News of Note
CRA finds that Art. XXI(7) of the Canada-US Treaty treats gifts to U.S. 501(c)(3) organizations as eligible gifts, but does not permit registered charities to make such gifts
Email this ContentA public foundation made gifts without strings attached to certain U.S. 501(c)(3) organizations during taxation years ending prior to 2022. Art. XXI(7) of the Canada-U.S. Treaty provided that, for purposes of Canadian taxation, a gift made by a resident of Canada in a taxation year to an organization - that was resident in the U.S., was generally exempt from U.S. tax, and could qualify in Canada as a registered charity if it were created or established and resident in Canada - as a gift to a registered charity, subject to potential numerical limitations.
Although the scope of what IRC s. 501(c)(3) encompasses is broad, CRA indicated that it accepted that a gift made by a Canadian resident to a U.S. 501(c)(3) organization will be an eligible gift for purposes of the s. 110.1 corporate deduction or the s. 118.1 individual credit.
However, the U.S. 501(c)(3) organizations generally would not be “qualified donees” given that, under the definition of that term in s. 149.1, “other than the United Nations or its agencies, only foreign entities that have applied for and were registered by the Minister are a qualified donee.” Accordingly, making such gifts were grounds for revocation of the registered charity status of the public foundation. The rationale for this narrow interpretation of Art. XXI(7) was that “the Canada-U.S. Treaty provides limited tax relief to residents of Canada and the U.S. who may be subject to double taxation on income and on capital imposed on behalf of each country” and Art. XXI(7) by its terms did not extend to the requirements for being a Canadian registered charity.
The same analysis applied to gifts made to U.S. 501(c)(3) organizations by a private foundation or a charitable organization.
Neal Armstrong. Summary of 15 February 2023 Internal T.I. 2022-0925731I7 under Art. 21.
CRA notes that transferring Class 14.1 property under s. 85(1) eliminates any additional Reg. 1100(1)(c.1)(i) CCA claims
Regarding where a taxpayer acquired Class 14.1 property after 2016 pursuant to a s. 85 rollover, CRA noted that, for taxation years ending before 2027, Reg. 1100(1)(c.1)(i) allows a claim of additional CCA of 2% on a portion of the undepreciated capital cost of Class 14.1 property of the taxpayer at the beginning of January 1, 2017. CRA effectively noted that there is no continuity rule regarding the transfer of the Class 14.1 property under a s. 85 rollover to a subsidiary or other taxpayer, so that such a transfer would result in the loss of the additional CCA claims.
Neal Armstrong. Summary of 8 March 2023 External T.I. 2017-0729871E5 F under Reg. 1100(1)(c.1)(i).
CRA confirms no surplus calculations needed where FA of Canadian target is acquired by Forco through a Cdn. Buyco and then promptly bumped (under s. 88(1)(d)) and distributed to Forco
2011-0404521C6 indicated that in the situation where the Canadian target holding a foreign affiliate (FA) is wound up into the Canadian acquisition company (resulting in a "bump" to the ACB of the shares of FA under s. 88(1)(d)) and those shares of FA are then distributed by the acquisitionco to its foreign parent within a reasonable time of the acquisition of the Canadian target and before any dividends are received or deemed to be received by the Canadian target or the acquisitionco, the surplus balances of FA will be irrelevant. Accordingly, in these circumstances, CRA will not challenge the bump by raising the absence of a calculation of the tax-free surplus balance of FA.
After confirming this position, CRA stated that it was consistent with its position in 2019-0798761C6 and 2022-0928101C6 that, as a more general matter, surplus calculations were required, because in the above circumstances, the determination of Canco’s surplus balances was rendered “irrelevant for Canadian tax purposes upon that [FA] transfer.”
Neal Armstrong. Summary of 17 May 2023 IFA Roundtable, Q.8 under Reg. 5905(5.4).
Income Tax Severed Letters 31 May 2023
This morning's release of three severed letters from the Income Tax Rulings Directorate is now available for your viewing.
CRA indicates that the PPT object and purpose test is met where individuals in a Treaty country transfer their Canco shares to a Treaty-resident Holdco to reduce dividend withholding
Two long-time residents of Hong Kong (Mr. and Mrs. A) each transferred 50% of the shares of Canco to a new Hong Kong company. Leaving aside the avoidance provisions, this reduced the dividend withholding tax rate on dividends paid by Canco from the 15% general Treaty-reduced rate to a 5% rate (under Art. 10(2)(a) of the Canada-Hong Kong Treaty).
CRA noted that for dividends paid after 2023, it was no longer necessary to satisfy the “one of the main purposes” test in Art. 10(7) of the Treaty in order for such rate reduction to occur, and that instead the relevant test was the principal purpose test (PPT) in Art. 7(1) of the MLI.
CRA emphasized that even if the purpose test in Art. 7(1) was satisfied, Art. 7(1) nonetheless states that it does not apply to deny a Treaty benefit if “it is established that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of the Covered Tax Agreement.” CRA then briefly stated:
Article 7(1) of the MLI will generally not apply to deny the benefits of Article 10(2)(a) of the Agreement on such dividends paid on or after January 1, 2024.
Accordingly, CRA appeared to accept that it would accord with the “object and purpose” of the Treaty for individuals resident in HK to access a lower withholding tax rate by transferring their shares to their HK corporation.
There was no similar object-and-purpose exception in Art. 10(7) of the Treaty so that, for dividends paid before 2024, it was necessary that one of the main purposes of transferring to the HK corporation was not accessing a rate reduction under Art. 10. If there was such a main purpose, the effect would be to increase the dividend withholding rate from 15% to 25%.
Neal Armstrong. Summary of 17 May 2023 IFA Roundtable, Q.7 under Treaties – Income Tax Conventions – Art. 10.
CRA confirms that Treaty benefits could be created for a s. 216 structure by creating partnerships for US purposes
A US corporate REIT that is a qualifying person under the Canada-US Treaty owns US LLC 1, which owns US LLC 2 which, like US LLC 1, is disregarded for US purposes, and is a s. 216 taxpayer. Interest on an unsecured loan from LLC 1 to LLC 2 is now subject to Part XIII tax as a result of the introduction of s. 212(13.2)(b). CRA confirmed that no Treaty relief would be available under Art. XI given that LLC 1 does not qualify as a Treaty resident from the Canadian perspective and given that Art. IV(6) could not apply because the interest is disregarded for US purposes.
CRA further agreed that two alternative modifications to this structure would generate an exemption for the interest under Art. XI of the Treaty.
In Scenario 1, the REIT forms a taxable REIT subsidiary (TRS) that is a US resident and a qualifying person for Treaty purposes, and TRS and LLC 1 form US LP in which they have respective interests of 0.1% and 99.9%, respectively, and the loan to LLC 2 is made by US LP rather than LLC 1.
CRA indicated that TRS would be entitled to the Treaty benefit respecting its share of the interest income received by US LP and that the REIT would get the benefit of Art. IV(6) respecting its share of such interest income given inter alia that the U.S. income tax treatment of the interest received by US LP and indirectly allocated to REIT is the same as the U.S. income tax treatment that would apply had the REIT derived the amount directly from US LP.
Scenario 2 is similar to Scenario 1 except that TRS, which is held by the REIT, subscribes for a 0.1% membership interest in LLC 2 so that for US purposes, LLC 2 is a partnership between it and the REIT and, as in the base case, the loan is made by LLC 1 to LLC 2. CRA indicated that, again, Art. IV(6) would apply given inter alia that the U.S. income tax treatment of interest income to REIT is the same as the U.S. income tax treatment would be had REIT received the interest income directly from LLC 2.
Neal Armstrong. Summary of 17 May 2023 IFA Roundtable, Q.6 under Treaties – Income Tax Conventions – Art. 4.
Our translations of CRA interpretations go back over 20 years
We have translated 3 interpretations released by CRA last week and a further 6 translations of CRA interpretations released in May of 2003. Their descriptors and links appear below.
These are additions to our set of 2,480 full-text translations of French-language Technical Interpretation and Roundtable items (plus some ruling letters) of the Income Tax Rulings Directorate, which covers all of the last 20 years of releases of such items by the Directorate. These translations are subject to our paywall (applicable after the 5th of each month).
| Bundle Date | Translated severed letter | Summaries under | Summary descriptor |
|---|---|---|---|
| 2023-05-24 | 12 January 2023 External T.I. 2020-0866661E5 F - Don d’une partie d’un intérêt dans une police d’as | similar to 2021-0895981C6 F, below | |
| 7 October 2022 Roundtable, 2021-0895981C6 F - Don d’une partie d’un intérêt dans une police d’as | Income Tax Act - Section 148 - Subsection 148(9) - Disposition | implementing a life insurance interest sharing strategy may entail the entire policy’s disposition and uncertainties as to what interest is disposed of | |
| 15 May 2023 External T.I. 2023-0965261E5 F - Sommes retirées dans le cadre du RAP et CELIAPP | Income Tax Act - Section 146.6 - Subsection 146.4(6) | HBP withdrawals can be contributed to an FHSA | |
| 2003-05-30 | 21 May 2003 Internal T.I. 2003-0001407 F - DISPOSITIONS SUBJECT TO WARRANTY
Also released under document number 2003-00014070.
|
Income Tax Act - Section 42 | s. 42 applied to payment of claim of purchaser based on latent defect in property and to legal fees |
| 2003-05-23 | 14 May 2003 External T.I. 2003-0015625 F - Convertible Debenture - Safe Income
Also released under document number 2003-00156250.
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Income Tax Act - Section 55 - Subsection 55(2.1) - Paragraph 55(2.1)(c) | holder of convertible debenture could be attributed safe income respecting the common shares into which it subsequently converted |
| 14 May 2003 Internal T.I. 2003-0181477 F - DEDUCTIBILITE DES INTERETS
Also released under document number 2003-01814770.
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Income Tax Act - Section 20 - Subsection 20(1) - Paragraph 20(1)(c) | deductible interest is reduced by amortization of premium arising from loan’s deliberate issuance at above-market interest rate | |
| Income Tax Act - Section 20 - Subsection 20(1) - Paragraph 20(1)(c) - Subparagraph 20(1)(c)(i) | taxpayer discretion re attributing use of commingled funds does not apply where tracing is possible | ||
| 15 May 2003 External T.I. 2002-0168445 F - frais de location-voiture
Also released under document number 2002-01684450.
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Income Tax Act - Section 67.3 - Paragraph 67.3(d) | “manufacturer's list price" references "manufacturer's suggested retail price," and does not include federal and provincial sales tax | |
| 21 May 2003 Internal T.I. 2003-0009897 F - COUT DES ACTIONS
Also released under document number 2003-00098970.
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Income Tax Act - Section 112 - Subsection 112(5.2) - Variable B | “cost” in B refers to the original cost (computed without reference to s. 142.5(2)(b)) | |
| 15 May 2003 Internal T.I. 2003-0010237 F - COUT EN MAIN-D'OEUVRE
Also released under document number 2003-00102370.
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Income Tax Regulations - Regulation 5202 - Salaries and Wages | “salaries and wages” do not include tips |
Deans Knight – Supreme Court of Canada finds that a transaction where a Lossco became subject to control rights similar to de jure control contravened the rationale of s. 111(5)
The non-capital losses of $90M, and other tax attributes (the “Tax Attributes”) of the taxpayer, were effectively sold to arm’s length investors pursuant to transactions under which:
- The existing shareholders of the taxpayer exchanged their shares for shares of a “Newco” under a Plan of Arrangement
- A venture capital company facilitator (Matco) entered into an “Investment Agreement” with the taxpayer and Newco pursuant to which Matco (principally in consideration for $3M in cash) acquired a debenture of the taxpayer that was convertible into shares representing 79% of its equity shares but only 35% of its voting shares.
- The taxpayer then transferred its assets (including the proceeds of issuing the debenture) and its liabilities to Newco.
- Matco then identified a mutual fund management company which wanted to effect a public offering of shares of the taxpayer and use the proceeds (of $100M) for a new bond trading business to be carried on in the taxpayer – a transaction which then proceeded.
Rowe J indicated that s. 111(5) addresses where “the identity of those behind the corporation has changed” and “functions so that the tax benefits associated with those losses will not benefit a new shareholder base carrying on a new business.”
In finding that the transactions (which he described, at para. 6, as “narrowly circumventing the text of s. 111(5)”) did not accord with the rationale of s. 111(5), so that the use of the tax attributes had been properly denied under s. 245(2), Rowe J stated:
[T]he appellant was gutted of any vestiges from its prior corporate “life” and became an empty vessel with Tax Attributes. …
Moreover, the shareholder base of the taxpayer underwent a fundamental shift throughout the transactions … .
Matco achieved the functional equivalent of … an acquisition of [de jure] control through the Investment Agreement, while circumventing s. 111(5), because it used separate transactions to dismember the rights and benefits that would normally flow from being a controlling shareholder.
Use of the Tax Attributes was properly denied pursuant to s. 245(2).
Neal Armstrong. Summaries of Deans Knight Income Corp. v. Canada, 2023 SCC 16 under s. 245(4), s. 111(5), s. 248(10) and s. 256(5.1).
CRA confirms that HBP withdrawals can be contributed to an FHSA
CRA confirmed that:
- an individual can use both amounts withdrawn from his registered retirement savings plan ("RRSP") pursuant to the home buyers' plan ("HBP") and from his first home savings account ("FHSA") for the acquisition of the same qualifying home
- an individual can withdraw an amount (e.g., $8,000) from his RRSP pursuant to the HBP and contribute the withdrawn amount to an FHSA, followed by a timely purchase of a qualifying home.
Neal Armstrong. Summary of 15 May 2023 External T.I. 2023-0965261E5 F under s. 146.6(2).
CRA discusses whether a USco can be subject to Part I tax as a result of Canadian home offices of employees
Regarding whether USco (a US C-Corp and a “qualifying person” for purposes of the Canada-US Treaty) would be considered to be carrying on business in Canada by virtue only of some of its employees being Canadian residents who worked from their homes for two or three days a week and, if so, whether USco would be considered to be earning income through a permanent establishment (PE) in Canada, CRA indicated:
- Internal support activities such as those of an accountant or an HR professional providing services only to USco would generally not constitute USco carrying on business in Canada.
- However, where a Canadian resident employee worked from home as part of a team providing consulting services, the Canadian physical location of that individual might inform where the services were performed, with it also being relevant if the clients were resident in Canada.
- If such a Canadian resident employee acted in a product development role, this might engage s. 253(a), which references “creating or improving, in whole or in part, anything in Canada”.
- S. 253(b) might also be engaged, which was described as generally including “actively seeking and attempting to obtain customers in Canada, beyond ‘a mere invitation to treat’ or advertisement.”
- The employee’s home office would not constitute a “fixed place of business” through which the business of USco was partly or wholly carried on under the PE Article assuming that such office was not rented by USco or was otherwise at its disposal.
- Regarding Art. V(5), “if a contract entered into by a Canadian employee requires approval by the U.S. office to be binding, such contract would not necessarily be viewed as entered into in Canada, provided the approval by the U.S. office is not merely a formality.”
Neal Armstrong. Summaries of 17 May 2023 IFA Roundtable, Q.5 under s. 115(1)(a)(ii), s. 253(a), s. 253(b) and Treaties – Income Tax Conventions – Art. V.
Neal H. Armstrong editor and contributor