AK/ADMS 4562.03 - CORPORATE TAX LECTURE 5 NOTES
– last updated September 22, 2015

Tonight's Topics and Problem Set

1. QSBC capital gains exemption – Chapter 13 (13340 to 13355); s. 110.6

– see problems contained in these notes and

Problem set (in separate document)

2. Income Splitting with Family Members as Shareholders

3. Corporate Attribution Rules - Chapter 13 (13390); S. 74.4 - see problems contained in these notes

Recommended Questions: Chapter 13, Multiple Choice Questions 6 and 7 and Exercises 8 and 10

“$800,000” Lifetime Capital Gains Exemption (C.G.E.)

The March 21, 2013 federal budget has increased the C.G.E. to $800,000 starting in 2014. This amount, i.e., $800,000, will be indexed to inflation, i.e., it will be further increased, in 2015 and thereafter based on the rate of inflation.

In 2015 the C.G.E. is $813,600.

The availability of the QSBC capital gains exemption is an advantage of incorporating a small business (a CCPC earning active business income in Canada).

This same exemption, with a higher $1M exemption for dispositions on or after April 21, 2015, is also available for capital gains on certain farming and fishing assets. This course will not focus on family farms or fishing properties.

Note that an $800,000 capital gains exemption is really a $400,000 taxable capital gains deduction because only ½ of a capital gain is included in income.

Each individual has a lifetime total $813,600 (in 2015) capital gains exemption (C.G.E.). Any previously utilized C.G.E.’s will reduce the balance remaining.

The actual amount in a given year that an individual can claim as a C.G.E. is a “least of” formula. This “least of” formula will reduce the amount of C.G.E. that a taxpayer can claim if there are any net capital losses in the year; or if there have been any allowable business investment losses (ABILs) claimed (in the year or in a prior year); or if there is a cumulative net investment loss (CNIL). The exact formula and the definition of CNIL will not be discussed in this course. For more information see FIT 13370. The definition of a QSBC is in s. 110.6(1): see Exhibit 13-11 of FIT There are the three tests in the definition and hence three steps to determine whether shares are shares of a qualified small business corporation (QSBC) so that any capital gain on the sale of the shares are eligible for the QSBC capital gains exemption:

1 Test 1: SBC Test - Is the company a small business corporation at the time of sale?

An SBC = a CCPC with > 90% assets @ FMV either

1. used principally (> 50%) in an active business carried on primarily (> 50%) in Canada by itself or a related [s.251(2)] corporation; and/or

2. shares or debt of other connected SBCs (see definition of small business corporation in s. 248(1), Exhibit 13-10 of FIT

Two typical non-qualifying assets are - investments which are not short term investments of working capital - vacant land held, but not used in the business

If the CCPC doesn't meet the 90% test you can "purify it" by getting rid of some of the non-qualifying assets - e.g., convert investments to cash and invest in active business assets or pay off debts or pay it out to shareholder (typically as a dividend) (must either use the cash in the active business or get rid of it)

The problem if often how to minimize tax in a purification - there often will be a capital gain on the sale of investments (and corporate tax) and personal tax if the after -tax amount is paid out to the shareholder as a salary or taxable dividend

Note that the capital loss on the disposition of shares or debt of an SBC qualifies as a business investment loss (BIL) and that 1/2 of a BIL is an allowable business investment loss (ABIL) [ss. 38(c), 39(1)(c)]. An ABIL is deductible against all types of income (not just taxable capital gains)
1.11 TEST YOURSELF ON THE DEFINITION OF SMALL BUSINESS CORPORATION
Which of the following Canadian controlled private corporations will definitely qualify as a small business corporation?
(a) A company which owns only one asset: a rental building used primarily in an active business in Canada by a company controlled by the sister of the controlling shareholder.
(b) A company which owns only one asset: 50% of the shares of another CCPC which carries on an active business in Canada.
(c) A company which carries on a manufacturing business in Canada.
(d) A company which has two employees and two assets with the following fair market values: $200,000 of term deposits and $800,000 of shares of a connected small business corporation. The shares of the connected small business corporation cost the company $100,000. The correct answer is: (a)
1.12 TEST YOURSELF ON PURIFICATION Q.1 Compute the minimum amount of term deposits that must be sold in order to purify the company in (d) above. (Assume that after the sale of the term deposits, the after-tax proceeds will be distributed as a dividend.) Answer: $800,000/90% = new total assets = $888,888. Amount to be sold = Old total minus new total = $1M - $888,888 = $111,111

TEST YOURSELF ON PURIFICATION (Q2)

Mr. X, a Canadian resident has owned all the shares of X Ltd. for 5 years. X Ltd. is a CCPC with assets worth $3 million. It has $2,000,000 of assets used in an active business carried on in Canada- the remaining $1,000,000 of other assets are not used in an active business. X Ltd. plans to sell some other assets and pay out the after-tax proceeds as a dividend to purify the company. Compute the amount of other assets that must be sold in order to purify X Ltd. for the purposes of the QSBC capital gains exemption.

(a) $222,222 (b) $300,000 (c) $777,778 (d) None of the above The correct answer is: (c) Note that choosing the amount required to be sold is easy because the 90% calculation is done for you. Make sure that you can calculate the $777,778 yourself. Can you?

2 Test 2: 24 Month holding period test

Has no one other than the shareholder (or a related person) owned the shares throughout the past 24 months?

5 Test 3: Basic asset test

During the 24 month holding period, was the corporation a CCPC with > 50% assets @ FMV used principally (> 50%) in an active business carried on primarily (> 50%) in Canada by itself or a related corporation? If yes then this test is met. This test looks at asset used in the active business and does not look at shares or debt of connected corporations. If the corporation does not meet the basic asset test but owns shares or debt of a connected corporation, the alternate Modified Asset Test (“the stacking rule”) can be used (Exhibit 13-12 of FIT):

6 Alternate Test 3: Modified Basic Asset Test (Stacking rule)

During the 24 month holding period, was the corporation: a CCPC with > 50% of its assets @ FMV either

1. used principally (> 50%) in an active business carried on primarily (> 50%) in Canada by itself or a related [s.251(2)] corporation; and/or

2. shares or debt of other connected CCPCs

If yes then this test is met.

Also: to be able to use the modified basic asset test- When Holdco owns shares or debt of a connected CCPC (e.g., Opco), and the Opco shares (and/or debt) are counted as qualifying assets, Holdco must meet a > 90% test and Opco must meet a > 50% test or vice versa throughout the 24 month holding period

i.e., throughout the 24 month holding period either Opco or Holdco must have at least 90% of its assets @ FMV either

1. used principally (> 50%) in an active business carried on primarily (> 50%) in Canada by itself or a related [s.251(2)] corporation; and/or

2. shares or debt of other connected CCPCs.

The other corporation (i.e., either Opco or Holdco) must throughout the 24 month holding period have more than 50% of its assets @ FMV either

1. used principally (> 50%) in an active business carried on primarily (> 50%) in Canada by itself or a related [s.251(2)] corporation; and/or

2. shares or debt of other connected CCPCs

Note: that for the Modified Basic Asset Test (i.e., modified Test 3) you can include shares or debt of a connected CCPC; whereas with the SBC Test (i.e., Test 1) you include shares or debt of a connected SBC

1.41 TEST YOURSELF ON THE Modified Basic Asset Test/ the Stacking Rule

In each of situations (a) to (d) below, P and S and are CCPCs and P owns 100% of S. The numbers represent the FMV of assets. Required: In each of the following situations, determine whether the shares of P. Ltd meet Test 3 (either the Basic Asset Test or the Modified Basic Asset Test) for the determination of QSBC status. Assume that the assets have been held in the same percentages for the preceding 24 months.
| | | Used in |
| | |Active business |
|Active business assets |$700,000 |$850,000 |
|Term Deposits | 50,000 | 50,000 |
| |$750,000 | |
|Liabilities | | |
|Current |150,000 | |
|Future income taxes |6,000 | |
|Shareholder's Equity | | |
|Share capital |10,000 | |
|Retained earnings |584,000 | |
| |$ 750,000 | |

The term deposits represent an investment of surplus cash for which Import Ltd. has no immediate plans. The location and reputation of Import Ltd.’s business is reflected in unrecorded goodwill which was recently valued at $250,000. Import Ltd.’s asset values have remained stable over the past two years.
REQUIRED
(a) Determine whether Alan's shares of Alan Ltd. qualify as shares of a qualified small business corporation.
(b) If the Alan Ltd. shares do not qualify, indicate the steps that should be taken to purify Alan Ltd.
ANSWER
(a) 1. Alan Ltd. is not a SBC at the date of sale because (even though it is a CCPC) only 83.3% of the FMV of its assets (i.e., not 90% or more) qualify. 83.3% of the assets qualify since they are shares of a connected SBC. Alan Ltd. FMV of shares of connected SBC $1 million. Divided by the FMV of Alan Ltd.’s total assets of $1.2 million (i.e., $1 million plus $200k). $1M/$1.2M = 83.3% (hence 90% or more test is not met).

Alan Ltd. and Import Ltd. are CCPCs since they are Canadian private corporations, incorporated in Canada, that are controlled by Canadians (not controlled by non-residents and not controlled by public companies). Alan controls Alan Ltd. and Alan Ltd. controls Import Ltd.

Import Ltd is connected because Alan Ltd. owns 100% of the shares of and hence controls Import Ltd. And Import Ltd. is an SBC because FMV of active business assets (850k + 250k goodwill) = $1,100K Divided by the FMV of total assets (900k + 250k goodwill) = 1,150K= 95.6% (hence 90% or more test is met)

2. 24 month Holding Period Test is met because Alan has held his shares of Alan Ltd. since 1996 (i.e., throughout the past 24 months) 3. Basic Asset Test is not met because (even though it is a CCPC) Alan Ltd. does not own any assets used in an active business i.e., 0% of its assets (not more than 50%) are used in an active business. But Alan Ltd. does own shares of a connected CCPC (hence we can try the Modified Basic Asset Test) Modified Basic Asset Test (i.e., shares and debt of a connected CCPC is included) - is met because: Throughout the past 24 months more than 50% (i.e., 83.3%, see above) of Alan Ltd.’s assets (at FMV) are shares of a connected CCPC (i.e., Import Ltd.). The value of assets over the past 24 months has been stable, and - one company meets the >50% test (Alan Ltd. has 83.3%...)/the other meets the > 90% test (Import Ltd. has 95.6%...), as described above, hence the Modified Basic Asset Test can be used Conclusion: not a QSBC because not a SBC at the date of sale (i.e., Test 1 (SBC Test) is not met)

(b) Can purify Alan Ltd. by selling the publicly traded securities (and doing something with the funds) - need to sell $88,889/keep only $111,111 ($1 million /x million = 90% where x = total assets) - TCG can be offset by net capital loss carryforward from 1999 ($30k/ 3/4 = $40 x ½ = $20k) - the non-taxable ½ of the CG is included in CDA - pay out capital dividend to get rid of part of $88,889 use remainder of $88,889 to pay off some of $150,000 long term debt [avoids personal taxes]

- may wish to sell (and utilize, i.e., distribute and/or pay-off debt and/or invest in qualifying assets) more than the minimum amount calculated above due to the risk that asset values may fluctuate

INCOME SPLITTING WITH FAMILY MEMBERS AS SHAREHOLDERS

Possible income splitting with family members as shareholders is an advantage of incorporating a business. Family members who are shareholders receive two types of return on their investment: 1. capital gains (on the eventual sale of the shares) and 2. dividends (while the shares are owned).

1. Capital gains: We discussed capital gains and the QSBC exemption above. If each family member owns shares of a QSBC, each family member will be able to use his/her own lifetime QSBC capital gains exemption on the shares. This means that the family can have > $800,000 of tax-free capital gains. Some people call this capital gains splitting. As discussed in ADMS 3520 (and ADMS 4561), the attribution rule in s. 74.2 says that if you loan or transfer (transfer means sell or gift) property to a spouse, you must report any taxable capital gains earned on the property unless 1. the sale is at FMV and there is an election out of the spousal rollover or 2. the loan bears interest at the prescribed rate (or higher) and the interest is paid in the year or within 30 days of the year end. Thus taxpayers who wish to capital gains split with their spouses generally arrange for their spouses to use their own money to buy the shares directly from the company at the beginning when it is worth very little. Otherwise, it is more difficult to avoid attribution.

2. Dividends: Tax is saved when family members who are shareholders receive dividends and pay tax on the dividends at lower tax rates. Income splitting with dividends is not possible when (a) the s. 120.4 kiddie tax applies. The kiddie tax is discussed in ADMS 4561. (b) when the attribution rules in 74.1 apply. As discussed in ADMS 3520, 74.1 says that if you loan or transfer property to a spouse or related minor or minor niece/ nephew, you must report any income earned on the property. Again, taxpayers who wish to income split with their spouses generally arrange for their spouses to use their own money to buy the shares directly from the company at the beginning when it is worth very little. Otherwise, it is more difficult to avoid attribution. S. 74.4 is another attribution rule which applies to prevent income splitting through corporations when the corporation is not a small business corporation as defined in s. 248(1). Discussed below

CORPORATION ATTRIBUTION RULES

Steps to determine whether s. 74.4 will apply

|4 Tests in s. 74.4(2) |
| |
|1. Did the individual (taxpayer) make a (direct or indirect) loan or transfer to a corporation? Note: buying shares is considered to be a |
|transfer.... If yes, continue |
|2. Is the taxpayer's spouse or related minors or a minor nieces/nephews* |
|a specified (> 10%) shareholder** (of any class) of the corporation? ..... If yes, continue |
|3. Was one of the main purposes of the loan or transfer to reduce the income of the lender/transferor and benefit a designated person ... If|
|yes, continue |
|4. Is the corporation not a SBC (s. 248(1))? .....If yes, s. 74.4 applies [If the corporation is a SBC, then corporate attribution will not|
|apply; this is one more reason why it’s beneficial to be a SBC] |
|*see definition of designated person in s. 74.4(1) and s. 74.5(5) |
|** see definition of specified shareholder in s. 248(1). Note: s. 74.4(2)(a) says to exclude paragraphs (a) and (d) of the definition of |
|specified shareholder (for purposes of the corporate attribution rules) |

If 74.4 applies 1. Compute amount included in lender/transferor's income following these steps (a) Multiply - the prescribed rate x (FMV of property sold minus any non-share, non-debt consideration received on sale) and/or - the prescribed rate x FMV of property loaned

[compute the prescribed rate over the period that the corporation is not an SBC (e.g., use 31/365 if not an SBC for the month of October only and it is not a leap year)]

(b) Subtract - interest actually received by the lender/transferor on the loan and/or - taxable dividends included in income from the shares (excluding deemed dividends) i.e., dividends actually received by the lender/transferor and grossed up by 1.18 for non-eligible dividends or by 1.38 for eligible dividends and/or - taxable dividends actually received by a minor designated person and that are subject to kiddie tax*

*Note that s. 74.4 applies to investment holding companies used for income splitting with minor children but the kiddie tax (which taxes private company dividends at top marginal rates in the child’s hands) was also introduced to prevent this. When the dividends received by the minor designated person are subject to kiddie tax, 1.18 (or 1.38 if the dividend is an eligible dividend) of the dividends are subtracted in computing the s. 74.4 amount included in the lender/transferor’s income [since this is the taxable (i.e., grossed up) dividend subject to the kiddie tax]

s. 74.4 is very punitive
1. It creates fictitious income (i.e., 74.4 does not redirect income like other attribution rules, it creates it)
2. There is no corporate deduction for the individual’s income inclusion and there is no gross-up or dividend tax credit... the income inclusion is taxed at regular rates
3. A taxpayer should always try to avoid the application of 74.4 - it is worse that any other attribution rule

SBCs are exempt because the corporate attribution rule is not intended not to apply to "true" small businesses (i.e., CCPCs meeting the 90% test)....only investment holding companies used for income splitting purposes with spouses, minor children and/or minor nieces or nephews.

3.1 Test yourself on these five s. 74.4 questions
Question 1 (s. 74.4 applies to an investment holding company used for income splitting with a spouse but taxable dividends received by the transferor are deducted)

On January 1, 2015 Dr. Smith invested $100,000 cash in A Ltd. preferred shares. Mrs. Smith (Dr. Smith's wife) owns all the common shares of A Ltd. which she purchased using $1 of her own funds in order to income split with Dr. Smith. Dr. Smith received $800 of non eligible dividends on his preferred shares in the year. All of A Ltd's assets were invested in portfolio investments throughout the year and A Ltd. has no full-time employees. Which of the following is true, assuming the applicable prescribed rate is 4%?
(a) Dr. Smith will include $3,056 in his 2015 taxable income because of s. 74.4.
(b) Dr. Smith will include $3,200 in his 2015 taxable income because of s. 74.4.
(c) Dr. Smith will include $4,000 in his 2015 taxable income because of s. 74.4.
(d) Mrs. Smith will include $100,000 in her 2015 taxable income because of s. 74.4.
The correct answer is: (a) Rationale: The 4 tests in s. 74.4 are met. 4% x $100,000 = $4,000. The 74.4 inclusion is reduced by the taxable dividends actually received by him: $4,000 minus $944 (i.e., 1.18 x $800) = $3,056.

Question 2 (s. 74.4 applies to an investment holding company used for income splitting with a spouse but there is no deduction in respect of income received by the spouse)

On January 1, 2015 Dr. Smith invested $100,000 cash in A Ltd. preferred shares. Mrs. Smith (Dr. Smith's wife) owns all the common shares of A Ltd. which she purchased using $1 of her own funds in order to income split with Dr. Smith. Mrs. Smith received $800 of non eligible dividends on her common shares in the year. All of A Ltd's assets were invested in portfolio investments throughout the year and A Ltd. has no full-time employees. Which of the following is true, assuming the applicable prescribed rate is 4%?

(a) Dr. Smith will include $3,056 in his 2015 taxable income because of s. 74.4.
(b) Dr. Smith will include $3,200 in his 2015 taxable income because of s. 74.4.
(c) Dr. Smith will include $4,000 in his 2015 taxable income because of s. 74.4.
(d) Mrs. Smith will include $100,000 in her 2015 taxable income because of s. 74.4.

The correct answer is: (c) Rationale: The 4 tests in s. 74.4 are met. 4% x $100,000 = $4,000. There is no reduction for the $800 dividends received by Mrs. Smith. 74.4 applies to an investment holding company used for income splitting with a spouse.

Question 3 (s. 74.4 applies to investment holding companies used for income splitting with minor children but taxable dividends subject to kiddie tax are deducted)

On January 1, 2015 Dr. Smith invested $100,000 cash in A Ltd. preferred shares. A trust for Dr. Smith's one-year old son, set up for income-splitting purposes, owns all the common shares of A Ltd. (these shares cost $1). The trust received $800 of non eligible dividends on its common shares in the year and paid them out to the child. All of A Ltd's assets were invested in portfolio investments throughout the year and A Ltd. has no full-time employees. Which of the following is true, assuming the applicable prescribed rate is 4%?

(a) Dr. Smith will include $3,056 in his 2015 taxable income because of s. 74.4.
(b) Dr. Smith will include $3,200 in his 2015 taxable income because of s. 74.4.
(c) Dr. Smith will include $4,000 in his 2015 taxable income because of s. 74.4.
(d) Mrs. Smith will include $100,000 in her 2015 taxable income because of s. 74.4.

The correct answer is: (a) Rationale: The 4 tests in s. 74.4 are met. 4% x $100,000 = $4,000. The 74.4 inclusion is reduced by the taxable dividends actually received by the trust and paid out to the child because they are subject to kiddie tax in the child’s hands: $4,000 minus $944 (i.e., 1.18 x $800) = $3,056. S. 74.4 and the kiddie tax rules apply to an investment holding companies used for income splitting with a minor child. The order of application is that kiddie tax applies first before s. 74.4 and all the other attribution rules. Hence the deduction for income subject to kiddie tax.

Question 4 (s. 74.4 applies to an investment holding company used for income splitting with a spouse but taxable dividends received by the transferor are deducted. S. 74.4 amount is prorated if the period is less than one year)

Marsha and Larry are Canadian residents. Marsha owns 100% of the common shares of X Ltd., a company without any assets. On July 1, 2015, her husband, Larry, transfers $600,000 of Royal Bank (a public company) shares into X Ltd. in exchange for $600,000 of X Ltd.’s preference shares. The purpose of this transaction was to income-split with Marsha. During the six months, X Ltd. receives $8,000 of eligible dividends from the Royal Bank and pays $2,000 of eligible dividends to Marsha and $4,000 to Larry. What are the tax implications of the above transactions to Larry? Explain your reasoning, show your calculations and give ITA references. Assume the applicable prescribed rate is 4% throughout 2015. Answer Consider 4 tests to see if 74.4 applies 1. Did the taxpayer make a loan or transfer to a corporation? Yes 2. Is the taxpayer's spouse or a related minors (including nieces and nephews) a specified (> 10%) shareholder of the corporation? Yes 3. Is the 74.4 avoidance test met? (i.e., to reduce the income of the transferor and benefit a designated person) Yes 4. Is the corporation not a SBC (s. 248(1))? Yes - because all it owns is the Royal Bank shares.

Conclusion: S. 74.4 applies. Larry must therefore report an attributed amount of: 4% x $600k x 184/365 = $12,099 minus 1.38 x $4,000 = $5,520 (dividend received by Larry) = $6,579.

This is punitive because s. 74.4 does not redirect income. Note: if a CCPC receives an eligible dividend it adds to the CCPC’s GRIP account and the CCPC can in turn pay an eligible dividend. The $8,000 of dividends is taxed in the hands of X Ltd. (under Part IV) and the $2,000 of dividends paid to Marsha is taxed in her hands. S. 74.4 creates additional (fictitious) income in Larry's hands of $6,579.

(Rationale: s. 74.4 applies to investment holding companies used for income splitting with spouses)

Question 5 (s. 74.4 applies to a company that is not a SBC that is used for income splitting with a spouse but taxable dividends received by the transferor are deducted. S. 74.4 amount is prorated if the period is less than one year)

Mrs. Rich is the sole shareholder of Rich Ltd, a Canadian-controlled private corporation incorporated in 1995. At the time of incorporation, Mrs. Rich was issued 100 common shares of the corporation for consideration of $100 cash. On January 1, 2013, when the Rich Ltd. shares had a value of $600,000 she transferred all of her shares into a holding company (Holdco Ltd.) in exchange for redeemable, retractable preference shares worth $600,000. Her husband, Mitch, subscribed for the common shares of Holdco Ltd. for $1. During the period January 1, 2013 to June 30, 2015, 100% of the assets of Rich Ltd. were used in an active business income Canada. On July 1, 2015, when its shares were worth $1,000,000, Rich Ltd. sold one of its divisions and invested the funds received in the stock market. Because of this transaction, the ratio of active business assets to total assets was reduced to 85% for the remainder of the year. What amount must be included in Mrs. Rich’s income in 2013 to 2015 due to s. 74.4. Mrs. Rich received a non eligible dividend of $4,000 from Holdco in each of those years and Mitch received a non eligible dividend of $5,000 in each of those years. Assume the prescribed rate was 4% in each of those years.

Answer Consider 4 tests to see if 74.4 applies 1. Did the taxpayer (Mrs. Rich) make a loan or transfer to a corporation? Yes (she transferred shares of Rich Ltd. to Holdco Ltd.) 2. Is the taxpayer's spouse or a related minors (including nieces and nephews) a specified (> 10%) shareholder of the Holdco Ltd.? Yes - Mitch is her husband and he owns all of the c/s of Holdco Ltd. 3. Is the 74.4 avoidance test met? (i.e., to reduce the income of the transferor and benefit a designated person) Probably – not explicitly stated in question – but likely, given the facts (i.e., income splitting with Mitch). 4. Is Holdco Ltd. not a SBC (s. 248(1))? Yes on (and after) July 1, 2015. Prior to July 1, 2015 Holdco Ltd. was a SBC since 100% of its assets (i.e., 90% or more) were invested in shares of a connected SBC (Rich Ltd.)

Conclusion: S. 74.4 applies from July 1, 2015 onward (not before). Mrs. Rich must report an attributed amount in her 2015 income (not before). The attributed amount included in her 2015 income is:

4% x $600k x 184/365 = $12,099 minus $4,720 (i.e., 1.18 x $4,000, dividend received by her) = $7,379.

3.2 End of lecture test (SBC)

Why is being a small business corporation (SBC) as defined under s. 248(1) important?

Answer:

1. A capital gain on the disposition of shares of a QSBC is eligible for the lifetime $813,600 (in 2015) capital gains exemption. To be a QSBC, the corporation must be a SBC at the date of sale. (It is one of 3 tests to be a QSBC.)

2. One-half of the capital loss on the disposition of shares or debt of an SBC qualifies as an allowable business investment loss (ABIL) (s. 38(c), 39(1)(c)) which is deductible against all types of income (not just taxable capital gains)

3. SBCs are exempt from the corporate attribution rule in s. 74.4