21 June 1996 External T.I. 9532025 - LSVCF

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

		5-953202
XXXXXXXXXX	Tim Bryant

Attention: XXXXXXXXXX

June 21, 1996

Dear Sirs:

Re: Labour-Sponsored Venture Capital Funds (LSVCF)

We are writing in reply to your letter of November 20, 1995 to Elizabeth Hoffmann of the North York Tax Services Office in which you posed a number of questions regarding LSVCFs, particularly involving retired individuals and individuals over the age of 65. Ms Hoffmann has asked us to respond directly to you. In a telephone conversation on June 4, 1996 with Tim Bryant of this office, you indicated that you were generally familiar with the law in this area and only desired a brief response to each of the questions. Your questions were as follows:

Question 1

A person retired from a big company such as XXXXXXXXXX or the federal government under an incentive programme in say 1991 at age 56. In 1994 at age 59, he invests $5,000 in a non RRSP LSVCF. Two years later in 1996 at age 61, he redeems. Will he have to return the two 20% tax credits?

Question 2

A person retired at age 60 in 1991 and in 1994 at age 63 he buys a LSVCF in the amount of $5,000 (not in an RRSP). In 1997 when he is 66, he plans to redeem. Does he have to pay back the 20% tax credits?

Question 3

A person is age 64 in 1994 and he owns and manages his own business. He buys $5,000 in a LSVCF (not in an RRSP). Two years later in 1996 at age 66, he is still working, running his own business and managing his employees. Since he is now aged 66, does he have to pay back the 20% tax credits, notwithstanding the fact that he is not retired.

Question 4

A person is age 67 in 1994 and he is still working as the president of his own manufacturing company, which he started in 1966, and now his sons are helping him to run the company. However, father still comes to work every day to provide overall guidance to the enterprise. He buys a LSVCF for $5,000 and at age 69 in 1996 he intends to redeem while he is still President of his own company, coming to work 4 hours each day. Does he have to give back the two 20% tax credits?

Question 5

How does the Department define "retired". Does the Department consider what is reported on his last tax return. A person could be an employee, he could be a self employed business man such as the 66 year age person who owns and manages his own business, or he could be retired as an employee of a company, then he draws his pension from the company, converts some of his RRSP over to a RRIF then he accepts an assignment to do some consulting work for $3,000. Is he still considered retired?

Question 6

Is there any indication that Revenue Canada may be planning to change the rules governing the return of the two 20% tax credits for retired individuals, individuals that leave the country or individuals who reach the age of 65?

You also mentioned in your letter that you assume that the contents of the prospectuses for the 8 or 9 LSVCFs that your firm sells have been seen and approved by senior officers of Revenue Canada.

Our Comments

As you know, the Federal Budget tabled on March 6, 1996 by the Minister of Finance contained a number of proposals that will significantly effect the labour-sponsored venture capital corporation (LSVCC) tax credit, particularly in the scenarios you have described. Our comments on your questions should be read in light of these proposals which are summarized in our response to question 6.

Generally, the federal LSVCC tax credit applies to investments made by an individual (other than a trust) in "approved shares". An "approved share" is basically a share of the capital stock of a prescribed LSVCC where the individual is the first registered holder of the share. A prescribed LSVCC includes certain corporations set up under specific provincial legislation and managed by organized labour or national LSVCCs registered under section 204.81 of the Income Tax Act. Section 204.81 imposes various restrictions relating to the corporation's share capital that must be satisfied in order for the corporation to be registered and for the investor to retain the LSVCC tax credits.

The conditions for the registration of a national LSVCC under section 204.81 and the circumstances under which a payback of tax credits is required is similar, in most cases, to that of provincially registered LSVCCs. We understand that you have already received comments from a provincial perspective and therefore we will limit our comments to the federal tax consequences under the Income Tax Act.

As described in subparagraph 204.81(c)(v) of the Income Tax Act, a LSVCC can only redeem its shares in very limited circumstances without the tax credits becoming repayable. The general rule is that the share cannot be redeemed within 5 years of its issuance. If the share is redeemed within this time period (unless it is a special redemption described in (i) to (iii) below), the corporation is required to withhold from the proceeds the maximum amount of tax credits that the individual could have received by virtue of the purchase of the shares and remit the amount to the Receiver General. This general rule is, however, subject to the following exceptions for special redemptions:

(i)a share can be redeemed if the corporation is notified in writing that the individual has become disabled and permanently unfit for work or terminally ill after the shares were issued;

(ii)a share can be redeemed if the corporation is notified in writing that the individual has retired from the workforce or ceased to be resident in Canada; or

(iii) a share can be redeemed if the individual has attained the age of 65 at the time of redemption.

The exceptions described in (ii) and (iii) above are subject to the restriction in subparagraph 204.81(c)(vi) that the share must be outstanding for at least 2 years before redemption.

The answer to your first 4 questions therefore is no; the federal LSVCC tax credit does not have to be repaid in those situations. In each case you have described, there is a special redemption of the type described in either (ii) or (iii) above and the shares will have been outstanding for at least 2 years.

In response to question 5, it is a question of fact whether a person is considered to be retired from the workforce. Generally speaking, if someone receives income from employment or a business including self-employment, he or she is not considered to have retired from the workforce. Therefore, the receipt of miscellaneous consulting income after retirement from employment may indicate that the person has not retired from the workforce for the purposes of the LSVCC tax credit.

In response to question 6, the following summarizes some of the more relevant federal budget proposals tabled by the Minister of Finance on March 6, 1996 as they relate to the LSVCC tax credit:

-The rate of the federal LSVCC tax credit will be reduced to 15% for shares acquired after March 5, 1996 subject to a transitional rule for the 1996 taxation year.

-The maximum federal tax credit for the 1997 and subsequent taxation years will be $525 (based on a maximum cost in respect of LSVCC shares of $3,500 and a tax credit rate of 15%) and will be further capped at the amount of the provincial credit with respect to the shares. These limits will apply to both federal and provincial LSVCCs. However, the federal credit in respect of federal LSVCCs will not be less than 10% of the cost of the shares, regardless of the amount of any provincial credit in respect of the shares.

-The minimum holding period for federal LSVCC shares acquired after March 5, 1996 will be increased to 8 years from 5 years. This increased holding period will also apply to shares redeemed because of retirement, attaining age 65 or ceasing to be resident in Canada, in place of the current 2 year holding period in such situations.

-Taxpayers who redeem their shares after the minimum holding period and after March 5, 1996 will be denied an LSVCC tax credit for the year of redemption and the next two years.

These changes, if passed into law as currently proposed, would mean that in each of the 4 scenarios you have described, the shares would have to be held for 8 years regardless of whether the person was retired from the workplace or 65 years of age at the time of redemption, for acquisitions of LSVCC shares after March 5, 1996. In addition, if the person redeemed the shares after the minimum holding period and after March 5, 1996, he or she will be unable to obtain another LSVCC tax credit until 2 years after the year of the redemption.

With respect to your assumption that senior officers of this Department have seen and approved of the contents of the prospectuses for the LSVCFs sold by your firm, we cannot confirm this and, in any case, the comments in this letter in no way approve of their contents.

We trust these comments are helpful.

Yours truly,

for Director
Resources, Partnerships & Trusts Division
Income Tax Rulings and Interpretations Directorate
Policy and Legislation Branch

c.c. North York Tax Services Office (E. Hoffmann)