2015-0624601R3 Loss Consolidation

Principal Issues: Loss consolidation in which a lossco lends money to a profitco for the acquisition of shares of a newly incorporated company.

Position: Similar to other loss consolidation rulings that we have given.

Reasons: The proposed transactions comply with our requirements for loss consolidation arrangements.

Author: XXXXXXXXXX
Section: 20(1)(c); 88(1)

XXXXXXXXXX                                                                                  2015-062460

XXXXXXXXXX, 2016

Dear XXXXXXXXXX:

Re: XXXXXXXXXX
      Advance Income Tax Ruling

We are writing in response to your letter of XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-referenced taxpayers (the “Taxpayers”), as amended by your letter dated XXXXXXXXXX. We also acknowledge the information provided in various emails and telephone conversations.

To the best of your knowledge and that of the Taxpayers, none of the issues involved in the ruling request is:

i. in an earlier return of any of the Taxpayers or a related person;

ii. being considered by a tax services office or a tax centre in connection with a tax return already filed by any of the Taxpayers or a related person;

iii. under objection by any of the Taxpayers or a related person;

iv. before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; or

v. the subject of a ruling previously issued by the Directorate to any of the Taxpayers or a related person.

The Taxpayers have also confirmed that the proposed transactions described herein will not result in the Taxpayers or any person related to the Taxpayers being unable to pay any of their outstanding tax liabilities.

Unless specified otherwise, all statutory references herein are to provisions or parts of the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) c. 1, as amended to the date hereof (the “Act”), or the Income Tax Regulations (the “Regulations”), and all references to monetary amounts are in Canadian dollars.

This document is based solely on the facts described below. Any documentation submitted with your request does not form part of the facts except as expressly referred to herein, and any references thereto are otherwise provided solely for the convenience of the reader.

DEFINITIONS

In this letter, the following terms or expressions have the meanings specified:

“adjusted cost base” (“ACB”) has the meaning assigned in section 54 of the Act;

“Agreeing Province” means a Province that has entered into an agreement with the Government of Canada under which the Government of Canada will collect taxes payable under the income tax statute of that Province and will make payments to that Province in respect of the taxes so collected;

“CBCA” means the Canada Business Corporations Act, R.S.C. 1985, c.44, as amended;

“Canco” means a new corporation incorporated under the CBCA (described in Paragraph 6);

“Canco Loan” has the meaning assigned in Paragraph 11;

“Canco Common Shares” has the meaning assigned in Paragraph 6;

“Canco Preferred Shares” has the meaning assigned in Paragraph 6;

“Company” means XXXXXXXXXX (described in Paragraph 3);

“Company Debenture” has the meaning assigned in Paragraph 10;

“Facts” means the facts described in this letter under the heading “Facts”;

“fair market value” (“FMV”) means the highest price available in an open and unrestricted market between informed, prudent parties acting at arm’s length and under no compulsion to act;

“financial intermediary corporation” has the meaning assigned by subsection 191(1) of the Act;

“General Anti-avoidance Provision of an Agreeing Province” means:

XXXXXXXXXX

“Issued Canco Preferred Shares” has the meaning assigned in Paragraph 9;

XXXXXXXXXX;

XXXXXXXXXX;

XXXXXXXXXX;

“non-capital losses” has the meaning assigned by paragraph 111(1)(a) of the Act;

“paid up capital” (“PUC”) has the meaning assigned by subsection 89(1) of the Act;

“Paragraph” means a numbered paragraph in this letter;

“Parent” means XXXXXXXXXX (described in Paragraph 1);

“principal amount” has the meaning assigned by subsection 89(1) of the Act;

“Proposed subsection 55(2)” means subsection 55(2) as proposed in the Legislative Proposals Relating to the Income Tax Act and Regulations on July 31, 2015;

“Proposed Transactions” means the proposed transactions described in this letter under the heading “Proposed Transactions”;

“Public Corporation” has the meaning assigned by subsection 89(1) of the Act;

“related” has the meaning assigned by subsection 251(2) of the Act;

XXXXXXXXXX

“taxable dividend” has the meaning assigned by subsection 89(1) of the Act; and

“taxable Canadian Corporation” has the meaning assigned by subsection 89(1) of the Act.

FACTS

1. Parent is incorporated pursuant to the CBCA, is a taxable Canadian corporation and a public corporation.  Each class and series of its issued shares is listed on the XXXXXXXXXX.  Parent has a XXXXXXXXXX year end.  Parent is a XXXXXXXXXX in Canada, XXXXXXXXXX through its subsidiaries, including Company.  Parent’s address is XXXXXXXXXX. Parent files its tax returns with the XXXXXXXXXX Taxation Centre and deals with the XXXXXXXXXX Taxation Office.

2. As of XXXXXXXXXX, Parent had non-capital losses totalling approximately $XXXXXXXXXX, which were incurred in the taxation years from XXXXXXXXXX, and it expects to incur a non-capital loss of approximately $XXXXXXXXXX for its taxation year ending XXXXXXXXXX.  Thus, Parent will have approximately $XXXXXXXXXX in non-capital losses that remain unused at the end of its XXXXXXXXXX taxation year and which will start to expire in XXXXXXXXXX.

3. Company is a XXXXXXXXXX.  The common shares of Company are owned by Parent which controls Company.  In particular, as of XXXXXXXXXX, Parent owned XXXXXXXXXX common shares of Company which were all the issued shares of Company.  Company is a taxable Canadian corporation, a XXXXXXXXXX, and a XXXXXXXXXX.   Company has a XXXXXXXXXX year end.   Company carries on the business of XXXXXXXXXX in Canada and XXXXXXXXXX. Company’s address is XXXXXXXXXX. Company files its tax returns with the XXXXXXXXXX Taxation Centre and deals with the XXXXXXXXXX Taxation Office.

4. Parent earns income from dividends on the shares it owns of Company and of other subsidiaries and interest on indebtedness of Company. Parent also earns income from XXXXXXXXXX.

5. The non-capital losses of Parent are attributable principally to the decline in interest income earned on short-term investments, increased administration and public company costs, and to increased interest expense on debt it owes denominated in United States dollars as a result of the change in the Canada–United States foreign exchange rate.

PROPOSED TRANSACTIONS

6. Parent will incorporate a new corporation (“Canco”) under the CBCA that will be a taxable Canadian corporation and a XXXXXXXXXX. XXXXXXXXXX. Canco will have a XXXXXXXXXX year end. Canco’s authorized capital will consist of XXXXXXXXXX of an unlimited number of common shares (the “Canco Common Shares”) and XXXXXXXXXX of an unlimited number of preferred shares (the “Canco Preferred Shares”) which will include the following attributes:

(a) the Canco Common Shares will be voting;

(b) the Canco Preferred Shares:

i. will be non-voting except where the CBCA otherwise requires a statutory vote;

ii. will be redeemable at any time by Canco for an amount equal to the amount for which they were issued and any unpaid dividends which may accumulate prior to their redemption;

iii. will be entitled to an annual cumulative dividend at a rate which will be XXXXXXXXXX basis points greater than the interest rate on the Company Debenture and calculated on their redemption amount; and

iv. on dissolution will have a preference over the Canco Common Shares for the return of their redemption amount plus any unpaid dividends which may accumulate prior to the dissolution.

7. Parent will subscribe for XXXXXXXXXX Canco Common Shares for $XXXXXXXXXX on the incorporation of Canco.  Canco will use the proceeds to acquire publicly traded equities.

8. Parent will borrow $XXXXXXXXXX from XXXXXXXXXX.

9. Parent will use the $XXXXXXXXXX borrowed from XXXXXXXXXX to subscribe for Canco Preferred Shares (the “Issued Canco Preferred Shares”).  The amount to be added to the stated capital account maintained for the Issued Canco Preferred Shares under the CBCA will be equal to the subscription price paid to Canco for the Issued Canco Preferred Shares such that these shares will have an aggregate FMV, PUC and redemption amount equal to the said payments.

10. Parent will immediately sell all of the Issued Canco Preferred Shares to Company.  As payment, Company will issue a debenture (the “Company Debenture”) to Parent that will have a principal amount and FMV equal to the FMV of the Issued Canco Preferred Shares.  The Company Debenture will bear a market interest rate at the time of issue expected to be approximately XXXXXXXXXX% and will be repayable on the XXXXXXXXXX anniversary date of its issue, subject to the right of Parent to demand repayment at any time after the XXXXXXXXXX anniversary date of its issue.  The Company Debenture will also provide that Parent’s right to repayment will be restricted to having recourse to the Issued Canco Preferred Shares only, and not to any other assets of Company.  Company will give Parent a secured interest in the Issued Canco Preferred Shares (and any proceeds from their redemption or sale).

11. Canco will immediately lend the proceeds it receives from Parent on the subscription of the Issued Canco Preferred Shares to Parent on an interest free, payable on demand basis (the “Canco Loan”).  Parent will apply the proceeds from the Canco Loan to repay the $XXXXXXXXXX borrowed from XXXXXXXXXX in Paragraph 8.

12. Company will pay interest to Parent on the Company Debenture on an annual basis.  Based on Company’s financial projections, it will have the financial capacity to honour its obligation to pay such interest on the Company Debenture from its own cash flow.  The annual interest payment date on the Company Debenture will be the same as the annual dividend payment date on the Issued Canco Preferred Shares.

13. Parent will agree with Canco to make, and will make, annual capital contributions on the common share capital of Canco in a total amount equal to the amount of annual dividends to be paid by Canco on the Issued Canco Preferred Shares held by Company for so long as any such shares are outstanding.  Based on Parent’s existing assets and resources, Parent will be able to make the capital contributions to Canco without taking into account the interest income it will receive from Company as described in Paragraphs 10 and 12.  Under generally accepted accounting principles these capital contributions will be recorded as contributed surplus and will not be reported as income to Canco in its financial statements.

14. Canco will use the amounts received as capital contributions as described in Paragraph 13 to pay dividends on the Issued Canco Preferred Shares to Company on an annual basis.

15. The payments and contributions referred to in Paragraphs 12, 13 and 14 above will be made over a XXXXXXXXXX period, XXXXXXXXXX during the year.

16. Within XXXXXXXXXX years of the issue of the Company Debenture, Parent will unwind the proposed structure as follows:

(a) Parent will make capital contributions to Canco equal to the amount of any accrued and unpaid dividends on the Issued Canco Preferred Shares;

(b) Canco will declare and pay the balance of any accrued and unpaid dividends on the Issued Canco Preferred Shares;

(c) Company will pay the balance of any accrued and unpaid interest owing under the Company Debenture;

(d) Canco will redeem the Issued Canco Preferred Shares held by Company and will pay the amount owing on the redemption by assigning to Company the Canco Loan;

(e) Company will repay the Company Debenture by assigning to Parent the Canco Loan which would be owing by Parent to Company as a result of the assignment in step 16(d), and the Company Debenture and the Canco Loan will thereupon be cancelled;

(f) Canco will dispose of the publicly traded securities it acquired in Paragraph 7 of the Proposed Transactions, and pay the income taxes resulting from the disposition, if applicable; and

(g) After the transactions in Paragraphs 16(a) to (f) have been completed such that the only issued and outstanding shares of Canco are the XXXXXXXXXX common shares owned by Parent, Parent as sole shareholder of Canco, will pass a resolution authorizing and requiring Canco to be wound up into Parent. In addition, a general conveyance of the remaining assets of Canco and assumption of liabilities of Canco, if any, will be executed between Canco and Parent. Canco will file articles of dissolution with the appropriate corporate registry within a reasonable time after the winding-up resolution is passed and it has received its final assessment of tax.

ADDITIONAL INFORMATION

17. The Issued Canco Preferred Shares will not be, at any time during the implementation of the proposed transactions described herein:

(a) the subject of any undertaking that is referred to in subsection 112(2.2) of the Act as a “guarantee agreement”;

(b) the subject of a dividend rental arrangement as that term is defined in subsection 248(1) of the Act;

(c) the subject of any secured undertaking of the type described in paragraph 112(2.4)(a); or

(d) issued for consideration that is or includes:

i. an obligation of the type described in subparagraph 112(2.4)(b)(i), other than an obligation of a corporation that is related (otherwise than by reason of a right referred to in paragraph 251(5)(b)); or

ii. any right of the type described in subparagraph 112(2.4)(b)(ii).

18. Each of Parent and Canco will agree with Company that Canco will be a single-purpose company, will have no liabilities and will carry on no activity other than as contemplated in the Proposed Transactions.

19. Company has and will have (i) the financial capacity to honor the principal amount payable under the Company Debenture; and (ii) the financial capacity to pay the interest on the Company Debenture from its own cash flow.  The interest charged on the Company Debenture will not create or increase a noncapital loss in Company.

20. The Issued Canco Preferred Shares:

(a) will not be XXXXXXXXXX of Company,

(b) will be used or held by Company in the course of carrying on its XXXXXXXXXX business in Canada, and

(c) will not be acquired by Company in XXXXXXXXXX.

21. Company expects to be subject to Part I taxes after the Proposed Transactions are completed.

22. The Proposed Transactions will not result in any of Parent, Company, or Canco being unable to pay their outstanding tax liabilities.

23. Parent’s annual gross revenue in its XXXXXXXXXX taxation year was allocated to the Province of XXXXXXXXXX and this allocation is not expected to materially change for XXXXXXXXXX. 

24. For the purposes of XXXXXXXXXX, Company’s XXXXXXXXXX in its XXXXXXXXXX taxation year were allocated among the Provinces and Territories as follows:

XXXXXXXXXX

This allocation has been consistent for XXXXXXXXXX through XXXXXXXXXX and is expected to remain consistent going forward.

25. There have not been any acquisitions of control related to Parent or Company and none are planned for the future.

26. The amount of Issued Canco Preferred Shares will be reported as preferred shares in the equity section of Canco’s balance sheet of its financial statements and at the end of any taxation year and will be required to be included in its “capital” for that taxation year within the meaning of section 190.13 of the Act.

27. The Canco dividends described in Paragraph 14 have no purpose other than the purpose described under the heading “Purpose of the Proposed Transactions.”

PURPOSE OF THE PROPOSED TRANSACTIONS

28. The purpose of the Proposed Transactions is to enable Parent to earn sufficient interest income so that in calculating its income for purposes of the Act, it will be able to utilize its accumulated non-capital losses.

Currently, Parent has XXXXXXXXXX $XXXXXXXXXX deferred tax asset regarding its non-capital losses carried forward which have accumulated since XXXXXXXXXX and are currently estimated to be $XXXXXXXXXX as at XXXXXXXXXX.  Due to reductions in interest rates, increased general and administrative expenses and changes in the Canada-U.S. exchange rate, Parent currently forecasts it will continue to incur non-capital losses.

For financial reporting purposes, Parent is prohibited from recognizing the tax recovery associated with these losses unless it is able to demonstrate that it is more likely than not that it will have sufficient taxable income on an ongoing basis to utilize those deductions under the applicable tax law.  Due to the current history it is becoming increasingly difficult to meet the above criteria. The Proposed Transactions will allow Parent to be able to meet the above criteria.  As a public corporation whose XXXXXXXXXX, it is very important that the tax recovery associated with such losses for financial reporting purposes continue to be recognized by Parent.

29. The reason that Parent will subscribe for $XXXXXXXXXX of Canco Common Shares is to provide Canco with funds to invest in a portfolio of equity securities so that Canco will thereafter qualify as a XXXXXXXXXX in which Company may acquire a substantial investment (through its acquisition of the Issued Canco Preferred Shares) under XXXXXXXXXX.  Canco will invest the subscription proceeds in publicly traded equities.

30. The reason that Company is purchasing the Issued Canco Preferred Shares from Parent is to ensure that Company is making an “acquisition” within the meaning of XXXXXXXXXX, which deals with related party transactions in the course of a restructuring.  If Company borrowed money from Parent and subscribed for the Issued Canco Preferred Shares, such subscription may not be an “acquisition” for the purposes of XXXXXXXXXX.

31. The purpose of both the payment and the receipt of the Canco dividends on the Issued Canco Preferred Shares, as described in Paragraph 14, is to provide a reasonable return on the Issued Canco Preferred Shares. Furthermore, the purpose of the Canco dividends is not to reduce the fair market value of any share, nor to increase the total cost amounts of properties of Company.

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant Facts, Proposed Transactions, Additional Information and Purpose of the Proposed Transactions and provided further that the Proposed Transactions are carried out as described above, we rule as follows:

A. The dividends received by Company on the Issued Canco Preferred Shares, as described in Paragraph 14, will be taxable dividends that will be deductible pursuant to XXXXXXXXXX in computing the taxable income of Company for the year in which such dividends are received; and such deduction will not be precluded by any of subsections 112(2.1), (2.2), (2.3) or (2.4) of the Act.

B. Subsection 55(2) of the Act will not apply in respect of the Canco dividends described in Paragraph 14.

C. Provided that Company has a legal obligation to pay interest on the Company Debenture, as described in Paragraph 10, and Company continues to hold the Issued Canco Preferred Shares, described in Paragraph 9, for the purpose of earning income from a business or property (XXXXXXXXXX), Company will be entitled, pursuant to paragraph 20(1)(c) of the Act, to deduct the interest payable by Company in computing its income for the purposes of the Act in respect of the year on the Company Debenture.

D. The Issued Canco Preferred Shares will, pursuant to XXXXXXXXXX, be deemed to be XXXXXXXXXX of Company so that, as a result, XXXXXXXXXX will not apply to restrict the application of paragraph 20(1)(c) of the Act in respect of the interest on the Company Debenture referred to in Ruling C.

E. No amount will be included in the income of Canco pursuant to section 9, paragraphs 12(1)(c) or 12(1)(x), of the Act in respect of the capital contributions made by Parent to Canco as described in Paragraphs 13 and 16.

F. The provisions of subsection 88(1) will apply to the winding-up of Canco into Parent as described in Paragraph 16(g), such that:

(a) Canco will be deemed, pursuant to paragraph 88(1)(a), to have disposed of its assets for an amount equal to the cost amount to Canco immediately before the winding-up;

(b) Parent will be deemed, pursuant to paragraph 88(1)(b), to have disposed of the XXXXXXXXXX Canco common shares that it owns for proceeds of disposition equal to the greater of the amounts described in subparagraphs 88(1)(b)(i) and (ii); and

(c) Parent will be deemed, pursuant to paragraph 88(1)(c), to have acquired the assets of Canco that are distributed to Parent on the winding-up for an amount equal to the proceeds of disposition to Canco.

G. None of subsections 15(1), 56(2), 69(1), 69(4), 69(11) or 246(1) of the Act will apply in regard to the Proposed Transactions, in and by themselves.

H. Subsection 245(2) of the Act will not apply in regard to the Proposed Transactions, in and by themselves, to re-determine the tax consequences sought in any of the preceding rulings.

I. The General Anti-avoidance Provisions of an Agreeing Province will not be applied, as a result of the Proposed Transactions, in and by themselves, to re-determine the tax consequences sought in any of the preceding rulings in respect of a taxation year for which such Province is an Agreeing Province.

The above rulings are 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 ones described in Paragraph 16, are completed prior to XXXXXXXXXX.  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 into law, could have an effect on the rulings provided herein.

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 fair market value or adjusted cost base of any property or the paid-up capital of any shares referred to herein;

(b) the reasonableness or fair market value of any fees or expenditures referred to herein;

(c) the amount of any non-capital loss, net capital loss or any other amount of any corporation referred to herein;

(d) the provincial income tax implications relating to the allocation of income and expenses under the Proposed Transactions;

(e) subject to Ruling I, the application or non-application of a general anti-avoidance provision of any province; and

(f) any tax consequences relating to the Facts and Proposed Transactions described herein, other than those specifically described in the rulings given above.

OPINION

Provided that (i) the preceding statements constitute a complete and accurate disclosure of all of the relevant Facts, Proposed Transactions, Additional Information and the Purpose of Proposed Transactions; (ii) the Proposed Transactions are undertaken in the manner described above; and (iii) the Act is amended in accordance with the draft legislative proposals released by the Department of Finance on July 31, 2015, subsection 55(2) will not apply in respect of the Canco dividends described in Paragraph 14 above.

The foregoing opinion is not a ruling and, as noted in paragraph 19(f) of Information Circular 70-6R6, is not binding on the CRA.

Yours sincerely,

XXXXXXXXXX
for Director
Partnerships and Corporate Financing Section
International Division
Income Tax Rulings Directorate

All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without the prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5.

© Her Majesty the Queen in Right of Canada, 2017

Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistribuer de l'information, sous quelque forme ou par quelque moyen que ce soit, de façon électronique, mécanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.

© Sa Majesté la Reine du Chef du Canada, 2017