Subsection 66.2(2) - Deduction for cumulative Canadian development expenses
Administrative Policy
23 October 2012 T.I. 2012-0463841E5 - Cumulative Canadian Development Expenses
In response to a question as to "whether a taxpayer who has disposed of all of its Canadian resource property may deduct any remaining balance in the taxpayer's cumulative Canadian development expense ("CCDE") pool." CRA described the deduction in s. 66.2(2) and stated:
There is no other provision in the Act that would permit a taxpayer to deduct any amount relating to the undeducted balance in its CCDE pool subsequent to the disposition of all of the taxpayer's Canadian resource property. Consequently, the taxpayer will only be entitled to claim a 30% yearly deduction in respect of the balance in the CCDE pool at the end of the taxpayer's taxation year.
Subsection 66.2(5) - Definitions
Canadian development expense
Cases
St. Ives Resources Ltd. v. The Queen, 92 DTC 6223 (FCTD), briefly aff'd 94 DTC 6261 (FCA)
The taxpayer purchased a Canadian resource property from another corporation for a purchase price of $3.5 million which it satisfied by the giving of an interest-bearing promissory note for that amount. When, several months later, the purchaser made a demand for payment, the taxpayer and the purchaser entered into a "Price Rectification Agreement" pursuant to which the taxpayer granted a promissory note in the amount of $4.75 million to the purchaser in replacement of the previous note. In finding that the additional $1.25 million was not a "preservation cost", Rouleau J. noted that when demand for payment was made, there was no "threat" to the taxpayer's interest in the resource property, and that therefore no action or payment was necessary to preserve the taxpayer's interest.
See Also
Leonard Pipeline Contractors Ltd. v. The Queen, 80 DTC 6236, [1980] CTC 305 (FCA)
Evidence was accepted to the effect "(a) that the term 'development' relates to the drilling of wells in a proven field and (b) that pipeline construction lies outside the field of development". (Excise Tax Act)
Administrative Policy
19 November 2012 T.I. 2012-0459351E5 - Shale Gas Well Drilling Classification
A shale gas well will generally qualify under subparagraph (a)(ii) of the definition of "oil and gas well" in s. 248(1), and consequently expenses to drill and complete the well, including building temporary access roads and preparing a site in respect of the well, "may" be classified as Canadian development expenses. However, the drilling of the well may qualify instead as Canadian exploration expense "where the drilling of a well results in the discovery that a natural underground reservoir contains petroleum or natural gas, a dry hole, or the well is shut in or abandoned within specified time limits and without having produced." Finally, the drilling may qualify for scientific research and experimental development credits if done for "experimental development of a new technology."
Canadian development expense
Administrative Policy
93 C.P.T.J. - Q.26
Where a well that originally was drilled in 1988 is re-entered in 1993 and drilling is completed to a deeper zone, but with no resulting discovery, so that the well is plugged back to the original reservoir, which continues in production, the 1993 drilling costs, the costs to plug the well back up to the point where the 1988 drilling ended and the costs related to recompleting the portion of the well that had been drilled in 1988, are treated as CDE.
F
See Also
DeLuca v. The Queen, 87 DTC 5202, [1987] 1 CTC 305 (FCTD), aff'd 91 DTC 5540 (FCA)
In 1969 the taxpayers agreed to transfer their coal licences in consideration for $200,000 and the covenant of the purchaser ("CNI") to pay $600,000 out of CNI's first revenues from the sale of any coal from operation of the licences, or out of proceeds from any disposition of the licences. The agreement provided: "This agreement shall be deemed to be concluded and fully satisfied at any time that the $600,000 has been paid." In 1977, after the transfer of the licences by CNI to its subsidiary, the taxpayers assigned all their interest in the agreement to the subsidiary for $600,000.
Rouleau, J. held that the plaintiff retained the right to receive proceeds of disposition until 1977, and the disposition occurred in 1977 rather than 1969.
Administrative Policy
15 May 2012 Canadian Petroleum Tax Roundtable Q. , 2012-0446431C6
The questioner stated that in 9406335, CRA stated that it would not extend its position in IT-125R4, para. 14 respecting farm-out arrangments that did not give rise to a disposition, to the acquisition of a royalty in exchange for exploration and drilling activities performed by the farmee on unproven Canadian resource properties of the farmor. When asked whether it would extend its policy in IT-125R4 to a situation where the interest transferred by the farmor to the farmee is a royalty, CRA stated that, as stated in 9406335, it
is prepared to consider, on an individual basis in the context of an advance income tax ruling application, whether such farmout treatment will be applied to a proposed transaction wherein a farmee is to obtain a royalty interest in exchange for exploration and drilling activities that it will perform on an unproven property of the farmor.
Articles
Randy S. Morphy, Kim Maguire, "An Update on the Taxation of Farm-outs", Resource Sector Taxation, Vol. IX, No. 3, 2013, p. 661.
Need to rely on IT-125 (p. 661)
The application of the Income Tax Act to farm-outs on a technical basis remains unresolved: there are no specific provisions of the Act that apply and there is no jurisprudence directly on point. As such, taxpayers have come to rely on and structure into the rather favourable administrative treatment applied by the CRA to certain types of farm-outs described in IT-125 (the "Administrative Treatment")….
Summary of CRA comments (p. 662)
The CRA's comments [in a number of technical interpretations] may be summarized as follows:
- In cases where a simple farm-out forms part of a larger transaction, the CRA will apply the Administrative Treatment to the farm-out aspect of the transaction where that aspect of the transaction can be identified and notionally separated from the overall transaction.
- In cases where a simple farm-out is one of a number of interrelated transactions, the CRA may seek to aggregate the farm-out with related transactions to form a single transaction for the purposes of applying the Administrative Treatment.
- In cases where the farmee receives a royalty rather than a percentage interest in an unproven resource property in consideration for performing exploration and development work, the CRA will consider applying the Administrative Treatment in the context of an advance tax ruling and according to the "historical basis" of the Administrative Treatment, but will not offer a blanket extension of the Administrative Treatment in the form of a technical interpretation. The CRA has also indicated the same willingness to consider extending the application of the Administrative Treatment to a farm-out under which the farmee acquires an option to acquire a percentage interest in an unproven resource property.
- The CRA will not extend the Administrative Treatment to transactions outside the resource sector, which are arguably analogous to a simple farm-out in a commercial sense.
Canadian development expense
Administrative Policy
2014 Ruling 2013-0505431R3 - XXXXXXXXXX
underline;">: Existing structure. Pubco, a CBCA public corporation, and Subco, its wholly-owned CBCA corporation, are partners, along with GPCo (also wholly-owned by Pubco), of Partnership D. Partnership D has a royalty which represents an interest in XX% of the net profits from the production from a specified property of two other partnerships (Partnership E and LP) and from other cash flows generated in Partnership E (the "Royalty"). The net profits are computed by reference to XX% of the interest that Partnership E owns in a specified property and by reference to XX% of the interest in LP of Partnership E.
Proposed transactions
- All the issued shares of Subco will be exchanged by Pubco under s. 86 for one new common share and one new preferred share.
- Pubco will acquire an undivided percentage interest in the Royalty from Partnership D in consideration for the issuance of a demand promissory note (the "Royalty Purchase Note"), with the proceeds being allocated by Partnership D to its partners (Subco and Pubco.)
- Subco will transfer its interest in Partnership D and other "Distributed Assets" to a newly-incorporated subsidiary of Pubco (Newco 1) in consideration for redeemable preferred shares of Newco 1 with a price adjustment clause and with a s. 85(1) election made.
- Newco 1 will redeem such preferred shares for the Newco 1 Note (also subject to a price adjustment clause), and with a contemporaneous notice that the deemed dividend is an eligible dividend.
- Subco will redeem the preferred share issued to Pubco in 1 in consideration for transferring the Newco 1 Note and for issuing a further Note, with a contemporaneous eligible dividend notice.
- Newco 1 will then be wound-up into Pubco. Pubco will elect to have s. 80.01(4) apply to the resulting settlement of the Newco 1 Note.
- Pubco will transfer its undivided interest in the Royalty to Partnership D as a contribution to its capital, with a s. 97(2) election being made.
Purposes
The reorganization, by bringing principal revenue sources together in Pubco (which incurs head office and financing costs), will match operating income with related expenses, and will help Pubco to effect an income tax consolidation within Canada and move some of Subco's CCDE balances to it.
Rulings
Include: Provided that the Royalty is a Canadian resource property, Pubco pursuant to s. 98(2), and (e) of the CDE definition will incur an addition to its CCDE account equal to the fair market value of the interest in the Royalty acquired by it, and the partners of Partnership D (including Pubco) will have their CCDE reduced by their share of the FMV proceeds to Partnership D.
See more detailed summary under s. 55(3)(a).
Canadian development expense
Administrative Policy
92 C.P.T.J. - Q.3
The election provisions of s. 66.2(5)(a)(iv) and s. 53(1)(e)(vii.1) were added to allow a taxpayer to have an option of capitalizing his share of a partnership's CDE as part of the ACB of his partnership interest.