TC will redeem the preferred shares issued by it to DC in connection with the spin-off, the first taxation year end of each TC will end on the following day so as to prevent circularity in the calculation of the refund of RDTOH and Part IV tax of the TCs and DC. Thereafter, DC will redeem its preferred shares held by the four TCs.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(3) - Paragraph 55(3)(a) - Subparagraph 55(3)(a)(ii) spin-off of investment portfolio (but not rental property) by DC to 4 children’s respective TCs which father controls with special voting shares 574
Tax Topics - Income Tax Act - Section 55 - Subsection 55(4) Parent reps that he will control the TCs for commercial reasons 288

11 October 2018 External T.I. 2018-0771831E5 - Part IV Circular Calculation on cross redemption

requirement for a circular calculation of Pt IV tax and RDTOH

In the context of a group of corporations undertaking a reorganization involving share redemptions between multiple corporations, with one or more of the corporations having an existing RDTOH balance, the correspondent indicated that “the impact of circular RDTOH calculations can make it virtually impossible to do a detailed RDTOH calculation for each specific corporation.”

CRA first confirmed its position in 2003-0030085 that a circular calculation was required, and then stated:

We note that when the Part IV tax and the dividend refund are determined by successive circular calculations, the amounts of the Part IV tax and of the dividend refund of each connected corporation increase proportionally with each calculation. We also note that, since a corporation’s dividend refund is applied against its Part IV tax payable, generally, one corporation’s net Part IV tax payable will equal the other’s net dividend refund.

In other words, even though computing a corporation’s Part IV tax and dividend refund by successive circular calculations inflate these amounts and that these calculations are tedious, they are not financially injurious to the connected corporations as the net amount of Part IV tax payable by one corporation (Part IV tax payable minus its dividend refund) will equal the net amount of the dividend refund (dividend refund minus Part IV tax payable) of the other.

2018 Ruling 2017-0683941R3 - Split-up transactions

year-end established in middle of cross-redemptions to avoid circularity

Mother along with an arm’s length business associate (“Investor”) wanted to use some of the assets of the family business corporation (“Amalco”) to engage in some sort of development project, whereas her daughter did not want any part of this. Accordingly, it was agreed that one of the two businesses would be spun off to the Daughter’s Newco under s. 55(3)(a). It was also contemplated that thereafter the business retained by Amalco would be sold by Amalco at fair market value to a recently formed development company (XCo) which was controlled by Mother but in which Investor had made a significant equity investment.

Respecting the cross-redemption transactions that concluded the spin-off transactions referred to above, Newco redeemed the Newco Class B Special Shares held by Amalco (which, going into the transactions, had no RDTOH balance), caused its first taxation year to end at the end of that day, and the redemption by Amalco of its Amalco Class B Voting Comon Shares held by Newco occurred on the following day. The disclosed Purposes state:

The reason for Newco causing its first Taxation Year to end at the end of the day on which the Newco Class B Special Shares are redeemed ... is to avoid a possible Part IV tax “circularity” issue.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(3) - Paragraph 55(3)(a) - Subparagraph 55(3)(a)(ii) split-up to resolve business differences between daughter and mother, with relevant significant investment of arm's length investor in further transferee company 758
Tax Topics - Income Tax Act - Section 248 - Subsection 248(10) arm's length investment in proposed purchaser of spinco assets not part of spin-off series 229

2017 Ruling 2016-0646891R3 - Pipeline and subsequent Split-up butterfly

circularity avoided through 2nd dividend arising on winding-up of DC

CRA ruled on a combined pipeline and split-up butterfly transaction respecting DC, which invested in marketable securities, and the shares in which passed to the estate with their adjusted cost based having been stepped-up under s. 70(5). DC then transferred its marketable securities to three transferee corporations (TCs) for the three beneficiaries in consideration for “butterfly shares” – but with DC holding onto the notes that it received on the immediate redemption of the butterfly shares for a redacted period of time. After this peirod, DC was wound-up into the TCs, thereby resulting in deemed winding-up dividends and in the notes being extinguished on their being assigned to the TCs.

DC had refundable dividend tax on hand. This sequencing of the two deemed dividends (coupled with the appropriate choice by the TCs of their first year end) avoided Part IV tax circularity issues.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 84 - Subsection 84(2) pipeline coupled with split up butterfly in favour of TCs for grandchild residuary trusts 543
Tax Topics - Income Tax Act - Section 55 - Subsection 55(1) - Distribution combined pipeline and split-up butterfly 144

18 December 2017 External T.I. 2017-0714971E5 F - Application of subsection 55(2)

s. 55(2) application does not reduce s. 186(1)(b) initially reported Pt IV tax

2017-0724071C6 indicated that where Holdco receives a dividend of $400,000 that was subject to Part IV tax of $153,333 (38.33% of $400,000) equalling the connected payer’s dividend refund and, in turn, pays a dividend to its individual shareholders resulting in a dividend refund (DR) of the Part IV tax – so that the dividend received by Holdco was subject to s. 55(2) there should be two returns filed by Holdco – one reporting the Part IV tax, and a second one reporting the capital gain under s. 55(2), thereby giving rise to refundable tax and an addition to Holdco’s RDTOH account which could only be used prospectively. CRA now provided six numerical examples going through variants on this scenario.

Respecting scenarios where Holdco did not pay a full dividend to its individual shareholder, CRA stated:

[A]ny future payment of a taxable dividend by Holdco that resulted in a refund of Part IV tax could result in the potential application of subsection 55(2) to the extent that this payment was part of the same series of transactions. The CRA would consider any future DR as a result of the payment of a dividend by a corporation, where the payment was part of the same series of transactions, as coming first from the Part IV tax paid on the taxable dividend.

Respecting when the amended return of Holdco should be filed, CRA indicated a preference for Holdco to wait until its original return was assessed. If Holdco wanted to avoid interest charges by paying at the time of the first return an amount that took into account its s. 55(2) liability to be reported in the second return, CRA described the procedures for avoiding having this overpayment refunded in the interim.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(2) relationship between Part IV tax and s. 55(2) and related amended return filings 477

21 November 2017 CTF Roundtable Q. 6, 2017-0724071C6 - Circular calculations Part IV tax

refunded Pt IV tax payable not reduced by application of s. 55(2)

Holdco receives a dividend of $400,000 that is subject to Part IV tax of $153,333 (38.33% of $400,000) equalling the connected payer’s dividend refund and, in turn, pays a dividend to its shareholders resulting in a refund of the Part IV tax – so that the dividend received by Holdco is subject to s. 55(2). However, such application of s. 55(2) converts the dividend into a capital gain, thereby (it was suggested) reducing the Part IV tax under a circular calculation.

CRA considered such a circular calculation to be contrary to the scheme of s. 55(2), that for a dividend to be subject to s. 55(2), based on a Part IV tax refund, such refund must be a real refund of real tax (as per Ottawa Air Cargo) and that the right approach is for Holdco to declare $153,333 of Part IV tax in its initial return and, in a second return, show the Part IV tax paid for the taxation year as unchanged, even though the amount of the dividend received has been reduced by the application of s. 55(2).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(2) where Holdco receives a dividend subject to refundable Pt IV tax and to s. 55(2), two different dividends should be reported for Pt IV and s. 55(2) purposes 396

2017 Ruling 2016-0675881R3 - Paragraph 55(3)(a) Internal Reorganization

where circular RDTOH calculation arises on spin-off transaction, it is for the TSOs to sort out which corporations should bear Part IV tax
clarifications re division between beneficial and registered ownership of buildings were made in 2017-0704351R3

CRA ruled on a s. 55(3)(a) split-up of a real estate rental corporation (Canco) whose common shares were held by Son Holdco and Daughter Holdco and whose prefs were held by a Holdco for the father and mother of Son and Daughter (Holdco 1). The transfer of the real estate to Newco 1 (whose common shares and prefs were acquired on the spin-off by Son Holdco and Holdco 1, respectively) and to Newco 2 (whose common shares and prefs were acquired on the spin-off by Daughter Holdco and Holdco 1, respectively) was stated to occur within the range permitted by s. 85, and the facts included a statement that “Canco does not have a material balance of CDA or RDTOH.”

CRA commented that to the extent that Canco has a balance in its RDTOH at its year-end immediately following the redemptions and purchases for cancellation of its shares held by Newco 1 and Newco 2, this could give rise to a “circular” calculation of RDTOH, resulting in each of Newco 1, Newco 2 and Canco being subject to Part IV tax, and stated:

Since the problem will affect the assessment of the income tax returns of Canco, Newco 1 and Newco 2, the district taxation office at which each of the corporations files its T2 income tax return will have to be consulted in order to determine which corporation will receive the dividend refund and which corporation will be subject to the Part IV tax liability under paragraph 186(1)(b) described in these comments.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(3) - Paragraph 55(3)(a) division of rental real estate company between holdcos for 2 children but with parents' holdco retaining voting control 579
Tax Topics - Income Tax Act - Section 55 - Subsection 55(4) s. 55(3)(a) split-up between Newcos for two siblings which were related due to multiple-voting shares held by the father’s and mother’s Holdco 170
Tax Topics - Income Tax Act - Section 85 - Subsection 85(1) - Paragraph 85(1)(e) UCC on s. 55(3)(a) spin-off prorated based on relative capital cost rather than FMV 174

2015 Ruling 2015-0605901R3 F - Présomption de gain en capital

year end selection to avoid Pt. IV circularity

The proposed transactions contemplate (in para. 24) respecting a spin-off of real estate by Opco to newly-incorporated Realtyco that Opco (with CRA consent) will close off its year end immediately before the real estate spin-off (and immediately after the payment of a deemed dividend by it to Realtyco) in order to claim capital cost allowance for the current fiscal period. Thereafter, Realtyco will pay a deemed dividend to Opco. Per para. 17:

The fiscal period of Realtyo will be fixed at a date which will permit the avoidance of Part IV tax circularity.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(3.01) - Paragraph 55(3.01)(g) separation of real estate assets beneath new holdco formed by unrelated shareholders 567
Tax Topics - Income Tax Act - Section 55 - Subsection 55(3) - Paragraph 55(3)(a) - Subparagraph 55(3)(a)(ii) spin-off of real estate beneath new common holdco of unrelated shareholders 107
Tax Topics - Income Tax Act - Section 249.1 - Subsection 249.1(7) taxation year end changed to immediately before building spin-off 95

24 November 2015 CTF Roundtable Q. 1, 2015-0610691C6 - T2 Late-Filing: Impact on Div. Refund and RDTOH

unclaimed divided refunds do not generate s. 186(1)(b) tax to the dividend recipient

Will CRA require a dividend recipient to pay Part IV tax if it receives a dividend from a connected dividend payer that had RDTOH at the end of a particular taxation year even if the dividend payer is denied a dividend refund because its income tax return was not filed within that period? CRA responded:

[T]he CRA will consider that a dividend recipient’s Part IV tax liability with respect to a dividend received from a connected dividend payer will be determined according to the dividend refund actually received by the dividend payer.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 129 - Subsection 129(1) unclaimed dividend refunds did not reduce the corporation’s RDTOH 200

27 June 2014 External T.I. 2013-0498191E5 F - Interaction entre 55(2) et l'impôt de partie IV

Part IV tax on cross-redemptions takes into account the Part I tax (and RDTOH addition) generated by s. 55(2) application thereto

On a cross-share redemption between two connected Canadian-controlled private corporations, neither of which has a refundable dividend tax on hand account account immediately before the redemption, each corporation is deemed to receive a dividend from the other. Does the application of s. 55(2) to the deemed dividend received by each corporation, which generates an addition to its RDTOH account and, therefore, generates a dividend refund to it and associated Part IV tax on the deemed dividend paid by it to the other corporation, engage the exclusion from s. 55(2) for dividends which are subject to Part IV tax – or does the Part IV tax exclusion not apply so that s. 55(2) applies to the full amount of the deemed dividend received by each corporation? CRA stated (TaxInterpretations translation):

[I]n accordance with sections 129 and 186, it is provided that the dividend refund, the RDTOH account and thus the Part IV tax of a given corporation are calculated as a function of all relevant amounts in this regard for the whole taxation year.

Furthermore…in…943963 Ontario Inc. …the parties…and the Court accepted that there was a given amount subject to Part IV tax by the appellant, the dividend recipient, notwithstanding that a part of the deemed dividend…was deemed to not be a dividend received, by virtue of subsection 55(2)(a). In other words, the part of the dividend giving rise to a capital gain by virtue of subsection 55(2) did not affect the amount of the "assessable dividend" taken into account for calculating the Part IV tax payable… . The application of subsection 55(2) in that case did not engage any circular calculation. …

Moreover, the fact of calculating the RDTOH account at the end of a taxation year of each corporation in such a situation…involving cross redemptions and thus cross dividends, entails circular calculations by them of their respective RDTOH, dividend refunds and Part IV tax. In policy terms, it does not appear acceptable to us that circular calculations could result in a complete reimbursement of the total RDTOH of each corporation in such a situation.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(2) s. 55(2) tax on cross-redemption deemed dividends between connected CCPCs gave rise to circular Part IV tax 355

11 October 2013 Roundtable, 2013-0495801C6 F - Dividend Paid to Trust and Schedule 3 of T2

s. 104(19)-designated dividend is not received for s. 186(1)(b) purposes until year end of trust

The trust designates a taxable dividend it received on June 30, 2013 from Opco to its beneficiary, Holdco, whose year-end is June 30. 2013. A trust cannot make an s. 104(19) designation until its year end (December 31) since it is only then that it can be determined that it has been resident in Canada throughout the year. Accordingly, Holdco should include the amount of the taxable dividend in its return for June 30, 2014 year and pay the applicable Part IV tax.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(19) s. 104(19) designation is not effective until year end of trust 167

21 January 2009 External T.I. 2008-0266191E5 F - Part IV & Capital Gain Strip

943963 Ontario followed

CRA confirmed its position in 9711005 and indicated that its position in 9906255 was no longer valid because of the 943963 Ontario decision. Accordingly, the portion of the dividend representing safe income on hand was subject to Part IV tax and the Part IV tax applied irrespective of a portion of the dividend being deemed not to be a dividend received by virtue of s. 55(2)(a).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(2.1) - Paragraph 55(2.1)(c) portion of the dividend received by the recipient corporation that is subject to Pt. IV also includes any safe income attributable to the shares of the payer held by the recipient 219

26 January 2004 External T.I. 2003 - 0047961E5 F - Part IV Circularity

waiver of dividend refund does not solve the Pt. IV circularity issue, which is not serious

CCRA indicated that it is not prepared to accept the waiver of a dividend refund ("DR") by a corporation in order to avoid the circularity problem regarding the calculation of Part IV tax, for the following reasons.

  • First, it did not believe that the fact of a circular calculation having to be made by two corporations caused them any harm in general, stating in this regard that “although a corporation's Part IV tax and DR amounts are inflated in a situation where a circular calculation must be made, and a circular calculation is burdensome; no prejudice is suffered in general by either of the corporations that are subject to the circular type calculation to determine their Part IV tax and DR, as the net tax payment to be made by one corporation (Part IV Tax minus DR) will be equivalent to the net amount refunded to the other corporation (DR minus Part IV Tax).”
  • Second, a corporation that receives an eligible dividend from a payer corporation is subject to Part IV tax whether or not the payer corporation receives the DR – so that if CCRA allowed a corporation to waive a DR, this would have no effect on the Part IV tax payable by the other corporation.

12 December 2002 External T.I. 2001-0100755 F - Impact of LCB on Dr and Part IV

connected dividend recipient is not required to pay s. 186(1)(b) tax if it can demonstrate by the return-filing deadline that such tax was eliminated through a loss carryback

During its the taxation year ending September 30, 2000 ("2000 TY”), Bco paid its CCPC parent (Aco) a taxable dividend of $223,500, entitling it to a dividend refund ("DR") of $74,500, which reduced its total taxes payable for the year (otherwise $100,000 of Part I tax, payable on taxable capital gains) to $25,500. Aco received such dividend from Bco during its taxation year ended July 31, 2001 and, before giving effect to the loss carryback escribed below, was required to pay Part IV tax equal to the DR.

For its taxation year ended September 30, 2001 ("2001 TY"), Bco had a net capital loss of $280,000, and obtained a refund of its federal tax paid for its 2000 TY by carrying back that loss.

CCRA stated:

Aco may not be required to pay Part IV tax, for the taxation year ended July 31, 2001, if it was able to establish before October 31, 2001, i.e., the latest date before which it would be required to pay Part IV tax under subsection 186(1), that Bco's DR for the 2000 TY had been cancelled by reassessment pursuant to subsections 152(4) and 187(3).

Otherwise, Aco would have to pay the Part IV tax within the time limit set out in subsection 186(1). However, the CCRA could, under subparagraph 152(4)(b)(ii) and subsection 187(3), if Aco so requested in writing after Bco's DR has been cancelled by reassessment under subsection 152(4), reassess to cancel the Part IV tax payable by Aco for its taxation year ended July 31, 2001, and refund to it the Part IV tax paid. In addition, the CCRA could pay Aco interest on the amount refunded at the prescribed rate … for a particular period determined under subsections 164(3) and 187(3) ...

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 129 - Subsection 129(2) general practice to net dividend refund against unpaid Part I tax 115
Tax Topics - Income Tax Act - Section 164 - Subsection 164(1) where subsequent loss carryback eliminates the Part I tax and dividend refund (DR), the refund interest is calculated on the initial Part I tax amount even if the DR reversal is paid by set-off 350
Tax Topics - Income Tax Act - Section 160.1 - Subsection 160.1(1) interest payable under s. 160.1(1) on the reversed dividend refund where subsequent year’s loss is carried back to eliminate the Part I tax and RDTOH 283

Articles

David Carolin, Manu Kakkar, "Estate Plans, Trusts, and Dividends: Is There a Gap Here?", Tax for the Owner-Manager, Vol. 21, No. 1, January 2021, p. 1

deferral (or other) opportunities arising from CRA’s position that s. 104(19)-designated dividend is not received until year-end of trust

CRA’s position (e.g., in 2016-0647621E5 and 2013-0495801C6) is that a dividend designated under s. 104(19) by a trust to a beneficiary is not received by the beneficiary for most ITA purposes until the year-end of the trust. This position, if correct, raises some planning possibilities:

  • Suppose that Opco, whose shares are held by a family trust, pays a $1 million dividend to the trust on January 15, 2020 and claims a dividend refund of $383,300 for its taxation year ended January 31, 2020. The dividend is not allocated by the trust to Bankco (a connected resident corporate beneficiary with a November 30 year-end) until the trust’s year-end of December 31, 2020, and is not reported by Bankco until its year ending November 30, 2021. If Opco’s dividend refund is received on June 30, 2020, 19 months pass before Bankco is required to pay its matching Pt. IV tax under s. 186(1)(b) – a tax deferral.
  • Suppose, instead, that on March 31, being a day that Opco and Bankco are not connected, a dividend is paid both by Opco to the trust, and by the trust to Bankco – but on September 30, a share ownership change results in Opco and Bankco now being connected, so that CRA’s position suggests that Pt. IV tax has been avoided.
  • Now suppose that Opco pays a dividend in excess of safe income on hand on January 15, 2020. Bankco need not report the resulting s. 55(2) deemed capital gain until its year ending November 30, 2021. In addition to deferral of the capital gains tax, a permanent tax saving might result through acquiring losses or other deductions in the meantime.

Subsection 186(2) - When corporation controlled

See Also

Special Risks Holdings Inc. v. The Queen, 84 DTC 6505, [1984] CTC 553 (FCTD), aff'd 86 DTC 6036, [1986] 1 CTC (FCA)

Exactly 1/2 of the common shares of a corporation ("Melling, Hogg") were purchased by the plaintiff, and the other 1/2 were purchased by a United Kingdom corporation ("Hogg Robinson"). Eleven days later, the plaintiff purchased 1% of the shares of Melling, Hogg from Hogg Robinson, a step which had been planned from the beginning.

It was held that since the plaintiff had not been dealing at arm's length with Hogg Robinson during the 11 day period, a subsidiary of Melling, Hogg was controlled by the plaintiff within the extended meaning of control assigned by s. 186(2). "Hogg Robinson's temporary ownership was one of form only, to accommodate the plaintiff's purpose." The plaintiff had de facto "control through the abdication of Hogg Robinson in exercising any independent interest and its acquiescence in the transactions merely as an accommodation to the plaintiff."

Administrative Policy

7 October 2020 APFF Roundtable Q. 17, 2020-0845821C6 F - Part IV tax and trust

s. 104(13), unlike s. 104(19), can apply contemporaneously with a trust dividend distribution, and ss. 186(2) and 251(1)(b) can apply synergistically

A personal trust wholly-owns Opco, which also has a December 31 year end, and has a corporate beneficiary ("Holdco") with a September 30 taxation year end. On September 20, 20X1, Opco pays a taxable dividend of $5,000 to the Trust, which immediately on-pays that amount to Holdco.

As also noted in 2018-0757591I7 F and 2020-0839891C6), a s. 104(19) designation by a trust cannot be effective until the trust’s year end. Accordingly, if by the effective time of the deemed dividend payment as a result of the designation (December 31, 20X1), the above trust had disposed of Opco to a third party, whether Opco was connected for Pt. IV tax purposes would be tested at that time, so that there would be no exemption from Pt. IV tax under s. 186(1)(a).

However, a similar timing issue would not arise if, for some reason, Holdco ceased, after the receipt by it of the $5,000 from the Trust (September 20, 20X1) and before the trust year end (December 31, 20X1), to be a trust beneficiary, but with Opco continuing to be connected on December 31, 20X1 with Holdco pursuant to s. 186(4)(a) by virtue of common control as described in s. 186(2). CRA stated:

[A] taxpayer does not have to be a beneficiary of a trust throughout the taxation year of the trust in which an amount becomes payable to the taxpayer in order for that amount to be included in computing the beneficiary's income pursuant to subsection 104(13),”

[S]ince Holdco is a beneficiary of the Trust at the time the $5,000 became payable to Holdco, the condition in paragraph 104(19)(b), that Holdco be a beneficiary of the Trust in the Trust's taxation year, is satisfied. The Trust could therefore designate the $5,000 amount to Holdco in accordance with subsection 104(19) if all the other conditions for the application of that provision are otherwise satisfied.

The question addressed by CRA was premised on Opco initially being connected with Holdco under ss. 186(4)(a) and 186(2) on the basis that Holdco was controlled by a person (X) who did not deal at arm's length with the person who controlled Opco. CRA indicated that there would be no effect on Holdco's liability for Pt. IV tax if Holdco, while continuing as a beneficiary of the trust, ceased to be controlled by X. The reason: the trust and Holdco were deemed not to deal with each other at arm's length by virtue of s. 251(1)(b), so that (under the control test in s. 186(2)) more than 50% of the fully-voting Opco shares belonged to a person (the Trust), which did not deal at arm's length with Holdco.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(19) various applications of proposition that an s. 104(19) designation is not effective until the trust’s year end 761
Tax Topics - Income Tax Act - 101-110 - Section 104 - Subsection 104(24) under the ordinary meaning of payable, an amount is payable at a time if it is paid then 450

11 October 2019 APFF Roundtable Q. 12, 2019-0812711C6 - Part IV

two 50% shareholders of two corporations likely acting in concert to produce connectedness

The common shares of X Corp. and Y Corp are held equally by two unrelated corporations (A Corp. and B Corp.). Is Y Corp. connected to X Corp. so that a deemed dividend arising on the redemption by Y Corp. of non-voting redeemable preferred shares held by X Corp. (following the mutual agreement of A Corp. and B Corp. to cause the redemption) would not be subject to Part IV tax under s. 186(1)(a)?

After noting that this turned under s. 186(2) on “whether A Corp. and B Corp., which together hold more than 50% of the issued shares of the capital stock of Y Corp., with full voting rights under all circumstances, are not dealing at arm's length with X Corp.”, CRA stated:

Folio S1-F5-C1 … states that “[i]n the case of a closely-held corporation (for example, where there are two or three unrelated shareholders, none of which individually controls the corporation) the CRA considers that there is a presumption that the shareholders of such a closely-held corporation will act together to control the corporation. In order to rebut this presumption, it would be necessary to show that no one is controlling the corporation and that the decision-making process in the corporation is effectively deadlocked.”

On the basis of the limited facts submitted … A Corp. and B Corp. could a priori be considered not to be dealing at arm's length with X Corp.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 251 - Subsection 251(1) - Paragraph 251(1)(c) two 50% shareholders of two corporations likely acting in concert to produce connectedness 174

10 October 2014 October APFF Roundtable Q. 18, 2014-0538081C6 F - 2014 APFF Roundtable, Q. 18 - Connected corporations

test contemplates relative number of voting shares

Aco holds one share of Cco bearing 1000 votes and Cco holds 100 share of Bco carrying one vote per share. Aco and Cco deal at arm's length. The questioner noted (TaxInterpretations translation) that at the 1997 APFF Roundtable in 2010-0359551I7 "CRA indicated that the test provided in ITA subparagraph 186(4)(b)(i) refers to the number of share carrying a right to vote in all circumstances rather than simply the number of votes independent of the number of shares. The CRA further indicated that the test provided in ITA subsection 186(2) was interpreted in the same manner." Is Bco controlled by Cco under s. 186(2)? CRA responded:

Consistently with the longstanding position of the Directorate, we are of the view that the concept of control referred to in ITA subparagraph 186(4)(a) is as defined in subsection 186(2), which contemplates that a corporation is controlled by another corporation if more than 50% of the issued shares in its capital (having full voting rights under all circumstances) belong to the other corporation, to persons with whom the other corporation does not deal at arm's length or to the other corporation and persons with whom the other corporation does not deal at arm's length.

We also confirm that the position in [the above documents] still represents the position of the Directorate respecting the share ownership test in ITA subparagraph 186(4)(b)(i).

However…if it emerged that the utilization of a capital structure as unusual as that described in your question was part of a series of transactions effected with a view to avoiding the payment of Part IV tax, it would be necessary to consider the application of ITA subsection 245(2).

12 January 2011 External T.I. 2010-0388821E5 F - Discretionary dividend

Opco with voting shares held by individual and prefs held by his Holdco was connected to Holdco

On January 1 of Year 1, Mr. A (the sole shareholder of Holdco) and Holdco subscribed, respectively, $100 and $900 for 100 Class A voting discretionary-dividend common shares and 900 Class B non-voting non-participating discretionary Preferred Shares on the incorporation of Opco. Opco annually paid dividends to Holdco. In finding that the annual dividends were not subject to Part IV tax because Opco was connected to Holdco under s. 186(4)(a), CRA stated:

… Opco is controlled (otherwise than by means of a right described in paragraph 251(5)(b)) by Holdco at that time, by virtue of 186(2). That would be so since more than 50% of the issued shares of the capital stock (with full voting rights in all circumstances) of Opco would belong to Mr. A with whom Holdco “does not deal at arm's length" by virtue of paragraph 251(1)(a).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 55 - Subsection 55(2.1) - Paragraph 55(2.1)(c) SIOH where two discretionary-dividend classes potentially allocable fully to class with 100% winding-up participation 259

16 November 2006 External T.I. 2006-0204901E5 F - Meaning of Full Voting Rights

requirement for special meeting of preferred shareholders to approve an adverse amendment to articles does not detract from full voting rights of common shareholders

The common shares of Opco carry one vote per share at all meetings of the shareholders, except at a meeting where the right to vote is restricted to shareholders of another class. Although the preferred shares are non-voting, where there is a proposed amendment to the articles that would affect the rights, conditions or privileges attached to the preferred share, such amendment must first be approved by the vote of at least 3/4 in value of the preferred shares represented by the holders present at a special meeting called for that purpose. In addressing whether the common shares should be considered to have “full voting rights under all circumstances,” CRA first noted that the proviso regarding the voting rights of the common shares appeared problematic, and then stated:

[I]t may be found that the common shares of the capital stock of Opco would indeed have full voting rights in all circumstances, although the corporation could not make an amendment affecting the rights, conditions or privileges of the preferred shares without first obtaining the consent of a number of the preferred shareholders. In and of itself, the fact that the holders of the preferred shares have such a "veto right" in relation to amendments to Opco's articles would not normally result in the common shares being considered as not having full voting rights in all circumstances for the purposes of subsection 186(2) and subparagraph 186(4)(b)(i).

In that regard, we understand that under certain corporate statutes applicable in Canada, this type of "veto right" is automatically granted by law to shareholders. In our view, the application of subsection 186(2) or subparagraph 186(4)(b)(i) should not vary depending on whether such a "veto right" is granted to shareholders by statute or by the articles of incorporation.

29 July 1992 T.I. (Tax Window, No. 21, p. 7, ¶2054)

Where an individual owns all the shares of Holdco which, in turn, owns all the shares of Opco, a loan receivable owing by Holdco to Opco will constitute indebtedness of a corporation connected with Opco, because Holdco is deemed by s. 186(2) to be controlled by Opco.

15 May 1991 T.I. (Tax Window, No. 6, p. 2, ¶1357)

Where the shares of Parentco are owned by related persons, its subsidiary will be deemed for purposes of Part IV and the definition of a qualified small business corporation share to control it.

31 July 1989 T.I. (Dec. 89 Access Letter, ¶1053)

A corporation ("Opco") all of whose voting shares are held by an individual is connected with a second corporation which holds the non-voting preferred shares of Opco and which is controlled by the same individual.

Articles

Stan Shadrin, Manu Kakkar, David Carolin, "Application of Part IV Tax to Amalgamations of Companies Owned by Trusts with Corporate Beneficiaries", Tax for the Owner-Manager, Vol. 22, No. 1, January 2022, p. 1

A horizontal amalgamation may cause a dividend paid to another family corporation through a trust to be subject to Part IV tax (pp. 1-2)

  • CRA considers that a dividend received a trust in a trust taxation year and pushed out to a beneficiary under s. 104(19) is not received by the beneficiary as a dividend until the end of that year.
  • Suppose that on November 30, 2020, Opco 1 pays a dividend to its wholly-owning trust shareholder, which immediately distributes the funds to Benco (a corporate beneficiary). The next day Opco 1 amalgamates with its sister corporation (also owned by the trust.
  • Whether the dividend deemed under s. 104(19) to be received by Benco on December 31 is subject to Part IV tax, turns on whether, pursuant to s. 186(2), Opco 1 was controlled by Benco (and they thus were connected) on December 31. However, Opco 1 no longer existed on that date, so that Benco and Opco 1 would appear to not be connected on December 31.
  • Under s. 87(2.11), a new corporation arising on a vertical amalgamation is deemed to be a continuation of the predecessor parent for the purposes of applying Part IV “in respect of” that particular corporation. This may suggest that the corporate beneficiary receiving the dividend from the predecessor receives Part IV tax relief. However, be that as it may, s. 87(2.11) provides no assistance where, as here, there was a horizontal amalgamation.
  • Accordingly, it is suggested that the dividend paid by Opco 1 to the trust prior to amalgamation and then allocated by the trust to Benco is subject to Part IV tax.
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 87 - Subsection 87(2.11) 399

Subsection 186(4) - Corporations connected with particular corporation

Administrative Policy

22 July 1993 External T.I. 9313855 F - Connected Corporations

"The existence of a shareholders' agreement or a voting trust which dictates the manner in which the shares are to be voted will not disqualify the shares from satisfying the 'full voting rights' requirement of subparagraph 186(4)(b)(i) ... . Although the shareholder may have entered into an arrangement which dictates how the votes attached to his or her shares are to be voted, this does not alter the fact that the shares have full voting rights."

16 December 1992 T.I. 920178 (November 1993 Access Letter, p. 511, ¶C245-050)

Discussion of whether s. 245 will apply where additional shares are required, or shareholdings are pooled, in order that Part IV tax will not apply to an intercorporate dividend.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 245 - Subsection 245(4) 30

26 August 1992 T.I. (Tax Window, No. 23, p. 12, ¶2155)

The definition of control in s. 186(2) should be used in applying the tests in s. 186(4) even where those tests relate to provisions outside Part IV, for example, the definition of "qualified small business corporation share".

25 and 28 March 1991 T.I. (Tax Window, No. 1, p. 5, ¶1178)

A corporation is not "connected" with its wholly-owned subsidiary.

90 C.R. - Q26

A corporate beneficiary of a trust will not be considered for purposes of s. 186(4)(b) to own shares held by the trust notwithstanding that the trust has made a designation under s. 104(19) in respect of taxable dividends paid on the shares.

IT-269R3 "Part IV Tax on Taxable Dividends Received by a Private Corporation or a Subject Corporation"

Locations of other summaries Wordcount
Tax Topics - General Concepts - Fair Market Value - Shares 57

Subsection 186(5) - Deemed private corporation

Administrative Policy

18 December 2001 External T.I. 2001-0073925 - Paragraph 88(1)(e.2) & Subsection 186(5)186(5)

"While subsection 186(5) does not specifically refer to paragraph 88(1)(e.2) it is our view that such reference is not necessary. Therefore, where a subsidiary corporation is wound-up into its parent subsection 186(5) will cause paragraph 87(2)(aa) (as modified by paragraph 88(1)(e.2)) to be applicable to the winding-up provided each of the subsidiary and the parent are subject corporations at the relevant times required for these purposes.

Subsection 186(6) - Partnerships

Administrative Policy

6 November 2013 External T.I. 2013-0485691E5 - Connected Corporation and Part IV Tax

shares held directly and through LP

The recipient corporation owns 20% of the shares of a payer corporation (and is thus connected under s. 186(4)(b), and also owns 12.5% of the total units of a limited partnership which owns 20% of the shares of the payer corporation. Are taxable dividends received through the limited partnership subject to Part IV tax?

CRA referred, without answering the question, to the position in IT-269R4, para. 15, that each member is deemed by s. 186(6)(b) to own a proportion of the shares owned by the partnership based on that member's share of all dividends received on such shares by the partnership.

Subsection 186(7) - Interpretation

Administrative Policy

8 January 2003 External T.I. 2002-0173665 - SMALL BUSINESS CORP

Two corporations which have no direct ownership in each other but which are controlled by the same person would be considered to be connected corporations for purposes of the definition of "small business corporation" in s. 248(1).