2015-0606721R3 Post Mortem Hybrid/Partial Pipeline Planning

Principal Issues: Whether section 84.1 or subsection 84(2) apply to the proposed transactions.

Position: Favourable rulings provided.

Reasons: In accordance with the provisions of the Act and our previous positions.

Author: XXXXXXXXXX
Section: Section 84.1 and subsection 84(2)

XXXXXXXXXX                                            2015-060672

XXXXXXXXXX, 2015

Dear Sir,

Re:   Advance Income Tax Ruling
         XXXXXXXXXX

This is in reply to your letter in which you requested an advance income tax ruling on behalf of the Taxpayers. We also acknowledge the information provided in your emails.

We understand that to the best of your knowledge and that of the Taxpayers involved, none of the issues described herein is:

(a)   in a previously filed return of the Taxpayer or a related person;

(b)   being considered by a tax services office or tax centre in connection with a previously filed tax return of the Taxpayer or a related person;

(c)   under objection by the Taxpayer or a related person;

(d)   before the courts or, if a judgement has been issued, the time limit for appeal to a higher court has expired; and

(e)   the subject of a ruling previously considered by the Income Tax Rulings Directorate.

Unless otherwise noted, all references herein to sections or components thereof are references to the Income Tax Act, R.S.C. 1985, c.1 (5th Supp.), as amended, or the Income Tax Regulations, C.R.C., c. 945, as appropriate, and all references to monetary amounts are in Canadian dollars. 

DEFINITIONS:

“A” means the late XXXXXXXXXX, the parent of Beneficiary1, Beneficiary2, Beneficiary3 and Beneficiary4.

“Act1” means the XXXXXXXXXX

“Act2” means the XXXXXXXXXX

“adjusted cost base” has the meaning assigned by section 54.

“Arm’s Length” has the meaning assigned by subsection 251(1).

“Beneficiary1” means XXXXXXXXXX, a resident of Canada, a child of A, and sibling of Beneficiary2, Beneficiary3, and Beneficiary4.

“Beneficiary2” means XXXXXXXXXX, a resident of Canada, a child of A, and sibling of Beneficiary1, Beneficiary3 and Beneficiary4.

“Beneficiary3” means XXXXXXXXXX, a resident of Country1, a child of A, and sibling of Beneficiary1, Beneficiary2 and Beneficiary4.

“Beneficiary4” means XXXXXXXXXX, a resident of Country2, a child of A, and sibling of Beneficiary1, Beneficiary2 and Beneficiary3.

“Canadian-controlled private corporation” has the meaning assigned by subsection 125(7).

“CDA” has the meaning assigned to the term “capital dividend account” by subsection 89(1).

“Capital Property” has the meaning assigned by subsection 54(1).

“Class A Shares” means the Class A shares of the capital stock of the Corporation.

“Class B Shares” means the Class B shares of the capital stock of the Corporation.

“Class C Shares” means the Class C shares of the capital stock of the Corporation.

“Corporation” means XXXXXXXXXX, a body corporate incorporated on XXXXXXXXXX under Act1 and continued under Act2 on XXXXXXXXXX.

“Country1” means XXXXXXXXXX

“Country2” means XXXXXXXXXX

“CRA” means the Canada Revenue Agency.

“dividend refund” has the meaning assigned by subsection 129(1).

“Estate” means the estate of A whose beneficiaries are Beneficiary1, Beneficiary2, Beneficiary3 and Beneficiary4.

“Executrix” means Beneficiary1, the executrix of the Estate, who was appointed as executrix of the Estate pursuant to the terms of the Will.

“fair market value” means the highest price expressed in terms of money or money’s worth available in an open and unrestricted market between informed, prudent parties, acting at arm’s length and under no compulsion to act, expressed in terms of cash.

“GRIP” has the meaning assigned to the term “general rate income pool” by subsection 89(1).

“Marketable Securities” means the diversified portfolio of investment property held by the Corporation that includes cash and shares of public corporations.

“Newco” refers to a corporation to be incorporated pursuant to Act2.

“paid-up capital” has the meaning assigned by subsection 89(1).

“Paragraph” refers to a numbered paragraph in this letter.

“PN1” means the demand promissory note issued by the Corporation to the Estate on the redemption of the Redeemed RDTOH Shares. The principal amount and fair market value of PN1 will be equal to the Redeemed RDTOH Shares redemption amount. PN1 will be non-interest bearing and on demand.

“PN2” means the demand promissory note issued by the Corporation to the Estate on the redemption of the Redeemed CDA Shares. The principal amount and fair market value of PN2 will be equal to the Redeemed CDA Shares redemption amount. PN2 will be non-interest bearing and on demand.

“PN3” means the promissory note issued by Newco to the Estate in partial consideration for the transfer of the Remaining Shares by the Corporation to the Estate.

“proceeds of disposition” has the meaning assigned at section 54.

“Proposed Transactions” means the proposed transactions which are described herein under the heading Proposed Transactions.

“qualified small business corporation shares” has the meaning assigned to that term in subsection 110.6(1).

“Redeemed CDA Shares” means the Class A shares in the capital stock of the Corporation that will be redeemed by the Corporation as described in this letter.

“Redeemed RDTOH Shares” means the Class A shares in the capital stock of the Corporation that will be redeemed by the Corporation as described in this letter.

“RDTOH” has the meaning assigned to the term “refundable dividend tax on hand” by subsection 129(3).

“Remaining Shares” means the Class A shares that are not the Redeemed RDTOH Shares and the Redeemed CDA Shares, the XXXXXXXXXX Class B shares and the XXXXXXXXXX Class C shares in the capital stock of the Corporation.

“taxable Canadian corporation” has the meaning assigned by subsection 89(1).

“Will” means A’s last will and testament.

FACTS

1.    The Corporation was at all relevant times a Canadian-controlled private corporation and a taxable Canadian corporation. The Corporation has a taxation year end of XXXXXXXXXX.

2.    The authorized share capital of the Corporation consists of:

a.    XXXXXXXXXX Class A shares. The Class A shares are non-voting, redeemable and retractable for consideration equal to their fair market value and entitle the holder to discretionary fixed non-cumulative dividends at a rate per annum to be determined by the directors of the Corporation on the redemption amount of the Class A shares and to participate in the property and assets of the Corporation on dissolution;

b.    An unlimited number of Class B shares. The Class B shares are voting, do not entitle the holder to dividends and do entitle the holder to participate in the property and assets of the Corporation on dissolution; and

c.    An unlimited number of Class C shares. The Class C shares are voting, entitle the holder to discretionary dividends and to participate in the property and assets of the Corporation on dissolution.

3.    The Corporation is a holding corporation whose main assets are the Marketable Securities. As of XXXXXXXXXX, the fair market value of the Marketable Securities amounted to $XXXXXXXXXX and the cash owned by the Corporation is less than XXXXXXXXXX percent of the fair market value of the Marketable Securities.

4.    As of XXXXXXXXXX, the Corporation had approximately the following tax accounts:

a.    RDTOH - $XXXXXXXXXX;

b.    GRIP - $XXXXXXXXXX; and

c.    CDA - $XXXXXXXXXX.

5.    A died on XXXXXXXXXX. A held de jure control of the Corporation prior to A’s death. Immediately before A’s death, A held the following shares of the Corporation:

a.    XXXXXXXXXX Class A shares with a fair market value of $XXXXXXXXXX, paid-up capital of $XXXXXXXXXX and adjusted cost base to A of $XXXXXXXXXX;

b.    XXXXXXXXXX Class B shares with a fair market value of $XXXXXXXXXX, paid-up capital of $XXXXXXXXXX and adjusted cost base to A of $XXXXXXXXXX; and

c.    XXXXXXXXXX Class C shares with a fair market value $XXXXXXXXXX, paid-up capital of $XXXXXXXXXX and adjusted cost base to A of $XXXXXXXXXX.

6.    The XXXXXXXXXX Class A shares, XXXXXXXXXX Class B shares and XXXXXXXXXX Class C shares held by A were Capital Property to A. Pursuant to paragraph 70(5)(a), immediately before A’s death, A is deemed to have disposed of the XXXXXXXXXX Class A shares, XXXXXXXXXX Class B shares and XXXXXXXXXX Class C shares and to have received proceeds of disposition equal to the fair market value of those shares immediately before A’s death. The XXXXXXXXXX Class A shares, XXXXXXXXXX Class B shares and XXXXXXXXXX Class C shares were not qualified small business corporation shares and, consequently, A, was not eligible to claim the deduction under section 110.6 on the shares nor did A, or any person not dealing at Arm’s Length with A, previously claim the deduction under that provision in respect of those shares or shares for which those shares were substituted within the meaning of subsection 248(5).

7.    The Estate is deemed to have acquired the XXXXXXXXXX Class A shares, XXXXXXXXXX Class B shares and XXXXXXXXXX Class C shares that were held by A at the time of A’s death at a cost equal to their fair market value immediately before A’s death pursuant to paragraph 70(5)(b). The XXXXXXXXXX Class A shares, XXXXXXXXXX Class B shares and XXXXXXXXXX Class C shares are Capital Property to the Estate. The Estate is a resident of Canada.

8.    Pursuant to the Will, Beneficiary1, Beneficiary2, Beneficiary3 and Beneficiary4 will each acquire an equal portion of the residue of the Estate.

9.    The Estate is a Canadian resident for tax purposes. XXXXXXXXXX.

10.   The mix and value of the Marketable Securities remain substantially the same as before A’s death. There will not be any material change to the investment activities carried on by the Corporation from the date of the ruling request until the date the Proposed Transactions are completed and thereafter.

PROPOSED TRANSACTIONS

The following proposed transactions will be implemented in the order presented unless otherwise noted.

11.   On or before XXXXXXXXXX, the Corporation will redeem the Redeemed RDTOH Shares. As a result of the redemption of the Redeemed RDTOH Shares, the Corporation will report to have paid a dividend to the Estate and the Estate will report to have received a dividend equal to the amount by which the amount paid by the Corporation on the redemption of the Redeemed RDTOH Shares exceeds the paid up capital of the Redeemed RDTOH Shares and such excess will be equal to XXXXXXXXXX times the outstanding balance of the Corporation’s RDTOH at the end of the relevant taxation year. The Corporation will designate to the extent of its GRIP balance, a portion of such deemed dividend to be an “eligible dividend” pursuant to subsection 89(14).

12.   In consideration of the redemption of the Redeemed RDTOH Shares, the Corporation will issue to the Estate PN1. The Estate will accept PN1 as full payment for the Redeemed RDTOH Shares.

13.   On the disposition of the Redeemed RDTOH Shares described in Paragraph 11 the Estate will report having incurred a capital loss equal to the difference between the proceeds of disposition (determined pursuant to paragraph (j) of the definition thereof) and the adjusted cost base of the Redeemed RDTOH Shares.

14.   On or before XXXXXXXXXX, the Corporation will redeem the Redeemed CDA Shares. As a result of the redemption of the Redeemed CDA Shares, the Corporation will report to have paid a dividend to the Estate and the Estate will report to have received a dividend equal to the amount by which the amount paid by the Corporation on the redemption of the Redeemed CDA Shares exceeds the paid up capital of the Redeemed CDA Shares and such excess will be equal to the CDA of the Corporation at that time.

15.   In consideration of the redemption of the Redeemed CDA Shares, the Corporation will issue to the Estate PN2. The Estate will accept PN2 as full payment for the Redeemed CDA Shares.

16.   The Corporation will elect in respect of the full amount of the deemed dividend referred in Paragraph 14, in prescribed manner and prescribed form and within the time referred to in subsection 83(2) to have the provisions of subsection 83(2) apply.

17.   On the disposition of the Redeemed CDA Shares described in Paragraph 14, the Estate will report having incurred a capital loss equal to the difference between the proceeds of disposition (determined pursuant to paragraph (j) of the definition thereof) and the adjusted cost base of the Redeemed CDA Shares, less any adjustments under subsection 112(3.2).

18.   The Executrix will make an election in prescribed manner and within the prescribed time for the purposes of subsection 164(6) in order that the Estate’s capital loss that will be declared in respect of the redemption by the Corporation of the Redeemed RDTOH Shares and the Redeemed CDA Shares is deemed to be a capital loss of A in A’s terminal year. XXXXXXXXXX.

19.   The Estate will incorporate Newco. Newco will be a Canadian-controlled private corporation and a taxable Canadian corporation. The authorized share capital of Newco will consist of:

(a)   An unlimited number of voting fully-participating common shares, designated as Class A shares; and

(b)   An unlimited number of non-voting non-participating, redeemable, retractable, preferred shares designated as Class B shares which will have a redemption amount and dividend rate to be fixed by the directors of Newco before the first issuance of the Class B shares.

20.   Upon incorporation of Newco, the Estate will subscribe for 1 Class A share of the capital stock of Newco for $XXXXXXXXXX cash consideration.

21.   The Estate will transfer the Remaining Shares to Newco in consideration for PN3 and XXXXXXXXXX Class B shares of the capital stock of Newco.

The principal amount of PN3 will be equal to the fair market value of the Remaining Shares as at the date of A’s death, less an amount of $XXXXXXXXXX. The fair market value of the XXXXXXXXXX Class B shares of the capital stock of Newco will be $XXXXXXXXXX plus the excess, if any, between the fair market value of the Remaining Shares as at the date of the transfer and the fair market value of the Remaining Shares as at the date of A’s death.

The Estate and Newco will jointly elect, in prescribed form and within the time referred to in subsection 85(6) to have the provisions of subsection 85(1) apply to the transfer described in this Paragraph. The agreed amount will be equal to the adjusted cost base of the Remaining Shares immediately before the transfer. The agreed amount in respect of each share so transferred will not be less than the lesser of the two amounts specified in paragraph 85(1)(c.1) nor will it be less than the amount described in paragraph 85(1)(b).

Newco will add to the stated capital of the Class B shares of the capital stock of Newco an amount of $XXXXXXXXXX.

The sum of the principal amount of PN3 and the amount added to the paid-up capital of the Class B shares of the capital stock of Newco will not exceed the fair market value of the Remaining Shares at the date of A’s death.

22.   For a period of XXXXXXXXXX after the transfer of the Remaining Shares to Newco, the asset allocation of the Marketable Securities as well as the investment activities carried on by the Corporation in respect of the Marketable Securities will be governed by the same guidelines as before the implementation of the Proposed Transactions (see Additional Information below).

23.   After at least XXXXXXXXXX has elapsed since the acquisition of the Remaining Shares by Newco, the Corporation and Newco will amalgamate pursuant to Act2 to form Amalco.

24.   In accordance with subsection 87(1), all the property and all the liabilities of the Corporation and Newco immediately before the amalgamation will become the property and liabilities of Amalco. In addition, all of the shareholders who owned shares of the capital stock of Newco immediately before the amalgamation will receive shares in Amalco.

25.   The authorized share capital of Amalco will be the same as Newco’s authorized share capital. Moreover, the tax attributes of each class of shares that the Estate will hold in Amalco after the amalgamation will be identical to the tax attributes of the corresponding class of issued and outstanding shares that the Estate held in Newco prior to the amalgamation.

26.   PN3 will be repaid over a period of time that will not be shorter than XXXXXXXXXX after the date of the amalgamation of the Corporation and Newco and the amount of the repayment, if any, in any given quarter of the period of XXXXXXXXXX after the date of the amalgamation will not exceed XXXXXXXXXX% of the aggregate principal amount of PN3 when it was issued.

27.   Once all debts and liabilities of the Estate have been ascertained and settled, the Executrix will complete the administration of the Estate and distribute the residue of the Estate to Beneficiary1, Beneficiary2, Beneficiary3 and Beneficiary4 in accordance with the terms of the Will.

ADDITIONAL INFORMATION

The Corporation engages an investment advisor to manage the Marketable Securities. The investment advisor has managed the Marketable Securities in conjunction with A and Beneficiary1 prior to A’s death and subsequently with Beneficiary1. Throughout the years and on a going forward basis, the investment strategy has consisted of and will consist of acquiring and maintaining a quality dividend paying investment portfolio in order to provide a source of income.

PURPOSE OF THE PROPOSED TRANSACTIONS

The purpose of the Proposed Transactions is to return to the Estate an amount equal to the value of the shares of the capital stock of the Corporation immediately before A’s death, while minimizing the inherent double tax that can result from the application of subsection 70(5), 84(2) or 84(3).

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant Facts, Proposed Transactions, Additional Information and Purpose of the Proposed Transactions and provided that the Proposed Transactions are completed in the manner described above, we confirm the following:

A.    Section 84.1 will not apply to deem the Estate to have received a dividend from Newco, on the disposition to Newco of the Remaining Shares, described in Paragraph 21, provided that the fair market value, immediately after the disposition, of PN3 is equal to or less then the adjusted cost base to the Estate, immediately before the disposition, of the Remaining Shares. 

B.    Subsection 84(2) will not apply as a result of the Proposed Transactions, in and by themselves, to deem the Corporation to have paid, and the Estate to have received, a dividend on the Remaining Shares held by the Estate.

C.    Subsection 40(3.61) will apply to the capital loss incurred by the Estate as a result of the redemption of the Redeemed RDTOH Shares and of the Redeemed CDA Shares.

D.    Subsection 112(3.2) will apply to reduce the capital loss incurred by the Estate as a result of the redemption of the Redeemed CDA Shares.

E.    The provisions of subsection 245(2) will not apply as a result of the Proposed Transactions, in and by themselves, to re-determine the tax consequences stated in the rulings given above.

The above rulings are given subject to the limitations and qualifications set out in Information Circular 70‑6R6 dated August 29, 2014 and are binding on the CRA provided that the Proposed Transactions, other than the Proposed Transactions described in Paragraphs 23 to 27, are completed within six months of the date of this letter, unless otherwise specified. 

The above rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act and the Regulations which, if enacted, could have an effect on the rulings provided herein. 

OTHER COMMENTS

Unless otherwise confirmed in the above rulings, nothing in this letter should be construed as implying that the CRA has confirmed, reviewed or has made any determination in respect of:

(a)   the paid-up capital of any share or the adjusted cost base or fair market value of any property referred to herein;

(b)   the balance of the CDA, GRIP, or RDTOH of any corporation;

(c)   that the Executrix is able to complete the Proposed Transactions under the terms of the Will;

(d)   that any person or individuals described herein deal, or do not deal, with any other person or individuals at arm’s length;

(e)   the application of section 116 to any future disposition of a capital interest in the Estate by Beneficiary3 and Beneficiary4; or

(f)   any other tax consequence relating to the facts, Proposed Transactions or any transaction or event taking place either prior to the Proposed Transactions or subsequent to the Proposed Transactions, whether described in this letter or not, other than those specifically described in the rulings given above.

An invoice for our fees in connection with this ruling request will be forwarded to you under separate cover.

Yours truly,

XXXXXXXXXX
for Division Director
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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