Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: Is the interest on borrowed money used to pay a dividend deductible?
Position: Yes
Reasons: The dividend paid with borrowed money is not in excess of the corporation's accumulated profits.
XXXXXXXXXX
2010-037866
XXXXXXXXXX
XXXXXXXXXX , 2010
Dear XXXXXXXXXX :
Re: Advance Income Tax Ruling
XXXXXXXXXX
We are replying to your letter of XXXXXXXXXX , wherein you requested an advance income tax ruling with respect to the above-noted taxpayer (the "Corporation") regarding the deductibility of interest on money borrowed to pay dividends. We also acknowledge the additional information provided to us in your additional letters dated XXXXXXXXXX .
This letter is based solely on the facts, Proposed Transactions and additional information described below. Any documentation submitted in respect of your request does not form part of the facts, Proposed Transactions and additional information, and any references thereto are provided solely for the convenience of the reader.
To the best of your knowledge, and that of the Corporation, none of the issues involved in this advance income tax ruling are:
(i) in an earlier tax return of the Corporation or of a related person;
(ii) being considered by a Tax Services Office or a Taxation Centre in connection with a previously-filed tax return of the Corporation or of a related person;
(iii) under objection by the Corporation or by a related person;
(iv) before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has expired; or
(v) the subject of a ruling previously issued by the Income Tax Rulings Directorate to the Corporation or a related person.
Unless otherwise stated, all references to a statute are to the Income Tax Act (Canada), R.S.C. 1985, c.1 (5th Supp.), as amended to the date of this letter (the "Act"), and all terms and conditions used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.
Our understanding of the facts, Proposed Transactions and the purpose of the Proposed Transactions is as follows:
Definitions
In this letter, the following terms have the meanings specified:
a) "Accumulated Profits" means the Corporation's accumulated profits as described in paragraph 23 of Interpretation Bulletin IT-533, entitled 'Interest Deductibility and Related Issues';
b) "Bank Account A" means the Corporation's dormant bank account further described in 19 below;
c) "Cash-on-Hand" means excess cash and short term investments;
d) "Common Shares" means the common shares further described in 4 below;
e) "Corporation" means XXXXXXXXXX , a taxable Canadian corporation further described in 4 below;
f) "XXXXXXXXXX Borrowing" means the Corporation's $XXXXXXXXXX borrowing further described in 17 below;
g) "XXXXXXXXXX Dividend" means the $XXXXXXXXXX dividend declared by the Corporation further described in 20 below;
h) "GAAP" means Generally Accepted Accounting Principles;
i) XXXXXXXXXX ;
j) XXXXXXXXXX ;
k) "Original Loan" means the Corporation's $XXXXXXXXXX loan further described in 7 below;
l) XXXXXXXXXX ;
m) "Proposed Transactions" means the transactions described in 17 to 26 below;
n) "public corporation" has the meaning assigned by subsection 89(1) of the Act;
o) "Retained Earnings" means the unconsolidated retained earnings of the Corporation with investments accounted for on the cost basis. For greater certainty, the Retained Earnings of the Corporation reflect income/losses from the Corporation's business operations and income/losses from the Corporation's investments, including gains and losses from the sale of investments and assets. There are no amounts included in the Corporation's Retained Earnings that relate to an appraisal surplus or that arose as a consequence of any transaction undertaken to transform an appraisal surplus into Retained Earnings. There are no amounts included in the Corporation's Retained Earnings that resulted from profits or gains from transactions between the Corporation and non-arm's length parties;
p) "XXXXXXXXXX Borrowing" means the Corporation's XXXXXXXXXX borrowing described in 22 below;
q) "XXXXXXXXXX Dividend" means the XXXXXXXXXX dividend to be declared by the Corporation to be paid from XXXXXXXXXX as described in 23 below;
r) "taxable Canadian corporation" has the meaning assigned by subsection 89(1) of the Act;
s) "XXXXXXXXXX Dividend" means the XXXXXXXXXX dividend to be declared by the Corporation to be paid from XXXXXXXXXX as described in 25 below; and XXXXXXXXXX
Facts
1. XXXXXXXXXX
2. XXXXXXXXXX
3. XXXXXXXXXX
4. The Corporation is a XXXXXXXXXX corporation and was incorporated under the XXXXXXXXXX . The Corporation's authorized capital consists of only an unlimited number of common shares. As of XXXXXXXXXX , its issued and outstanding capital consisted of XXXXXXXXXX common shares (the "Common Shares"). XXXXXXXXXX .
5. The Corporation has a year-end for tax and accounting purposes XXXXXXXXXX . The federal income tax business number for the Corporation, the location of its Tax Services Office and the Taxation Centre with which it files its income tax returns, and the address of its head office are as follows:
Business Number XXXXXXXXXX
Tax Services Office XXXXXXXXXX
XXXXXXXXXX
Taxation Centre XXXXXXXXXX
Head Office XXXXXXXXXX
6. The Corporation is XXXXXXXXXX
XXXXXXXXXX
7. Prior to the Proposed Transactions described below, the Corporation had XXXXXXXXXX . The Corporation had XXXXXXXXXX (the "Original Loan"). XXXXXXXXXX . The Original Loan was incurred for eligible purposes.
8. The Corporation has stated that it has a very inefficient capital structure. XXXXXXXXXX .
9. XXXXXXXXXX
10. XXXXXXXXXX
11. XXXXXXXXXX
12. XXXXXXXXXX
13. XXXXXXXXXX
14. As at XXXXXXXXXX , the Corporation had Retained Earnings of approximately $XXXXXXXXXX .
15. In anticipation of the Proposed Transactions described in 22 to 26 below, the subsidiaries of the Corporation will pay to the Corporation dividends out of their accumulated earnings. The amount of the dividends paid by the subsidiaries will not exceed $XXXXXXXXXX .
16. The Corporation anticipates that its Retained Earnings at the end of its current fiscal year, excluding the impact of the Proposed Transactions described below, will be approximately $XXXXXXXXXX . This amount includes the amounts received as dividends from the subsidiaries referred to in 15 above.
Proposed Transactions
Proposed Transactions 17 to 21 were completed prior to the issuance of this advance income tax ruling.
17. On XXXXXXXXXX , the Corporation entered into XXXXXXXXXX (the "XXXXXXXXXX Borrowing"). The XXXXXXXXXX Borrowing constitutes borrowed money and created a legal obligation to pay interest.
18. On XXXXXXXXXX , the board of directors of the Corporation declared a dividend XXXXXXXXXX , in an amount of approximately $XXXXXXXXXX , to be paid on XXXXXXXXXX , to the holders of the Common Shares of record at the close of business on XXXXXXXXXX . At the time the XXXXXXXXXX Dividend was declared and paid by the Corporation, the Retained Earnings of the Corporation were in excess of the amount of the XXXXXXXXXX Dividend. The Corporation computed the portion of its Retained Earnings that reflected its Accumulated Profits. For greater certainty, the aggregate principal amount of the XXXXXXXXXX Borrowing used to fund the XXXXXXXXXX Dividend did not exceed the Accumulated Profits that have been retained and used for eligible purposes.
19. The Corporation drew down $XXXXXXXXXX on the XXXXXXXXXX Borrowing on XXXXXXXXXX . XXXXXXXXXX . The remainder of the $XXXXXXXXXX drawing on the XXXXXXXXXX Borrowing was placed in a dormant bank account ("Bank Account A"). No other funds will be comingled with the funds in Bank Account A.
20. The Corporation also drew down $XXXXXXXXXX on the XXXXXXXXXX Borrowing on XXXXXXXXXX . The $XXXXXXXXXX drawing on the XXXXXXXXXX Borrowing was not paid to the Corporation's bank accounts but was instead paid directly to the creditor of the Original Loan.
21. Any portion of the XXXXXXXXXX Borrowing not used to pay the XXXXXXXXXX Dividend or to repay the Original Loan, as described in 18 and 20 above, respectively, will be used in the business of the Corporation for an eligible purpose for purpose of paragraph 20(1)(c) of the Act.
Proposed Transactions 22 to 26 will be completed provided that a number of business and legal criteria are satisfied, including a favourable response to this ruling request.
22. XXXXXXXXXX the Corporation will borrow up to an additional $XXXXXXXXXX (the "XXXXXXXXXX Borrowing"). The XXXXXXXXXX Borrowing will constitute borrowed money and will create a legal obligation to pay interest. The funds received on the XXXXXXXXXX Borrowing will be placed in Bank Account A. No other funds will be comingled with the funds in Bank Account A.
23. After the payment of the XXXXXXXXXX Dividend XXXXXXXXXX, the board of directors of the Corporation will declare and pay another dividend (the "XXXXXXXXXX Dividend") to the holders of Common Shares in an amount equal to the Retained Earnings of the Corporation at that time. The Corporation will use a portion of the XXXXXXXXXX Borrowing (a portion of the funds in Bank Account A) to pay the XXXXXXXXXX Dividend. The Corporation will compute the portion of its Retained Earnings that reflect its Accumulated Profits. For greater certainty, the aggregate principal amount of the XXXXXXXXXX Borrowing used to fund the XXXXXXXXXX Dividend will not exceed the Accumulated Profits that have been retained and used for eligible purposes.
24. Following the payment of the XXXXXXXXXX Dividend the Corporation will use the remainder of the XXXXXXXXXX Borrowing (the remainder of the funds in Bank Account A) to repay all or a portion of the XXXXXXXXXX Borrowing.
25. The Corporation will declare and pay a XXXXXXXXXX dividend (the "XXXXXXXXXX Dividend") to the holders of Common Shares in an amount to be determined by the Board of Directors at that time. The XXXXXXXXXX Dividend will be paid from XXXXXXXXXX . Following the payment of the XXXXXXXXXX Dividend, it is expected the Corporation will have XXXXXXXXXX . In no event will the aggregate of the principal amounts of the XXXXXXXXXX Borrowings used to pay the XXXXXXXXXX Dividends exceed the relevant Accumulated Profits, calculated by the Corporation as described in 18 and 23 above, that have been retained and used for eligible purposes.
26. XXXXXXXXXX
27. On XXXXXXXXXX , the board of directors of the Corporation approved XXXXXXXXXX .
28. XXXXXXXXXX
29. New accounting rules which come into effect for the Corporation on XXXXXXXXXX , may cause the Corporation to XXXXXXXXXX opening Retained Earnings. XXXXXXXXXX .
Purpose of the Proposed Transactions
30. As described in 8 to 11 above, the Corporation has stated that it has a very inefficient and very uncompetitive capital structure. The board of directors of the Corporation is addressing the issue of the Corporation's capital structure by borrowing XXXXXXXXXX and paying XXXXXXXXXX dividends.
RULINGS
Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, Proposed Transactions and purpose of the Proposed Transactions, and provided further that the Proposed Transactions are completed in the manner described above, we rule as follows:
A. Provided that the Corporation has a legal obligation to pay interest on the XXXXXXXXXX Borrowings, the Corporation will be entitled, pursuant to paragraph 20(1)(c), to deduct the lesser of (i) interest paid or payable (depending on the method regularly followed by the Corporation in computing its income for the purposes of the Act) in respect of the year on that portion of the XXXXXXXXXX Borrowings used to pay the XXXXXXXXXX Dividends as described in 18 and 23 above, or (ii) a reasonable amount in respect thereof.
B. The provisions of subsection 245(2) will not be applied, as a result of the Proposed Transactions, in and by themselves, to re-determine the tax consequences confirmed in the ruling given above.
The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 dated May 17, 2002 and is binding on the CRA.
The above rulings are based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the ruling provided herein.
Nothing in this ruling letter should be construed as implying that the CRA has agreed to, reviewed or has made any determination in respect of:
(a) the fair market value or adjusted cost base of any property or the paid-up capital of any shares referred to herein; or
(b) any tax consequences relating to the facts and Proposed Transactions described herein other than those specifically described in the ruling given above.
Yours truly,
XXXXXXXXXX
For Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
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