Translation disclaimer
This translation was prepared by Tax Interpretations Inc. The CRA did not issue this document in the language in which it now appears, and is not responsible for any errors in its translation that might impact a reader’s understanding of it or the position(s) taken therein. See also the general Disclaimer below.
Principal Issues: [TaxInterpretations translation] 1) Does subsection 93(2) apply so that the loss realized by a taxpayer, on the disposition of shares of a foreign affiliate, wholly attributable to a currency fluctuation is reduced by an amount corresponding to the amount of exempt dividends received by the taxpayer?
2) On what basis is an amount received by a Canadian taxpayer in respect of shares of a foreign affiliate to be characterized as a return of capital or a dividend?
Position: 1) Yes.
2) General comments; application of the legal rules to which the non-resident corporation is subject from a corporate point of view.
Reasons: (1) Text of Act.
(2) Previous position. NOTE: View original document in Word.
December 22, 2009
Quebec Tax Services Office Income Tax Rulings Directorate
Attention: Josée Paquet Yannick Roulier
Auditor, International Tax (613) 957-2134
2009-032814
XXXXXXXXXX
Application of Subsection 93(2)
This is in response to your request for an opinion dated June 16, 2009, prepared for our Directorate by Ms. Marie-Hélène Chouinard, requesting our opinion on the application of subsection 93(2) of the Income Tax Act to a situation involving XXXXXXXXXX (the "Taxpayer"). In addition, you sent us an email on August 24 to clarify the facts involving the Taxpayer in respect of which you wish our opinion. Note that, unless otherwise indicated, the legislative references below are to the provisions of the Income Tax Act (R.S.C. 1985, c. 1 (5th Supp.)) as amended (the "Act"), in force as of the date hereof.
Relevant Facts Submitted
Our understanding of the relevant facts submitted can be summarized as follows:
1. The Taxpayer is a taxable Canadian corporation with a fiscal year-end of XXXXXXXXXX.
2. In the year XXXXXXXXXX, the Taxpayer formed XXXXXXXXXX ("Subsidiary"), a foreign corporation.
3. On XXXXXXXXXX, Subsidiary was wound up into the Taxpayer.
4. During the period beginning at the time of the formation of Subsidiary and ending at the time of its winding-up, the Taxpayer had always held 100% of the issued and outstanding shares of Subsidiary. As a result, Subsidiary was a foreign affiliate ("FA") of the Taxpayer.
5. On XXXXXXXXXX , the adjusted cost base ("ACB") of the Subsidiary shares held by the Taxpayer was determined to be Cdn.$XXXXXXXXXX (U.S.$XXXXXXXXXX), as shown on a worksheet prepared by the Taxpayer that you provided to us with your request ("Exhibit 1").
6. The Taxpayer's investment in the Subsidiary's shares was financed by one or more loans taken out in U.S. dollars by the Taxpayer from XXXXXXXXXX., the Taxpayer's parent company. No other information has been provided to us with respect to such loan(s) ("Loans").
7. Also on XXXXXXXXXX, the Taxpayer's exempt surplus account in respect of Subsidiary was established at U.S.$ XXXXXXXXXX pursuant to sections 5900 et seq. of the Income Tax Regulations (the "Regulations"), as appears from Exhibit 1 and from the worksheet you prepared and sent to our attention as an attachment to your email of August 24, 2010 ("Exhibit 2").
8. In addition, the Taxpayer's taxable deficit account in respect of Subsidiary was nil at that time pursuant to sections 5900 et seq. of the Regulation, as you confirmed to the assigned officer during a telephone consultation held on September 24, 2010.
9. On XXXXXXXXXX, Subsidiary paid to the Taxpayer an amount of Cdn.$XXXXXXXXXX (U.S. XXXXXXXXXX), as determined after accounting adjustments ("Payment"), all as appears from Exhibit 2. The Taxpayer has adopted an accounting treatment different from the treatment presented for the purposes of the Act and the Regulations, all as appears from Exhibit 2 and from your note sent to our attention as an attachment to your e-mail of August 24, 2010 ("Exhibit 3"). The following table shows this discrepancy in treatment:
Nature of Payment
Tax treatment adopted by the Taxpayer
Accounting treatment adopted by the Taxpayer
Capital reduction
XXXXXXXXXX
XXXXXXXXXX
Dividend
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
10. No legal documents have been submitted to you by the Taxpayer to support the allocation and treatment of the Payment as a return of capital and dividend by the Taxpayer for tax purposes, as you confirm in Exhibit 3.
11. On XXXXXXXXXX , the Taxpayer added to the ACB of its Subsidiary shares an amount of Cdn.$ XXXXXXXXXX (U.S.$ XXXXXXXXXX), as appears from Exhibit 1 and Exhibit 2.
12. In addition to the dividend referred to in paragraph 9 hereof, Subsidiary declared and paid the following dividends to the Taxpayer:
Date
Amount
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
Total :
XXXXXXXXXX
13. At the time of its winding-up, Subsidiary had a net worth of nil.
14. During its XXXXXXXXXX fiscal year, the Taxpayer thus realized a capital loss arising from the disposition of the Subsidiary shares (the "Loss"). This loss was established at Cdn.$XXXXXXXXXX according to the tax treatment adopted by the Taxpayer. This capital loss would be Cdn.$XXXXXXXXXX in the event that the allocation of the amount of the Payment is made in accordance with the accounting treatment adopted by the Taxpayer.
15. The Loss was exclusively due to the fluctuation in the value of the U.S. currency in relation to the Canadian currency, as indicated in the request for opinion note of June 16, 2009.
16. During its fiscal year ended in XXXXXXXXXX, the Taxpayer repaid the Loans and realized a capital gain of approximately Cdn.$XXXXXXXX as a result of the fluctuation in the value of the U.S. currency relative to the Canadian currency.
This statement of facts is based on the information you provided us, all as discussed between you and the assigned officer in telephone consultations held on August 4 and September 24, 2009. No copies of legal documentation relevant to supporting the facts submitted have been made available to us.
We refer to your request for opinion of June 16 and your email of August 24 for a statement of all the facts submitted. In addition, it should be noted that the request was accompanied by the following documents prepared by the Taxpayer or the Taxpayer's accounting firm: an organization chart of the group of companies to which the Taxpayer belongs; a document summarizing the facts, objectives and steps related to tax planning; and a document issued to your attention on April 17, 2009 setting out the Taxpayer's arguments ("Argument Memorandum").
Questions
1.) Does subsection 93(2) apply to reduce the Loss by an amount equal to the amount of "exempt dividends," as defined in subsection 93(3), received by the Taxpayer?
2.) What allocation to the return of capital and dividend payment amounts should be adopted?
Question 1
We are of the view that subsection 93(2) is applicable in the situation presented. The amount of the Loss must therefore be reduced by the total of all "exempt dividends," as that term is defined in subsection 93(3), received by the Taxpayer). The following arguments support this position.
We are of the view that the term "loss" in subsection 93(2) cannot be interpreted to exclude a loss realized by a taxpayer on the disposition of shares of a FA solely because of a fluctuation in the value of a foreign currency relative to Canadian currency. A textual, contextual and purposive interpretation cannot, in our view, validly support such a conclusion. In this regard, the Supreme Court stated as follows at paragraph 10 of the reasons written by the Chief Justice and Major J. in Trustco Canada Mortgages v. R., [2005] 2 S.C.R. 601:
“It has been long established as a matter of statutory interpretation that “the words of an Act are to be read in their entire context and in their grammatical and ordinary sense harmoniously with the scheme of the Act, the object of the Act, and the intention of Parliament”: see 65302 British Columbia Ltd. v. Canada, [1999] 3 S.C.R. 804, at para. 50. The interpretation of a statutory provision must be made according to a textual, contextual and purposive analysis to find a meaning that is harmonious with the Act as a whole. When the words of a provision are precise and unequivocal, the ordinary meaning of the words play a dominant role in the interpretive process. On the other hand, where the words can support more than one reasonable meaning, the ordinary meaning of the words plays a lesser role. The relative effects of ordinary meaning, context and purpose on the interpretive process may vary, but in all cases the court must seek to read the provisions of an Act as a harmonious whole.”
Thus, we cannot agree with the Taxpayer's position presented in the Argument Memorandum that the application of the interpretive principles should lead to the conclusion that the term "loss" used in subsection 93(2) has a specific scope excluding a loss due exclusively to a currency fluctuation. In support of this position, the taxpayer relies by analogy on the conclusion of the majority of the Court in Imperial Oil Ltd. v. R., 2006 SCC 46, which held that paragraph 20(1)(f) was never intended to apply to foreign exchange losses. On the basis that the term "loss" is not used in paragraph 20(1)(f), we do not believe that this conclusion is authoritative with respect to the application of subsection 93(2) to the facts before us.
In addition, amendments to subsection 93(2) were proposed as part of the February 24, 2004 Legislative Proposals and Draft Regulations Relating to Income Tax (Part 2 - Foreign Affiliates). This legislative response, which provides relief from the application of the loss limitation rule in subsection 93(2) in certain circumstances, confirms, in our view, that this provision is technically applicable in a situation where a loss on the disposition of shares of a FA is solely due to a currency fluctuation. Accordingly, the purpose of these amendments is to modify the formula for that provision by adding element D. Among other things, these amendments will ensure that the loss limitation rule will not reduce a taxpayer's loss on the disposition of shares of a FA to the extent that a gain determined under paragraph 39(2)(a) is realized in the same year as a result of the settlement of an obligation of the taxpayer that can reasonably be considered to have been issued or incurred in connection with the acquisition of the shares of the FA. It is generally intended that these amendments apply for taxation years of a taxpayer's FAs that begin after February 27, 2004, subject to the filing of an election on a timely basis to have them apply instead to taxation years that begin after 1994.
However, with respect to the facts submitted, and as you suggest in your request for an opinion, even if the proposed amendments to subsection 93(2) were in force and applicable to the relevant years of the Taxpayer, the Taxpayer would not be able to benefit from them. Indeed, subject to the determination of the other conditions that must be satisfied in order to benefit from the relief provided for in the proposed amendments, it appears that the gain determined under paragraph 39(2)(a) resulting from the repayment of the Loans by the Taxpayer, i.e. the gain realized by the Taxpayer in its fiscal year XXXXXXXXXX in the approximate amount of Cdn.$XXXXXXXXXX, would not have been realized in the same taxation year as that in which the Loss was realized, i.e. the Taxpayer's XXXXXXXXXX fiscal year.
Question 2
It is difficult for us to reach a definitive conclusion with respect to the allocation of the return of capital and dividend payment amount given the nature of the information available. However, given the position taken with respect to the application of subsection 93(2) to the situation presented, regardless of the position taken with respect to the second issue, the amount of the Loss would be the same. In fact, whether the amount of "exempt dividends", under subsection 93(3), is determined to be Cdn.$XXXXXXXXX under the tax treatment adopted by the Taxpayer, or Cdn.$XXXXXXXXX in the event that the allocation of the amount of the Payment is made in accordance with the accounting treatment adopted by the Taxpayer, the Loss would be determined to be Cdn.$XXXXXXXXX . It should also be noted that even if the entire amount of the Payment would qualify as a return of capital or dividend, the Loss would be established at the same amount. However, we are prepared to make the following general comments.
Generally, where a Canadian corporation receives a dividend in a year from a non-resident corporation, the amount of the dividend is required to be included in the taxpayer's income for the year by virtue of paragraph 12(1)(k) and section 90. Correspondingly, the taxpayer may claim a deduction under subsection 113(1) if certain conditions are satisfied. This deduction cannot exceed the amount of the dividend received. The definition of "dividend" in subsection 248(1) is inclusive and provides that dividends include certain stock dividends. For the purposes of the application of the Act, it is therefore necessary to determine what constitutes a dividend from a legal point of view, generally according to the legal rules to which the non-resident corporation is subject from a corporate point of view. It should be noted that the accounting treatment adopted by a taxpayer with respect to certain transactions does not necessarily reflect their true legal nature.
Thus, in the situation submitted, the return of capital amount does not necessarily correspond to the amount of the Payment received by the Taxpayer reduced by the amount of its exempt surplus account in respect of Subsidiary. It is first required to qualify the amount received as a dividend for the purposes of the provisions of the Act and the Regulations, and then claim a deduction under subsection 113(1) where applicable. In addition, it should be noted that the Convention Between Canada and Spain for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and on Capital, in particular Articles X and XXIII thereof, does not change this approach and, in particular, maintains Canada's full taxing power with respect to this amount, while preserving Spain's right to tax the amount of the dividend up to a maximum of 15% of the gross amount of the dividend. In these circumstances, confirmation of the amount in respect of which Spanish withholding tax, if any, was applied could be a relevant fact to be considered in determining the amount paid by a Subsidiary that qualifies as a dividend.
We hope that the above comments are of assistance.
Best regards,
Alain Godin
for the Director
International Operations and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch.
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