Question It is now November 1, 2020 and you, CPA, have just finished meeting with your client, Holden Caulfield, age 45, a resident of Canada. Holden is the majority shareholder of Tough Cold Inc. (TCI) and he has questions for you. TCI was incorporated in Canada several years ago and its financial statements are provided in Exhibit I. Additional information is provided in Exhibit II. TCI is a manufacturer of high-quality winter coats. TCI is a GST registrant and has a September 30th year-end. It files GST returns quarterly. TCI's operates out of a manufacturing plant and warehouse in Canada. Holden wants you to discuss how he can transfer certain personally owned assets, later this month, to TCI on a tax-free basis using section 85 of the Act. Assume they will choose the minimum possible elected amount and will take back the maximum amount of boot as debt receivable, and preferred shares for the balance, as consideration. Discuss the tax consequences to Holden and to TCI (including computing the ACB of the consideration received, the PUC of the share consideration received and the tax cost of the assets transferred). Also determine the section 85 filing deadline. Give specific section, subsection and paragraph (where applicable) references from the Income Tax Act to support your answer. When giving references you must be specific. Don't just list multiple references! Selected parts of the Act are provided in Exhibit III (suggested time: 73 minutes). Holden also wants to know if there are any tax problems with his plan to get his spouse involved as a shareholder of TCI (suggested time: 26 minutes). Finally, Holden wants you to tell him the GST consequences, to himself and to TCI related to the transfer of assets using section 85. You can ignore HST (suggested time: 21 minutes). Holden thanks you in advance for all your hard work. Exhibit I Tough Cold Inc. Balance Sheet As of September 30, 2020 2019 Cash $57,250 $54,340 Short-term investments 12.450 11,380 118,740 2,600 Accounts receivable 122,890 Prepaid expenses 2,700 Inventory 520,400 Property, Plant and Equipment (net of accumulated amortization) 1.570,000 Total Assets $2.285.690 515,310 1,640,000 $2.342.370 $41,105 Accounts payable GST payable $43,255 11,560 75,000 727,000 Due to Shareholder 9,540 80.000 Bank debt payable 735,570 Total liabilities $856,815 $866,215 100 100 Share capital Retained earnings Total Shareholders' equity ed. Do no 1,428,775 1,428,875 1,476,055 1,476,155 Total Liabilities and Shareholders' equity $2.285.690 $2.342.370 Tough Cold Inc. Income Statement For the year ended September 30, 2020 2019 Sales revenue $3,422,150 $3,216,400 Cost of goods sold 2.155.920 2,037,460 1,266,230 1,178,940 Gross margin Advertising and promotion 41,356 40,999 Amortization 77,500 78,500 Office expenses 28,320 25,455 Legal and accounting fees 36,485 33,565 Salaries and wages expense 465,300 452,800 Rent and utilities expense 445,600 440,200 Telecommunications expense 52.180 48,565 Income before income tax 119,489 58,856 Provision for income tax 24,489 14.056 Net income $95.000 $44.800 d. Do not Exhibit II Additional Information . . Holden is married and has 2 young children. Holden works 30 hours a week at TCI but his spouse, Samantha, only works a few hours a week at TCI since she has a full-time job as a teacher o Holden is thinking of having Samantha subscribe for new non-voting common shares of TCI, for a nominal amount, so that TCI can pay her dividends each year. Since Samantha makes far less per year in income, Holden is thinking that as a family they will pay less tax if Samantha gets dividend income from TCI Holden has operated a business designing and marketing winter apparel (hats, gloves and scarves) for years. His personal business is separate from TCI. Holden is personally registered for GST and files his annual GST return each year Holden wants to transfer all of his personal business assets (worth $90,000) to TCI later this month. He wants to use section 85 so that he does not pay any tax on the sale. The estimated value of his personal business assets (excluding GST) are: Tax Cost FMV (UCC) . Computer equipment (class 50; original cost was $12,000) $10,000 $4,000 Computer software (class 12; original cost was $10,000) $5,000 $1,000 Goodwill (class 14.1; internally generated) $75,000 Snil As of year-end TCI has: A general rate income pool (GRIP) account balance of: A capital dividend account balance of A non-eligible RDTOH account balance of: An eligible RDTOH account balance of Non-capital loss carryforwards Net-capital loss carryforwards $60,000 $5,000 $20,000 nil nil nil Exhibit III Income Tax Act 13(1) Recaptured depreciation Where, at the end of a taxation year, the total of the amounts determined for E to J in the definition "undepreciated capital cost" in subsection (21) in respect of a taxpayer's depreciable property of a particular prescribed class exceeds the total of the amounts determined for A to D in that definition in respect thereof, the excess shall be included in computing the taxpayer's income for the year. 13 (7)(e) Rules applicable where the transferor was an individual... the capital cost of the property to the taxpayer at the particular time shall be deemed to be the amount that is equal to the total of (A) the cost or capital cost, as the case may be, of the property to the transferor immediately before the particular time, and (B) 1/2 of the amount, if any, by which (1) the transferor's proceeds of disposition of the property exceed the total of... 20(16) Terminal loss Notwithstanding paragraphs 18(1)(a), (b) and (h), where at the end of a taxation year, (a) the total of all amounts used to determine A to D in the definition "undepreciated capital cost" in subsection 13(21) in respect of a taxpayer's depreciable property of a particular class exceeds the total of all amounts used to determine E to J in that definition in respect of that property, and (b) the taxpayer no longer owns any property of that class, in computing the taxpayer's income for the year (c) there shall be deducted the amount of the excess determined under paragraph (a), and (d) no amount shall be deducted for the year under paragraph (1)(a) in respect of property of that class. 38. Taxable capital gain and allowable capital loss For the purposes of this Act, (a) subject to paragraphs (a.1) to (a.3), a taxpayer's taxable capital gain for a taxation year from the disposition of any property is 1/2 of the taxpayer's capital gain for the year from the disposition of the property; (a.1) a taxpayer's taxable capital gain for a taxation year from the disposition of a property is equal to zero if the disposition is the making of a gift to a qualified done... 85 (1) Transfer of property to corporation by shareholders Where a taxpayer has, in a taxation year, disposed of any of the taxpayer's property that was eligible property to a taxable Canadian corporation for consideration that includes shares of the capital stock of the corporation, if the taxpayer and the corporation have jointly elected in prescribed form and in accordance with subsection (6), the following rules apply: (a) the amount that the taxpayer and the corporation have agreed on in their election in respect of the property shall be deemed to be the taxpayer's proceeds of disposition of the property and the corporation's cost of the property; (b) subject to paragraph (c), where the amount that the taxpayer and the corporation have agreed on in their election in respect of the property is less than the fair market value, at the time of the disposition, of the consideration therefor other than any shares of the capital stock of the corporation or a right to receive any such shares) received by the taxpayer, the amount so agreed on shall, irrespective of the amount actually so agreed on by them, be deemed to be an amount equal to that fair market value; (c) where the amount that the taxpayer and the corporation have agreed on in their election in respect of the property is greater than the fair market value, at the time of the disposition of the property so disposed of, the amount so agreed on shall, irrespective of the amount actually so agreed on, be deemed to be an amount equal to that fair market value; (c.1) where the property was inventory, capital property (other than depreciable property of a prescribed class), a NISA Fund No. 2 or a property that is eligible property because of paragraph (1.1)(8) or (g.1), and the amount that the taxpayer and corporation have agreed on in their election in respect of the property is less than the lesser of Question It is now November 1, 2020 and you, CPA, have just finished meeting with your client, Holden Caulfield, age 45, a resident of Canada. Holden is the majority shareholder of Tough Cold Inc. (TCI) and he has questions for you. TCI was incorporated in Canada several years ago and its financial statements are provided in Exhibit I. Additional information is provided in Exhibit II. TCI is a manufacturer of high-quality winter coats. TCI is a GST registrant and has a September 30th year-end. It files GST returns quarterly. TCI's operates out of a manufacturing plant and warehouse in Canada. Holden wants you to discuss how he can transfer certain personally owned assets, later this month, to TCI on a tax-free basis using section 85 of the Act. Assume they will choose the minimum possible elected amount and will take back the maximum amount of boot as debt receivable, and preferred shares for the balance, as consideration. Discuss the tax consequences to Holden and to TCI (including computing the ACB of the consideration received, the PUC of the share consideration received and the tax cost of the assets transferred). Also determine the section 85 filing deadline. Give specific section, subsection and paragraph (where applicable) references from the Income Tax Act to support your answer. When giving references you must be specific. Don't just list multiple references! Selected parts of the Act are provided in Exhibit III (suggested time: 73 minutes). Holden also wants to know if there are any tax problems with his plan to get his spouse involved as a shareholder of TCI (suggested time: 26 minutes). Finally, Holden wants you to tell him the GST consequences, to himself and to TCI related to the transfer of assets using section 85. You can ignore HST (suggested time: 21 minutes). Holden thanks you in advance for all your hard work. Exhibit I Tough Cold Inc. Balance Sheet As of September 30, 2020 2019 Cash $57,250 $54,340 Short-term investments 12.450 11,380 118,740 2,600 Accounts receivable 122,890 Prepaid expenses 2,700 Inventory 520,400 Property, Plant and Equipment (net of accumulated amortization) 1.570,000 Total Assets $2.285.690 515,310 1,640,000 $2.342.370 $41,105 Accounts payable GST payable $43,255 11,560 75,000 727,000 Due to Shareholder 9,540 80.000 Bank debt payable 735,570 Total liabilities $856,815 $866,215 100 100 Share capital Retained earnings Total Shareholders' equity ed. Do no 1,428,775 1,428,875 1,476,055 1,476,155 Total Liabilities and Shareholders' equity $2.285.690 $2.342.370 Tough Cold Inc. Income Statement For the year ended September 30, 2020 2019 Sales revenue $3,422,150 $3,216,400 Cost of goods sold 2.155.920 2,037,460 1,266,230 1,178,940 Gross margin Advertising and promotion 41,356 40,999 Amortization 77,500 78,500 Office expenses 28,320 25,455 Legal and accounting fees 36,485 33,565 Salaries and wages expense 465,300 452,800 Rent and utilities expense 445,600 440,200 Telecommunications expense 52.180 48,565 Income before income tax 119,489 58,856 Provision for income tax 24,489 14.056 Net income $95.000 $44.800 d. Do not Exhibit II Additional Information . . Holden is married and has 2 young children. Holden works 30 hours a week at TCI but his spouse, Samantha, only works a few hours a week at TCI since she has a full-time job as a teacher o Holden is thinking of having Samantha subscribe for new non-voting common shares of TCI, for a nominal amount, so that TCI can pay her dividends each year. Since Samantha makes far less per year in income, Holden is thinking that as a family they will pay less tax if Samantha gets dividend income from TCI Holden has operated a business designing and marketing winter apparel (hats, gloves and scarves) for years. His personal business is separate from TCI. Holden is personally registered for GST and files his annual GST return each year Holden wants to transfer all of his personal business assets (worth $90,000) to TCI later this month. He wants to use section 85 so that he does not pay any tax on the sale. The estimated value of his personal business assets (excluding GST) are: Tax Cost FMV (UCC) . Computer equipment (class 50; original cost was $12,000) $10,000 $4,000 Computer software (class 12; original cost was $10,000) $5,000 $1,000 Goodwill (class 14.1; internally generated) $75,000 Snil As of year-end TCI has: A general rate income pool (GRIP) account balance of: A capital dividend account balance of A non-eligible RDTOH account balance of: An eligible RDTOH account balance of Non-capital loss carryforwards Net-capital loss carryforwards $60,000 $5,000 $20,000 nil nil nil Exhibit III Income Tax Act 13(1) Recaptured depreciation Where, at the end of a taxation year, the total of the amounts determined for E to J in the definition "undepreciated capital cost" in subsection (21) in respect of a taxpayer's depreciable property of a particular prescribed class exceeds the total of the amounts determined for A to D in that definition in respect thereof, the excess shall be included in computing the taxpayer's income for the year. 13 (7)(e) Rules applicable where the transferor was an individual... the capital cost of the property to the taxpayer at the particular time shall be deemed to be the amount that is equal to the total of (A) the cost or capital cost, as the case may be, of the property to the transferor immediately before the particular time, and (B) 1/2 of the amount, if any, by which (1) the transferor's proceeds of disposition of the property exceed the total of... 20(16) Terminal loss Notwithstanding paragraphs 18(1)(a), (b) and (h), where at the end of a taxation year, (a) the total of all amounts used to determine A to D in the definition "undepreciated capital cost" in subsection 13(21) in respect of a taxpayer's depreciable property of a particular class exceeds the total of all amounts used to determine E to J in that definition in respect of that property, and (b) the taxpayer no longer owns any property of that class, in computing the taxpayer's income for the year (c) there shall be deducted the amount of the excess determined under paragraph (a), and (d) no amount shall be deducted for the year under paragraph (1)(a) in respect of property of that class. 38. Taxable capital gain and allowable capital loss For the purposes of this Act, (a) subject to paragraphs (a.1) to (a.3), a taxpayer's taxable capital gain for a taxation year from the disposition of any property is 1/2 of the taxpayer's capital gain for the year from the disposition of the property; (a.1) a taxpayer's taxable capital gain for a taxation year from the disposition of a property is equal to zero if the disposition is the making of a gift to a qualified done... 85 (1) Transfer of property to corporation by shareholders Where a taxpayer has, in a taxation year, disposed of any of the taxpayer's property that was eligible property to a taxable Canadian corporation for consideration that includes shares of the capital stock of the corporation, if the taxpayer and the corporation have jointly elected in prescribed form and in accordance with subsection (6), the following rules apply: (a) the amount that the taxpayer and the corporation have agreed on in their election in respect of the property shall be deemed to be the taxpayer's proceeds of disposition of the property and the corporation's cost of the property; (b) subject to paragraph (c), where the amount that the taxpayer and the corporation have agreed on in their election in respect of the property is less than the fair market value, at the time of the disposition, of the consideration therefor other than any shares of the capital stock of the corporation or a right to receive any such shares) received by the taxpayer, the amount so agreed on shall, irrespective of the amount actually so agreed on by them, be deemed to be an amount equal to that fair market value; (c) where the amount that the taxpayer and the corporation have agreed on in their election in respect of the property is greater than the fair market value, at the time of the disposition of the property so disposed of, the amount so agreed on shall, irrespective of the amount actually so agreed on, be deemed to be an amount equal to that fair market value; (c.1) where the property was inventory, capital property (other than depreciable property of a prescribed class), a NISA Fund No. 2 or a property that is eligible property because of paragraph (1.1)(8) or (g.1), and the amount that the taxpayer and corporation have agreed on in their election in respect of the property is less than the lesser of