1
Duncan Leclaire is the sole shareholder of CompuSource Ltd., a corporation with a December 31 year-end. CompuSource Ltd. produces microchips and computer hardware. Duncan started the corporation with an initial capital investment of $40,000 for which he received 100 shares.
Duncan has let it be known that he wants to sell his business and retire. As a result, Duncan has received two separate offers, both from individuals and both effective January 1, 2021.
Offer One
Lin Lapointe is willing to pay $2,000,000 for the shares of CompuSource Ltd.
Offer Two
Rick Arsenaeu is willing to buy the assets through an existing corporation that she owns. Shel’s offer is as follows:
Asset
Offer
Marketable securities
$ 4,000
Accounts receivable
66,000
Inventory
354,000
Land
472,000
Building
530,000
Manufacturing Equipment
643,000
Goodwill
XXXXXXXXXX,000
Total offer
$2,369,000
You have been given the following additional information.
1. Details of the assets and liabilities of CompuSource Ltd.
Assets
Tax Value
Cash
$ 15,000
Marketable securities adjusted cost base
26,000
Accounts receivable $72,000
Less: reserve (6,000)
66,000
Inventory cost amount
250,000
Land adjusted cost base
225,000
Building UCC (capital cost is $235,000)
203,000
Equipment UCC (capital cost is $1,000,000)
nil
Goodwill UCC Class 14.1 (internally generated)
nil
Liabilities
Trade payables
54,000
Bank loan
150,000
2. The paid-up capital of the outstanding shares in CompuSource Ltd. is $100.
3. The capital dividend account of CompuSource Ltd. is $90,000 before any sale of assets under the offer above.
4. The non-eligible refundable dividend tax on hand balance of CompuSource Ltd. was $20,000 on January 1, 2020.
5. The GRIP balance is nil.
6. Duncan and Rick will not file an election under section 22 of the Income Tax Act for the transfer of the accounts receivable should they eventually agree to a deal.
7. CompuSource Ltd. has the following tax rates:
a) 13% on active business income up to the small business deduction limit (there are no associated companies)
) 27% on active business income in excess of the small business deduction limit.
c) 50⅔% on aggregate investment income.
8. Duncan pays personal tax at the top marginal combined federal and provincial rate of 48% on non-eligible dividends, 39% on eligible dividends and 54% on all other income.
9. Duncan utilized all of his capital gains exemption on a previous sale of the shares of a qualified small business corporation.
Required:
1) Advise Duncan as to which offer will provide him with the most after-tax funds. Show all calculations.
2) What are the GST/HST implications to both the share sale and asset sale alternatives? Briefly explain (no calculations required).
Question Two (10 marks)
Consider the asset mix, based on fair market values, of each of the following three independent cases involving Canadian-controlled private corporations, Marlene Ltd., the shares of which are owned by an individual, and Alex Ltd., the wholly owned subsidiary of Marlene Ltd.:
Marlene Ltd. Alex Ltd.
Case 1:
Assets used in an active business ca
ied on in Canada
70%
25%
Investment in shares of Alex Ltd
15%
Other assets
15%
75%
Case 2:
100%
100%
Assets used in an active business ca
ied on in Canada
25%
95%
Investment in shares of Alex Ltd.
30%
Other assets
45%
5%
Case 3:
100%
100%
Assets used in an active business ca
ied on in Canada
35%
80%
Investment in shares of Alex Ltd.
25%
Other assets
40%
20%
100%
100%
Required:
Indicate which of the above three cases satisfy or do not satisfy the conditions in the “basic asset test” or the “modified asset test” in the definition of “qualified small business corporation shares”, supporting your conclusions with the facts given above. Assume that the proportions of the fair market values of assets shown have remained constant for at least the preceding 24 months. Do not consider the SBC or Holding Period Tests in the QSBCS definition.
Question Three (10 marks)
Consider the following diagram.
Chase Stanley Bookman prefe
ed shares
100
%
100%
60
%
40
%
voting
S Ltd.
SB Ltd.
C Ltd.
1. C Ltd.'s voting prefe
ed shares in SB Ltd. have a value of $1,000,000.
2. The common shares in SB Ltd. held by Stanley and Bookman have a total value of $60,000.
3. Stanley and Bookman are the adult children of Chase.
Required:
1. Determine which of the corporations shown above are associated. Explain your reasoning
2. What are the tax implications of one or more corporations being associated?
Question Four (10 marks)
During its 2020 fiscal period ended December 31, 2020, MarthaMade Limited made two noninterest bearing advances to its sole shareholder and president, Ms. Martha Farnswater. The total advances were $400,000 and were recorded by Martha as “Due from Shareholder”, a receivable in the books and records of MarthaMade Limited. Details of the advances are set out below. MarthaMade Limited is not in the business of lending money.
1. $350,000 was advanced to Martha on March 1, 2020 to aid her in the purchase of a waterfront condo — top floor, of course. At the time of the advance, Martha signed a note with the corporation agreeing to repay the principal in equal annual instalments of $35,000 a year for the next ten years. The first principal repayment was due and paid Fe
uary 28, 2021. The company does not have a policy of making such loans to other employees and has never made a similar loan to an employee in the past.
2. On September 1, 2020, $50,000 was advanced to Martha to purchase a new car for herself. The car is used for employment purposes. The company has a policy of aiding its key employees to purchase automobiles that will be used to ca
y out their employment duties and has made such loans to other key employees in the past. At the time of the advance, Martha signed a note with the corporation agreeing to repay the principal in equal annual instalments of $10,000 a year over five years. The first principal repayment was due and paid January 1, 2021.
Required:
It is now December 2021 and Martha has asked you to advise her on the tax consequences of the above advances. Be sure to consider the tax consequences for both 2020 and 2021 for each advance. A thorough explanation of your reasoning that considers all potentially relevant provisions must accompany your conclusion. Assume that the prescribed interest rates applicable to taxable benefits were 3% for all of 2019 and 4% for all of 2020.
Question Five (10 marks)
Several years ago, Ms. Julie established an inter vivos trust for her son, who is now 23 years old. The terms of the trust provided that the trustees had complete discretion to distribute any portion of the annual income of the trust to the beneficiary.
The following income was earned in the trust for its taxation year ended December 31, 2020.
Interest
$15,900
Actual dividends from Canadian-resident public corporations (eligible)
22,400
Capital gains
12,000
Rental income (after deduction of $3,700 in CCA)
5,300
Total
$55,600
In 2020, 70% of each type of income was paid to the beneficiary, and the other 30% was retained by the trust. The son had no other source of income in 2020 and has used all of his capital gains exemption. He will pay federal income tax at the rate of 15% on taxable income of up to $48,535 and 20.5% on the portion of taxable income over $48,535 and up to $97,069. He paid tuition fees of $5,000 in the year for eight months of full-time attendance at university.
Required:
Compute the taxable income and federal tax payable of the trust and the son in respect of 2020.
Question Six (6 marks)
Emily owned common shares in an operating company, BB Inc. These shares are qualifying small business corporation shares. On incorporation, in 2006, the shares were issued by BB Inc. to Emily for $1,000 in cash. Emily has worked full-time managing the business since incorporation. At the present time, the shares are valued at $85,000. Emily was advised to crystallize $84,000 of her capital gains exemption. A holding corporation, Holdco Ltd., was incorporated. She transfe
ed her common shares in BB Inc. to Holdco Ltd., electing at $85,000 under Section 85. As consideration, Emily received from Holdco Ltd. a note for $84,000 and common shares valued at $1,000.
Required:
Describe the tax consequences to the above transactions.
Question Seven (4 marks)
Joelle Callahan began ca
ying on commerical activity on January 1, 2020. By December 31 of that year, he had generated $25,000 in taxable supplies. In the first quarter of 2021 Joelle generated taxable supplies of $28,000. Sales began to slow in April, and Joelle was averaging about $3,000 in taxable supplies each month for the rest of the year.
Required:
1)