Chapter 18

Rollovers Under Section 85

Rollovers Defined

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Important Examples

 Transfers Of Property At Tax Values

 ITA 73: Inter Vivos To A Spouse
 ITA 70: To Spouse At Death
 ITA 85: To Corporation At Elected Values

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The Standard
Section 85 Scenario
 Example: An unincorporated business has assets with tax
values of $800,000 and liabilities of $200,000 (net tax value
of $600,000). The assets have a net fair market value of
$2,000,000 (potential gain of $1,400,000).
 Elect $800,000 for assets, corporation assumes liabilities
 $800,000 = POD = ACB
 Boot (Non-share consideration) = $800,000 (including the
$200,000 in old liabilities)

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Section 85 Basic Rules
 Who Can Make The Transfer
 ITA 85(1) Taxpayer
 Individual
 Trust
 Corporation
 ITA 85(2) Partnership

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Conditions For Transfer
 Type Of Corporation
 Canadian (Resident)
 Subject To Tax
 Does Not Have To Be A New
Corporation

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Conditions For Transfer
 Type Of Property - ITA 85(5.1)
 Inclusions:
 Capital Property
 Canadian And Foreign Resource Properties
 Eligible Capital Property
 Inventories
 Exclusions:
 Inventories Of Real Property
 Real Estate Owned By Non-Residents

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Conditions For Transfer

 Consideration To
Transferor
 Shares
 Must Be Included (At
Least One)
 C/S (Growth) And P/S
(Non-Growth)

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Conditions For Transfer

 Consideration To
Transferor
 Non-Share Consideration
(Boot)
 Cash, Other Assets, New
Debt Or The Assumption
Of Old Debt
 Important Because It can
be a Tax Free Distribution

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Conditions For Transfer

 Election
 Form 2057 (Taxpayer) Or 2058 (Partnership)
 If An Asset Is Not Listed, It Is Deemed
Transferred At FMV (Can Be A Significant
Problem)
 Late Or Amended (1/4 Percent Per Month On
Any Deferred Gain: Minimum $100 Per Month -
Maximum total $8,000)

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Limits On Transfer Price

 Upper Limit [ITA 85(1)(c)] = Fair Market

Value

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Limits On Transfer Price

 Lower Limit = Greater Of

 Boot [ITA 85(1)(b)]
 Lesser Or Least Of
 See Next Slides

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Limits On Transfer Price
 Non-Depreciable
Property – ITA
85(1)(c.1)
 Lesser Of
 FMV = $1,000
 ACB = $500

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Limits On Transfer Price
 Depreciable Capital Property – ITA 85(1)(e)
 Least Of
 FMV = $1,500
 Cost = $1,000
 UCC = $800

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Limits On Transfer Price
 Eligible Capital Property – ITA 85(1)(d)
 Least Of
 FMV = $1,500
 ACB = 4/3 CEC = 4/3($750) = $1,000
 Cost $1,200

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Selection Of Transfer Price
 Importance
 ITA 85(1)(a)
 POD To Transferor
 ACB To Transferee
 Minimum Election Equals Maximum
Deferral
 Generally Boot = Elected Value
 Generally Avoid Losses

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Position Of Corporation
 Non-Depreciable Capital Assets
 Elected Value = New ACB
 Usually Equal To Old ACB

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Position Of Corporation
 Depreciable Assets
 1. No 1st Year Rules
 If Previously Used In Business
 2. Capital Cost Equal To Elected Value (Unusual)
 Elected Value = Cost = UCC

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Position Of Corporation
 Depreciable Assets
 Elected Value < Cost (Normal)
 Cost = $350,000; UCC = Elected Value = $275,000
 New UCC = $275,000
 New Capital Cost = $350,000 – ITA 85(5)
 $75,000 Difference Is Deemed CCA

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Position Of Shareholder
•Allocation Of Consideration

Elected Value XXX

Non-Share Consideration [85(1)(f)] ( XXX)
ACB All Shares XXX*
ACB Preferred Shares [85(1)(g)] ( XXX)
ACB Common Shares [85(1)(h)] XX*

*Usually Nil

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Losses On Transfer Of Non-Depreciable Property To
Affiliated Persons

 Affiliated Persons (ITA 251.1)

 Individuals: Spouses Only
 Corporation Is Affiliated With:
 A Person By Whom It Is Controlled
 Each Member Of An Affiliated
Group That Controls
 Spouse Of Any Of The Above

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Losses On Transfer Of Non-Depreciable Property To
Affiliated Persons

 Stop Loss Provision

 ITA 40(2)(g) Deems Certain Losses To Be Nil
(Including Superficial Losses)
 Superficial Losses Include Transfers To A
Corporation By An Affiliated Person

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Losses On Transfer Of
Non-Depreciable Property To Affiliated Persons

 Treatment Of Loss
 Individuals: Add To ACB Of Property On Books
Of Transferee
 Corporations, Trusts, And Partnerships:
 Retained As A Separate CCA Class By Transferor
 Loss Deferred Until
 Property Is Sold
 There Is An ITA 88(2) Winding Up
 There Is An Acquisition Of Control Of The Corporation

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Establishing PUC - Example
 General Rules
 PUC = Legal Stated Capital = FMV Of
Consideration Given For Shares
 PUC (Before Reduction) In Following Example =
$489,000 ($225,000 + $264,000)
 ACB = $289,001 ($225,000 + $64,001)

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Establishing PUC – The Problem
 The Problem
 Sale Of Shares Would Result
In Capital Gain Of $199,999
(Use Of ITA 110.6)
 Redemption Would Result In
No ITA 84(3) Dividend And A
Capital Gain Of $199,999
(Use Of ITA 110.6)
 However, PUC Of $489,000
Could Be Removed Tax Free

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ITA 85(2.1)
PUC Reduction

( A-B) ( C A)

Where,
A = Increase in legal stated capital of all shares
B = Elected amount, less boot
C = FMV of particular class of shares

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PUC Reduction Example

LSC $489,000
Elected Amount $614,001
Boot ( 325,000) ( 289,001)
PUC Reduction $199,999

P/S = $225,000 - [(225/489)($199,999)] $132,976

C/S = $264,000 - ](264/489)($199,999)] 156,025
Total PUC $289,001

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Sale Of Shares

Proceeds Of Disposition $489,000

Adjusted Cost Base ($225,000 + $64,001) ( 289,001)
Capital Gain $199,999

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Redemption At FMV
Preferred Common
POD $225,000 $264,000
PUC ( 132,976) ( 156,025)
ITA 84(3) Deemed Dividend $ 92,024 $107,975

Proceeds Received $225,000 $264,000

ITA 84(3) Deemed Dividend ( 92,024) ( 107,975)
Adjusted POD $132,976 $156,025
ACB ( 225,000) ( 64,001)
Capital Gain (Loss) ($ 92,024) 92,024

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 Depreciable Property
Ordering Under ITA 85(e.1)
Property A Property B
Capital Cost $100,000 $200,000
FMV $125,000 $180,000
Possible Elections $100,000 $180,000
UCC Of Class = $210,000
Least Of:
$210,000 (The Class)
$280,000 (Cost Of A + FMV Of B)
Can Avoid Recapture By Electing One At A Time

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 Terminal Losses

Example: Asset With A Cost Of

$200,000 And A FMV Of $75,000.
Balance In UCC = $150,000.
■Terminal Loss Of $75,000
■Disallowed On Transfer To
Affiliated Person
■No Reason To Use ITA 85

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 Capital Gains Triggers

Example: Asset with cost of $45,000 and FMV of $70,000. UCC for class
$40,000. Elect $70,000: Gives capital gain of $25,000, recapture of $5,000.
ITA 13(7)(e)
Cost $45,000
Elected Value $70,000
Less: Capital Cost ( 45,000)
Bump Up $25,000
Inclusion Rate ½
12,500
Deemed Capital Cost (CCA Only) $57,500

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Benefit To Related Person
- ITA 85(1)(e.2) – Example
 Property with an ACB of
$100,000 and a FMV of
$250,000, is transferred to a
corporation. The transferor
elects a value of $100,000 for
the property. The transferor
takes back a $100,000 Note
and Preferred Stock that is
redeemable at $80,000 (FMV).

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Benefit To Related Person
- ITA 85(1)(e.2) – Example
 If related party holds
Common Stock of
corporation, than there is
a gift of $70,000
($250,000 - $180,000).

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Benefit To Related Person
- ITA 85(1)(e.2) – Example
 Election Price = Amount Elected, Plus Gift
 ACB: Preferred Shares = Nil
 ACB: Common Shares = Unchanged
 Income
• At Transfer $ 70,000
• Sale Of P/S 80,000
• Sale Of C/S 70,000
• Total $220,000

• More Than The $150,000 that would result from sale of

property.

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Benefit To Transferor Shareholder
- ITA 15(1) - Example
Property with an ACB of $100,000 and a fair market value of
$200,000, is transferred to a corporation at an elected value of
$100,000. The transferor takes back cash of $250,000 and shares with
a FMV and PUC of $30,000.

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Benefit To Transferor Shareholder
- ITA 15(1)
 If FMV Consideration > FMV Of Assets Transferred: A
Benefit Under ITA 15(1)
FMV Of Consideration ($250,000 + $30,000) $280,000
FMV Of Assets Transferred ( 200,000)
ITA 15(1) Benefit $ 80,000

Increase In Legal Stated Capital $30,000

Excess of elected value over non-share
consideration ($100,000 - $250,000) Nil
PUC Reduction $30,000

As the reduced PUC is nil, there is no 84(1) dividend.

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Dividend Strips - Conditions
 Sale Of Shares Of A Subject Corporation By A
Canadian Taxpayer Other Than A Corporation
 Corporation Shares Must Be Capital Property
 Corporation Must Be Resident In Canada
 Purchaser Must Be A Corporation With Which
The Taxpayer Is Not Dealing At Arm’s Length
 Subject And Purchaser Corporations Must Be
Connected

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Basic Data
 Mr. Jones owns all of the outstanding shares
of Jones Ltd. These shares have a PUC of
$50,000. This is also the ACB of the shares.
The shares have a current FMV of $500,000.
Mr. Jones wishes to retain control of the
company. Mr. Jones has made no use of his
lifetime capital gains deduction and Jones Ltd.
is a qualified small business corporation.

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 Mr. Jones

2. JL Shares To JHL
Under ITA 85(1).
Elect $500,000.
Receives $400,000,
Plus Shares With
PUC And ACB Of
Jones $100,000 Jones
Limited Holding
(JL) (JHL)
3. Tax Free Dividends To
Pay Loan

1. JHL Borrows $400,000

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Results Without ITA 84.1
 TCG = ($500,000 - $50,000)(1/2) = $225,000

 Use ITA 110.6 And Receive Tax Free

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Results With ITA 84.1
 ITA 84.1(1)(a) PUC Reduction
Increase In LSC $100,000
PUC Or ACB $ 50,000
Boot ( 400,000) Nil
PUC Reduction $100,000

PUC = $100,000 - $100,000 = Nil

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Results With ITA 84.1
ITA84.1(1)(b) Deemed Dividend
Increase In Legal Capital $100,000
Boot 400,000
500,000
Greater PUC or ACB $50,000
PUC Reduction 100,000 ( 150,000)
ITA 84.1 Deemed Dividend $350,000
$350,000 = $400,000 - $50,000

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Dividend Strips

CapitalGain
Proceeds ($500,000 - $350,000) $150,000
ACB ( 50,000)
Capital Gain $100,000

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Capital Gains Strips - Conditions
 Deductible Dividends
A Component Of An
Arm’s Length
Disposition Of Shares
 Objective To Convert
Capital Gain To
Dividend

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Example One Capital Gains Strip
Company A Owns Company B
100 Percent Of The PUC = $100,000
Outstanding Shares FMV = $500,000
Of Company B
Safe Income = Nil
ACB = $100,000

1. B Borrows $400,000
2. Pays $400,000 Dividend To A
3. Shares Are Sold For $100,000 (FMV)

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Example One
Application Of ITA 55(2)

Dividends Received (Tax Free) $400,000

Dividend From Safe Income Nil
Deemed POD [ITA 55(2)] $400,000
Actual POD 100,000
Total POD $500,000
ACB ( 100,000)
Capital Gain $400,000

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Example Two
Company A Owns 100 Company B
Percent Of The PUC = $100,000
Outstanding Shares Of FMV = $500,000
Company B
RDTOH = Nil
ACB = $100,000

$500,000 Redeemable P/S

PUC = ACB = $100,000
ITA 85 - B Company Purchaser Corporation
Shares At $100,000

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Example Two
Application Of 55(2)
Redemption Price $500,000
PUC ( 100,000)
ITA 84(3) Dividend $400,000
Deemed Not To Be A Dividend ( 400,000)
Remaining ITA 84(3) Dividend Nil

Actual POD $500,000

ITA 84(3) Dividend Nil
Adjusted POD $500,000
ACB ( 100,000)
Capital Gain $400,000

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