2016-0648971E5 Replacement property

Principal Issues: Whether a commercial rental property (land and building) could be considered replacement property for a former property (expropriated farmland).

Position: Question of fact, likely not.

Reasons: See below.

Author: Robinson, Katie
Section: 44

                                                                                                                               2016-064897
XXXXXXXXXX                                                                                                       K. Robinson

June 7, 2016

Dear XXXXXXXXXX:

Re: Replacement property – involuntary disposition

This is in reply to your correspondence dated May 18, 2016, wherein you requested our views on the application of subsection 44(1) of the Income Tax Act (“Act”).  The facts in your letter are briefly summarized as follows:

*     A corporation owns farmland that is used to earn rental income.

*     A portion of the farmland was expropriated (“former property”).

*     The corporation is considering acquiring a commercial rental property (land and building) as replacement property for the former property.

*     The corporation intends to use the commercial rental property to earn rental income.

Your specific concern is whether, for the purpose of paragraph 44(5)(a.1) of the Act, the corporation will be considered to have acquired replacement property for a use that is the same or similar to that of the former property.

Our Comments

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced).  It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination.  The income tax treatment of a particular transaction proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R7, Advance Income Tax Rulings and Technical Interpretations.

The “same or similar use” test set out in paragraph 44(5)(a.1) of the Act is explained in paragraphs 16 and 17 of Interpretation Bulletin IT-259R4, Exchange of Property. Paragraph 16 discusses “same or similar use” in the context of an involuntary disposition of a former property where such property was not used for the purpose of gaining or producing income from a business (i.e., rental property or personal-use property).  Paragraph 16 states:

16.   Where a former property described in paragraph 1(a) was not used for the purpose of gaining or producing income from a business, the following comments apply in determining whether a replacement property is acquired for “the same or a similar use” as required by paragraphs 13(4.1)(a.1) and 44(5)(a.1) (as described in paragraph 14(b)(ii)).

(a)   This requirement is met where the use of the property is the same or similar to the use to which the taxpayer or a person related to the taxpayer put the former property.  Since the former property must have been used, land that has never been used by the taxpayer or a related person cannot qualify as a former property.  Land (or any other capital property) that has been used for non-income earning purposes can qualify as a former property (for example, a personal-use cottage that is expropriated).  Land that is acquired for resale cannot qualify because it is not a capital property.

(b)   Although the property generally will bear the same physical description as the former property, for example, land replaced by land or a building by a building (but see paragraph 4), there may be cases where a different type of property provides the same use or function as the former property.  For example, where shares of a cooperative corporation which carry rights to accommodation in an office building are acquired to replace an expropriated office building of the taxpayer, the shares could constitute a replacement property.

While it remains a question of fact, it is our view that in order to comply with the conditions set out in paragraph 44(5)(a.1), the replacement property should have the same physical characteristics as the former property.  Since the commercial rental property (which includes land and a building) does not have the same physical characteristics of the farmland (land only), the commercial rental property would not be considered replacement property within the meaning of subsection 44(5) regardless of the fact that the use of both the farmland and the commercial rental property may be used to earn rental income.

We trust that these comments will be of assistance.

Yours truly,

Michael Cooke, CPA, CA
Manager
Business Income and Capital Transaction Section
Business and Employment Division
Income Tax Rulings Directorate

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