NON-ARM S LENGTH TRANSFERS OF PROPERTY

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TABLE OF CONTENTS Dedication... Preface... Table of Cases... Table of Statutory References... iii v xiii xxxiii 1 INTRODUCTION... 1 1.1 General... 1 1.2 Arrangements... 2 2 NON-ARM S LENGTH TRANSFERS OF PROPERTY... 5 2.1 The Non-Arm s Length Concept... 5 2.1.1 Related Persons... 6 (a) De Jure Control of a Corporation... 8 (b) Control by an Unrelated Group... 11 (c) Rights in Respect of Shares... 12 (d) Amalgamations... 17 2.1.2 Non-Arm s Length in Fact... 17 (a) Common Mind... 18 (b) Accommodation Party... 19 (c) Acting in Concert without Separate Interests... 20 (d) De Facto Control... 26 (e) Shareholders and Corporations... 28 (f) Partnerships... 29 (g) Trusts... 30 2.2 Section 69(1)... 31 2.3 Section 69(11)... 34 2.4 Price Adjustment Clauses... 37 2.5 Affiliated Persons... 40 2.5.1 Individuals... 41 2.5.2 Corporations... 41 2.5.3 Partnerships... 42 2.5.4 Trusts... 43 2.6 Stop-Loss Rules... 45 2.6.1 Non-Depreciable Capital Property... 46 (a) Suspended Losses: Section 40(3.4)... 46 (b) Superficial Losses: Section 40(2)(g)(i)... 50 (c) Identical Property... 51 (d) Repurchase or Redemption of Shares: Section 40(3.6)... 54 (e) Shares of a Controlled Corporation: Section 40(2)(h)... 56 (f) Prescribed Shares: Section 40(2)(i)... 56 (g) Certain Bonds and Debentures: Section 40(2)(d)... 57

viii TABLE OF CONTENTS (h) Related-Party Debt: Section 40(2)(e.1)... 57 (i) Commercial Obligations: Section 40(2)(e.2)... 59 (j) Non-Income Earning Debt: Section 40(2)(g)(ii)... 60 2.6.2 Depreciable Property... 64 (a) Buildings: Section 13(21.1)... 65 (b) Terminal Losses: Section 13(21.2)... 68 2.6.3 Eligible Capital Property: Section 14(12)... 71 2.6.4 Dividend Stop-Loss Rules... 73 (a) Natural Persons and Corporations... 74 (b) Partnerships... 76 (c) Trusts... 79 (d) Grandfathered Shares... 83 (e) Exchanged Shares... 83 (f) Non-Resident Individuals... 84 2.6.5 Certain Inventory: Section 18(15)... 84 2.7 Non-Arm s Length Transfer of Depreciable Property: Section 13(7)(e)... 86 2.8 Eligible Capital Property... 89 (a) Non-Arm s length Transfers: Section 14(3)... 89 (b) Rollover to Controlled Corporation: Section 24(2)... 90 2.9 Non-Arm s Length Transfer to Defeat Tax Liability... 91 3 TAX DEFERRED ROLLOVERS: SECTION 85(1)... 99 3.1 Eligible Transferors and Transferees... 100 3.2 Eligible Property... 101 3.2.1 Capital Property... 102 3.2.2 Shares of the Transferee... 102 3.2.3 Right to Income and Accounts Receivable... 103 3.2.4 Real Property... 105 3.2.5 Partnership Interests... 107 3.3 Agreed Amount... 108 3.3.1 General Deeming Rules on Agreed Amounts... 108 3.3.2 Specific Deeming Rules for Certain Kinds of Property... 110 (a) Inventory and Non-Depreciable Capital Property... 110 (b) Cash Method Accounting... 110 (c) Eligible Capital Property... 111 (d) Depreciable Property... 112 (e) Passenger Vehicles... 113 3.3.3 Priority of Deeming Rules... 114 3.3.4 Order of Disposition of Properties... 115 3.3.5 Consequences Where Benefit Conferred on a Related Person... 116 3.4 Shareholder Benefit... 119

TABLE OF CONTENTS ix 3.5 V-Day Amounts... 120 3.6 Consideration Received by Taxpayer... 120 3.6.1 Timing of Share Issuance... 120 3.6.2 Determination of the Taxpayer s Cost of Consideration... 122 (a) Cost of Boot... 122 (b) Cost of Preferred Shares... 122 (c) Cost of Common Shares... 123 3.6.3 Paid-up Capital of Shares Received... 124 3.6.4 Taxable Canadian Property... 126 3.6.5 Capital Property or Inventory... 126 3.7 Property Received by Transferee Corporation... 126 3.8 Deemed Dividends under Section 84... 127 3.9 Partnership Transfers and Wind-ups: Sections 85(2) and (3)... 128 3.10 Election... 130 3.10.1 Mechanics of the Election... 130 3.10.2 Listing of Transferred Properties... 132 4 CAPITAL REORGANIZATIONS... 135 4.1 Section 86: Exchange of Shares in a Reorganization of Capital... 135 4.1.1 Eligible Transferors and Corporations... 137 4.1.2 Disposition of All of the Shares of the Class Held by the Taxpayer... 137 4.1.3 Reorganization of the Capital of the Corporation... 139 4.1.4 Indirect Gift... 140 4.1.5 Shareholder Benefit... 143 4.1.6 Paid-up Capital of New Shares... 144 4.1.7 Deemed Dividend... 146 4.1.8 Preservation of Reduced Cost for Debt Forgiveness Purposes... 146 4.1.9 Shares Held Since 1971... 147 4.1.10 Comparison with Section 85... 147 4.2 Share Issuances and Option Grants... 148 4.2.1 Option to Acquire Securities of Another Corporation... 149 4.2.2 Option to Acquire Securities of the Granting Corporation... 151 4.2.3 Shareholder and Employee Benefits... 152 4.2.4 Put Options... 154 4.2.5 Non-arm s Length Option Grants... 154 4.3 Section 51: Convertible Property... 155 4.3.1 Eligible Transferors and Corporations... 157 4.3.2 Indirect Gift... 158 4.3.3 Shareholder Benefit... 159 4.3.4 Paid-up Capital of the Acquired Shares... 160 4.3.5 Convertible Property Held Since 1971... 161 4.4 Section 51.1: Debt Obligation Conversions... 161 4.5 Non-Resident Withholding Tax on Convertible Debt... 162

x TABLE OF CONTENTS 4.6 Stock Splits and Consolidations... 166 4.7 Stock Dividends... 167 4.7.1 Shareholder Benefit on the Payment of a Stock Dividend... 169 4.8 Capitalization of Surplus: Section 84(1)... 170 4.8.1 Exceptions under Section 84(1)... 172 4.9 Redemption of Shares: Section 84(3)... 174 4.10 Returns of Capital... 177 4.10.1 Private Corporations: Section 84(4)... 177 4.10.2 Public Corporations: Section 84(4.1)... 178 4.10.3 Preferred Shares: Sections 84(4.2) and (4.3)... 181 4.11 Section 86.1: Foreign Spin-offs... 182 5 SURPLUS STRIPPING... 187 5.1 Section 84.1... 187 5.1.1 Relevant Transferors and Transferees... 188 5.1.2 Non-Arm s Length... 189 (a) Factual Non-Arm s Length... 189 (b) Expanded Meaning of Non-Arm s Length for (c) Section 84.1... 191 Expanded Meaning of Non-Arm s Length for Section 84.1(2)(a.1)... 193 5.1.3 Connected Corporations... 194 5.1.4 Paid-up Capital Reduction... 195 5.1.5 Deemed Dividend... 197 5.1.6 Capital Dividends and RDTOH... 200 5.1.7 Arm s Length Adjusted Cost Base... 201 5.2 Section 212.1 Non-Arm s Length Sales of Shares by Non- Residents... 203 6 SHARE FOR SHARE EXCHANGES SECTION 85.1... 207 6.1 Domestic Exchanges... 207 6.1.1 Vendor Must Be a Taxpayer... 210 6.1.2 Effect on Vendor... 211 6.1.3 Effect on Purchaser... 213 6.1.4 Paid-up Capital of Issued Shares... 213 6.2 Exchanges Involving Foreign Affiliates... 215 6.3 Foreign Exchanges... 217 6.4 Cross-Border Share-for-Share Exchanges... 220 7 AMALGAMATIONS... 221 7.1 Definition... 221 7.2 Amalgamated Corporation... 237 7.2.1 Taxation Year... 237 7.2.2 Inventory... 239 7.2.3 Income Computation... 240 7.2.4 Depreciable Property... 242 7.2.5 Capital Property... 252

TABLE OF CONTENTS xi 7.2.6 Partnership Interests... 253 7.2.7 Property Used in an Insurance or Money Lending Business... 254 7.2.8 Certain Property of Financial Institutions... 255 7.2.9 Eligible Capital Property... 255 7.2.10 Reserves... 256 (a) General... 256 (b) Bad Debts... 257 (c) Doubtful Debts... 257 (d) Contingent Reserves for Banks and Insurers... 258 (e) Properties Sold in the Course of Business... 258 (f) Undelivered Goods and Services... 259 (g) Capital Properties... 260 (h) Quadrennial Surveys... 260 (i) Uncollectible Proceeds... 261 (j) Credit Unions... 262 7.2.11 Holdbacks... 262 7.2.12 Interest Income... 262 7.2.13 Prepaid Expenses... 263 7.2.14 Injected Substances... 263 7.2.15 Employee Benefit Plans... 264 7.2.16 Lease Cancellation Payments... 265 7.2.17 Inducement Payments and Government Assistance... 266 7.2.18 International Banking Centre Business... 267 7.2.19 Financial Institutions... 267 7.2.20 Income Attribution... 268 7.2.21 Employee Payments... 269 7.2.22 Scientific Research and Experimental Development... 269 7.2.23 Replacement Property... 269 7.2.24 Warranty Outlays... 271 7.2.25 Options... 271 7.2.26 Foreign Affiliate Shares... 272 7.2.27 Resource Properties... 273 7.2.28 Interest Expense... 276 7.2.29 Penalties, Bonuses, and Rate Reduction Payments... 277 7.2.30 Charitable Donations... 278 7.2.31 Debts of a Predecessor... 278 7.2.32 Public Corporation Status... 281 7.2.33 Livestock... 282 7.2.34 Fuel Tax Rebates... 282 7.2.35 Losses... 283 (a) Restricted Farm Loss and Farm Loss... 283 (b) Non-Capital Loss and Net Capital Loss... 283 (c) Dividends on Shares... 287 (d) Losses on Certain Shares... 288 7.2.36 Tax Credits... 289

xii TABLE OF CONTENTS (a) Small Business Deduction... 289 (b) Manufacturing and Processing Profits Deduction... 290 (c) Investment Tax Credit... 290 (d) Foreign Tax Credit... 291 (e) Large Corporations Tax and Financial Institutions Tax... 292 7.2.37 Special Tax Accounts... 293 (a) Capital Dividend Account... 293 (b) Refundable Dividend Tax on Hand... 293 (c) Pre-1972 Capital Surplus on Hand... 295 (d) Contributed Surplus... 295 (e) GRIP and LRIP... 296 7.2.38 Special Corporations... 296 (a) Mutual Fund Corporation... 296 (b) Investment Corporations... 297 (c) Non-Resident-Owned Investment Corporation... 297 (d) Life Insurance Corporation... 297 7.2.39 Parts III and III.1 Tax... 298 7.2.40 Parts IV.1 and VI.1 Tax on Taxable Preferred Shares... 298 7.2.41 Transfer of Part VI.1 Tax Liability... 299 7.2.42 Paid-Up Capital... 299 7.2.43 Functional Currency Rules... 302 7.2.44 Superficial Losses... 303 7.2.45 Instalment Deferral... 304 7.2.46 Qualifying Environmental Trusts... 304 7.2.47 Film and Video Productions... 305 7.2.48 Section 80... 305 7.2.49 Gift of a Non-Qualifying Security... 305 7.2.50 SIFT Wind-Up Corporation... 306 7.2.51 Balance-Due Date... 306 7.2.52 Canada Pension Plan and Employment Insurance Payments... 306 7.2.53 Use of Amalgamation to Access Tax Benefits... 307 7.2.54 Goods and Services Tax... 308 7.3 Securityholders of Predecessor Corporations... 308 7.3.1 Proceeds of Disposition and Cost... 308 7.3.2 Term Preferred Shares... 315 7.3.3 Other Preferred Shares... 315 7.3.4 Rights to Acquire Grandfathered Shares... 317 7.3.5 Flow-Through Shares... 317 7.3.6 Options... 318 7.3.7 Tax-Deferred Shares of an Agricultural Co-operative Corporation... 319 7.3.8 Transitional Rules... 320

TABLE OF CONTENTS xiii 7.3.9 Creditors of Predecessor Corporations... 322 7.3.10 Continuation of Listed Status... 323 7.3.11 Flow-Through Entities... 323 7.4 Triangular Amalgamations... 324 7.5 Vertical Amalgamations... 328 7.6 Foreign Mergers... 328 8 CAPITAL GAINS STRIPS AND DIVISIVE REORGANIZATIONS... 331 8.1 Capital Gains Strips: Section 55(2)... 331 8.1.1 Relevant Dividends... 334 8.1.2 Purpose or Result of Transaction or Series... 335 8.1.3 Part IV Tax Exception... 336 8.1.4 Safe Income Exception... 339 (a) Income Earned or Realized after 1971 and before the Safe-Income Determination Time (b)... 343 Uncertainties About Safe Income: Series of Dividends and Section 55(5)(f)... 353 (c) Safe-Income Determination Time... 357 8.2 Divisive Reorganizations Overview and Historical Perspective... 359 8.2.1 Types of Divisive Reorganizations Nomenclature... 365 (a) Section 55(3)(a) Reorganization... 365 (b) Butterfly Reorganization... 366 8.2.2 Undefined Terms... 368 (a) Reorganization... 369 (b) Series of Transactions... 371 (c) In Contemplation Of... 378 (d) Immediately Before and Immediately After... 380 8.3 The Section 55(3)(a) Exemption... 384 8.3.1 Interpretive Rules... 385 (a) Unrelated Persons... 385 (b) Dividend Recipient... 390 (c) Amalgamations and Windings-up... 391 (d) Section 55(3.01) Proceeds of Disposition... 392 (e) Series of Transactions and Immediately... 395 (f) Significant Increase in the Total Direct Interest... 395 8.3.2 Prohibited Transactions... 398 (a) (b) Section 55(3)(a)(i) Dispositions of Property... 399 Section 55(3)(a)(ii) Significant Increase in Interest in a Corporation... 402

xiv TABLE OF CONTENTS (c) (d) (e) Section 55(3)(a)(iii) Dispositions of Shares of the Dividend Payer or Derivative Property... 404 Section 55(3)(a)(iv) Dispositions of Shares of the Dividend Recipient or Derivative Property... 406 Section 55(3)(a)(v) Significant Increase in Direct Interest in Dividend Payer... 407 8.4 The Section 55(3)(b) Exemption... 408 8.4.1 Defined Terms... 412 (a) Distribution... 412 (b) Specified Class... 417 (c) Permitted Redemption... 420 (d) Permitted Exchange... 424 (e) Permitted Acquisition... 436 (f) Qualified Person... 437 8.4.2 Types of Property... 442 (a) Consolidated Look-Through Approach... 444 (b) Valuation of Types of Property: Net Equity or Gross Equity... 447 8.4.3 Divisive Reorganizations The Butterfly Exemption: Section 55(3)(b)... 450 (a) Specified Corporations: Spin-Off Butterfly Reorganizations Involving Public Corporations and Their Subsidiaries... 450 (b) Section 55(3)(b): The Basic Exemption... 453 (c) Prohibition on Property Becoming Property: Section 55(3.1)(a)... 454 (d) Requirement for Continuity of Share Ownership: Section 55(3.1)(b)... 461 (e) Post-Butterfly Restrictions306: Sections 55(3.1)(c) and (d)... 484 9 WINDING-UP... 499 9.1 Definition... 499 9.2 Winding-up of Resident Corporation Where Section 88(1) Applies... 503 9.2.1 Rules Applicable to the Subsidiary... 503 9.2.2 Rules Applicable to the Parent... 508 (a) Shares of the Subsidiary... 508 (b) Cost to Parent of Property of the Subsidiary and Other Flow-Through Provisions... 509 (c) Carryover of Losses to Parent... 515 (d) The Bump... 518 (e) The Bump Denial Rule... 530 9.2.3 Rules Applicable to Creditors... 553 9.2.4 Rules Applicable to Minority Shareholders... 553

TABLE OF CONTENTS xv 9.3 Winding-up of Resident Corporations Where Section 88(1) Does Not Apply... 554 9.3.1 Deemed Sale of Property... 554 9.3.2 Deemed Dividend... 554 9.3.3 Pre-1972 Capital Surplus on Hand... 558 9.3.4 Deemed Disposition of Shares... 559 9.3.5 Part XIII and Section 116... 561 9.4 Liability of Legal Representatives and Clearance Certificates... 562 9.4.1 Section 159... 562 (a) Requirement to Obtain Clearance Certificate... 562 (b) Legal Representatives... 565 10 CONTINUANCE AND CORPORATE MIGRATION... 571 10.1 Continuance within Canada... 571 10.2 Corporate Emigration... 572 10.2.1 Continuance Outside Canada... 572 10.2.2 Deemed Disposition of Property... 574 10.2.3 Deemed Year End... 574 10.2.4 Foreign Exploration and Development Expenses/Foreign Resources Expenses... 575 10.2.5 Additional Tax on Corporate Emigration... 575 10.3 Corporate Immigration... 577 10.3.1 Continuance into Canada... 577 10.3.2 Deemed Disposition of Property... 577 10.3.3 Deemed Year End... 577 10.3.4 Deemed Dividend by Canadian Subsidiary... 578 10.3.5 Branch Tax... 579 10.3.6 Adjustments to Paid-Up Capital... 579 10.3.7 Deemed Dividend by the Corporation... 579 10.3.8 Cost of Shares of the Corporation... 581 10.3.9 Former Foreign Affiliate... 581 APPENDIX A... 583 11 ACQUISITIONS OF CONTROL... 585 11.1 Control... 585 11.2 Acquisition of Control Determination... 587 11.2.1 Share Acquisitions, Redemptions and Cancellations, and Changes in Share Attributes... 587 11.2.2 Amalgamations... 592 11.2.3 Reverse Takeover Share Exchanges... 594 11.2.4 SIFT Reverse Takeover Transactions... 596 11.2.5 Other Share Exchanges... 598 11.2.6 SIFT Trust Conversions... 601 11.2.7 Corporation Without Share Capital... 603 11.2.8 Change of Trustee... 603 11.2.9 Bankruptcy... 604

xvi TABLE OF CONTENTS 11.3 Consequences of an Acquisition of Control... 605 11.3.1 Taxation Year-End... 605 11.3.2 Expiration of Net Capital Losses... 607 11.3.3 Expiry of ABILs... 608 11.3.4 Streaming of Non-Capital Losses and Farm Losses... 608 (a) Non-Capital Losses from a Business... 611 (b) That Business... 612 (c) One Business or Multiple Businesses... 613 (d) Continuity of That Business... 616 (e) Reasonable Expectation of Profit... 625 (f) Deductible from Income from the Same or Similar Business... 626 (g) Meaning of Income... 631 (h) Substantially all the Income... 633 (i) Income Derived... 634 11.3.5 Recognition of Accrued Losses... 635 (a) Non-Depreciable Capital Property... 636 (b) Depreciable Capital Property... 637 (c) Eligible Capital Property... 637 (d) Inventory... 638 (e) Accounts Receivable... 638 (f) Suspended losses... 639 11.3.6 Recognition of Accrued Capital Gains and Recapture... 640 11.3.7 Foreign Currency Debt... 642 11.3.8 Debt Forgiveness... 643 11.3.9 Scientific Research and Experimental Development Expenditures... 643 11.3.10 Investment Tax Credits... 644 11.3.11 Resource Expenses... 645 11.3.12 Charitable Donation Deductions and Other Gifts... 647 11.3.13 CCPC and Capital Dividend Account... 647 11.3.14 Foreign Affiliates... 648 11.4 Anti-Avoidance Rules... 650 11.4.1 The General Anti-Avoidance Rule... 650 11.4.2 Acquiring Control to Recognize Accrued Losses... 652 11.4.3 Deemed Exercise of Rights... 653 11.4.4 Resource Property Acquired Prior to the Acquisition of Control... 654 11.4.5 Depreciable Capital Property Acquired Prior to the Acquisition of Control... 654 11.4.5 Section 69(11)... 655 12 THE ELIGIBLE DIVIDEND REGIME... 657 12.1 Legislative Purpose... 657 12.2 Essential Components... 658 12.3 Eligible Dividends... 659 12.3.1 Definition... 659

TABLE OF CONTENTS xvii 12.3.2 Designation Requirement... 659 12.3.3 Non-Resident Shareholders... 660 12.3.4 Section 55(2)... 661 12.4 GRIP... 661 12.4.1 GRIP Definition... 661 12.4.2 Opening 2006 GRIP Balance... 662 12.4.3 Acquisition of a CCPC... 664 12.5 LRIP... 664 12.6 Section 89(11) Election... 665 12.7 Status Changes (Sections 89(4) and 89(8))... 667 12.7.1 Becoming a CCPC... 667 12.7.2 Ceasing to be a CCPC... 668 12.8 Amalgamations (Sections 89(5) and 89(9))... 670 12.8.1 Amalgamated Corporation is a CCPC... 671 12.8.2 Amalgamated Corporation is a Non-CCPC... 671 12.9 Wind-ups (Sections 89(6) and 89(10))... 671 12.9.1 Parent Corporation is a CCPC... 672 12.9.2 Parent Corporation is a Non-CCPC... 672 12.10 EEDD/Part III.1 Tax... 673 12.10.1 Liability for Part III.1 Tax... 673 12.10.2 Calculation of Part III.1 Tax... 673 12.10.3 Relief from Part III.1 Tax... 673 12.10.4 Anti-Avoidance and Part III.1 Tax... 674 12.10.5 Shareholder Liability... 674 12.10.6 Corporate Filing Obligation... 675 12.11 Conclusion... 675 13 EMPLOYEE STOCK OPTIONS... 677 13.1 Overview of Section 7: Employee Stock Options... 678 13.2 Tax Consequences to the Employee... 679 13.2.1 Grant of Employee Stock Options... 679 13.2.2 Exercise of Employee Stock Options... 679 (a) Partial Dispositions of Shareholdings... 680 (b) Relief from Taxation for Certain Dispositions of Shares... 682 13.2.3 Dispositions of Employee Stock Options... 685 13.2.4 Death of Employee Holding Employee Stock Option... 688 13.2.5 Deduction in Computing Taxable Income... 689 (a) Employee Stock Options... 690 (b) CCPC options... 698 13.2.6 Adjusted Cost Base Considerations... 699 13.3 Tax Consequences to Employer or Issuer... 703 13.3.1 Consequences in Computing Income... 703 13.3.2 Withholding Obligations... 705 13.4 Employee Stock Options in the Context of Extraordinary Transactions... 707 13.4.1 Exchanging Employee Stock Options: Section 7(1.4)... 708

xviii TABLE OF CONTENTS (a) Use of Exchanges under Section 7(1.4)... 710 (b) Interaction Between Section 7(1.4) and Deduction in Computing Taxable Income... 711 (c) Exchange of Employee Stock Options: Issuer Considerations... 713 13.4.2 Eliminating Options in the Context of a Cash Takeover Bid, Going Private Transaction, or other Significant Reorganization... 713 (a) Accommodating Exercise of Options... 714 (b) Surrender of Options for Cash... 715 (c) Cancellation of Options for No Consideration... 722 13.4.3 Repricing Options... 722 13.4.4 Stock Dividends, Subdivisions and Consolidations... 727 Index... 731

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