CHAPTER 17
OTHER CORPORATE
ROLLOVERS AND SALE OF
A CORPORATE BUSINESS
Copyright © Pearson Canada Inc. All rights reserved.
17 - 1
Share-for-Share Exchanges
- ITA 85.1
Copyright © Pearson Canada Inc. All rights reserved.
17 - 2
Share-for-Share Exchanges - ITA 85.1
• Background
– Facilitates share-for-share transactions where
shareholders (i.e. vendors) exchange shares of one
taxable Canadian corporation (i.e. acquired
corporation) for shares of a second Canadian
corporation (i.e. purchaser corporation)
– Typically used in large public company takeover where
purchaser corporation does not have cash to purchase
shares of another company outright
Copyright © Pearson Canada Inc. All rights reserved.
17 - 3
ITA 85.1 – In Practice
• Application
– Used in business combination transactions
– Automatic
§ Eliminates the need for possibly thousands of
shareholders filing elections
§ Note: ITA 85(1) requires the filing of a joint election
– Can elect out of ITA 85.1 by reporting a capital gain or
capital loss in income tax return of vendor shareholders
Copyright © Pearson Canada Inc. All rights reserved.
17 - 4
4
ITA 85.1 – General Rules (1 of 2)
• 3 questions that must be answered for these share
transactions:
1. What are the POD to vendor shareholders?
2. What is the ACB & PUC of purchaser shares
received by vendor as payment?
3. What is the cost of the exchanged shares to the
purchaser corporation?
Copyright © Pearson Canada Inc. All rights reserved.
17 - 5
5
ITA 85.1 – General Rules (2 of 2)
• ITA 85.1(1)(a)
– POD = ACB of exchanged shares (Question 1)
– Acquisition cost of shares of purchaser corporation
= ACB of exchanged shares immediately before exchange
(Question 2)
• ITA 85.1(1)(b)
– Cost to purchaser of acquired shares deemed to be lesser
of (Question 3)
§ FMV immediately prior to exchange
§ PUC immediately prior to exchange
• ITA 85.1(2.1)
– PUC of purchaser shares issued to vendor limited to PUC
of shares given up by vendor (Question 2)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 6
6
ITA 85.1 – Additional Conditions for Application
• ITA 85.1(2)(a)
– Vendor & purchaser corporation must be dealing at arm’s
length
• ITA 85.1(2)(b)
– Vendor (or non-arm’s length persons) cannot control purchaser
corporation after exchange or own > 50% of FMV of
outstanding shares of purchaser corporation
• ITA 85.1(2)(c)
– Vendor & purchaser corporation cannot have filed a ITA 85(1)
election with respect to the exchanged shares
• ITA 85.1(2)(d)
– Vendor has not received any NSC on exchange
– Only newly issued purchaser corporation shares can be used
as payment
Copyright © Pearson Canada Inc. All rights reserved.
17 - 7
7
ITA 85.1 Example (1 of 2)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 8
ITA 85.1 Example (2 of 2)
• No Capital Gain for Ms. Cowper
– POD = Old ACB = $10,000
• ACB for Ms. Cowper’s Mega Holdings Ltd’s Shares
– ACB (Old) = ACB (New) = $10,000
• ACB of Cowper Inc. shares acquired by Mega
Holdings Ltd
– Lesser of FMV and PUC = $10,000
• PUC of Mega Holdings Ltd’s new shares issued to
Ms. Cowper
– Old PUC = $10,000
Copyright © Pearson Canada Inc. All rights reserved.
17 - 9
9
Exercise 17 – 1 (textbook pg. 970)
Share-for-Share Exchange
• Ms. Alee is the sole shareholder of Aayee Ltd (a
CCPC). The ACB and PUC of the shares are
$450,000 and the estimated FMV is $2,450,000. The
shares of her company are acquired by a large publicly
traded company, Global Outreach Inc., in exchange for
50,000 newly issued shares. At the time of the
exchange, the Global Outreach Inc. shares are trading
at $49 per share.
Indicate the income tax consequences of this sharefor-share exchange to both Ms. Alee and Global
Outreach Inc.
Copyright © Pearson Canada Inc. All rights reserved.
17 - 10
10
Share Exchange in a Capital
Reorganization - ITA 86
Copyright © Pearson Canada Inc. All rights reserved.
17 - 11
Share Exchange in a Capital
Reorganization - ITA 86 (1 of 2)
• A change or alteration in capital (shares) where
substantially same persons will continue on as
shareholders once reorganization process complete
– CRA requires amended articles of incorporation or
supplementary letters patent to substantiate the capital
of a corporation has changed
Copyright © Pearson Canada Inc. All rights reserved.
17 - 12
12
Share Exchange in a Capital
Reorganization - ITA 86 (2 of 2)
• Widely used in Estate Freeze - ITA 86 applies
– Example:
§ A parent owns all of the outstanding common shares of a
corporation. There is considerable unrealized gain (FMV >
ACB & PUC). Any future growth at this point accrues to
parent.
– The Plan
§ Capital is reorganized to add fixed value preferred shares
§ Parent exchanges common shares for the preferred shares
= FMV of common shares owned by parent
§ All value is now “frozen” in preferred shares
§ Family members can now acquire common shares at
nominal amounts
Copyright © Pearson Canada Inc. All rights reserved.
17 - 13
13
Qualifying for Rollover Treatment under
ITA 86
• General Conditions
– Shares must be disposed of to the issuing corporation
– Shares must be capital property
– Shareholder must dispose of all shares owned of a
particular class
– Reorganization of capital
– Transferor must receive shares (can receive NSC)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 14
14
Income Tax Consequences (1 of 2)
Main calculation components
• ACB of NSC - ITA 86(1)(a)
– FMV
• ACB of New Shares - ITA 86(1)(b)
– Old ACB, less FMV of NSC
• Proceeds of Redemption for Old Shares – ITA 84(5)(d)
– FMV of NSC + PUC of New Shares (“amount paid”)
– Deemed Dividend = “amount paid” less PUC of shares
redeemed - ITA 86(1)(d)
• Proceeds of Disposition for Old Shares - ITA 86(1)(c)
– ITA 86(1)(a) + ITA 86(1)(b)
– i.e. FMV of NSC + ACB of New Shares
Copyright © Pearson Canada Inc. All rights reserved.
17 - 15
15
Income Tax Consequences (2 of 2)
• PUC Reduction Calculation – ITA 86(2.1)
Increases in legal capital of new shares
$xxx
Less: the excess, if any, of:
• PUC of Old Shares
($xxx)
• Less: FMV of NSC
xxx
ITA 86(2.1)(a) PUC reduction
(xxx)
$xxx
• Purpose of PUC reduction is to pass PUC of old shares to new
shares except if NSC taken.
• If no NSC taken, PUC of old shares becomes PUC of new shares
Copyright © Pearson Canada Inc. All rights reserved.
17 - 16
16
Example Using ITA 86(1) in an Estate
Freeze
Copyright © Pearson Canada Inc. All rights reserved.
17 - 17
Example Using ITA 86(1) in an Estate
Freeze – ITA 86(1) Components (1 of 2)
Cost of NSC = FMV (note payable)
$150,000
ACB of Old Shares
$50,000
Less: FMV of NSC
(150,000)
ACB of Preferred Shares (New Shares)
Nil
Legal capital of Preferred Shares
$350,000
Less: the excess, if any, of:
• PUC of the Old Shares
• Less: FMV of NSC
$75,000
(150,000)
ITA 86(2.1) PUC reduction
Copyright © Pearson Canada Inc. All rights reserved.
Nil
$350,000
17 - 18
Example Using ITA 86(1) in an Estate
Freeze – ITA 86(1) Components (2 of 2)
Legal capital of Preferred Shares
$350,000
Less: PUC reduction (see previous slide)
(350,000)
PUC of Preferred Shares (New Shares)
Nil
Summary:
NSC = $150,00
ACB of Preferred Shares (New) = Nil
PUC of Preferred Shares (New) = Nil
Copyright © Pearson Canada Inc. All rights reserved.
17 - 19
Example Using ITA 86(1) in an Estate
Freeze – Income Tax Consequences (1 of 5)
PUC of Preferred Shares (New Shares)
Nil
Plus: FMV of NSC
$150,000
Proceeds of Redemption – ITA 84(5)(d)
$150,000
PUC of Old Shares
(75,000)
ITA 84(3) Deemed Dividend
$75,000
Copyright © Pearson Canada Inc. All rights reserved.
17 - 20
Example Using ITA 86(1) in an Estate
Freeze – Income Tax Consequences (2 of 5)
ACB of Preferred Shares (New Shares)
Nil
Plus: FMV of NSC
$150,000
POD – ITA 86(1)(c)
$150,000
Less: ITA 84(3) Deemed Dividend
Adjusted POD
(75,000)
$ 75,000
Less: ACB of Old Shares
Capital Gain
(50,000)
$ 25,000
Inclusion rate
1/2
Taxable Capital Gain
$ 12,500
Copyright © Pearson Canada Inc. All rights reserved.
17 - 21
Example Using ITA 86(1) in an Estate
Freeze – Income Tax Consequences (3 of 5)
Summary of Income Tax Consequences:
Deemed Dividend
$75,000
Capital Gain
$25,000
Taxable Capital Gain
$12,500
Copyright © Pearson Canada Inc. All rights reserved.
17 - 22
Example Using ITA 86(1) in an Estate
Freeze – Income Tax Consequences (4 of 5)
• Economic Analysis of Estate Freeze
– Mr. Jones has frozen the value of his interest in Jones Inc.
at $500,000
– Future growth has passed to his daughter
– Mr. Jones’ initial unrealized gain was $450,000 (FMV
$500,000 – ACB $50,000)
– As a result of the share exchange, he has realized $100,000
of economic gain ($75,000 dividend & $25,000 capital gain)
– Remaining $350,000 of gain ($450,000 - $100,000) will be
deferred until the preferred shares are redeemed or sold
Copyright © Pearson Canada Inc. All rights reserved.
17 - 23
Gifting to a Related Person - ITA 86(2)
(1 of 2)
• Overview
– FMV of old shares is > FMV of new shares plus NSC
§ Shareholder not fully compensated for exchanged
(“old”) shares & value left behind adds value to shares
owned by related persons
– Excess can be regarded as a gift (benefit)
§ A benefit would generally require that a related person
own common shares
– Person responsible for gift is penalized by an
immediate capital gain (gift is added to POD)
– Gift recipient not permitted to add value of gift to the
ACB of his/her shares so the gain will be taxed a second
time when shares are sold
Copyright © Pearson Canada Inc. All rights reserved.
17 - 24
24
Gifting to a Related Person - ITA 86(2)
(2 of 2)
• The calculations
– POD (for Old Shares) - ITA 86(2)(c)
§ Lesser of:
– FMV of NSC + gift portion; or
– FMV of Old Shares
– If Capital Loss on Old Shares
§ Deemed Nil under ITA 86(2)(d)
– ACB (New Shares) - ITA 86(2)(e)
§ ACB (Old shares), less (NSC + gift portion)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 25
25
ITA 86(2) Example (1 of 8)
Facts:
– Mr. Stern owns 80% of the outstanding common shares (ACB =
$80,000) of Stern Ltd. Remaining 20% are held by his son.
– Total PUC of common shares = $100,000.
– FMV of all shares = $1,000,000.
$200,000 cash
$500,000 P/S (LSC = FMV)
Stern Ltd.
Mr. Stern
80% of Stern Ltd. C/S
Copyright © Pearson Canada Inc. All rights reserved.
17 - 26
ITA 86(2) Example (2 of 8)
• Calculation of Gift Portion
FMV of Old Shares
$1,000,000 x 80%
$ 800,000
Less: FMV of total
consideration:
NSC
($200,000)
Preferred Shares
( 500,000)
Gift portion
(700,000)
$ 100,000
Notes:
• Since the son (related person) is the only common shareholder
remaining after the estate freeze, the gift portion would increase
the FMV of his shares, resulting in the application of ITA 86(2).
• FMV of son’s shares increase by $100,000 but no increase to
ACB of his shares (results in punitive tax consequences in
future disposition)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 27
27
ITA 86(2) Example (3 of 8)
PUC Reduction
Cost of NSC (cash)
$200,000
Legal capital of Preferred
Shares (New)
$500,000
Less the excess, if any, of:
PUC of Common Shares (old)
($100,000 x 80%)
Less: FMV of NSC
$80,000
(200,000)
ITA 86(2.1)(a) PUC reduction
Copyright © Pearson Canada Inc. All rights reserved.
Nil
$500,000
17 - 28
28
ITA 86(2) Example (4 of 8)
PUC of Preferred Shares (new)
Legal capital of Preferred Shares (New)
ITA 86(2.1)(a) PUC reduction (see previous slide)
PUC of Preferred Shares (New Shares)
Copyright © Pearson Canada Inc. All rights reserved.
$ 500,000
(500,000)
Nil
17 - 29
29
ITA 86(2) Example (5 of 8)
ACB of Common Shares (Old Shares)
$
80,000
Less:
• FMV of NSC
($200,000)
• Gift portion
( 100,000)
ACB of Preferred Shares (New)
Copyright © Pearson Canada Inc. All rights reserved.
(300,000)
Nil
17 - 30
30
ITA 86(2) Example (6 of 8)
PUC of Preferred Shares (New Shares)
Nil
Plus: FMV of NSC
200,000
Proceeds of Redemption – ITA 84(5)(d)
PUC of Common Shares (Old)
$200,000
$100,000 x 80%
ITA 84(3) Deemed Dividend
Copyright © Pearson Canada Inc. All rights reserved.
(80,000)
$120,000
17 - 31
31
ITA 86(2) Example (7 of 8)
POD – ITA 86(2)(c) – Lesser of:
• FMV of Common Shares (Old) $800,000
($1,000,000 x 80%)
• FMV of NSC plus gift portion
$300,000 ($200,000 + $100,000)
Less: ITA 84(3) Deemed Dividend
Adjusted POD – ITA 54
$ 300,000
(120,000)
$ 180,000
ACB of Common Shares (old)
(80,000)
Capital gain (results because of the gift)
100,000
Inclusion rate
1/2
Taxable capital gain
Copyright © Pearson Canada Inc. All rights reserved.
$ 50,000
17 - 32
32
ITA 86(2) Example (8 of 8)
• Analysis:
– Mr. Stern’s potential gain was $720,000 (FMV
$800,000 - ACB $80,000).
– As a result of the share exchange, he has realized a
gain of $220,000:
§ Deemed dividend = $120,000
§ Capital gain = $100,000 (due to the “gift”)
– The remaining $500,000 gain deferred until the
preferred shares are redeemed or sold.
Copyright © Pearson Canada Inc. All rights reserved.
17 - 33
ITA 86(1) vs. ITA 85(1) – Tax Planning
Considerations
ITA 86(1)
85(1)
• Does not provide the range of
elected amount
• More flexible in terms of selecting
an elected amount
• No election required –
decreased administrative costs
• Election required but filing times
are flexible with minimum
penalties for late filing
Note: Priority given to ITA 85; if ITA 85(1) chosen, then ITA 86(1)
unavailable
Copyright © Pearson Canada Inc. All rights reserved.
17 - 34
Amalgamations – ITA 87
Copyright © Pearson Canada Inc. All rights reserved.
17 - 35
Amalgamations - ITA 87
• Amalgamations & Corporate Law
– Corporate law draws distinction between long form &
short form amalgamations
§ Long form amalgamations are between two or more
corporations that are not related
§ Short form amalgamations are between
corporations that are related or under common
control (e.g. parent and subsidiary)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 36
36
Amalgamations and the ITA (1 of 7)
• Rules of ITA 87 – allow rollover treatment among
amalgamating corporations each of which is a taxable
Canadian corporation
– Property – ITA 87(1)(a)
§ All property of each amalgamating corporation
(“predecessor corporations”) becomes property of
amalgamated corporation (“new corporation”)
– Excluded: intercompany receivables
– Liabilities – ITA 87(1)(b)
§ All liabilities of each predecessor corporation flow
through to become liabilities of new corporation
– Excluded: intercompany liabilities
Copyright © Pearson Canada Inc. All rights reserved.
17 - 37
37
Amalgamations and the ITA (2 of 7)
• Rules of ITA 87 – Cont’d
– Tax Accounts – ITA 87(2)
§ Income tax accounts of each predecessor flow through
to become tax accounts of new corporation, including:
– Reserves
– Loss carry over balances
– Capital dividend account
– GRIP
– LRIP
– RDTOH (eligible & non-eligible)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 38
38
Amalgamations and the ITA (3 of 7)
• Rules of ITA 87 – Cont’d
– Shareholders – ITA 87(1)(c), 87(3), 87(4)
§ Predecessor shareholders either receive shares of new
corporation in exchange for predecessor shares, or
§ Predecessor shares are deemed to be shares of new
corporation for shareholders of a parent predecessor that
amalgamates with a wholly owned subsidiary
– In either case, shareholders of predecessor
corporations have disposed of their predecessor
shares
– Rollover rules designed to avoid immediate income
tax consequences (as long as no NSC received or
leaves value in the new corporation that creates a gift
to a person related to that shareholder)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 39
39
Amalgamations and the ITA (4 of 7)
• ITA 87(2)(a): deems taxation years of predecessor
corporations to end immediately before amalgamation date
– Example:
§ A Co. - taxation year ending Dec 31, 2021
§ B Co. - taxation year ending Aug 31, 2021
§ Both companies amalgamate on Oct 10, 2021 to form AB
Co.
– Result:
§ A Co. has a 2021 taxation year from Jan 1 to Oct 9, 2021
§ B Co. has two taxation years in 2021
– regular taxation year from Sept 1, 2020 to Aug 31, 2021
– taxation year from Sept 1 to Oct 9, 2021
§ AB Co. can choose its own taxation year (no more than 53
weeks from Oct 10, 2021)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 40
Amalgamations and the ITA (5 of 7)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 41
Amalgamations and the ITA (6 of 7)
• Summary: Figure 17-3
– Shareholders of Alpha Inc. & Beta Inc. exchange shares of
each predecessor for newly issued shares of Alpha-Beta Ltd.
– If no NSC received on exchange & FMV of predecessor shares
matches FMV of amalgamated company shares,
§ there will be no income tax consequences to shareholders &
§ share exchange will occur on a rollover basis at ACB of
predecessor shares
§ ACB of new corporation shares = ACB of predecessor
shares
– PUC of issued shares of new corporation = combined PUC of
shares of predecessor corporations
Copyright © Pearson Canada Inc. All rights reserved.
17 - 42
Amalgamations and the ITA (7 of 7)
• Summary: Figure 17-3 – cont’d
– Tax accounts of each of Alpha Inc. & Beta Inc. flow
through to become tax accounts of Alpha & Beta Ltd.,
(e.g. reserves, loss carry over balances, CDA, GRIP,
LRIP and RDTOH accounts)
§ Note: if any predecessor corporation is a public
company, the amalgamated corporation is treated as a
public company
– Amalgamated company will no longer have access to
CDA or RDTOH accounts
Copyright © Pearson Canada Inc. All rights reserved.
17 - 43
Amalgamation Concerns (1 of 3)
• AOC in long form amalgamation
– AOC results when the shareholders of one of the
predecessors owns > 50% of the voting shares of the
new corporation
§ Tax accounts that rollover from predecessor whose
control has been acquired as a result of the
amalgamation are tainted (e.g. the new corporation may
not be able to use loss carry overs)
• Goodwill
– Since no actual disposition of property and liabilities of
predecessor corporations takes place, no revaluation
to increase cost to FMV or recognize goodwill
Copyright © Pearson Canada Inc. All rights reserved.
17 - 44
44
Amalgamation Concerns (2 of 3)
• Predecessor liabilities
– If one predecessor acquires liabilities of another
predecessor in advance of amalgamation, the potential
for income tax consequences to the second
predecessor increases (e.g. application of forgiveness
of debt rules)
• Reorganization costs
– Non-deductible capital expenditures – qualify for Class
14.1
Copyright © Pearson Canada Inc. All rights reserved.
17 - 45
45
Amalgamation Concerns (3 of 3)
• Shifting of PUC
– If post-amalgamation PUC has shifted so that some
shareholders of predecessor corporations have more
or less than prior to amalgamation
à CRA may consider applying the GAAR
Copyright © Pearson Canada Inc. All rights reserved.
17 - 46
46
Amalgamation – Tax Planning
Considerations
Non-tax reasons
• Reduce competition
• Eliminate inactive companies
• Consolidating internal financing
• Takeover strategies
Tax reasons
• As long as AOC rules don’t
apply, use of loss carry over
balances
• Faster write-offs of depreciable
property (CCA) if one of the
predecessors is profitable
• Increase in M&P profits
deduction
• Facilitate change in taxation
year end
Copyright © Pearson Canada Inc. All rights reserved.
17 - 47
Winding-Up a 90% Owned
Subsidiary – ITA 88(1)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 48
Wind-Ups & Dissolution – The ITA (1 of 3)
• ITA 88(1)
– Provides for a voluntary winding-up & dissolution of a
subsidiary to its parent on a tax-free rollover basis
§ Parent & subsidiary must be taxable Canadian
corporations
§ Parent company owns = > 90% of each class of
shares issued by subsidiary
§ Parent company at arm’s length with all minority
shareholders of subsidiary
– Distributions made during winding-up process to
minority shareholders not eligible for rollover
– Rollover applies automatically if all conditions met
§ No election form required
Copyright © Pearson Canada Inc. All rights reserved.
17 - 49
Wind-Ups & Dissolution – The ITA (2 of 3)
• ITA 88(2)
– Applies when ITA 88(1) does not apply
§ Distributions made to minority shareholders in the
wind-up of subsidiary to parent under ITA 88(1)
§ Voluntary dissolution of corporation when it goes out
of business (liquidation)
§ Involuntary dissolution
Copyright © Pearson Canada Inc. All rights reserved.
17 - 50
Wind-Ups & Dissolution – The ITA (3 of 3)
• ITA 88(3)
– Applies to Canadian shareholders of foreign
affiliates
§ Foreign affiliate dissolves & distributes shares of
another foreign affiliate to Canadian shareholders as
consideration
Copyright © Pearson Canada Inc. All rights reserved.
17 - 51
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (1 of 6)
• Rules of ITA 88(1)
– Property
§ ITA 88(1)(a)
– Deems any property of subsidiary disposed of to
parent in the course of winding-up process to have
been disposed of by subsidiary at its cost amount
[i.e. tax cost]
§ ITA 88(1)(f)
– Passes tax attributes of depreciable property of
subsidiary to parent
Copyright © Pearson Canada Inc. All rights reserved.
17 - 52
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (2 of 6)
• Rules of ITA 88(1) – cont’d
– Property
§ ITA 88(1)(c)
– Determines tax cost of distributed property to
parent, which begins with POD to subsidiary
(i.e. tax cost)
– Liabilities – ITA 87(7) & ITA 88(1)(e.2)
§ No tax consequences to parent or subsidiary where
parent assumes liabilities of subsidiary to others
Copyright © Pearson Canada Inc. All rights reserved.
17 - 53
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (3 of 6)
• Rules of ITA 88(1) – cont’d
– Tax Accounts
§ ITA 88(1)(e.2)
– Linking rule for flow-through of tax accounts that
apply to amalgamations to apply equally to wind-ups
& dissolutions in ITA 88(1)
– Parent Shareholders
§ ITA 88(1)(d.1) deems that ITA 84(2) [i.e., redemption-type
deemed dividend rules] cannot apply to parent
– ITA 84(2) does continue to apply to subsidiary
minority shareholders
Copyright © Pearson Canada Inc. All rights reserved.
17 - 54
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (4 of 6)
• Rules of ITA 88(1) – cont’d
– Parent Shareholders – Cont’d
§ ITA 88(1)(b) applies to parent & determines POD of
subsidiary shares
– Most cases, POD = ACB
• Note: Income tax treatment is similar to both an amalgamation
or dissolution of subsidiary (economically equivalent)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 55
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (5 of 6)
• Subsidiary Losses – ITA 88(1.1) & 88(1.2)
– Loss carry overs only available to parent corporation
for its first taxation year that begins after date wind-up
process began
– Example:
§ Parent’s taxation year begins on February 1 & windingup process began on February 15, 2021
§ Loss carry overs of subsidiary that flowed to parent are
not available until parent’s next taxation year beginning
February 1, 2022
Copyright © Pearson Canada Inc. All rights reserved.
17 - 56
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (6 of 6)
• Subsidiary Losses – ITA 88(1.1) & 88(1.2)
– Expiry of loss carry overs
§ Subsidiary loss carry overs deemed loss carry overs of
parent based on taxation year end of subsidiary in which
loss carry overs arose
Copyright © Pearson Canada Inc. All rights reserved.
17 - 57
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (1 of 6)
• ITA 88(1)(c) & 88(1)(d)
– Note: the bump rules also apply to vertical short form
amalgamations [ITA 87(11)]; however, parent
corporation must own 100% of issued shares of
subsidiary
– Purpose:
§ Allows parent company or amalgamated company to
increase tax cost of non-depreciable capital property
acquired by it on reorganization
Copyright © Pearson Canada Inc. All rights reserved.
17 - 58
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (2 of 6)
1. Maximum bump – ITA 88(1)(d)(i) & (i.1)
– Excess of ACB of subsidiary shares owned by parent
minus sum of:
§ Tax costs of subsidiary’s property minus amount of debt
owing at time of winding-up (referred to as the “net tax
value” or “NTV”); and
§ Any dividends paid by subsidiary to the parent (including
capital dividends)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 59
59
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (3 of 6)
2. ITA 88(1)(d)(ii) restricts bump that can be applied
–
–
to specific eligible property to an amount up to FMV
of property at time parent acquired control of
subsidiary
Example: if parent acquired control of subsidiary in
2005 when the FMV of eligible property was
$100,000 & wind-up occurred in 2021 when FMV of
the same property was $900,000
§ FMV for purposes of bump = $100,000 not $900,000
Copyright © Pearson Canada Inc. All rights reserved.
17 - 60
60
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (4 of 6)
• Example:
– Dec. 31, 2011: ParentCo acquires 100% of shares of
SubCo for $5,000,000
§ At that time, non-depreciable property owned by
SubCo was land with a FMV of $2,000,000 & tax
cost of $1,000,000
– Between Dec. 31, 2011 & Dec. 31, 2021, SubCo pays
dividends of $150,000 to ParentCo
– Dec. 31, 2021: SubCo is wound-up; tax costs of
SubCo’s property (NTV in this case)) = $4,200,000
Copyright © Pearson Canada Inc. All rights reserved.
17 - 61
61
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (5 of 6)
• Example - Analysis
– Bump that can be applied to land is the lesser of two amounts:
ACB of SubCo shares
NTV of SubCo property on winding-up
$ 5,000,000
($4,200,000)
Dividends paid to ParentCo by SubCo
(150,000) (4,350,000)
Maximum bump
$
FMV of land when SubCo acquired by ParentCo
$ 2,000,000
Less: ACB of land
(1,000,000)
Maximum bump that can be applied to the land
$ 1,000,000
Copyright © Pearson Canada Inc. All rights reserved.
650,000
17 - 62
62
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) – The Bump (6 of 6)
• Analysis – Cont’d
– The bump to the land is restricted to the lower amount
of $650,000
– ITA 88(1)(a): SubCo is deemed to have disposed of the
land for $1,000,000 (no capital gain or capital loss)
– ParentCo deemed to have acquired land for
$1,650,000 [$1,000,000 (tax cost to SubCo) +
$650,000 (bump)]
Copyright © Pearson Canada Inc. All rights reserved.
17 - 63
63
Exercise 17 – 8 (textbook pg. 991)
Winding-Up of a Subsidiary – ITA 88(1)
• On January 1, 2017, Procul Ltd. acquired 100% of the
outstanding shares of Lorne Inc. at a cost of $1,200,000. At
that time, the only non-depreciable capital property was
land that was originally acquired in 2013 for $140,000. The
FMV of the land when Procul acquired control in 2017 was
$270,000. The FMV of the land when Lorne was dissolved
in 2021 was $450,000.
• On December 31, 2021, Lorne Inc. is would up. ITA 88(1)
applies to the dissolution. Lorne Inc. did not pay any
dividends to Procul Ltd at any time. On December 31,
2021, the condensed Balance Sheet of Lorne Inc. is as
follows:
Copyright © Pearson Canada Inc. All rights reserved.
17 - 64
64
Exercise 17 – 8 (textbook pg. 991)
Cash
$120,000
Land – At Cost (Purchased in 2013)
140,000
Depreciable Assets – UCC (Purchased in 2013)
240,000
Total Assets
$500,000
Liabilities
$75,000
Shareholders’ Equity
425,000
Total Equities
$500,000
Determine the tax cost of property acquired by Procul
Ltd. from Lorne Inc. during the winding-up process.
Copyright © Pearson Canada Inc. All rights reserved.
17 - 65
65
Voluntary Wind-Ups & Dissolutions –
ITA 88(1) (7 of 7)
• Disposition of subsidiary shares – ITA 88(1)(b)
– In most cases, when a subsidiary is wound-up [ITA
88(1)] or parent/subsidiary amalgamation occurs [ITA
87(11)], the subsidiary shares are deemed disposed of
for POD = ACB [ITA 88(1)(b)]
§ There are situations, however, where this is not the result
– If the PUC of subsidiary shares exceeds the ACB,
based on the calculation in ITA 88(1)(b), the PUC
becomes the POD
– The result is a capital gain
§ The calculation in ITA 88(1)(b) makes it impossible to
have a capital loss
Copyright © Pearson Canada Inc. All rights reserved.
17 - 66
66
Tax Planning Considerations –
Amalgamations vs. Winding-Up (1 of 2)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 67
67
Tax Planning Considerations –
Amalgamations vs. Winding-Up (2 of 2)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 68
68
Winding-Up a Canadian
Corporation – ITA 88(2)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 69
Winding-Up a Canadian Corporation –
ITA 88(2)
• ITA 88(2) applies to corporate dissolutions to which
ITA 88(1) does not apply; for example,
1. Corporation is terminating its business by selling all of
its property, paying all liabilities, & distributing any
excess to shareholders (voluntary); and
2. Where corporations controlled by individuals fail to
comply with corporate law requirements (involuntary)
§ Tax implications can be very serious
Copyright © Pearson Canada Inc. All rights reserved.
17 - 70
70
Winding-Up a Canadian Corporation – ITA
88(2) – Income Tax Consequences (1 of 4)
• ITA 88(2) does not provide for any rollover treatment
– Referred to as a taxable dissolution throughout the
winding-up process
• Throughout “liquidation” mode, corporation will track
its profits & losses, capital gains/losses as if business
as usual
– Continues to file corporate tax returns for regular
taxation years that end during winding-up process & a
final tax return for the last taxation year that ends with
the dissolution
Copyright © Pearson Canada Inc. All rights reserved.
17 - 71
71
Winding-Up a Canadian Corporation – ITA
88(2) – Income Tax Consequences (2 of 4)
• Main income tax rules:
– Corporate property distributions (excluding cash) to
shareholders – ITA 69(5)
§ Corporation is deemed to have received POD = FMV
§ Cost of property to recipient shareholder = same FMV
Copyright © Pearson Canada Inc. All rights reserved.
17 - 72
72
Winding-Up a Canadian Corporation – ITA
88(2) – Income Tax Consequences (3 of 4)
• Main income tax rules: cont’d
– Shares cancelled on distribution of corporate property
– ITA 84(2):
§ Cancellation of shares is considered a disposition for
income tax purposes
1. ITA 84(2) deems shareholder to have received
dividend to extent of FMV of amounts received by
shareholder on settlement of share cancellation >
PUC, and
2. Capital gain/loss determined between adjusted
POD less ACB
Copyright © Pearson Canada Inc. All rights reserved.
17 - 73
73
Winding-Up a Canadian Corporation – ITA
88(2) – Income Tax Consequences (4 of 4)
• Main income tax rules: cont’d
– Special rules for certain tax accounts – ITA 88(2)
§ Timing issue addressed to allow corporation to adjust
CDA & certain other accounts
– Allows for shareholders to benefit from these accounts
§ Establish an ordering rule for purposes of deemed
dividend under ITA 84(2)
– 1st part of deemed dividend is made up of CDA (election
required)
– 2nd part is made up of pre-1972 CSOH, and any remaining
balance is a taxable dividend
– See example in text para. 17-96 to 17-104
Copyright © Pearson Canada Inc. All rights reserved.
17 - 74
74
Convertible Properties – ITA 51
Copyright © Pearson Canada Inc. All rights reserved.
17 - 75
Convertible Properties – ITA 51 (1 of 3)
• ITA 51 applies to 2 situations (with same
corporation) where
1. Shareholder of a corporation exchanges shares of
one class for shares of a different class (e.g. preferred
shares to common shares) [ITA 51(1)(a)]
2. Taxpayer who holds debt of the corporation &
exchanges debt for shares (e.g. convertible bonds)
[ITA 51(1)(b)]
§ Debt must contain legal right for conversion to shares
• Note: Properties being exchanged (shares or debt)
are referred to as “convertible property”
Copyright © Pearson Canada Inc. All rights reserved.
17 - 76
76
Convertible Properties – ITA 51 (2 of 3)
• ITA 51 is a rollover rule that
– Allows exchange to take place without income tax
consequences as long as no NSC received on
exchange
– Is automatically applied
• Ordering rules for share-for-share exchanges:
1. ITA 85
2. ITA 86
3. ITA 51
§ Note: if ITA 85 or 86 applied, ITA 51 rollover denied
Copyright © Pearson Canada Inc. All rights reserved.
17 - 77
77
Convertible Properties – ITA 51 (3 of 3)
• General rules
– ITA 51(1)(c): deems exchange to not have been
disposition of any property
– ITA 51(1)(d): ACB of shares = ACB of convertible
property
– PUC reduction [ITA 51(3)] – resets PUC of shares
issued on exchange to have same PUC as convertible
property shares
§ No deemed dividend as a result of exchange
Copyright © Pearson Canada Inc. All rights reserved.
17 - 78
78
Convertible Properties – ITA 51:
Example (1 of 2)
• Facts:
– Individual acquires $10,000 of convertible bonds
directly from corporation
– Bonds are convertible at option of holder into 500
shares of issuing company’s Class D common shares
– Individual exercises conversion feature when Class D
common shares trading at $22/share
Copyright © Pearson Canada Inc. All rights reserved.
17 - 79
Convertible Properties – ITA 51:
Example (2 of 2)
• Analysis:
– Without ITA 51
POD [500 x $22]
Less: ACB
Capital gain
$ 11,000
(10,000)
$
1,000
– With ITA 51
§ Exchange deemed not to be disposition
§ ACB of shares = ACB of bonds ($10,000)
§ PUC of shares = $10,000 (same as legal capital)
§ FMV of shares = $11,000
Copyright © Pearson Canada Inc. All rights reserved.
17 - 80
Sale of an Incorporated
Business
Copyright © Pearson Canada Inc. All rights reserved.
17 - 81
Sale of an Incorporated Business
• Alternatives
1. Sell business assets (property) individually to multiple
purchasers or to one buyer (Note: if sale of a business
in its entirety, goodwill considered)
2. Sell shares of corporation
•
Review Example (textbook para. 17-138 to 17-149)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 82
82
Restrictive Covenants – ITA 56.4 (1 of 2)
• Restrictive covenants (non-competition payments) are
designed to protect purchaser from various actions
(e.g. seller setting up competing business, recruiting
existing employees that are central to business)
– These covenants may require actual payments by
purchaser to seller(s) to compensate them for forgoing
right to take these actions
Copyright © Pearson Canada Inc. All rights reserved.
17 - 83
83
Restrictive Covenants – ITA 56.4 (2 of 2)
• General rules for income tax treatment of
payments:
– ITA 56.4(2): any amount received or receivable in a
taxation year, included in recipient’s income as “other
income”
• Exceptions
– ITA 56.4(3)(a) – Employment income
– ITA 56.4(3)(b) – Class 14.1
– ITA 56.4(3)(c) – Sale of an eligible interest (i.e. sale of
shares)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 84
84
Income Tax Considerations on the Sale
of Corporate Property (Assets) (1 of 3)
• Summary
– Cash
§ Used either to pay liabilities or make final distributions to
shareholders when corporation is dissolved
§ No tax consequences unless foreign currency
– Accounts receivable
§ If no election made – sale of accounts receivable is a
capital transaction
§ ITA 22 provides for joint election to treat sale on account
of income
Copyright © Pearson Canada Inc. All rights reserved.
17 - 85
85
Income Tax Considerations on the Sale
of Corporate Property (Assets) (2 of 3)
• Summary
– Inventory
§ ITA 23 – sale of inventory is treated as sale on account of
income
– Prepayments
§ Expenses incurred in year that relate to subsequent year
§ Not considered property for income tax purposes
§ Any reimbursements to seller have no income tax
consequences
– Non-depreciable capital property
§ Results in capital gain or capital loss
Copyright © Pearson Canada Inc. All rights reserved.
17 - 86
86
Income Tax Considerations on the Sale
of Corporate Property (Assets) (3 of 3)
• Summary
– Depreciable property
§ Sale can result in recapture, terminal loss, combination
of recapture & a capital gain
– Goodwill
§ Amounts attributable to goodwill treated as POD of
depreciable property Class 14.1
§ If goodwill internally generated, capital cost & ACB = nil
– Sale creates capital gain
§ For previously purchased goodwill, normal CCA/UCC
rules of capital gain, recapture & terminal losses apply
Copyright © Pearson Canada Inc. All rights reserved.
17 - 87
87
Sale of Shares (1 of 2)
• Tax planning steps before a share sale are designed
to
1. Remove value from the corporation for benefit of
shareholders
§ On a tax-free, or
§ Low tax cost that is less than the tax rate on capital
gains
2. Ensure individual shareholders can access CGD to
maximum extent possible
Copyright © Pearson Canada Inc. All rights reserved.
17 - 88
88
Sale of Shares (2 of 2)
• Pre-sale tax planning includes
– CDA [ITA 83(2)]
§ Pay out balance to resident shareholders
– Dividend refunds
§ Declare dividends to generate dividend refunds where
private corporation has RDTOH (eligible & non-eligible)
Copyright © Pearson Canada Inc. All rights reserved.
17 - 89
89
Homework
• Self-Study Problems (online)
–
–
–
–
–
Problem 2
Problem 3
Problem 4
Problem 6
Problem 7
• Assignment Problems (End of Chapter) –
Solutions on Canvas
– Problem 2
Copyright © Pearson Canada Inc. All rights reserved.
17 - 90
90