2017-0693691R3 Loss utilization

Principal Issues: Whether a transfer of depreciable property between related corporations designed to utilize capital losses is subject to GAAR?

Position: No. Similar to rulings 2000-0014543 and 9418413.

Reasons: Ruling 9419413 was presented to the GAAR Committee and it was concluded that GAAR would not apply.

Author: XXXXXXXXXX
Section: 13(7)(e); 85(1); 88(1); 245(2); RAIR 21

XXXXXXXXXX                                                                                                           2017-069369

XXXXXXXXXX, 2017

Dear XXXXXXXXXX,

Re:   Advance Income Tax Ruling Request
        Taxpayers:  XXXXXXXXXX (BN: XXXXXXXXXX)
                            XXXXXXXXXX (BN: XXXXXXXXXX)

This is in reply to your letter of XXXXXXXXXX in which you requested certain advance income tax rulings regarding the proposed transactions described herein.

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

1.    in a previously filed return of the Taxpayers or a related person;

2.    being considered by a tax services office or a taxation centre in connection with a previously filed tax return of the Taxpayers or a related person;

3.    under objection by the Taxpayers or related person;

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

5.    the subject of a ruling previously considered by the Income Tax Rulings Directorate.

I.    DEFINITIONS

Unless otherwise noted, all references herein to sections or components thereof are references to the Act, as amended and appropriate. All monetary amounts are expressed in Canadian dollars unless otherwise indicated. In addition, unless otherwise noted, the following terms have the meaning ascribed to them below:

(a)   “XXXXXXXXXX Agreement” means the agreement signed by Government of XXXXXXXXXX and Aco (now Canco) as described in Paragraph 28;

(b)   “XXXXXXXXXX Amendment” means amendments to the XXXXXXXXXX Agreement signed by Government of XXXXXXXXXX and Aco (now Canco) as described in Paragraph 29;

(c)   “XXXXXXXXXX Amendment” means amendments to the XXXXXXXXXX Agreement signed by Government of XXXXXXXXXX and Cco (now Canco) as described in Paragraph 30;

(d)   “XXXXXXXXXX Amendment” means further amendments to the XXXXXXXXXX Agreement signed by Government of XXXXXXXXXX and Canco as described in Paragraph 31;

(e)   “Aco” means XXXXXXXXXX;

(f)   “Act” means the Income Tax Act, R.S.C. 1985, c.1 (5th Supp.), as amended to the date of this ruling request. Unless otherwise stated, all terms and conditions used herein that are defined in the Act have the meaning given in such definition;

(g)   “active business” has the meaning assigned by subsection 248(1);

(h)   “actual amount” has the meaning assigned by ITAR 21(1);

(i)   “adjusted cost base” has, by virtue of subsection 248(1), the meaning assigned by section 54;

(j)   “agreed amount” has the meaning assigned by paragraph 85(1)(e);

(k)   “arm’s length” has the meaning assigned by subsection 251(1);

(l)   “Assets” means the XXXXXXXXXX and the immoveable properties related to the XXXXXXXXXX or the beneficial ownership of it, as appropriate herein;

(m)   “XXXXXXXXXX;

(n)   “Bco” means XXXXXXXXXX;

(o)   “Canco” means XXXXXXXXXX the corporation issued from the amalgamation of Cco and Dco and as described in Paragraphs 9 to 22;

(p)   “capital cost allowance” or “CCA” has the meaning assigned by Regulation 1100;

(q)   “capital gain” has, by virtue of subsection 248(1), the meaning assigned by subsection 39(1);

(r)   “capital loss” has, by virtue of subsection 248(1), the meaning assigned by subsection 39(1);

(s)   “capital property”, by virtue of subsection 248(1), has the meaning assigned by section 54;

(t)   XXXXXXXXXX;

(u)   “Cco” means XXXXXXXXXX, the corporation issued from the amalgamation of Aco and Bco;

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

(w)   “CRA” means the Canada Revenue Agency;

(x)   “cumulative eligible capital” or “CEC” has the meaning assigned by subsection 14(5), read as it did immediately before 2017;

(y)   “Dco” means XXXXXXXXXX, the corporation that acquired the shares of Cco and then was amalgamated with;

(z)   “depreciable property” has, by virtue of subsection 248(1), the meaning assigned by subsection 13(21);

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

(bb)  “eligible capital expenditures” or “ECE” has the meaning assigned by subsection 14(5), read as it did immediately before 2017;

(cc)  “eligible property” has the meaning assigned by subsection 85(1.1);

(dd)  “FMV” means fair market value;

(ee)  “Foreign Parent Group” means Foreign Parent and entities over which Foreign Parent has de jure control;

(ff)  “Foreign Holdco” means XXXXXXXXXX, as more particularly described in Paragraphs 5 to 8;

(gg)  “Foreign Parent” means the XXXXXXXXXX, as more particularly described in Paragraphs 1 to 4;

(hh)  “government right” has the meaning assigned by ITAR 21(3);

(ii)  “ITAR” means the Income Tax Application Rules, RSC 1985, c.2 (5th suppl.) as amended to the date hereof;

(jj)  “Lease Agreement” has the meaning described in Paragraph 47;

(kk)  “XXXXXXXXXX” means the XXXXXXXXXX rights and permits described in Paragraphs 29 to 31;

(ll)  “paid-up capital” or “PUC” has, by virtue of subsection 248(1), the meaning assigned by subsection 89(1);

(mm)  “Paragraph” or “Paragraphs” refers to a paragraph or paragraphs of this letter;

(nn)  “private corporation” has the meaning assigned by subsection 89(1);

(oo)  “proceeds of disposition” has the meaning assigned by section 54;

(pp)  “Proposed Transactions” means the transactions described in Paragraphs 42 to 50;

(qq)  “Regulation” or “Regulations” means the Income Tax Regulations, C.R.C., c. 945, as amended to the date hereof;

(rr)  “related persons” has the meaning assigned by subsection 251(2);

(ss)  “specified right” has the meaning assigned by ITAR 21(3);

(tt)  “Subco” means XXXXXXXXXX, as more particularly described in Paragraph 23 to 27;

(uu)  “taxable Canadian corporation” has, by virtue of subsection 248(1), the meaning assigned by subsection 89(1);

(vv)  “undepreciated capital cost” or “UCC” has, by virtue of subsection 248(1), the meaning assigned by subsection 13(21);

(ww)  “V-day value” means the FMV as at December 31, 1971.

II.   FACTS

Foreign Parent

1.    Foreign Parent is a corporation governed by the laws of XXXXXXXXXX.

2.    Foreign Parent is a XXXXXXXXXX company whose business is XXXXXXXXXX, through its subsidiaries (together with Foreign Parent thereafter “Foreign Parent Group”). Foreign Parent Group’s major products are XXXXXXXXXX.

3.    The outstanding common stock of Foreign Parent is primarily listed on the XXXXXXXXXX Stock Exchange and is also publicly traded on other stock exchanges.

4.    Foreign Parent is not a resident of Canada and does not carry on business in Canada for the purpose of the Act.

Foreign Holdco

5.    Foreign Holdco is a corporation governed by the laws of XXXXXXXXXX.

6.    All of the issued and outstanding common shares of the capital stock of Foreign Holdco are owned by Foreign Parent.

7.    Foreign Holdco is not a resident of Canada and does not carry on business in Canada for the purposes of the Act.

8.    Foreign Holdco owns approximately XXXXXXXXXX% of all the issued and outstanding shares of the capital stock of Canco.

Canco

9.    Canco is governed by the XXXXXXXXXX and is a taxable Canadian corporation. Effective from XXXXXXXXXX, Canco is a private corporation.

10.   The authorized capital of Canco consists of common shares and preferred shares, both denominated in Canadian dollar, and preferred XXXXXXXXXX shares denominated in XXXXXXXXXX dollar.

11.   The only issued and outstanding shares of the capital stock of Canco are XXXXXXXXXX common shares, all of which are owned by Foreign Holdco.

12.   On XXXXXXXXXX, Canco was formed through the merger of Cco and Dco. This merger followed the takeover of Cco by Dco on XXXXXXXXXX. This vertical amalgamation was subject to subsection 87(1) where all of the properties of Cco, including the XXXXXXXXXX, became properties of Canco.

13.   Cco was previously formed, on XXXXXXXXXX, from the merger of Aco and Bco. This vertical amalgamation was also subject to subsection 87(1) where all of the properties of the predecessor corporations (Aco and Bco), including the XXXXXXXXXX, became properties of Cco.

14.   Canco, among other assets, owns XXXXXXXXXX% of all the issued and outstanding common shares of the capital stock of Subco.

15.   Canco is involved in many aspects of the XXXXXXXXXX production and operates XXXXXXXXXX.

16.   Canco’s financial and taxation year-end is XXXXXXXXXX.

17.   During its taxation year ending XXXXXXXXXX, Canco maintained permanent establishments in XXXXXXXXXX provinces: XXXXXXXXXX. Canco’s provincial allocation for XXXXXXXXXX, as determined under part IV of the Regulations, was as follows: XXXXXXXXXX. Canco does not anticipate this allocation changing significantly for the foreseeable future.

18.   As at XXXXXXXXXX, Canco has cumulated capital losses available to carry forward of approximately $XXXXXXXXXX ($XXXXXXXXXX were realized from XXXXXXXXXX to the end of XXXXXXXXXX and approximately $XXXXXXXXXX in XXXXXXXXXX). Canco does not anticipate realizing significant capital gains in a near future.

19.   Canco has incurred eligible capital expenditures in respect of its business before XXXXXXXXXX and as at XXXXXXXXXX, Canco had a balance of approximately $XXXXXXXXXX in its CEC account.

20.   Canco owns XXXXXXXXXX in Canada including one located in XXXXXXXXXX. Back in the XXXXXXXXXX, Canco acquired the lands on which the XXXXXXXXXX was constructed and as per relevant agreements, further described below, Canco was granted XXXXXXXXXX rights from the province in order to develop the XXXXXXXXXX. The XXXXXXXXXX were all completed by XXXXXXXXXX.

21.   The capital cost of the XXXXXXXXXX as well as any additions to it over time were included in relevant classes of Schedule II to the Regulations, as appropriate.

22.   Canco’s head office and mailing address is XXXXXXXXXX. Its business number is XXXXXXXXXX and it is served by the XXXXXXXXXX Tax Centre and the XXXXXXXXXX Tax Services Office.

Subco

23.   Subco is a private corporation governed by the XXXXXXXXXX and is a taxable Canadian corporation.

24.   The authorized capital of Subco consists of common shares denominated in Canadian dollar.

25.   The only issued and outstanding share of the capital stock of Subco is 1 common share, which is owned by Canco.

26.   Subco was incorporated on XXXXXXXXXX and its financial and taxation year-end is XXXXXXXXXX. Its taxation year for XXXXXXXXXX will be less than XXXXXXXXXX.

27.   Subco’s head office is XXXXXXXXXX and mailing address is XXXXXXXXXX. Its business number is XXXXXXXXXX and it is served by the XXXXXXXXXX Taxation Centre. To its knowledge, it has not been assigned a Tax Services Office by the CRA.

Relevant Agreements

28.   On XXXXXXXXXX, pursuant to the XXXXXXXXXX, the Government of the Province of XXXXXXXXXX granted Aco certain rights, including the rights represented by the XXXXXXXXXX.

29.   XXXXXXXXXX.

30.   XXXXXXXXXX.

31.   XXXXXXXXXX.

32.   XXXXXXXXXX.

33.   XXXXXXXXXX.

34.   XXXXXXXXXX.

35.   On XXXXXXXXXX, the XXXXXXXXXX became property of Cco on the amalgamation of Aco and Bco. On XXXXXXXXXX, the XXXXXXXXXX became property of Canco upon the amalgamation of Cco and Dco.

36.   The XXXXXXXXXX was continuously used by Canco and its predecessors from XXXXXXXXXX in the course of their active business.

37.   The total amount of outlays or expenditures made or incurred by Aco as a result of a transaction that occurred before XXXXXXXXXX for the purpose of acquiring the XXXXXXXXXX, which was not otherwise deducted, would, if made after XXXXXXXXXX, be an ECE. To the best of your knowledge, such total amount is XXXXXXXXXX. To the best of your knowledge, no outlays or expenditures made or incurred by Canco (or its predecessors), if any, in respect of the XXXXXXXXXX since XXXXXXXXXX have been added to its CEC account.

38.   The XXXXXXXXXX qualifies as a government right and a specified right in respect of a government right for the benefit of ITAR 21. As described in Paragraphs 28 to 31 above, the XXXXXXXXXX is a right XXXXXXXXXX:

a.    that enables Canco (previously Cco and Aco) to carry on an active business in accordance with the laws of the province of XXXXXXXXXX to an extent to which Canco would otherwise be unable to carry it on in accordance therewith,

b.    that was granted or issued by the province of XXXXXXXXXX or its authorized body to grant or issue such a right XXXXXXXXXX, and

c.    that was acquired by Canco as a result of a transaction that occurred before XXXXXXXXXX.

39.   As per paragraph 13(38)(b), the capital cost attributable to the XXXXXXXXXX could not exceed its eligible capital expenditures which, to the best of your knowledge, is XXXXXXXXXX.

40.   The XXXXXXXXXX is an identifiable property, which does not qualify as “goodwill” nor “outlays not relating to property” as described in subsections 13(34) and (35).

41.   Based on the above, as of XXXXXXXXXX, the XXXXXXXXXX is a depreciable property included in Class 14.1 with a XXXXXXXXXX capital cost.

III.  PROPOSED TRANSACTIONS

42.   Canco will transfer the beneficial ownership of the XXXXXXXXXX and the immoveable properties related to it (the “Assets”) to Subco in exchange for common shares of the capital stock of Subco having a paid-up capital equal to the agreed amount described in Paragraphs 43 and 44 below. The transfer will be done at FMV as established by an independent evaluator.

43.   Canco and Subco will jointly elect, in prescribed form within the time limit referred to in subsection 85(6), to have the provisions of subsection 85(1) apply to the transfer of the Assets. As such, the agreed amount specified in each election will be within the limits specified in subsection 85(1).

44.   The agreed amount in respect of the XXXXXXXXXX will exceed its capital cost but will not exceed the aggregate of:

(a)   the V-day value of the XXXXXXXXXX; and
(b)   an amount of Canco’s capital losses carryforwards available before the Proposed Transactions.

Since the agreed amount of the XXXXXXXXXX transferred will exceed the cost amount, Canco will realize a capital gain.

45.   As a result of the transfer of the Assets, Subco will have the beneficial ownership, the right to possession and use, and the risk of gain or loss in respect of the Assets.

46.   Canco will retain legal title to the Assets under a nominee agreement whereby Subco may, at any time, require Canco to deliver legal title to any person designated by Subco. Notwithstanding that Canco retains legal title to the Assets, no significant value is attributed to this legal title as Subco will enjoy and bear all incidents and obligations of the ownership.

47.   On the same day, immediately after the transfer of the Assets, Subco will lease the Assets to Canco (the “Lease Agreement”) and will earn income. Under the Lease Agreement, which will be on arm’s-length terms and conditions, Subco will be entitled to receive lease payments from Canco.

48.   At least XXXXXXXXXX after the transfer of the assets provided for in Paragraph 42, Subco will be wound-up into Canco. A conveyance of all assets and assumption of all liabilities will be executed, resulting in the nominee agreement described above being terminated and the Assets being transferred back to Canco. The dissolution of Subco will be effected as soon as practically possible.

For the purposes of subsections 13 and 20 (and any regulations made for the purpose of paragraph 20(1)(a)), Canco will consider that the capital cost of the depreciable property acquired by Canco from Subco on the winding-up will be equal to the capital cost of the depreciable property for Subco before the winding-up for the same purposes, as determined under paragraph 13(7)(e).

49.   For its taxation year ending XXXXXXXXXX, Canco will not deduct any capital cost allowance in respect of the Assets transferred from Subco.

50.   Canco and Subco will carry out all necessary legal steps to give full effect to the aforementioned transactions including passing the relevant resolutions and supporting consent agreements.

IV.   PURPOSE OF THE PROPOSED TRANSACTIONS

The purpose of the proposed transactions is to facilitate a tax-efficient use of Canco’s available capital losses within the affiliated group. As stated above, Canco is not expected to realize significant capital gains in a near future. This loss utilization plan should permit Canco to utilize some or all of its capital losses to offset all of the capital gain realized on the disposition of the Assets to Subco, while at the same time permitting Canco to reacquire the Assets at an increased cost amount on which it should be entitled to claim additional capital cost allowance.

V.    RULINGS GIVEN

Provided that the preceding statements constitute complete and accurate disclosure of all the relevant facts, proposed transactions and purposes of the Proposed Transactions, and provided that the Proposed Transactions are completed in the manner described above, our rulings are as follows:

A.    Provided that the transfer of the Assets, described in Paragraphs 42 to 45 above, from Canco to Subco, is legally effective, it will result in a disposition of the Assets by Canco for purposes of the Act.

B.    Provided the appropriate election is filed by Canco and Subco in prescribed form and manner within the time limits specified in subsection 85(6) and provided that the transfer of Assets constitute a disposition of eligible property, the provisions of subsection 85(1) will apply to the transfer of the Assets described in Paragraphs 42 to 45 above such that:

i)    the agreed amount in respect of such transfer will be deemed to be the proceeds of disposition of the Assets to Canco thereof and the cost of the Assets to Subco;

ii)   the cost and the PUC of the Subco common shares received as consideration for the transfer of the Assets will be equal to the agreed amount to Canco; and

iii)  for greater certainty, the provision of paragraph 85(1)(e.2) will not apply to the transfer of the Assets.

C.    The provisions of paragraph 13(7)(e) will apply, where the capital cost of a depreciable property transferred to Subco, determined without reference to that paragraph, exceeds the capital cost of such property to Canco before its disposition, such that the capital cost to Subco of such property will be equal to the amount described in subparagraph 13(7)(e)(ii).

D.    On the winding-up of Subco into Canco described in Paragraph 48 above, the provisions of subsection 88(1) will apply, such that:

i)    each property of Subco distributed to Canco on the winding-up will be deemed by paragraph 88(1)(a) to have been disposed of by Subco for proceeds of disposition equal to the cost amount;

ii)   the share in the capital stock of Subco held by Canco immediately before the winding-up will be deemed by paragraph 88(1)(b) to have been disposed of by Canco for proceeds determined under that paragraph; and

iii)  each property of Subco distributed to Canco on the winding-up will be deemed by paragraph 88(1)(c) to have been acquired by Canco for an amount equal to the amount deemed by paragraph 88(1)(a) to be Subco’s proceeds of disposition of the property;

E.    On each transfer of the Assets that are depreciable property (a) to Subco pursuant to section 85 as described in Paragraph 42 and (b) to Canco upon the winding-up of Subco as described in Paragraph 48, the provisions of

i)    Regulation 1102(14) will apply to deem the Assets that are depreciable property, transferred to the particular transferee, to be property of the same prescribed class as that of the respective transferor immediately before the transfer;

ii)   provided that the conditions described in Regulations 1100(2.2)(f) and (g) are met, no amount will be included under Regulation 1100(2)(a) for such property;

iii)  Regulation 1102(20) will not apply to the Proposed Transactions;

F.    Subsection 245(2) will not be applied as a result of the Proposed Transactions, in and of themselves, to redetermine the tax consequences as described in the rulings given.

The above rulings are given subject to the limitations and qualifications set forth in Information Circular 70-6R7 dated April 22, 2016. They are binding on the CRA provided that the Proposed Transactions are completed before XXXXXXXXXX, 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.

Comments

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

(a)   the PUC of any share or the ACB or FMV of any property referred to herein, or the outstanding balance of various tax accounts, such as capital losses, for any of the corporate entities described herein; or

(b)   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.

Nothing in this letter should be construed as a confirmation, express or implied, that, for the purpose of any of the rulings given above, any adjustment to the FMV of the properties transferred or the redemption amount of the shares issued as consideration, whether pursuant to a price adjustment clause or otherwise, will be effective retroactively to the time of the transfer and issuance of shares. Furthermore, none of the rulings given in this letter are intended to apply to or in the event of the operation of a price adjustment clause, since such adjustment will be due to circumstances that do not constitute proposed transactions that are seriously contemplated. The general position of the CRA with respect to price adjustment clauses is stated in Income Tax Folio S4-F3-C1, Price Adjustment Clauses.

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

Yours truly,

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

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, 2018

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, 2018