ACB Adjustments for Foreign Affiliate Shares Held Through Partnerships

Subsections 92(4) and (5) of the Income Tax Act (Canada) address the situation where shares of a foreign affiliate are held by a partnership of which a corporation resident in Canada is a partner. If the foreign affiliate has previously paid a pre-acquisition surplus dividend to the partnership, and the partnership then disposes of the shares of the foreign affiliate or the Canadian corporation disposes of its partnership interest, a deemed gain will arise. The problem is that this deemed gain will arise even where the disposition occurs under a rollover provision that is otherwise intended to provide a tax-deferred result.This article first briefly compares the treatment of dividends and capital distributions paid by foreign affiliates directly to a Canadian corporate shareholder and those indirectly paid through a partnership holding structure. Where a pre-acquisition surplus dividend is paid on foreign affiliate shares held through a partnership, there is no reduction in the relevant adjusted cost base, and consequently subsections 92(4) and (5) will apply to subsequent dispositions of the partnership interest or the underlying foreign affiliate shares. The article then considers several possible ways in which the Department of Finance might address the anomalies