Tax II Chapter 17
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Notes
Chapter Seventeen
Canada Customs and Revenue Agency
BUTTERFLY INCOME TAX RULING
David Christian
Thorsteinssons LLP
Spring Term 2013
UBC Faculty of Law
Notes
2001-0087753 Split-up butterfly of an investment holding company:
LANGIND E
DOCNUM 2001-0087753
REFDATE 01XXXX
SUBJECT split-up butterfly
SECTION 55(3)(b)
Please note that the following document, although believed to be correct at
the time of issue, may not represent the current position of the CCRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas
représenter la position actuelle de l'ADRC.
PRINCIPAL ISSUES: Split-up butterfly of a investment holding company
POSITION:
Meets the butterfly exemption except that we do not confirm
that a disposition by the transferee corporations would be in the ordinary
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course of business for purposes of paragraph 55(3.1)(c) or would not be part
of the series of transactions that includes the reorganization.
REASONS:
The transferee corporations are not in the business of trading
investments.
XXXXXXXXXX
2001-
008775
XXXXXXXXXX, 2001
Dear XXXXXXXXXX:
RE:
XXXXXXXXXX.("DC")
XXXXXXXXXX ("Sib1")
XXXXXXXXXX ("Sib2")
XXXXXXXXXX ("Sib3")
This is in reply to your letter of XXXXXXXXXX, wherein you requested an
advance income tax ruling on behalf of the above-noted taxpayers.
You confirm that to the best of each taxpayer's and your own knowledge,
none of the issues contained herein:
-
is in an earlier return of the taxpayer or a related person;
-
is being considered by a tax services office or taxation centre in
connection with a previously filed tax return of the taxpayers or a
related person;
-
is before under objection by the taxpayer or a related person;
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-
is before the courts; or
-
is the subject of a ruling previously considered by the Directorate.
DEFINITIONS
In this letter, the following terms have the meanings specified:
(a)
"Act" means the Income Tax Act, 1985 c.1 (5th Supp.), as amended
to the date hereof, and, unless otherwise stated, every reference herein
to a Part, section, subsection, paragraph or subparagraph is a reference
to the relevant provision of the Act;
(b)
"adjusted cost base" has the meaning assigned by section 54;
(c)
"agreed amount" in respect of a property means the amount that the
transferor and the transferee of the property have agreed upon in their
election under subsection 85(1) in respect of the property;
(d)
"affiliated person" has the meaning assigned by subsection 251.1(1);
(e)
"Canadian-controlled private corporation" has the meaning assigned
by subsection 125(7);
(f)
"capital dividend" has the meaning assigned by subsection 83(2);
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(g)
"capital dividend account" (also referred to as "CDA") has the
meaning assigned by subsection 89(1);
(h)
"capital loss" has the meaning assigned by paragraph 39(1) (b);
(i)
"capital property" has the meaning assigned by section 54;
(j)
"cost amount" has the meaning assigned by subsection 248(1);
(k)
"dividend refund" has the meaning assigned by subsection 129(1);
(l)
"eligible property" has the meaning assigned by subsection 85(1.1);
(m)
"identical properties" or "properties identical thereto" includes a
property described in subsections 40(3.5) and 248(12);
(n)
"paid-up capital" (also referred to as "PUC") has the meaning
assigned by subsection 89(1);
(o)
"private corporation" has the meaning assigned by subsection 89(1);
(p)
"private holding corporation" has the meaning assigned by subsection
191(1);
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(q)
"refundable dividend tax on hand" (also referred to as "RDTOH") has
the meaning assigned by subsection 129(3);
(r)
"related" has the meaning assigned by subsection 251(2);
(s)
"series of transactions or events" includes the transactions or events
referred to in subsection 248(10);
(t)
"significant influence" has the meaning assigned by section 3050 of
the CICA Handbook;
(u)
specified financial institution" has the meaning assigned by
subsection 248(1);
(v)
"specified investment business" has the meaning assigned by
subsection 125(7);
(w)
"stated capital" has the meaning assigned by the XXXXXXXXXX;
(x)
"taxable Canadian corporation" has the meaning assigned by
subsection 89(1);
(y)
“taxable dividend" has the meaning assigned by subsection 89(1); and
(z)
“taxable preferred share" has the meaning assigned by subsection
248(1).
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Our understanding of the facts, proposed transactions and the purposes of the
proposed transactions is as follows:
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FACTS
1.
Sib1 (Carol), Sib2 (John) and Sib3 (Janis) are siblings.
2.
DC (Rosemont Investments Ltd.) is a taxable Canadian corporation
and a Canadian-controlled private corporation. DC was incorporated
on XXXXXXXXXX under the provisions of the Business
Corporations Act XXXXXXXXXX
DC's only undertaking is the
investment of its funds. Its activities are a specified investment
business.
3.
The authorized share capital of DC includes:
-
an unlimited number of voting common shares,
-
XXXXXXXXXX class A special (preferred) shares,
-
an unlimited number of class B special (preferred) shares,
-
an unlimited number of class C special (preferred) voting
shares and
-
an unlimited number of class D special (preferred) shares.
The class A special shares are non-voting, redeemable and retractable at
$XXXXXXXXXX per share. The class B special shares are non-voting,
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redeemable and retractable at $XXXXXXXXXX per share. The class C
special shares are voting, redeemable and retractable at $XXXXXXXXXX
per share. The class D special shares are voting, redeemable and retractable
at $XXXXXXXXXX per share.
The issued share capital of DC as of XXXXXXXXXX consisted of
XXXXXXXXXX common shares with an aggregate PUC $XXXXXXXXXX
and XXXXXXXXXX class D shares with an aggregate PUC of
$XXXXXXXXXX. The ownership of the shares is divided as follows:
Common
30
30
30
Carol
John
Janis
Carol
John
30
30
Janis
30
Rosemont
Investments
Ltd.
A
Cash
Stocks
of Pubcos
Bonds
100%
Subco
Real Estate
to Develop
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In XXXXXXXXXX Class D shares were redeemed.
In addition,
approximately XXXXXXXXXX shares were redeemed in XXXXXXXXXX
as part of a plan to redeem shares quarterly.
4.
The class D shares and promissory notes of $XXXXXXXXXX
(issued by DC) were owned by the XXXXXXXXXX. The income
beneficiary of the Trust was XXXXXXXXXX.
The capital
beneficiaries were her three children, Sib1, Sib2 and Sib3.
XXXXXXXXXX died on XXXXXXXXXX, and the trust
commenced winding-up after that time. The class D shares and
promissory notes were distributed from the Trust to the three capital
beneficiaries.
All of the common shares were owned by the above three individuals
since incorporation. (Their value, in total, is $9,000,000. Their ACB
and PUC, in total, is nominal. Add to the diagram. Discuss the
accrued gain.)
Since the distribution of class D shares from the XXXXXXXXXX,
approximately XXXXXXXXXX class D shares have been redeemed
on a XXXXXXXXXX basis. (Assume no Class D shares left.)
5.
None of the DC shares owned by the shareholders were acquired in
contemplation of the proposed transactions described below.
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6.
DC primarily owns marketable securities consisting of publicly traded
Canadian and U.S. stocks, bonds and other financial instruments and
cash. DC's cash at any point in time represents the proceeds of
dividends and interest received or the proceeds from the sale of
securities, which are continually being reinvested in new securities.
The income of DC is reported as income from a specified investment
business.
7.
The marketable securities described in paragraph 6 are capital
property to DC.
8.
DC
also
holds
shares
in
a
wholly-owned
subsidiary,
XXXXXXXXXX ("Sub"). The shares of Sub are capital property.
Sub is a taxable Canadian corporation and a Canadian-controlled
private corporation. Sub's only property consists of real property that
was originally held as a capital property until sometime in
XXXXXXXXXX when it began to actively plan for the development
of the property.
Since XXXXXXXXXX, the real estate in Sub has been held as
inventory.
9.
The liabilities of DC are nominal.
10.
The aggregate fair market value as at XXXXXXXXXX of DC's
assets
(before
deducting
liabilities)
was
approximately
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$XXXXXXXXXX ($9,000,000) and the aggregate adjusted cost base
of such assets was approximately $XXXXXXXXXX ($3,000,000).
(Add the values and ACB to the diagram. Discuss the accrued gain.)
11.
The aggregate capital losses accrued on certain securities
(collectively, the "loss properties" or individually a "loss property")
held at XXXXXXXXXX was approximately $XXXXXXXXXX
(assume nominal).
12.
As at XXXXXXXXXX the balance in DC's RDTOH account was nil.
13.
As at XXXXXXXXXX, DC had a nil balance in its CDA.
PROPOSED TRANSACTIONS
14.
Each shareholder will cause to be incorporated a new corporation
(Holdco1, Holdco2 and Holdco3). The only undertaking of Holdco1,
Holdco2 and Holdco3 will be the investing of its funds. Each of these
new corporations will be a taxable Canadian corporation and a private
corporation.
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Carol
John
Carol Co
Janis
John Co
30
Janis Co
30
30
Rosemont
A
15.
The share capital of each new corporation will consist of an unlimited
number of:
(a)
common shares, and
(b)
two classes of special shares, designated as Class A special
(preferred) shares and Class B special (preferred) shares.
The holders of the common shares will be entitled to one vote per
share.
The Class A special shares will be voting and entitle the holder to a
non-cumulative annual dividend not to exceed $XXXXXXXXXX per
share to be paid at the discretion of the directors, redeemable and
retractable at a redemption price of $XXXXXXXXXX per share
(being the consideration for which they are issued.
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The Class B special shares will be voting and entitle the holder to a
non-cumulative annual dividend to be paid at the discretion of the
directors, redeemable and retractable at a redemption price of
$XXXXXXXXXX per share (being the consideration for which they
are issued).
16.
Sib1 (Carol) will transfer all of her shares of DC, being
XXXXXXXXXX common shares to Holdco1. As sole consideration
for such transfer, Holdco1 will issue to Sib1 XXXXXXXXXX Class
A special shares of its capital stock having a fair market value equal
to the fair market value at that time of the shares of DC transferred to
Holdco1.
17.
Sib2 (John) will transfer all of her shares of DC, being
XXXXXXXXXX common shares to Holdco2. As sole consideration
for such transfer, Holdco2 will issue to Sib2 XXXXXXXXXX Class
A special shares of its capital stock having a fair market value equal
to the fair market value at that time of the shares of DC transferred to
Holdco2.
18.
Sib3 (Janis) will transfer all of his shares of DC, being
XXXXXXXXXX common shares to Holdco3. As sole consideration
for such transfer, Holdco3 will issue to Sib3 XXXXXXXXXX Class
A special shares of its capital stock having a fair market value equal
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to the fair market value at that time of the shares of DC transferred to
Holdco3.
Carol
c/s
John
A
c/s
Carol Co
30
Janis
A
John Co
30
c/s
A
Janis Co
30
Rosemont
A
19.
In regard to each of the transfers described in paragraphs 16, 17 and
18 above, each individual and their respective holding company will
file a joint election, in prescribed form, and within the time limits
referred to in subsection 85(6), to have the rules in subsection 85(1)
apply in respect of the transfers. The agreed amount in each election
will be equal to the lesser of the amounts described in subparagraphs
85(1)(c.1)(i)and (ii). (Discuss the tax attributes.)
20.
Each new holding company, i.e. Holdco1, Holdco2 and Holdco3, will
add to the stated capital account maintained for its Class A special
shares an amount equal to the corresponding PUC in respect of the
shares of DC transferred to each company. The PUC addition in
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respect of each company will amount to $XXXXXXXXXX per Class
A special share.
21.
Immediately before the transfers of property described in paragraph
22 of this letter, the property owned by DC will be determined on a
consolidated basis by including the appropriate pro-rata share of the
assets of any corporation over which DC has the ability to exercise
significant influence (namely, Subco), which assets will be classified
into the following three categories:
a.
“cash or near-cash property” of DC including cash, bank
deposits, term deposits, marketable securities and similar
instruments (other than marketable securities and similar
investments held as portfolio investments);
b.
“investment property”, comprising all of the assets of DC,
other than any cash or near-cash property, any income from
which would, for purposes of the Act, be income from
property or from a specified investment business; and
c.
“business property”, comprising all of the assets, other than
cash or near-cash property, any income of which would, for
purposes of the Act, be income from a business (other than a
specified investment business).
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For greater certainty, any tax accounts will not be considered property
for purposes of the proposed transactions described herein.
DC will be considered to have significant influence over Subco.
22.
DC will transfer to Holdco1, Holdco2 and Holdco3, at fair market
value, one-third of its:
a.
cash or near-cash property,
b
investment property, and
c
business property.
The transfers will be effected in a manner such that Holdco1, Holdco2
and Holdco3 will acquire an equal proportion of each property,
including the shares of Sub.
As consideration for the property so transferred, each of Holdco1,
Holdco2 and Holdco3 will assume one-third of DC's liabilities, if any,
and each will issue to DC Class B special shares having a fair market
value and aggregate redemption amount equal to the amount by which
the fair market value of the assets of DC transferred to Holdco1,
Holdco2 and Holdco3 exceeds the amount of the liabilities assumed
by Holdco1, Holdco2 and Holdco3. (Discuss the values.)
Immediately following the transfers set out in this paragraph, the fair
market value of each type of property received by each of Holdco 1,
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Holdco2 and Holdco3 will equal the amount determined by the
formula:
A*B/C
Where
"A" is the fair market value, immediately before the transfer, of all
property of that type owned at that time by DC, "B" is the fair market
value, immediately before the transfer, of all of shares of the capital
stock of DC owned by the respective transferee corporation, and "C"
is the fair market value, immediately before the transfer, of all the
issued shares of the capital stock of DC.
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Carol
c/s
John
A
c/s
Carol Co
c/s
A
John Co
A
Janis Co
⅓A
⅓A
B
Janis
⅓A
B
B
30
30
30
Rosemont
23
DC and each of Holdco1, Holdco2 and Holdco3 will elect, jointly and
in prescribed form and within the time limits referred to in subsection
85(6), to have the provisions of subsection 85(1) apply to the transfer
of each property of DC that is an eligible property. The agreed
amount in respect of each property so transferred will be equal to the
lesser of the amounts described in subparagraphs 85(1)(c.1)(i) and
(ii). (Discuss the tax attributes.)
For greater certainty the agreed amount for any eligible property
included in the subsection 85(1) elections referred to in this paragraph
will not be less than the amount of any liabilities assumed by
Holdco1, Holdco2 and Holdco3, as the case may be, as consideration
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for the transfer of such property and will not exceed the fair market
value of each such property.
24.
Each of Holdco1, Holdco2 and Holdco3 will add to the stated capital
account maintained for its Class B special shares an amount equal to
the amount by which the aggregate cost of the properties acquired by
Holdco1, Holdco2 and Holdco3 (determined pursuant to subsection
85(1), where relevant) exceeds the amount of liabilities assumed, if
any, by Holdco1, Holdco2 and Holdco3 as consideration therefor.
25.
Each of Holdco1, Holdco2 and Holdco3 will redeem all of their Class
B special shares owned by DC for an amount equal to their fair
market value, being the Redemption Price. As payment of the
Redemption Price, DC will be issued a non-interest-bearing
promissory note ("the Holdco1 note, the Holdco2 note and the
Holdco3 note" respectively) payable on demand having a principal
amount and fair market value equal to the Redemption Price. DC will
accept the Holdco1 note, the Holdco2 note and the Holdco3 note as
full payment for the Redemption Price of the Class B special shares
of Holdco1, Holdco2 and Holdco3.
At the end of the day on which the Class B special shares of each of
Holdco1, Holdco2 and Holdco3 are redeemed, each of Holdco1,
Holdco2 and Holdco3 will cause its first taxation year to end.
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26.
On the day following the redemption of the Class B special shares of
Holdco1, Holdco2 and Holdco3 as described in paragraph 25, the
shareholders of DC, will, by special resolution, resolve to wind up
and dissolve DC under the applicable provisions of the
XXXXXXXXXX.
In connection with the winding-up, DC will
distribute to Holdco1, Holdco2 and Holdco3, respectively, the
Holdco1 note, the Holdco2 note and the Holdco3 note. No agreement
or resolution relating to the winding-up of DC or the distribution of
its property will provide for the cancellation of any shares of DC.
27.
As a result of the assignment and distribution of the above notes, the
obligations under the notes will be cancelled.
28.
Following the completion of the transactions described in paragraphs
21 to 29, all properties of DC will have been distributed and all
liabilities either discharged or assumed by Holdco1, Holdco2 and
Holdco3. Articles of Dissolution will then be filed and DC will be
dissolved.
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Carol
John
100%
Carol Co
A
⅓ Cash,
Shares and
Bonds
Janis
100%
100%
John Co
Janis Co
⅓ Cash,
Shares and
Bonds
⅓
⅓ Cash,
Shares and
Bonds
⅓
⅓
Subco
Real Estate
to Develop
PURPOSE OF THE PROPOSED TRANSACTIONS
29.
The purpose of the proposed transactions is to transfer to each of
Holdco1 (Carol Co), Holdco2 (John Co) and Holdco3 (Janis Co) onethird of each asset (and liability if any) currently held by DC and to
permit the individual shareholders to determine the future investment
policies of the new corporation controlled by them independently.
Additional Information
30.
Except as described herein, no property has been or will be acquired
or disposed of by DC in contemplation of and before the proposed
transactions.
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31.
(Reserved).
32.
None of the issued shares referred to herein (including the shares to
be issued as part of the proposed transactions):
a.
is or will be subject to a guarantee agreement within the
meaning referred to in subsection 112(2.2);
b.
is or will be part of a dividend rental arrangement as defined
in subsection 248(1); or
c.
has been or will be issued or acquired as part of a transaction
or event or series of transactions or events of the type
described in subsection 112(2.5).
33.
None of DC, Holdco1, Holdco2 and Holdco3 will be a specified
financial institution at any time before the completion of the proposed
transactions and none of Holdco1, Holdco2 and Holdco3 will be, at
any time before the completion of the proposed transactions, a
financial intermediary corporation.
34.
DC is a private holding corporation and all of Holdco1, Holdco2 and
Holdco3 will be private holding corporations.
35.
The common shares of DC are not taxable preferred shares.
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RULINGS
Provided that the above statements are accurate and constitute complete
disclosure of all of the relevant facts, purposes of the proposed transactions
and proposed transactions, we confirm the following:
A.
Subsection 85(1) will apply to the transfer of the shares of DC by
Sib1 to Holdco1, Sib2 to Holdco2 and Sib3 to Holdco3 as described
in paragraphs 16 to 20, in respect of which an election under
subsection 85(1) will be made. The agreed amount in respect of each
transfer of such property will be deemed to be the transferor's
proceeds of disposition and the transferee's cost thereof pursuant to
paragraph 85(1)(a).
For greater certainty, paragraph 85(1)(e.2) will not apply to the
transfers.
B.
Subsection 85(1) will apply to the transfer of each eligible property
by DC to Holdco1, Holdco2 and Holdco3 as described in paragraphs
22 to 24, in respect of which an election under subsection 85(1) is
made, such that the agreed amount in respect of each transfer of each
eligible property will be deemed to be DC's proceeds of disposition
and each transferee corporation's cost thereof pursuant to paragraph
85(1)(a).
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For greater certainty, paragraph 85(1)(e.2) will not apply to the
transfers.
C.
On the redemption by Holdco1, Holdco2 and Holdco3 of the Class B
special shares held by DC, and as a result of the distributions by DC
in the course of its winding-up:
(a)
by virtue of paragraphs 84(3)(a) and 84(3)(b), each of
Holdco1, Holdco2 and Holdco3 will be deemed to have paid,
and DC will be deemed to have received, a taxable dividend
at that time equal to the amount, if any, by which the amount
paid to redeem the Class B special shares exceeds the PUC of
those shares immediately before the redemption;
(b)
pursuant to subsection 84(2) each of Holdco1, Holdco2 and
Holdco3 will be deemed to have received a dividend (the
"winding-up dividend") on their common shares of DC equal
to the proportion of the amount by which the aggregate fair
market value of the property of DC distributed by DC on the
winding-up exceeds the amount by which the PUC of the
common shares is reduced;
(c)
to the extent that the deemed dividends described in (a) and
(b) above are taxable dividends, such dividends will, pursuant
to subsection 112(1), be deductible in computing the taxable
income of the recipient for the year in which the dividends are
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deemed to have been received and such deduction will not be
denied by any of the provisions of subsections 112(2.1),
(2.2), (2.3) or (2.4); and
(d)
the amount of the deemed dividends described in (a) and (b)
above will, by virtue of paragraph (j) of the definition of
"proceeds of disposition" in section 54, be excluded from the
proceeds of disposition of the shares.
D.
With respect to the dividends described above:
(a)
the taxable dividends will not be subject to tax under Part
IV.1 on the basis that such dividends will be excepted
dividends by virtue of paragraph (c) of the definition of
"excepted dividend" in section 187.1; and
(b)
the taxable dividends will not be subject to tax under Part
VI.1 on the basis that each such dividend will be an "excluded
dividend" by virtue of paragraph 191(1)(b).
E.
The common shares of DC will not become taxable preferred shares
as a result of the proposed transactions, in and of themselves.
F.
By virtue of paragraph 186(4)(a), each of Holdco1, Holdco2 and
Holdco3 will be connected with DC, and DC will be connected with
each of Holdco1, Holdco2 and Holdco3 immediately before the
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transactions described paragraphs 25 to 28. (Consequently, tax under
Part IV will only be exigible to the extent provided for in paragraph
186(1)(b), if at all.)
G.
The “Butterfly” Ruling. Provided that, as part of the series of
transactions or events that include these proposed transactions, there
is not:
(a)
a disposition of property in the circumstances described in
subparagraph 55(3.1)(b)(i);
(b)
an acquisition of control in the circumstances described in
subparagraph 55(3.1)(b)(ii);
(c)
an acquisition of property in the circumstances described in
subparagraph 55(3.1)(b)(iii);
(d)
an acquisition of property in the circumstances described in
paragraph55(3.1)(c); or
(e)
an acquisition of property in the circumstances described in
paragraph 55(3.1)(d);
which has not been described herein, by virtue of paragraph 55(3)(b),
subsection 55(2) will not apply to the taxable dividends referred to in
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Ruling C above and, for greater certainty, subsection 55(3.1) will not
apply to deny the exemption under paragraph 55(3)(b).
H.
The settlement of the Holdco1 note, the Holdco2 note and the
Holdco3 note will not give rise to a "forgiven amount" within the
meaning of subsection 80(1).
I.
The provisions of subsections 15(1), 56(2) and 246(1) will not apply
to the proposed transactions, in and by themselves.
J.
Subsection 245(2) will not be applied, as a result of the proposed
transactions in and by themselves, to redetermine the tax
consequences confirmed in the rulings given.
These rulings are given subject to the qualifications and limitations set forth
in Information Circular 70-6R4 issued on January 29, 2001, and are binding
on the Canada Customs and Revenue Agency provided that the proposed
transactions described herein are completed before XXXXXXXXXX .
These rulings are based on the Act in its present form and do not take into
account any amendments thereto which if enacted could have an effect on the
rulings provided herein.
COMMENTS
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1.
Nothing in this letter should be construed as implying that the Canada
Customs and Revenue Agency has agreed to or reviewed:
(a)
the determination of the ACB, PUC or FMV of any shares
referred to herein;
or
(b)
any tax consequences relating to the facts and proposed
transactions other than those specifically described in the
rulings given.
2.
In particular we are not confirming that a disposition by Holdco 1,
Holdco 2, Holdco 3, would: or
(a)
be in the ordinary course of business for purposes of
paragraph 55(3.1)(c); or
(b)
not be part of the series of transactions that includes the
reorganization, for purposes of paragraph 55(3.1)(c).
Those determinations can only be made after a review of all the
circumstances of any such disposition.
Yours truly,
for Director
Reorganizations and Resources Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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