1999 Ruling 9920513 - LOSS CONSOLIDATION

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

PRINCIPAL ISSUE:

Loss Consolidation. Taxpayer seeking certainty in light of the decision in C.R.B. Logging Co. Ltd v. The Queen, 99 DTC (TCC).

Position:

Favorable ruling given.

REASON:

The facts in the present case can be distinguished from the fact pattern in C.R.B. Logging Co. Ltd v. The Queen, 99 DTC (TCC). In particular, the issuer of the preferred shares had sources of income other than the target company such that there did not exist an income flow of a "closed nature" as was the case in CRB.

Moreover, we have previously provided favorable rulings in similar situations (albeit pre CRB) - (see for example # 991085, # 972734 and # 971058).

XXXXXXXXXX 			3-992051

Attention: XXXXXXXXXX

XXXXXXXXXX, 1999

Dear Sirs:

Re: Advance Income Tax Ruling Request
XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX

This is in response to your letters of XXXXXXXXXX, wherein you request an advance income tax rulings on behalf of the above-noted taxpayers. We also acknowledge the information provided in subsequent correspondence and during various telephone conversations in connection with your request (XXXXXXXXXX).

We understand that to the best of your knowledge and that of the taxpayers involved:

i) none of the issues involved in the requested ruling is being considered by any District Tax Services Office or Taxation Centre of the Department in connection with a tax return already filed, and

ii) none of the issues involved in the requested ruling is the subject of any notice of objection or is under appeal.

Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended, (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 and proposed transactions is as follows:

Facts

1. XXXXXXXXXX ("Parentco") was incorporated under the Canada Business Corporations Act. Parentco is a public corporation and a taxable Canadian corporation. The Class A and B shares of Parentco are traded on the XXXXXXXXXX Exchange and the XXXXXXXXXX Stock Exchange. XXXXXXXXXX The expressions "public corporation" and "taxable Canadian corporation"as referred to here and subsequently have the meanings assigned by subsection 89(1) of the Act.

2. XXXXXXXXXX ("Holdco") was incorporated under the CBCA. Holdco is a taxable Canadian corporation.

The authorized share capital of Holdco consists of an unlimited number of voting common shares.

Parentco owns all the issued and outstanding shares of Holdco.

3. Holdco owns all the issued and outstanding share capital of XXXXXXXXXX ("Opco"). Opco owns all the issued and outstanding share capital of XXXXXXXXXX ("Subco"). In addition to its interest in Subco, Opco also owns, inter alia, a XXXXXXXXXX% interest in XXXXXXXXXX ("A Co"). A Co owns a XXXXXXXXXX% interest inXXXXXXXXXX ("B Co").

4. Holdco is profitable and has a positive cash flow. The anticipated profit before income taxes with respect to the XXXXXXXXXX fiscal year for Opco, Subco, A Co and B Co is as follows:

Corporation name
Anticipated 1999
profit before
income taxes
Amount
attributable
to Holdco

XXXXXXXXXX
XXXXXXXXXX
Opco
XXXXXXXXXX
XXXXXXXXXX
Subco
XXXXXXXXXX
XXXXXXXXXX
A Co
XXXXXXXXXX
XXXXXXXXXX
B Co
XXXXXXXXXX
XXXXXXXXXX

5. Acquisitionco is a corporation that was incorporated on XXXXXXXXXX under the CBCA. Acquisitionco is a taxable Canadian corporation. All of the issued and outstanding share capital of Acquisitionco is owned by Parentco.

6. XXXXXXXXXX ("Target Holdco") is a corporation incorporated under the CBCA and is a taxable Canadian corporation and is the holding company of the former controlling shareholders of Targetco.

The authorized share capital of Target Holdco includes an unlimited number of participating, one vote per share class A shares, without par value and an unlimited number of non-cumulative, non-voting, redeemable class B shares, without par value. The issued and outstanding share capital of Target Holdco consists of XXXXXXXXXX participating class A shares and XXXXXXXXXX non-cumulative class B shares.

7. XXXXXXXXXX ("Targetco") is a corporation incorporated under the CBCA. Targetco is a public corporation and a taxable Canadian corporation.

The authorized share capital of Targetco includes an unlimited number of participating, one vote per share class A subordinate shares, without par value and an unlimited number of participating, XXXXXXXXXX votes per share until XXXXXXXXXX at which time the voting entitlement will be revised, class B variable voting shares, without par value. The issued and outstanding share capital of Targetco as at XXXXXXXXXX, consists of XXXXXXXXXX class A subordinate shares and XXXXXXXXXX class B variable voting shares.

Targetco's Class A Subordinate Shares are listed on the XXXXXXXXXX Exchange. Target Holdco currently owns XXXXXXXXXX class A subordinate shares and XXXXXXXXXX (representing XXXXXXXXXX% of the shares of the class) class B variable shares of Targetco. All the remaining issued and outstanding class A subordinate shares of Targetco are currently held by Acquisitionco and were acquired as part of the Takeover as described in paragraph 8 below.

Targetco is a Canadian XXXXXXXXXX company operating in XXXXXXXXXX.

8. On XXXXXXXXXX, Acquisitionco completed a series of transactions (the "Takeover), whereby it acquired all of the outstanding shares of Targetco, not already owned by Acquisitionco or Parentco for total cash consideration of approximately $XXXXXXXXXX.

As part of the Takeover, Acquisitionco also acquired XXXXXXXXXX% of Target Holdco.

9. Prior to the Takeover, Parentco held XXXXXXXXXX Class A subordinate shares of Targetco, which represented approximately XXXXXXXXXX% of the outstanding number of shares of Targetco. On XXXXXXXXXX Class A subordinate shares of Targetco held by Parentco were transferred to Acquisitionco pursuant to subsection 85(1) of the Act.

10. XXXXXXXXXX.

11. Acquisitionco obtained the funds required to complete the acquisition from Parentco. The required funds were in part borrowed by Acquisitionco from Parentco (the "Acquisition Debt") and in part obtained by Acquisitionco from Parentco, via Parentco's investment in common shares of Acquisitionco. The total principal amount of the borrowed money associated with the Acquisition Debt is approximately $XXXXXXXXXX

12. Parentco obtained the funds borrowed and invested in Acquisitionco as described in paragraph 11 above, in part through a public share issuance of approximately $XXXXXXXXXX, and in part through a loan (the "Parentco Loan") from arm's length institutional lenders in the amount of approximately $XXXXXXXXXX, in the form of a revolving term credit facility. The interest rate on the Parentco Loan (the "Parentco Loan Interest Rate") is a variable rate.

13. The Acquisition Debt is currently subject to a variable interest rate, with the rate being equal to the then Parentco Loan Interest Rate plusXXXXXXXXXX point. Based on current rates, it is estimated that such rate will be equal to approximately XXXXXXXXXX% in XXXXXXXXXX. A reference to the term "Acquisition Debt Interest Rate" herein means the current interest rate on the Acquisition Debt at that particular time.

14. Parentco, Acquisitionco, Targetco and Holdco all have an XXXXXXXXXX year-end.

15. As a result of interest charges related to the Acquisition Debt, it is anticipated that Acquisitionco will incur losses in its XXXXXXXXXX and subsequent taxation year (the "Expected Losses"). In XXXXXXXXXX it is anticipated that such losses will total approximately $XXXXXXXXXX. In XXXXXXXXXX, it is anticipated that such losses will total approximately $XXXXXXXXXX. Targetco is expected to earn a profit in its XXXXXXXXXX and subsequent taxation years. In XXXXXXXXXX, it is anticipated that Targetco's profit before income taxes will be in excess of $XXXXXXXXXX.

16. Parentco, Acquisitionco, Targetco and Holdco are affiliated persons and related persons. The expressions "affiliated persons" and "related persons "as referred to here and subsequently have the meanings assigned by subsection 251(2) of the Act.

Proposed Transactions

17. The authorized share capital of Holdco will, in accordance with the provisions of the CBCA, be amended to include an unlimited number of cumulative, non-voting, redeemable, retractable preferred shares with a redemption value equal to the fair market value, at the time of issue, of the consideration in respect of which the shares were issued. The cumulative dividends payable on the Preferred Shares will be calculated daily by reference to the redemption/retraction price of the Preferred Shares at a rate equal to the then current Acquisition Debt Interest Rate plus a XXXXXXXXXX point. Dividends will be payable quarterly in arrears on the last day of every quarter.

18. Acquisitionco, (directly, or indirectly through Parentco) will borrow an amount (the "Principal Amount") on a "daylight loan" basis from an arm's length institutional lender (the "Daylight Loan"). The Principal Amount will be such that interest expected to be received by Acquisitionco in its taxation year ending in XXXXXXXXXX and later years on the Targetco Loan (see paragraph 19 below) will be sufficient to offset the losses expected to be incurred by Acquisitionco in its taxation year ending in XXXXXXXXXX and later years, as well as XXXXXXXXXX of the losses incurred by Acquisitionco in its taxation year ended in XXXXXXXXXX. Based on the estimate of the Acquisition Debt Interest Rate for XXXXXXXXXX set out in paragraph 13 above, and assuming the Daylight Loan is taken out by XXXXXXXXXX, it is anticipated that the Principal Amount of the Daylight Loan will be approximately $XXXXXXXXXX.

19. Acquisitionco will use the proceeds received from the Daylight Loan to make a demand loan to Targetco (the "Targetco Loan"). Simple interest will accrue on the Targetco Loan and will be calculated daily at a rate equal to the then current Acquisition Debt Interest Rate payable quarterly in arrears on the last day of every quarter.

20. Targetco will use the proceeds from the Targetco Loan to subscribe for Preferred Shares in Holdco having an aggregate redemption/retraction price equal to the Principal Amount.

21. Holdco will use the proceeds resulting from the Preferred Shares to make a demand, interest-free loan to Acquisitionco in a amount equal to the Principal Amount (the "Holdco Loan").

22. Acquisitionco will use the proceeds from the Holdco Loan to repay the Daylight Loan.

23. On the last day of every quarter while the Holdco Loan is outstanding, Holdco will pay a dividend to Targetco equal to the amount of the dividends payable by Holdco on that day on the Preferred Shares. Dividends from Opco to Holdco will be paid from time to time in such a manner as to enable Holdco to pay the dividends on its Preferred Shares held by Targetco. In addition, dividends from Subco, A Co and B Co will be paid from time to time in such a manner as to enable Opco to pay the required dividends to Holdco.

24. Upon receipt of the dividends paid by Holdco on the Preferred Shares, Targetco will pay Acquisitionco the interest due on the Targetco Loan.

25. From time to time, Targetco may pay a dividend to Acquisitionco.

26. A Debt Decreasing Transaction may be entered into in circumstances where the interest income on the Targetco Loan is expected to be greater than the amount required to offset Acquisitionco's Expected Losses for the year. The need for a Debt Decreasing Transaction could arise for numerous reasons including a partial repayment of the Acquisition Debt. A Debt Decreasing Transaction will be implemented through the following steps:

(a) Acquisitionco will borrow an amount on a daylight loan basis (the "New Daylight Loan"). Acquisitionco will use these funds to pay down the Holdco Loan.

(b) Holdco will use the funds received through step (a) to redeem Preferred Shares.

(c) Targetco will use the proceeds from the redemption of the Preferred Shares to pay down the Targetco Loan.

(d) Acquisitionco will use the funds received on the repayment of the Targetco Loan to pay down the New Daylight Loan.

27. In future instances where, for example, Acquisitionco no longer needs any interest income from the Targetco Loan in order to offset its Expected Losses, a final Debt Reducing Transaction as described above will be implemented in order to cause any remaining balance on the Targetco Loan to be fully repaid.

Purpose of the Proposed Transactions

28. The purpose of the proposed transactions is to consolidate profit and losses within a related group by enabling Acquisitionco to earn sufficient interest income on the Targetco Loan in order to eliminate losses that it would otherwise incur in its XXXXXXXXXX and subsequent taxation years. Effectively, the proposed transactions permit the application of interest charges with respect to the Acquisition Debt against the income of Targetco.

XXXXXXXXXX.

Other information

29. (a) The address and corporate account number of the each of the parties to the transactions described herein are as follows:

XXXXXXXXXX

XXXXXXXXXX

XXXXXXXXXX

XXXXXXXXXX

XXXXXXXXXX

b) XXXXXXXXXX, are served by the XXXXXXXXXX Tax Services Office (TSO) and the XXXXXXXXXX Taxation Centre. XXXXXXXXXX are served by the XXXXXXXXXX TSO and the XXXXXXXXXX Taxation Centre.

Rulings

Provided that the above description of facts, proposed transactions, purpose of the proposed transaction and other information are accurate and constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purpose thereof, and provided further that the proposed transactions are completed in the manner described above, we confirm that:

A. Provided that Targetco has a legal obligation to pay interest on the Targetco Loan and provided that the Preferred Shares of Holdco continue to be held for the purpose of gaining or producing income (other than income which would be exempt), Targetco will be entitled to deduct, in computing its income for a taxation year, the lesser of the interest paid or payable in respect of that taxation year or a reasonable amount in respect thereof pursuant to paragraph 20(1)(c) of the Act.

B. Subsection 245(2) of the Act will not be applicable 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 general limitations and qualifications set out in Information Circular IC 70-6R3 dated December 30, 1996, and are binding on Revenue Canada Custom , Excises and Taxation provided that the proposed transactions are completed by XXXXXXXXXX.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch