2015-0581641C6 IFA 2015 Q.10: 111(4)(e) election and 212.3

Principal Issues: Whether a designation made pursuant to paragraph 111(4)(e) results in the application of section 212.3?

Position: A designation made by a CRIC in respect of shares of a foreign affiliate pursuant to paragraph 111(4)(e) would result in an investment as described in paragraph 212.3(10)(a). However, subsection 212.3(2) would apply in such a manner that the dividend deemed to be paid by the CRIC to its non-resident parent would be equal to nil.

Reasons: When read contextually and purposively, paragraph 212.3(2)(a) would be interpreted in such a manner so as to conclude that a paragraph 111(4)(e) deemed disposition and reacquisition of the FA shares would not constitute a transfer of any property by the foreign controlled CRIC for purposes of paragraph 212.3(2)(a).

Author: Chang, Jack Yu-Fan
Section: 111(4)(e), 212.3(1), 212.3(2), 212.3(10), 212.3(18)

2015 International Fiscal Association Conference
CRA Roundtable

Question 10 - 111(4)(e) election and 212.3

Following an acquisition of control, paragraph 111(4)(e) permits a taxpayer to make a designation in respect of certain capital property in order to deem a disposition and reacquisition of that capital property.  Generally, this designation may be beneficial to a taxpayer in circumstances where the taxpayer has a capital property with accrued gains and also has capital losses which would otherwise expire after the acquisition of control.

Subject to certain exceptions, the foreign affiliate dumping rules in section 212.3 are designed to deter Canadian subsidiaries of foreign-based multinational groups (herein “foreign controlled CRICs”) from making investments in non-resident corporations that are, or become as a result of the investment or a series of transactions that includes the investment, foreign affiliates (“FAs”) of the foreign controlled CRICs in situations where these investments can result in the inappropriate erosion of the Canadian tax base.  In general terms, the application of the foreign affiliate dumping rules results in deemed dividends paid by the foreign controlled CRICs subject to non-resident withholding tax or in reductions of the paid-up capital of cross border shares of the foreign controlled CRICs.

Assume that, prior to an acquisition of control of a taxpayer, the taxpayer was controlled by a non-resident corporation (“old parent”) such that it was a foreign controlled CRIC.  Assume further that it held the common shares of an FA.  Following the acquisition of control of the taxpayer, the taxpayer made a paragraph 111(4)(e) designation in respect of the common shares of the FA such that the taxpayer was deemed to have disposed of, and reacquired, the FA shares immediately before the time that is immediately before the time of the acquisition of control.

In the CRA’s view, would the deemed reacquisition of the common shares of the FA by the taxpayer result in the application of the foreign affiliate dumping rules?

CRA Response

In the scenario described above, the subparagraph 111(4)(e)(ii) deemed reacquisition of the FA shares by the foreign controlled CRIC would constitute an “investment in a subject corporation made by a CRIC” as described in paragraph 212.3(10)(a) and would not be an investment described in paragraph 212.3(18)(a) given that the CRIC would not be related to itself.  Therefore, the conditions in paragraph 212.3(1)(b) would be met and, to the extent that subsection 212.3(16) would not apply, paragraph 212.3(2)(a) would apply to deem a dividend to be paid by the foreign controlled CRIC to its old parent.  However, it is our further view that the amount of the deemed dividend would be equal to nil.

When read contextually and purposively, paragraph 212.3(2)(a) would, in our view, be interpreted in such a manner so as to conclude that a subparagraph 111(4)(e)(ii) deemed reacquisition of the shares of a subject corporation by a CRIC would result in no amount of a deemed dividend being paid by a CRIC to a parent.  The deemed disposition and reacquisition of shares pursuant to paragraph 111(4)(e) would neither constitute a transfer of any property by the CRIC for purposes of paragraph 212.3(2)(a) nor would it constitute any of the other amounts referred to in subsection 212.3(2)(a).

Jack Chang
2015-058164
May 28, 2015

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