2020-0853561C6 IFA 2020 Q.6: Subsection 212.3(9) & The GAAR

Principal Issues: Whether an in-kind capital distribution of FA shares on shares of another FA to a Canco may give rise to a PUC reinstatement under subsection 212.3(9), while the shares so received by the Canco are subsequently contributed back to a third FA of the group in consideration for shares of that third FA such that subsection 212.3(2) does not apply to that investment in application of subparagraph 212.3(18)(b)(ii)?

Position: General comments; the GAAR may be considered to apply.

Reasons: See below.

Author: Roulier, Yannick
Section: 18(4), 212(2), 212.3(9), 245(2).

2020 International Fiscal Association Conference

CRA Roundtable

Question 6 – Subsection 212.3(9) and The GAAR

At all relevant times, a non-resident corporation owns all the common shares of a corporation resident in Canada (Canco), which shares are the only issued and outstanding shares of Canco. After March 28, 2012, Canco acquires all the shares of the capital stock of a non-resident corporation (FA1) for $100. This is an investment by Canco described in paragraph 212.3(10)(a), such that the combined application of subsections 212.3(2) and 212.3(7) requires the reduction of the paid-up capital (PUC) on the common shares of Canco by $100.

At a subsequent time, the following series of transactions is implemented:

i) New FA2 is incorporated under the laws of a foreign jurisdiction and Canco subscribes for 100 common shares of New FA2 for a nominal amount. This is an investment by Canco described in paragraph 212.3(10)(a), such that subsection 212.3(7) requires the PUC of the common shares of Canco to be reduced by a nominal amount.

ii) New FA2 borrows $100 on a daylight basis (Daylight Loan) from an arm’s length third party.

iii) New FA3 is incorporated under the laws of a foreign jurisdiction. Using the proceeds of the Daylight Loan, New FA2 subscribes for 100 common shares of New FA3 for $100, such that New FA3 is at that time a wholly-owned subsidiary of New FA2.

iv) FA1 acquires the common shares of New FA3 from New FA2 in consideration for a promissory note in the amount of $100.

v) FA1 makes an in-kind return of capital on its common shares held by Canco by transferring to Canco the common shares of New FA3. This acquisition of the New FA3 shares is an investment by Canco described in paragraph 212.3(10)(a) that is not subject to subsection 212.3(2) in application of subparagraph 212.3(18)(b)(vii).

vi) Canco contributes the common shares of New FA3 to New FA2 in consideration for additional common shares of New FA2, such that subsection 85.1(3) applies to this transfer of shares. This is an investment by Canco described in paragraph 212.3(10)(a) that is not subject to subsection 212.3(2) in application of subparagraph 212.3(18)(b)(ii).

vii) New FA3 is liquidated into New FA2.

viii) New FA2 repays the Daylight Loan using the proceeds received on the liquidation of New FA3.

Does the CRA agree that the in-kind return of capital in step v) would give rise to a $100 reinstatement of the PUC on the common shares of Canco in application of subsection 212.3(9)? If so, assuming that one or more of the steps that are part of the series of transactions is an avoidance transaction, would the CRA be of the view that they would reasonably be considered to result in a misuse or abuse of the provisions of the Act such that subsection 245(2) would be applicable?

CRA’s Answer

The $100 in-kind return of capital described in step v) above is a circumstance described in clause B of element A of the formula in subparagraph 212.3(9)(b)(ii) and as such, would arguably result in a reinstatement of the PUC on the common shares of Canco that was reduced by subsections 212.3(2) and 212.3(7) on the acquisition by Canco of all the shares of the capital stock of FA1.

The CRA is of the view that the series of transactions described above results directly or indirectly in a misuse or abuse of the scheme of section 212.3 in general and paragraph 212.3(9) in particular.

Yves Moreno
2020-085356
September 15, 2020

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