Section 258

In 2010, a Canadian corporation, which was a specified financial institution by virtue of being controlled by its parent, a Canadian insurance corporation, subscribed for 9,350,000 mandatory redeemable preferred shares of Luxco 1 (“MRPS” – subsequently, “Class A MRPS”) for US$935,000,000. Luxco 1 used those proceeds to make loans to US foreign affiliates for use in the corporate group’s US operations. In 2012, the MRPS and common shares of Luxco 1 were transferred on an s. 85(1) rollover basis to a Canadian subsidiary (XXXXXXXXXX). In 2015, the latter used common share subscription proceeds from its parent to subscribe for 2,000,000 Class B MRPS of Luxco 1 worth US$200,000,000, with the proceeds lent to a US CFA in the group which, in turn, acquired a US property manager.

The MRPS (which were term preferred shares) were fully voting, were redeemable and retractable by the company or the holder, were required to be redeemed at the end of 13 years, and were convertible by the holder at any time into ordinary shares with a value equal to the MRPS par value plus, accrued and unpaid dividends, share premium account and attached reserve account.

The various dividends paid on the MRPS were treated as interest for Luxembourg purposes.

The activities of the Canadian parent of Luxco 1 were limited to providing a guarantee (for guarantee fees) to US Ops Holdco (the parent of a US borrower from Luxco 1) and holding the shares of US Ops Holdco and Luxco 1.

Before finding that it was likely that the MRPS were not acquired in the ordinary course of the business carried on by such Canadian parent, the Directorate stated:

In order to constitute “carrying on” a business, it normally requires some continuity, frequency and regularity of the commercial activities. It is arguable that the acquisition of the Class B MRPS is not considered part of the ordinary course of business carried on by XXXXXXXXXX, but rather the acquisition may be considered an isolated and special transaction that is not part of a course of conduct that involves repeated dealings of a similar nature.

After further referring inter alia to the finding in 2001-0079985, that even though the acquisition of preferred shares is an isolated event, it does not preclude it being “in the course of” and the statement in Citibank Canada that “the question is whether the present arrangement is, at its core, a debt financing arrangement or a capital investment by Citibank in the issuers of the shares,” the Directorate went on to state:

Therefore, it is also important to consider whether the arrangement in the current case, at its core, more closely resembles a debt financing arrangement or a capital investment. …[W]e are more inclined to conclude that the arrangement more closely resembles a capital investment. … XXXXXXXXXX is not in the business of lending money to the general public or to any disinterested third parties and the loans it made were limited to its foreign related corporations. All of the proceeds from the issue of the Class A and Class B MRPS were used by Luxco 1 to make loans to XXXXXXXXXX US foreign affiliates for their US operations. … This supports the view that the share acquisition of the Class B MRPS by XXXXXXXXXX represents a capitalization of a subsidiary.