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Unformatted text preview: Chapter 17 - Solution 1 Part (A) If Jason accepts the first alternative, section 85.1 will not apply, since one of the conditions (see (c) below) of this provision has not been met: (a) the vendor’s shares (Jason’s shares of Quality Appliances) must be capital property to him (consistent with the facts in this case); (b) these shares must be shares of a Canadian corporation (i.e., Quality Appliances, which fits the definition); (c) the consideration for this exchange must be only issued shares of the purchaser (i.e., Big Distributors Ltd.); (d) there can be no capital gain on this exchange; (e) the vendor (Jason) and the purchaser (Big Distributors Ltd.) must be at arm’s length before the share exchange (given); (f) after the share exchange the vendor may not control ( de jure ) the purchaser or may not own more than 50% of the FMV of the shares (given). For section 85.1 to be operative, only share consideration can be received [par. 85.1(2)( d )]. Since cash is received under this alternative, Jason will realize a capital gain of $75,000 ($125,000 – $50,000). One half of this gain, $37,500, will be a taxable capital gain. This gain may be eligible for the capital gains deduction if the shares are qualified small business corporation shares. If Jason does not have his capital gains deduction available, he will be required to pay tax on this capital gain, even though he has received cash of only $25,000 on this disposition. Note that Jason is not eligible for a capital gains reserve, since he has received FMV consideration in total [par. 40(1)( a )]. Jason may be able to minimize his tax cost under the first option if he could negotiate the restructuring of the transaction as two separate dispositions. The first disposition would be a cash sale of shares for $25,000. A proportionate amount of the ACB would be allocated to these shares. In this way, any tax on the capital gain would not exceed the cash realized. The remaining shares, exchanged for shares of Big Distributors Ltd., would qualify for the rollover under section 85.1. Under the second alternative, section 85.1 will apply to the share exchange offered. Jason’s proceeds of disposition for the Quality Appliances shares, and the ACB of the Big Distributors shares received will be $50,000. Therefore, no capital gain or loss to Jason arises. Big Distributors’ addition to paid-up capital for the shares issued to Jason will be limited to the PUC of the Quality Appliances shares ($25,000), through the PUC reduction mechanism [ssec. 85.1(2.1)]. The ACB to Big Distributors Ltd. of the Quality Appliances shares acquired will be equal to the lesser of their fair market value on the exchange ($125,000) and their PUC ($25,000). Therefore, the ACB will be $25,000....
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- Summer '08
- ........., Capital gains tax in the United States, pUC