2017-0731971R3 Reorganization and distribution on PUC reduction

Principal Issues: Does subsection 84(2) apply to a distribution that occurs with a concurrent reduction in a corporation's stated capital?

Position: Yes.

Reasons: Distribution occurs on a reorganization of the business. Consistent with other rulings given.

Author: XXXXXXXXXX
Section: 84(2), 84(4.1), 53(2), 40(3)

XXXXXXXXXX                                                                                                           2017-073197

XXXXXXXXXX, 2018

Dear XXXXXXXXXX,

Re:   Advance Income Tax Ruling
         XXXXXXXXXX (BN: XXXXXXXXXX, XXXXXXXXXX Tax Services Office, XXXXXXXXXX Taxation Centre)             (herein referred to as “Taxpayer”)

This is in reply to your letter of XXXXXXXXXX in which you requested an advance income tax ruling on behalf of the Taxpayer.

We understand that to the best of your knowledge and that of the Taxpayer, none of the proposed transactions and/or issues involved in this ruling are the same as or substantially similar to transactions and/or issues that are:

(a)   in a previously filed return of the Taxpayer or a related person;

(b)   being considered by a tax services office or taxation centre in connection with a previously filed tax return of the Taxpayer or a related person;

(c)   under objection by the Taxpayer or a related person;

(d)   the subject of a current or completed court process involving the Taxpayer or a related person; or

(e)   the subject of a ruling previously considered by the Directorate in relation to the Taxpayer or a related person.

Unless otherwise noted, all references herein to sections or components thereof are references to the Income Tax Act, R.S.C. 1985, c.1 (5th Supp.), as amended (the “Act”) and all references to monetary amounts are in Canadian dollars.

This document is based solely on the facts and proposed transactions described below.  The documentation submitted with the request does not form part of the facts and proposed transactions and any references thereto are provided solely for the convenience of the reader.

DEFINITIONS

“ACo” means XXXXXXXXXX, a corporation that is dealing at arm’s length with the Taxpayer;

“Act1” means the XXXXXXXXXX;

“ACB” means “adjusted cost base” and has the meaning assigned by section 54;

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

“BCo” means XXXXXXXXXX, a corporation that is dealing at arm’s length with the Taxpayer;

“Board of Directors” means the board of directors of the Taxpayer;

“Canadian resource property” has the meaning assigned by subsection 66(15);

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

“CCDE” means “cumulative Canadian development expense” and has the meaning assigned by subsection 66.2(5);

“CCEE” means “cumulative Canadian exploration expense” and has the meaning assigned by subsection 66.1(6);

“CCo” means XXXXXXXXXX, a corporation that is dealing at arm’s length with the Taxpayer;

“CRA” means the Canada Revenue Agency;

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

“Dissent Rights” refers to the statutory dissent rights of the Taxpayer’s shareholders, under the provisions of Act1, as modified under the Plan of Arrangement;

“Dissenting Shareholders” refers to the common shareholders of the Taxpayer that exercise their Dissent Rights”;

“Exchange” means the XXXXXXXXXX;

“Expanded Property 3” refers to the Taxpayer’s XXXXXXXXXX in the XXXXXXXXXX including its XXXXXXXXXX, referred to in Paragraph 11, Property 3 and the XXXXXXXXXX referred to in Paragraph 12(b);

“FMV” or “fair market value” 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, expressed in terms of cash;

“Mineral resource” has the meaning assigned by subsection 248(1);

“Newco” means XXXXXXXXXX, a company incorporated under the provisions of Act1, as described in Paragraph 14;

“Newco Common Shares” means the common shares in the capital of Newco, without par value, of which Newco will be authorized to issue an unlimited amount;

“Newco Distribution Shares” means a number of Newco Common Shares that is equal to XXXXXXXXXX of the number of the Taxpayer’s issued and outstanding common shares at the time of the Proposed Transactions;

“NI 43-101” means National Instrument 43-101 for the Standards of Disclosure for Mineral Projects, published by the Canadian Securities Administrators;

“non-capital loss” has the meaning assigned by subsection 111(8);

“NSR” means net smelter return;

“Paragraph” means a numbered paragraph in this letter;

“Plan of Arrangement” means the plan of arrangement prepared in accordance with the provisions of Act1 in respect of the Proposed Transactions;

“Property 1” means the XXXXXXXXXX located in the XXXXXXXXXX, as described in Paragraph 9;

“Property 2” means XXXXXXXXXX of XXXXXXXXXX located in the XXXXXXXXXX that the Taxpayer acquired from ACo pursuant to the Property 2 Purchase Agreement, as described in Paragraph 10;

“Property 2 Purchase Agreement” means the agreement between the Taxpayer and ACo dated XXXXXXXXXX pursuant to which the Taxpayer agreed to acquire Property 2 from ACo;

“Property 3” means the XXXXXXXXXX and the XXXXXXXXXX near XXXXXXXXXX, as described in Paragraph 11;

“Proposed Transactions” means the transactions described in Paragraphs 15 through 20 of this letter;

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

“PUC” means “paid-up capital” and has the meaning assigned by subsection 89(1);

“Related person” has the meaning assigned by subsection 251(2);

“Stated Capital Account” refers to the account that the Taxpayer is required to maintain for its common shares that it issues in accordance with Act1, and it reflects the aggregate amount of stated capital in respect of its issued common shares; and

“Taxable Canadian corporation” has the meaning assigned by subsection 89(1).

FACTS

1.    The Taxpayer was incorporated under Act 1 on XXXXXXXXXX.

2.    The Taxpayer is a public corporation, a taxable Canadian corporation and a principal-business corporation.

3.    The fiscal period of the Taxpayer ends on XXXXXXXXXX of each year.

4.    The authorized share capital of the Taxpayer consists of an unlimited number of common shares without par value of which there are XXXXXXXXXX common shares issued and outstanding at the date of this letter. XXXXXXXXXX.

5.    The common shares of the Taxpayer are listed on the Exchange under the ticker symbol "XXXXXXXXXX" and are widely-held by the public.

6.    The Taxpayer is in the business of XXXXXXXXXX. To date, the Taxpayer has acquired interests in properties that are XXXXXXXXXX.

7.    The PUC and the FMV of the common shares of the Taxpayer is approximately $XXXXXXXXXX and $XXXXXXXXXX, respectively, at the date of this letter.

8.    The Taxpayer had approximately $XXXXXXXXXX of CCEE, $XXXXXXXXXX of CCDE, and a $XXXXXXXXXX non-capital loss at XXXXXXXXXX.

Properties Owned by the Taxpayer

9.    Property 1 is XXXXXXXXXX. 

10.   Property 2 is XXXXXXXXXX. 

11.   Property 3 includes XXXXXXXXXX.  

12.   Subsequent to the acquisition of Property 3, the Taxpayer has:

a.    terminated the XXXXXXXXXX mentioned in Paragraph 11;

b.    significantly enlarged its XXXXXXXXXX Property 3 by XXXXXXXXXX;

c.    received a XXXXXXXXXX;

d.    received XXXXXXXXXX authorizing the Taxpayer to conduct XXXXXXXXXX activities at Property 3;

e.    acquired the XXXXXXXXXX% NSR held by BCo in Property 3 such that the only underlying royalty on Expanded Property 3 is the XXXXXXXXXX% NSR held by CCo in respect of the XXXXXXXXXX; and

f.    commissioned and received a draft of an updated NI 43-101 technical report on Property 3 which it expects to release in the near term.

13.   In summary, the Taxpayer’s XXXXXXXXXX business has been carried on since XXXXXXXXXX with the acquisition of Property 1 and the recent addition of Property 2 while its XXXXXXXXXX business has become significant more recently with the completion of the acquisition of Property 3 in XXXXXXXXXX and the additional work performed by the Taxpayer to obtain the XXXXXXXXXX.

14.   On XXXXXXXXXX, in contemplation of the Proposed Transactions, the Taxpayer incorporated Newco for nominal consideration in exchange for one Newco Common Share.

PROPOSED TRANSACTIONS

The Taxpayer proposes to implement the following transactions within XXXXXXXXXX of the date of this letter:

15.   Newco will make an application to list the Newco Common Shares on the Exchange.

16.   The Taxpayer will purchase for cancellation any of its common shares held by shareholders that exercise their Dissent Rights, if any, at FMV. For greater certainty, these Dissenting Shareholders (if any) will cease to hold common shares of the Taxpayer at that time.

17.   The Taxpayer will transfer Expanded Property 3 to Newco (and possibly sufficient funds to ensure Newco meets the original listing requirements of the Exchange). In exchange for Expanded Property 3, Newco will issue the Newco Distribution Shares to the Taxpayer. This transfer will take place at FMV, which is currently estimated at approximately $XXXXXXXXXX. For greater certainty, the Taxpayer and Newco will not file a subsection 85(1) election in respect of this transfer.

18.   Pursuant to an authorization received from the Board of Directors, the Taxpayer will reduce its Stated Capital Account by an amount equal to the aggregate FMV of the Newco Distribution Shares at such time.  For greater certainty, the aggregate FMV of the Newco Distribution Shares will be approximately $XXXXXXXXXX, based on the estimate of the FMV of the property to be transferred to Newco, as described in Paragraph 17.

19.   Concurrently with the reduction of its Stated Capital Account, the Taxpayer will make a pro-rata distribution of the Newco Distribution Shares to its common shareholders.

20.   Newco will purchase its one Newco Common Share issued to the Taxpayer on incorporation for cancellation, such that the Taxpayer will not own any shares of Newco.

PURPOSE OF THE PROPOSED TRANSACTIONS

21.   The Taxpayer believes that it is in the best interests of its shareholders to proceed with the Proposed Transactions for the following reasons:

a.    To remove the confusion that has been created in the marketplace for its shareholders, potential shareholders and other investors after it acquired Expanded Property 3, because previously, the Taxpayer was recognized as essentially a XXXXXXXXXX company through its ownership of Property 1.

b.    Given the current level of its stock price, by distributing the Newco Distribution Shares to its shareholders, the Taxpayer intends to unlock the unrecognized potential value of the Newco Distribution Shares and place such value directly in the hands of its shareholders in the form of Newco Common Shares that will be listed for trading on the Exchange.

c.    With the establishment of Newco as a separate listed public company, the Taxpayer expects that any future valuation will be based solely on its XXXXXXXXXX properties and potential, including Property 1 and Property 2.

d.    With the establishment of Newco as a separate listed public company, Newco will be positioned to achieve the type of benefits enjoyed by listed public companies such as increasing Newco’s access to capital through the public markets.

ADDITIONAL INFORMATION

22.   The Proposed Transactions in Paragraphs 16 to 20 will be undertaken in accordance with the Plan of Arrangement.

23.   The FMV of the Newco Distribution Shares distributed to the Taxpayer’s common shareholders, as described in Paragraph 19, will not exceed the portion of the PUC of the Taxpayer’s common shares at the time of such distribution that arose from cash subscription proceeds for issuances of common shares of the Taxpayer.

24.   The reduction of the Taxpayer’s Stated Capital Account, as described in Paragraph 18, and the concurrent distribution of the Newco Distribution Shares, as described in Paragraph 19, are one-time transactions made outside of the ordinary course of the Taxpayer’s business, and are not being made in lieu of ordinary course dividends.

25.   The Taxpayer does not have an established policy for paying dividends and as of the date of this letter, the Taxpayer has not paid a dividend on its issued and outstanding common shares, nor has the Taxpayer returned any PUC to its common shareholders.

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, additional information, proposed transactions and purpose of the Proposed Transactions and provided that the Proposed Transactions are completed in the manner described above, we confirm the following:

A.    Subject to the application of subsection 40(3), the reduction of the Stated Capital Account, as described in Paragraph 18, will not, in and by itself, result in a disposition of common shares of the Taxpayer by any shareholder of the Taxpayer.

B.    Subsection 84(2) will apply, and subsection 84(4.1) will not apply, to the distribution of the Newco Distribution Shares by the Taxpayer to its common shareholders, as described in Paragraph 19, such that the Taxpayer will only be deemed to have paid, and the common shareholders of the Taxpayer will only be deemed to have received, a dividend on the common shares of the Taxpayer to the extent that the aggregate FMV of the Newco Distribution Shares received by the common shareholders exceeds the aggregate amount by which the PUC of the Taxpayer’s common shares is reduced on the distribution of the Newco Distribution Shares.

C.    Where a holder of common shares of the Taxpayer holds such common shares as capital property, an amount equal to the aggregate FMV of the Newco Distribution Shares received by that common shareholder on the distribution described in Paragraph 19 shall be deducted in computing that common shareholder’s ACB of such shares pursuant to subparagraph 53(2)(a)(ii), and where such amount exceeds that common shareholder’s ACB thereof, the excess will be deemed to be a gain of that common shareholder for the year from a disposition of such shares under subsection 40(3).

D.    The cost of a Newco Distribution Share received by a common shareholder of the Taxpayer as a consequence of the distribution described in Paragraph 19 will be equal to the FMV of that Newco Distribution Share at the time of such distribution.

E.    Subsection 245(2) will not apply to the Proposed Transactions, in and by themselves, to re-determine the tax consequences of the rulings given in this letter.

The above rulings are given subject to the 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 the time frame stated in this letter.

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. 

OTHER COMMENTS

Nothing in this ruling should be construed as implying that CRA has reviewed any tax consequences relating to the facts, Proposed Transactions, or additional information other than those described in the rulings given above.  Moreover, nothing in this letter should be construed as implying that CRA has, expressly or implicitly, confirmed, reviewed, made any determination, or accepted any method for any determination in respect of:

(a)   the FMV or ACB of any asset or the PUC of any share referred to herein;

(b)   whether any property referred to herein is a Canadian resource property;

(c)   the non-capital loss, CCEE or CCDE of the Taxpayer; or

(d)   any tax consequences relating to any transaction described herein other than those specifically described in the rulings given above, including, for greater certainty, the tax consequences of the transfer described in Paragraph 17 or the tax consequences of the Proposed Transactions to any Dissenting Shareholder.

Yours truly,

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

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