2016-0671501C6 2016 CTF–Q8–55(2) clause 55(2.1)(b)(ii)(B)

Principal Issues: Is cash property for purposes of clause 55(2.1)(b)(ii)(B)?

Position: Yes. The scheme of subsection 55(2) considers cash as property.

Reasons: See document.

Author: Ton-That, Marc
Section: 55(2.1)(b)(ii)(B), 12(1)(j), 52(2), 55(2), 112(1), 248(1)

2016 CTF Annual Conference
CRA Roundtable

Question 8: 55(2) Fundamental Principles – Is cash a “property” for purposes of clause 55(2.1)(b)(ii)(B)

Is cash considered to be property for purposes of the application of clause 55(2.1)(b)(ii)(B)?

CRA Response:

Subsection 55(2) and the concept of cost are cornerstones of the corporate taxation system.  Subsection 55(2) essentially negates the effect of the dividend deduction under subsection 112(1) when such deduction is not warranted.

The underlying principle of subsection 112(1) is to eliminate duplication of tax on income moving through a corporate chain by exempting the income from additional corporate tax when it was already subject to tax in another corporation.  Concurrently, property that is received by a shareholder as a dividend generally has, by virtue of subsection 52(2), a cost equal to the fair market value of the property.  The cost ensures that the value of the property that was included in income as a dividend under paragraph 12(1)(j), even if offset by a corresponding deduction under subsection 112(1), does not get included in income a second time when the property is disposed of.  The concept of cost reflects the fact that the value of the dividend was included in the income of the dividend recipient under paragraph 12(1)(j).  The cost ensures that only the future increase in the value of the property is taxed.  Therefore, the concept of cost shares with subsection 112(1) the objective of preventing the duplication of tax paid by corporations.

When a dividend, in the form or cash or any other type of property, is paid from income that has been subject to tax in the hands of the dividend payer, the dividend will normally be a safe income dividend.  If so, it is appropriate for the corporate shareholder to obtain a deduction under subsection 112(1) in respect of that dividend in order to avoid the duplication of tax paid by corporations.  As explained above, the cost to a shareholder of the cash or any other type of property received as a dividend is equal to its fair market value on the basis that the dividend was included in income.

When a dividend is paid from a source that has not been subject to tax in the hands of the dividend payer, the dividend will normally not be a safe income dividend.  Such dividend might be paid from borrowed cash, from share subscription proceeds or from any source of untaxed income.  The role of subsection 55(2) is to question whether one of the purposes of the payment or receipt of such dividend, amongst any other objectives, is to significantly reduce the fair market value of a share or to increase the cost amount of property of the dividend recipient.  If so, the scheme of the provision is that such dividend should not be tax-free.  The scheme of subsection 55(2), amongst other objectives, is to preserve the integrity of the corporate tax system by prompting an inclusion in income where there is an increase in the cost of property of the dividend recipient when such increase in cost has not been taxed in the hands of the dividend payer or the dividend recipient and when a purpose of effecting such increase exists.  Such inclusion results from the recharacterization of the dividend as proceeds of disposition or as a capital gain.

The concept of cost and subsection 55(2) share the objective of preventing the duplication of corporate tax while ensuring that tax is paid on an amount of cash or other property received in the form of a dividend, where such dividend is not supported by income that was subject to tax in the hands of the dividend payer.  The scheme of the Act generally does not allow for an increase in cost where no tax is paid on the corresponding gain.  For example, if a corporate shareholder transfers a property it owns (other than shares of the corporation) to the corporation or to another person, a taxable gain will be realized if the cost amount of the consideration received on the transfer is greater than the cost amount of the property transferred.  Thus, there is a lack of tax integration where a corporate shareholder receives a property on a payment of a dividend that is not taxable but the cost of the property received is greater than the amount on which tax is paid by either the dividend payer or the corporate shareholder. 

Property is defined in subsection 248(1) as including money, unless a contrary intention is evident.  As explained above, the scheme of subsection 55(2) is to consider cash as property. 

Note that cash received on the payment of a dividend that was subject to the application of subsection 55(2) can then be used to purchase any other property or additional shares in the dividend payer which, in the latter case, results in an increase in the cost amount of shares held by the shareholder in the dividend payer.

Marc Ton-That
2016-067150
November 29, 2016

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