Intercompany loss utilization technique
There are 4 ways to utilize corporate losses within a corporate group:
- Amalgamation;
- Wind up;
- Management fee arrangement;
- Intercompany debt and preferred share issue.
Amalgamations are easier to effect than windups but do require legal manoeuverings and the
losses may only be used to shelter income of the amalgamated company post amalgamation. Amalgamations also trigger
deemed year-ends of the predecessor corporations.
Wind ups do not result in deemed year-ends, whoever permission is required from the
Minister of Finance and proceedings usually commence by shareholder resolution.
The CRA has gone on record that the payment of unreasonable management fees between related
companies is not a supportable loss utilization technique. While it is simple, this technique also
introduces HST issues.
Our preferred technique is the “Intercompany debt and preferred share issue”
structure. We prefer this technique because it is typically easier to setup and unwind after the losses have been utilized.
Typically in a corporate group a common holding company, Holdco, may own two wholly-owned
subsidiaries: Profitco and Lossco. Profitco borrows from a lender (daylight loan) to buy preference shares
of Lossco. Lossco takes the proceeds it received from its preferred share issuance to make a loan back to Profitco on
an interest-bearing basis. Profitco can then retire it’s daylight loan with the result that Profitco is now borrowing
money from Lossco at a rate of interest.
The result of this arrangement is that Lossco generates interest income which is sheltered
by loss carry forwards. Profitco is also paying deductible interest which reduces current year taxes. Dividends on the Lossco preferred shares held
by Profitco do not create taxable income to Profitco. The dividend rate on these preferred shares
should exceed the interest rate on the loan.
We prefer this technique because it does not require articles of amalgamation, government
approvals or the risk of review by the CRA.
Tags: Canada Revenue Agency, GST/HST, Proactive Financial Advice
