What is an ABIL?
This article will be the first in a series of articles that discuss the Allowable Business Investment Loss ("ABIL"), including the interpretation of key terms as well as a discussion of recent case law.
Where a taxpayer's adjusted cost base ("ACB") of a debt to a creditor or of shares in a corporation is greater than the fair market value of the debt or the share, upon a disposition of the debt or shares a capital loss may be available. If a capital loss is available, the taxpayer may be able to claim an ABIL.
An ABIL claim is equal to 50% of the taxpayer's business investment loss. Generally, any unapplied portion of an ABIL becomes a non-capital loss that can be carried back 3 years and carried forward 10 years.
With the threat of a looming recession and interest rates on the rise, capital losses may become more prevalent. It is important to note that an ABIL claim may be audited by the Canada Revenue Agency ("CRA"). Therefore, it is important to understand the requirements for an ABIL claim.
Why an ABIL claim?
An ABIL is a type of capital loss with differing tax treatment from a typical capital loss. More generous tax treatments are given to an ABIL in order to encourage investors to invest in small business corporations ("SBC"). Unlike most capital losses, which can only be used to reduce taxable capital gains, an ABIL allows the loss to be deductible against all sources of income.
When can you claim ABIL?
An ABIL can be claimed under the following scenarios:
1. Actual disposition
An ABIL may be claimed when there is a capital loss arising from an actual disposition to an arm's length person of a share of the capital stock of a SBC.
An ABIL may also be claimed when there is an arm's length disposition of a debt owing to a taxpayer by a Canadian-controlled private corporation ("CCPC"). According to subparagraph 39(1)(c)(iv) of the Income tax Act (Canada) (the "Act"), in the case of debt, the debtor CCPC must be: (1) a SBC; (2) bankrupt at the time of being a SBC; or (3) an insolvent corporation that was a SBC at the time a winding-up order was made.
2. Deemed disposition
An ABIL may also may be claimed where a taxpayer elects in its tax return to have subsection 50(1) of the Act apply for that taxation year, such that the taxpayer is deemed to have disposed of the share or debt at the end of a taxation year for proceeds equal to nil and to have reacquired it immediately after the end of the year at a cost equal to nil.
In the case of debt, the taxpayer must have established it to have become a bad debt in that taxation year and the debt must be owing to the taxpayer at the end of that taxation year.
In the case of a share in a corporation, the corporation has to have: (1) become bankrupt; (2) become insolvent, or a winding-up order was made during the year or (3) at the end of the year, the corporation is insolvent, neither the corporation nor a corporation controlled by it carries on business, the fair market value of the share is nil, and it is reasonable to expect that the corporation will be dissolved or wound up and will not commence to carry on business.
Recent case law
As mentioned above, whether a disposition was "arm's length" may be a key determining factor in the ability to claim an ABIL. While a full discussion of the meaning of arm's length is outside the scope of this article, the recent case of Keybrand Foods Inc. v Canada, 2020 FCA 201 ("Keybrand") considered the meaning of arm's length in the context of an ABIL.
Keybrand Foods Inc. v Canada
In Keybrand, the Federal Court of Appeal ("FCA") addressed the third component of the test for determining factual non-arm's length, as set out in Canada v McLarty, 2008 SCC 26:
- was there a common mind which directs the bargaining for both parties to a transaction;
- were the parties to a transaction acting in concert without separate interests; and
- was there de facto control
In Keybrand, the taxpayer, Keybrand Foods Inc. ("Keybrand Foods") invested in Vidabode Group Inc. ("Vidabode"). In 2010, Vidabode borrowed roughly 15 million dollars from GE Capital and that loan went into default. Keybrand Foods, along with another related company, guaranteed Vidabode's debt to GE Capital. Keybrand Foods borrowed roughly 14 million dollars from a lender and used the money to subscribe for shares in Vidabode. Vidabode used the money from Keybrand Foods to repay the debt to GE Capital. Subsequently, Keybrand Foods tried to claim an ABIL on the shares of Vidabode.
The CRA denied the ABIL claim on the basis that Keybrand Foods and Vidabode were not dealing at arm's length at the time the shares at issue were acquired from treasury. The parties agreed that at the time the shares in Vidabode were subscribed for, the fair market value of the shares was nil. As a result of the finding that Keybrand Foods and Vidabode were not dealing at arm's length, section 69 of the Act applied and the ACB of the shares was deemed to be fair market value (nil) and not the amount paid. If the ACB is nil, then upon the subsequent disposition of shares (deemed or actual), there is no capital loss (and thus no ABIL). Keybrand Foods was unsuccessful in the Tax Court and appealed. The FCA dismissed the appeal and stated that Keybrand Foods was the directing mind and therefore had de facto control, resulting in the parties not dealing at arm's length.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
