At the 2020 CTF Annual Conference, the Canada Revenue Agency (“CRA”) stated that it would consider the application of the general anti-avoidance rule (“GAAR”) to an internal reorganization whereby a misalignment of outside and inside cost basis results in an undue increase in adjusted cost base (“ACB”) in the hands of the parent of a distributing corporation (“DC”) in a typical 55(3)(a) spin-off transaction.[1] The CRA’s primary concern arises in situations where the ACB of the distributed property held by the DC exceeds the ACB of the newly created transferee corporation (“TC”). A subsequent tax-deferred winding-up of the TC could result in an increase in the parent’s aggregate cost basis in its subsidiaries. The CRA’s position that such an increase in ACB is against the scheme of the Income Tax Act,[2] (the “Act”), and in particular subsection 55(2), is concerning as such increase in cost basis could inadvertently occur in bona fide business transactions with no tax-motivated purpose. The application of GAAR would be inappropriate in such circumstances.
The CRA considered a factual scenario where a Canadian-resident parent corporation (“Parentco”) is the sole shareholder of a Canadian-resident subsidiary (“Subco1”), whose shares have an ACB of $2000 and a FMV of $200,000. Subco1 is the sole shareholder of its own Canadian-resident subsidiary (“Subco2”), whose shares have an ACB of $2000 and a FMV of $20,000. Subco1 holds additional assets worth $180,000.
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