2016-0635051R3 rollout property to beneficiary non-resident trust

Principal Issues: 1. whether 107(2) will apply to the distribution from the trust of real property to the beneficiary 2. whether the debt assumed as a condition of receiving the distribution from the trust will be an eligible offset 3. whether the debt assumed is an amount payable for property acquired for the purpose of 20(1)(c) 4. whether the assumption of the debt will cause the trust to cease to meet the definition of “personal trust”

Position: 1. yes 2. yes 3. yes 4. no

Reasons: 1. all four of the conditions of 107(4.1) are not met; conditions of 107(2) are met 2. based on the facts, debt assumed meets the definition of eligible offset in 108(1) 3. based on the facts, amounts meet the requirement of 20(1)(c) 4. based on the facts, trust meets the definition of personal trust in 248(1)

Author: XXXXXXXXXX
Section: 20(1)(c), 75(2), 94(8.1), 94(8.2), 107(2), 107(4.1), 108(1), 248(1)

XXXXXXXXXX                                                                                                                                               2016-063505

XXXXXXXXXX, 2016

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling
       XXXXXXXXXX
       XXXXXXXXXX

This is in reply to your letter dated XXXXXXXXXX requesting an advance income tax ruling on behalf of the above mentioned taxpayer. We also acknowledge our telephone conversations of XXXXXXXXXX, correspondence of XXXXXXXXXX, and emails including those of XXXXXXXXXX regarding your request.

We understand that to the best of your knowledge, and that of the above taxpayer, none of the following issues involved in the ruling request is:

(i) in an earlier tax return of the taxpayer 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 the taxpayer or a related person,

(iii) under objection by the taxpayer or a related person,

(iv) before the courts, or

(v) the subject of a ruling previously issued by the Directorate to the taxpayer or a related person.

This document is based solely on the facts and proposed transactions described below.  The documentation submitted with your request does not form part of the facts and proposed transactions and any references thereto are provided solely for the convenience of the reader. Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended (the “Act”), and all terms and conditions used herein that are defined in the Act have the meaning given in such definitions unless otherwise indicated.

DEFINITIONS

All monetary amounts are expressed in Canadian dollars unless otherwise indicated.

The following terms and taxpayers referred to throughout this document have the following meaning:

(a) “adjusted cost base” or “ACB” has the meaning assigned by section 54;

(b) “cost amount” has the meaning assigned by subsection 248(1);

(c) “Beneficiary” means XXXXXXXXXX, a company incorporated in XXXXXXXXXX with registered office as XXXXXXXXXX;

(d) “Canco 1” means XXXXXXXXXX, a company incorporated in Canada and a member of the XXXXXXXXXX Group. Canco 1 is the legal owner of the Real Property;

(e) “Canco 2” means XXXXXXXXXX, a company incorporated and resident in Canada and a member of the XXXXXXXXXX Group. Canco 2 is the Lessee of the Real Property beneficially owned by the Trust;

(f) “capital gain” has the meaning assigned by paragraph 39(1)(a);

(g) “capital property” has the meaning assigned by section 54;

(h) “CRA” means Canada Revenue Agency;

(i) “disposition” has the meaning assigned by subsection 248(1);

(j) “eligible offset” has the meaning assigned by subsection 108(1);

(k) “Finco” means XXXXXXXXXX, a company incorporated in XXXXXXXXXX and a member of the XXXXXXXXXX Group. Finco is a wholly-owned direct subsidiary of the Beneficiary;

(l) “Lease” means the lease pursuant to which the Trust has leased the Real Property to the Lessee;

(m) “Lessee” means Canco 2;

(n) “Loan 1” means a loan payable to XXXXXXXXXX with an approximate principal balance of $XXXXXXXXXX, bearing interest currently at the rate of XXXXXXXXXX%, due XXXXXXXXXX and secured by a mortgage, an assignment of rents, and a general security agreement in respect of the Real Property;

(o) “Loan 2” means a loan payable to XXXXXXXXXX with an approximate principal balance of $XXXXXXXXXX, bearing interest currently at the rate of XXXXXXXXXX%, due XXXXXXXXXX and secured by a mortgage, an assignment of rents, and a general security agreement in respect of the Real Property;

(p) “Loan 3” means a promissory note payable to Finco with an approximate principal balance of $XXXXXXXXXX, bearing interest currently at the rate of XXXXXXXXXX%, repayable on demand, and unsecured. Loan 3 was borrowed by the Trust to acquire the beneficial ownership of the Real Property as described below;

(q) “Promissory Note Receivable” means a note receivable from XXXXXXXXXX with an approximate balance outstanding of $XXXXXXXXXX, bearing interest at the rate of XXXXXXXXXX%, receivable on demand, and unsecured (XXXXXXXXXX is a company incorporated in XXXXXXXXXX that is a wholly-owned indirect subsidiary of XXXXXXXXXX; XXXXXXXXXX is a majority shareholder of XXXXXXXXXX);

(r) “Properties” means the Real Property and the Lease;

(s) “Real Property” means the capital property, including depreciable property, known as the XXXXXXXXXX, located at XXXXXXXXXX; the Real Property is property described in subparagraph 128.1(4)(b)(i) and is taxable Canadian property pursuant to the definition of that term in subsection 248(1);

(t) “Settlor” means XXXXXXXXXX, a company incorporated in XXXXXXXXXX which has since been liquidated and thus is no longer in existence; the Settlor was a member of the XXXXXXXXXX Group and a wholly owned subsidiary of XXXXXXXXXX;

(u) “XXXXXXXXXX Group” means a group of companies under common control of XXXXXXXXXX, a company incorporated and resident in XXXXXXXXXX and listed for trading on XXXXXXXXXX;

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

(w) “Trust” means XXXXXXXXXX, which is a personal trust settled by the Settlor and which owns the Properties;

(x) “Trustee” means XXXXXXXXXX, who became the Trustee on XXXXXXXXXX and whose name was changed XXXXXXXXXX pursuant to XXXXXXXXXX); and

(y)  “Vendor” means the XXXXXXXXXX.

FACTS

1. The Trust is a non-resident personal trust established under the laws of XXXXXXXXXX. The Trust was settled with XXXXXXXXXX$XXXXXXXXXX on XXXXXXXXXX by the Settlor. No other contributions have ever been made to the Trust. All amounts, comprised of Loan 1, Loan 2, and Loan 3, other than the XXXXXXXXXX$XXXXXXXXXX settled on the Trust, have been borrowed.

2. The Settlor has since been liquidated and is no longer in existence. There are no provisions in the trust agreement which governs the Trust that grant rights and powers reserved for the Settlor to a person other than the Settlor, or that otherwise cause a person to assume the role of the Settlor. Consequently, such rights and powers reserved for the Settlor can no longer be exercised. No person, other than the Settlor, was at any time subject to subsections 75(2) or 94(8.2).

3. No beneficial interest in the Trust has been acquired for consideration payable directly or indirectly to the Trust, or any person or partnership that has made a contribution to the Trust by way of transfer, assignment or other disposition of property. The Beneficiary’s adjusted cost base of its capital interest in the Trust, immediately before the distribution described in paragraph 14 below, is nil.

4. The Trustee is a company incorporated under the laws of XXXXXXXXXX and resident in XXXXXXXXXX. The Trustee deals at arm’s length with the Beneficiary, and other members of XXXXXXXXXX Group.

5. The settled funds of XXXXXXXXXX$XXXXXXXXXX were not used to acquire property (including substituted property) but rather have been used by the Trust to partially cover certain administration costs.

6. The sole beneficiary of the Trust is Beneficiary, a member of the XXXXXXXXXX Group.

7. Under the terms of the Trust, all income of the Trust is required to be paid over to the Beneficiary or applied for its use and benefit.

8. The Trust purchased beneficial ownership of the Real Property on XXXXXXXXXX for $XXXXXXXXXX in accordance with the steps described below. Pursuant to an Offer to Purchase accepted on XXXXXXXXXX, between Canco 1 and the Vendor, and to a Bill of Sale (Absolute) dated XXXXXXXXXX, Canco 1 purchased the Real Property, for the amount of $XXXXXXXXXX purchase price adjustments. Pursuant to a declaration of trust dated XXXXXXXXXX, Canco 1 declared that it purchased and held beneficial interest to the Real Property in trust for Canco 2. Canco 2 financed the purchase from Vendor by way of Loan 3 from Finco and Loan 1, being a mortgage in favour of the Vendor. Pursuant to an Agreement of Purchase and Sale dated XXXXXXXXXX, the original trustee for the Trust acquired the entire beneficial interest in the Real Property from Canco 2 for consideration of $XXXXXXXXXX (which amount included the various purchase price adjustments) payable by the assumption of Loan 1, being the loan from the Vendor secured by the Real Property and Loan 3, being the loan from Finco. Legal title to the Real Property is held by Canco 1. [Legal title to the Real Property was acquired from the Vendor by XXXXXXXXXX. These companies were amalgamated as one company under the name of XXXXXXXXXX. on XXXXXXXXXX.]

9. If the Settlor, while it existed, had revoked the Trust, the Trustee would have been obligated to transfer, pay over and deliver the entire property of the Trust, both principal and income, to the Beneficiary; that is, the beneficial ownership of the Real Property and the Lease would not have reverted to the Settlor.

10. The Settlor never appointed a protector in respect of the Trust.

11. The Trustee has all the powers granted to it by law and the full power in its discretion to make distributions of income or principal to the Beneficiary. However, as referenced in paragraph 7 above, all income (net of all expenses and other amounts properly chargeable against income) shall be paid over to the Beneficiary or applied for its use and benefit.

12. Since the time of acquisition of the Real Property by the Trust, the Trust has leased the Real Property to the Lessee and received rent from the Lessee. The Trust has filed an income tax return in Canada under Part I as provided by subsection 216(1), for each taxation year during which it has owned the Real Property, claiming capital cost allowance in respect of depreciable property to the extent permissible and appropriate.
 
13. The Trust borrowed Loan 2 from Vendor on XXXXXXXXXX for the purpose of investing in the Promissory Note Receivable and earning interest income from XXXXXXXXXX. The funds were advanced to XXXXXXXXXX on XXXXXXXXXX. A portion of the Promissory Note Receivable has since been repaid and the funds used to both reduce the amount of Loan 3 due to Finco and to fund an addition to the building that is part of the Real Property.

PROPOSED TRANSACTIONS

14. Before XXXXXXXXXX, the Trustee will exercise its authority to distribute the Properties to the Beneficiary.

15. As a condition of receiving the Properties from the Trust, the Beneficiary will assume the outstanding balance of the liabilities for principal amounts under Loan 1, Loan 2, and Loan 3 (“Assumed Debt”) as at the date of distribution. There is no “contingent amount” on Loan 1, Loan 2 or Loan 3 as defined in subsection 143.4(1) of the Act. The Assumed Debt will be the sole consideration given for the Properties acquired. The fair market value of the Properties received will exceed the amount of the Assumed Debt. Interest accrued on each of Loan 1, Loan 2, and Loan 3 to the date of the distribution will be paid by the Trust.

16. As a consequence of the distribution by the Trust to the Beneficiary, there will be a resulting disposition of part of the Beneficiary’s capital interest in the Trust.

17. Following the distribution, the Beneficiary will own the Properties and earn rental income from the Lessee.

18. The Trust will not elect under subsection 107(2.001) to cause subsection 107(2) to not apply.

PURPOSE OF PROPOSED TRANSACTIONS

19. On XXXXXXXXXX, the Trust will be deemed under subsection 104(4) to have disposed of each property of the Trust for proceeds equal to fair market value at that time (the so-called “21 year deemed realization rule”). The value of the Real Property has increased substantially since the time of its acquisition, such that there would be a substantial capital gain and recapture of capital cost allowance (with resulting income tax payable) if the Real Property was deemed to have been disposed of by the Trust.

20. The purpose of the Proposed Transaction is to ensure that subsection 104(4) does not apply on XXXXXXXXXX to deem the Properties to have been disposed of by the Trust for fair market value by distributing the Properties to the Beneficiary prior to that date.

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, proposed transactions and the purpose of the proposed transactions, and there are no other transactions that may be relevant to the rulings given, our rulings are as follows:

A. Subsection 107(2) will apply to the distribution from the Trust of the Real Property to the Beneficiary such that:

(i) pursuant to paragraph 107(2)(a) the Trust will be deemed to have disposed of the Real Property for proceeds of disposition equal to its cost amount to the Trust immediately before the distribution;

(ii) pursuant to paragraph 107(2)(b) the Beneficiary will be deemed to have acquired the Real Property at a cost equal to its cost amount to the Trust immediately before the distribution;

(iii) pursuant to subsection 107(1.1), paragraph 107(1)(a), and the definition of the cost amount in subsection 108(1), the adjusted cost base of the part of the capital interest in the Trust to the Beneficiary, immediately before the disposition of such part of the capital interest, will be deemed to be the total of all amounts each of which is the cost amount to the Trust of each of the Properties distributed;

(iv) pursuant to paragraph 107(2)(c) the Beneficiary will be deemed to have disposed of part of its capital interest in the Trust for proceeds of disposition equal to the amount, if any, by which the cost as determined in (ii) above exceeds the amount which is an eligible offset at that time of the Beneficiary in respect of the part of its capital interest; and

(v) pursuant to paragraph 107(2)(d), in respect of the portion of the Real Property distributed that is depreciable property of a prescribed class of the Trust, if the capital cost to the Trust of that property exceeds the cost at which the Beneficiary is deemed by section 107 to have acquired the property, for the purposes of sections 13 and 20 and any regulations made under paragraph 20(1)(a), the capital cost to the Beneficiary of the property shall be deemed to be the amount that was the capital cost of the property to the Trust, and the excess of such capital cost over the cost shall be deemed to have been allowed to the Beneficiary under the Regulations made under paragraph 20(1)(a) in computing income for tax years before acquisition by the Beneficiary of the property.

B. The amount of the Assumed Debt in respect of Loan 1, Loan 2, and Loan 3 as a condition of receiving the distribution from the Trust will be an eligible offset within the meaning of that term in subsection 108(1).

C. The amount of the Assumed Debt is an amount payable for the Properties acquired for the purpose of subparagraph 20(1)(c)(ii).

D. The assumption of the Assumed Debt by the Beneficiary will not, in and of itself, cause the Trust to cease to meet the definition of a “personal trust” in subsection 248(1).

Except as expressly stated, this advance income tax ruling does not imply acceptance, approval or confirmation of any other income tax implications of the facts or proposed transactions described herein.  For greater certainty, the CRA has not confirmed or made any determination in respect of:

(a) the fair market value of any property or the reasonableness of any amount referred to herein, including the fair market value of the Properties or the amounts of the Assumed Debt;

(b) any income tax consequences relating to the facts or proposed transactions described herein other than those specifically described in the rulings given above; or

(c) any income tax consequences relating to the distribution of the Lease to the Beneficiary.

The above advance income tax rulings, which are based on the Act and Income Tax Regulations to the Act in their present form and do not take into account any proposed amendments thereto, are given subject to the general limitations and qualifications set out in Information Circular 70-6R7, dated April 22, 2016, and are binding on the CRA provided that the proposed transactions are completed within XXXXXXXXXX of the date of this letter.

Yours truly,

XXXXXXXXXX
Manager, Trust Section I
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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