In 2010-0387631I7 (released September 25, 2013), the CRA’s head office advised a local tax services office that the general anti-avoidance rule could be used, in some cases, to convert a tax-free dividend on foreign affiliate shares into a taxable gain. It appears the local tax services office was intending to reassess a taxpayer under s. 55(2) to convert a tax-free dividend, paid from one foreign affiliate to another foreign affiliate, into a taxable gain on non-excluded property shares (i.e., into a FAPI gain). The CRA’s head office rightly corrected the local tax services office by saying that s. 55(2) is a domestic provision which has potential application only where a dividend is paid from one Canadian corporation to another. The CRA’s head office also rightly noted that a dividend between foreign affiliates already has the effect to reducing the cost base of the shares if there is insufficient surplus pools in the paying affiliate, such that a taxable capital gain could well arise under s. 40(3). The facts did not reveal whether such a gain would arise. However, the CRA’s head office went further and said the general anti-avoidance rule in s. 245 (GAAR) could be applied if the effect of the tax-free dividend were to somehow access a greater amount of surplus pools in the paying affiliate than would be possible if the shares of that affiliate were instead simply sold to a third party and an election (to access the affiliate’s surplus pools) were filed under s. 93. In such a situation, the tax-free dividends could be viewed as having been paid to avoid a taxable (FAPI) gain that would otherwise arise on a direct sale of the foreign affiliate shares. The GAAR might be applied to reverse this result.