Tax Interpretations Judicial and CRA interpretations of Canadian tax law and transactional implications

News of Note

First Quantum acquisition of Lumina uses tainting nominal cash for the share consideration alternative, and provides for cashless option surrenders

Lumina Copper shareholders can elect to receive First Quantum shares or cash for the acquisition of their shares subject to proration to keep the overall cash/share mix essentially fixed.  Similarly to the Loblaw acquisition of Shoppers Drug Mart, those who elect solely for First Quantum shares also are required to receive $0.01 per share in cash, so that Canadian taxable shareholders who want rollover treatment must elect under s. 85 with First Quantum.  Built into the Plan of Arrangement is a compulsory cashless surrender of Lumina stock options, so that the holders receive Lumina shares equal to the in-the-money value of their options.

Neal Armstrong. Summary of Lumina Circular under Mergers & Acquisitions – Mergers – Shares for Shares and Nominal Cash, or Shares.

Sulliden/Rio Alto merger is structured to qualify as a s. 368(a) reorg

Sulliden Gold, whose principal asset is a Peruvian subsidiary holding a development property, is effecting a s. 86 spin-off to its shareholders of a Quebec exploration subsidiary (SpinCo) before its outstanding shares are transferred to Rio Alto Mining on a s. 85.1 exchange for Rio Alto shares.

In order that this transaction likely can qualify as a s. 368(a) reorganization under the Code, Rio Alto will then transfer the Sulliden shares to a newly-incorporated Rio Alto sub so that they can amalgamate. Although this will occur as a conventional “continuation” style amalgamation, the U.S. disclosure considers that a “substantially all” requirement must be satisfied, which implies that the transaction is viewed as a reverse triangular merger under s. 368(a)(2)(E) rather than as a forward triangular merger governed by s. 368(a)(2)(D).  This “substantially all” requirement is expected to be satisfied based in part on the distributed Quebec subsidiary representing less than 10% of Sulliden’s net assets.

A 1992 temporary PFIC regulation indicates that the transaction would not qualify for nonrecognition given that Sulliden is a PFIC and Rio Alto is not.  The disclosure suggests that the transaction nonetheless should qualify for nonrecognition if these regulations are not finalized in their current form, notwithstanding that the statute itself (in s. 1291(f)) provides that to the extent provided in regulations a disposition of PFIC shares will be taxable even if it would otherwise qualify for nonrecognition: the disclosure considers that the statute is not self operative.

Neal Armstrong and Abe Leitner.  Summary of Rio Alto Circular under Mergers & Acquisitions – Mergers – Share-for-share.

CRA considers that settlement of a withdrawing partner’s interest with partnership property will not scupper the s. 98(6) rollover

The rollover under s. 98(6) for the replacement of a Canadian partnership by another partnership with the same or fewer partners requires that all of the property of the predecessor partnership be transferred to the new partnership.  CRA considers that this requirement will be satisfied even though partnership property was paid out to a withdrawing partner whose departure caused the new partnership to arise at law – provided that all of the property of the old partnership was transferred directly by it to the new partnership immediately after the settlement of the withdrawing partner's interest.

Neal Armstrong.  Summary of 30 June 2014 T.I. 2014-0522181E5 F under s. 98(6).

CRA finds that a non-resident partnership breaks a closely-related group connection for HST/GST purposes

Among other requirements for the HST/GST nil consideration election, those electing must be specified members of a “qualifying group” of corporations or Canadian partnerships which are closely related.  This means that two Canadian corporations which are sisters by virtue of being at the bottom of a wholly-owned stack of immediate Canadian and more remote U.S. corporations which, in turn, have a common US parent, will be eligible as members of a qualifying group.  However, if there instead is a US partnership in one of the two chains, this will break the required connection, so that the election is not available. It is implicit in this that partners of a partnership do not own partnership property including a corporate subsidiary.

Neal Armstrong.  Summary of 4 February 2014 Interpretation 159039 under ETA – s. 156(1) – qualifying group.

CRA ignores its archived Bulletin on lease cancellation payments

IT-359R2 (Archived) dated 20 December 1983 states that unless “renting property forms part or all of a business being carried on” by the tenant, an “amount received by a tenant… from a landlord, permitting the cancellation of a lease is a capital rather than an income receipt to the recipient.”

Crisp writing like this is an embarrassment to CRA a generation later. When asked about the treatment as an income or capital receipt of a lease cancellation payment received by a tenant, CRA ignored IT-359R2 and referred instead to the general discussion in IT-365R2, paras. 8 and 9 of the surrogatum principle.

Neal Armstrong. Summary of 23 June 2014 T.I. 2014-0519401E5 under s. 9 – compensation payments.

Income Tax Severed Letters 23 July 2014

This morning's release of 22 severed letters from the Income Tax Rulings Directorate is now available for your viewing.

CRA finds that a fee received by a broker for finding a purchaser for a financial business is not HST/GST exempt

CRA found that a fee earned by a non-resident broker for assistance in finding a purchaser to close on an exempt sale of a financial operation was predominantly paid for taxable advisory services – as well as being tainted by the new s. (r.4) rule as being for “customer assistance” provided before the sale.

In addition to the absurdity of the implication that such fees only avoid (r.4) if the dealer does not provide any customer assistance before generating its fee on closing, this appears to be contrary to Global Cash Access - which suggests that because the services of the dealer are of no use to the client unless the sale closes, arranging for that financial service is what the client is paying for rather than the pre-closing “advice” and “assistance.”

Neal Armstrong.  Summary of 4 February 2014 Interpretation 106288 under ETA – s. 123(1) – financial service.

The long-term off-take agreement model may justify use of a cost-plus approach to the transfer-pricing of mine sales to an affiliate

In order that a mining company can eliminate risk with respect to the price of production from a new mine, it may enter into an “off-take agreement” with an arm’s length distributor for the sale of the mine production at a fixed or certain price.  Harold McClure suggests that a similar arrangement entered into instead with an affiliated distributor “poses a potential exception to the claim that the cost-plus approach is not a viable method” to establish a transfer price for sales of product by the mining company to its affiliate.  This point appears to be at least partly what is at issue in the Cameco transfer-pricing litigation (so far reported only on document–production issues).

Neal Armstrong.  Summary of J. Harold McClure, "Evaluating Whether a Distribution Affiliate Pays Arm's-Length Prices for Mining Products", Journal of International Taxation, July 2014, p. 33 under s. 247(2).

CRA’s exclusion of private trusts from the FATCA obligations of Canadian financial institutions is contrary to what the U.S. intended

CRA Guidance clarifies (see Example C) that private trusts are not subject to the due diligence and reporting obligations applicable under the Canadian FATCA rules to Canadian financial institutions (although as nonfinancial foreign entities they must still report any controlling U.S. person.)

Peter A. Cotorceanu, a U.S. tax lawyer with UBS, is quoted as saying that “Canada's decision to narrow the definition of financial institution could…lead to fairness concerns” for other jurisdictions whose private trusts are subject to the FATCA financial institution requirements and that “it's clear that [this exclusion]… wouldn't have been the understanding of Treasury when they wrote the IGAs.”

Neal Armstrong. Summary of Kristen A. Parillo, "Canada's FATCA Guidance: Too Much Discretion Used?," Tax Notes International, July 14, 2014, p. 73 under s. 263(2).

CRA rules that the s. 115.2 safe harbour can apply to illiquid loans acquired on original issue

In specified circumstances s. 115(2)(c) deems non-resident “members” of a partnership not to be carrying on business in Canada by virtue only of investment management and administration services provided by a Canadian manager in respect of partnership investments, including “purchasing and selling qualified investments” such as indebtedness. CRA has ruled that this safe harbour applies where what is being purchased by the partnership is original issue illiquid debt, including of private companies. This is consistent with 2007-0224751R3.

Here there was a two-tier partnership structure where the management services were provided both to the “master” (i.e., bottom) partnership and to upper-tier “feeder” limited partnerships – so that the favourable ruling appears to implicitly accept that non-resident limited partners in the feeder partnerships are members of the master partnership.

Neal Armstrong. Summary of 2014 Ruling 2013-0513431R3 under s. 115.2(1) – designated investment services.

What's Currently in Progress

  • Commentaries for the Income Tax Act provisions for which there are numerous judicial interpretations have to date been posted up to section 9 (with a cleaning-up of related summaries of judicial decisions). Commentaries on other provisions are being added on an ad hoc basis.
  • Income tax severed letters released after 1 October 2012 have been uploaded.
  • We are behind in summarizing HST/GST interpretations; accordingly, Excise Tax Act materials are not up to date.

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