News of Note

CRA indicates that negative interest is deductible under s. 9 if there is a reasonable expectation of receiving (positive) interest

CRA was asked whether a negative interest rate borne on a deposit with a financial institution (which, so far, is a European rather than North American phenomenon) would be deductible by the depositor. Much of the issue was assumed away by positing that in each year there would always be some months in which the deposit bore positive interest.

CRA responded that the negative interest was not a contra item to the interest income generated in the year, but that such negative return would likely be deductible under s. 9 given that there was a reasonable expectation of earning interest income on the deposit in the year.

CRA did not raise any issue of the negative return being on capital account. This is broadly consistent with its longstanding position (e.g., 2004-008091) that all amounts payable or receivable pursuant to an interest rate swap agreement (including a termination payment) will be considered to be on income account, even though the underlying amount being hedged (the interest) generally is a capital expenditure which is deductible only under s. 20(1)(c) and not under s. 9.

Neal Armstrong. Summaries of 14 June 2017 External T.I. 2016-0666411E5 under s. 18(1)(a) – loans and financing charges and s. 40(2)(g)(ii).

CRA finds that s. 143.4(4) caused an immediate income inclusion of prior years’ interest that was to be forgiven at a later date under an approved Plan of Compromise

In Year 1 a Plan was approved which entailed a forgiveness of unpaid interest that had accrued in prior years. However, the Plan’s implementation did not occur until Year 2, when the stipulated conditions precedent were satisfied. Rather than s. 80 applying to the forgiven interest in Year 2, its amount was in CRA’s view included in the debtor’s income in Year 1 under s. 143.4(4). CRA found that:

[T]he Taxpayer’s right to reduce the Interest Debt … falls within the definition of a “right to reduce” in subsection 143.4(1) because it is reasonable to conclude, having regard to all the circumstances, that the right will become exercisable [i.e., that the conditions precedent would be thereafter satisfied].

CRA did not discuss whether there still would have been an s. 143.4(4) income inclusion, rather than an application of the debt forgiveness rules, if the Plan had been implemented in the same year. There is possibly a concern that CRA would consider that the debt forgiveness rules can never apply to the forgiveness of interest that accrued in a prior year unless there is no gap of time between the agreement to settle (whether or not subject to conditions) and the actual settlement.

Neal Armstrong. Summaries of 26 May 2016 Internal T.I. 2016-0628741I7 under s. 143.4(1) – right to reduce, s. 80(2)(a) and s. 20(1)(c)(i).

Google Ireland - Administrative Court of Paris finds that Google through its contracting arrangements with French advertisers avoided a French PE

Google Ireland engaged Google France on a cost-plus-8% basis to provide marketing and other services to it in connection with earning “per click” revenues from French advertisers, who wanted their names and brief messages to appear with relevant Google search results. Although it appears that Google France was doing essentially all of the French work, all the contracts were signed by Google Ireland electronically, and Google France did not have the authority to enter into contracts in the name of or on behalf of Google Ireland. This was sufficient for the Parisian Administrative Court to conclude that Google Ireland did not have a permanent establishment in France, so that the French Service had to content itself with French income tax only on the 8% mark-up.

Neal Armstrong. Summary of Google Ireland Ltd. v. France (2017), No. 1505113/1-1 (Tribunal Administratif de Paris) under Treaties – Art. 5.

Six further translated technical interpretations are available

Full-text translations of the technical interpretation released last week and of five released between July 23, 2014 and July 16, 2014, are listed and briefly described in the table below.

These (and the other translations covering the last 38 months of CRA releases) are subject to the usual (3 working weeks per month) paywall.

Bundle Date Translated severed letter Summaries under Summary descriptor
2017-09-13 21 July 2017 Internal T.I. 2017-0714931I7 F - Retiring allowance - Sick Leave Income Tax Act - Section 248 - Subsection 248(1) - Retiring Allowance payout of accumulated (non-excess) sick leave credits on termination of employment was a retiring allowance
Income Tax Act - Section 248 - Subsection 248(1) - Death Benefit includes payout on death of accumulated (non-excess) sick leave credits
Income Tax Act - Section 5 - Subsection 5(1) payout on termination of accumulated sick leave credit is employment income to extent otherwise would have been paid at year end
2014-07-23 30 June 2014 External T.I. 2014-0522181E5 F - Legal status of partnership and application of 98(6) Income Tax Act - Section 98 - Subsection 98(6) rollover on dissolution of general partner
2014-07-16 26 June 2014 External T.I. 2014-0523871E5 F - Revenu d'entreprise agricole Income Tax Act - Section 12 - Subsection 12(10.2) government contributions and accrued interest in AgriInvest and Agri-Québec accounts are taxable when withdrawn
Income Tax Act - Section 12 - Subsection 12(1) - Paragraph 12(1)(p) withdrawals from the AgriStability account are taxable as farm business income
Income Tax Act - Section 248 - Subsection 248(1) - Farming legume germination production as farming
23 June 2014 External T.I. 2014-0528271E5 F - Terrain « adjacent » à la résidence principale Income Tax Act - Section 54 - Principal Residence meaning of immediately contiguous lands
27 June 2014 External T.I. 2014-0527341E5 F - Sociétés publiques aux fins de SPCC Income Tax Act - Section 89 - Subsection 89(1) - Public Corporation Crown corporations not deemed to be public corporations
27 June 2014 External T.I. 2014-0526931E5 F - Vente d'une liste de clients par un employé Income Tax Act - Section 14 - Subsection 14(5) - Eligible Capital Expenditure payment to departing employee for customer list was on capital account
Income Tax Act - Section 6 - Subsection 6(3) - Paragraph 6(3)(e) payment to departing employee for customer list was deemed income under s. 6(3)

Income Tax Severed Letters 20 September 2017

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

SCDA (2005) – Federal Court of Appeal finds that s. 138(11.3) does not generate a basis bump in the 1st year a Canadian insurer carries on business in another country

Webb JA affirmed the interpretation below by Pizzitelli J of s. 138(11.3): there is no deemed disposition under s. 138(11.3) in the first year a Canadian insurer carries on business in another country, so that the taxpayer (Standard Life) did not enjoy a tax-free basis bump of $1.2B.

Neal Armstrong. Summaries of SCDA (2005) Inc. v. Canada, 2017 FCA 177 under s. 138(11.3) and Tax Court Rules, s. 147(3).

CRA rules that on a s. 98(5) wind-up, the ACB of the transferor partner’s interest is bumped by YTD income

A CRA ruling addressed a timing issue respecting the basis adjustments on a s. 98(5) winding-up that occurs where the sole limited partner (LPco) transfers it interest in the LP under s. 85(1) to GP, thereby triggering the dissolution of the LP. It often will be important that the adjusted cost base of the LPco interest in LP on the transfer of that interest to GP be increased by LPco’s share of the LP’s income earned to date.

CRA ruled that, by virtue of s. 99(1) deeming the LP fiscal period to have ended two instants of time before the termination of the LP, the ACB of the transferred partnership interest reflected such share of LP’s income. There was a representation that the partnership ceased to exist, and all its property became property of GPco, “upon” the partnership interest transfer. This characterization appears to be correct; and a view that the LP continued to exist until a certificate of dissolution was filed with the local registry would be incorrect.

Neal Armstrong. Summary of 2016 Ruling 2015-0617101R3 under s. 53(1)(e)(i).

Cassan – Tax Court of Canada finds that interest should not be recognized on a portfolio or index-linked note until the return is determinable - and that lack of attention of a lender to creditworthiness established lack of bona fide repayment arrangements under s. 143.2(7)

In December 2009, individual taxpayers participated in a tax shelter that involved making both a leveraged investment and leveraged donation. In the investment component, they used money borrowed from a lender trust (FT) to purchase units in an Ontario LP, which used most of the proceeds to purchase notes of a BVI company (Leeward). The return on the notes was linked to whichever of a stock market index and a notional balanced portfolio performed the better, with Leeward then lending the funds back to FT via a second trust.

Respecting the leveraged donation, they borrowed money from FT at 7.85% p.a. – of which 3.75% p.a. was required to be paid annually in cash (“cash-pay interest”) and the balance was capitalized each year (“capitalized interest”). This borrowed cash was then contributed by them to a registered charity on condition that it invest most of such proceeds in a note of Leeward, that matured in 2028, and bore interest of 4.75%, of which 3.75% was cash-pay interest, and the balance capitalized interest of 1% (which would cause the amount owing under the note to accrete by over 1/3 by 2028). These funds also were mostly circled back to FT. The ability of Leeward to be able to repay this note owing to the charity depended on the small portion of the funds received by it from the individuals (via the LP) under the investment component, that it invested in a fully-indexed note rather than on-lending back to FT via the second trust, appreciating at a rate of 10% p.a. over the close to 20 years until 2028.

Owen J found that the taxpayers’ donation did not qualify as a “gift,” as “Maréchaux and Kossow hold that a transfer of property is not gratuitous if a benefit flows to the transferee as part of an interconnected series of transactions that includes the transfer of property.” The benefit he identified was that the interest rate of 7.85% that was charged to them was less than a reasonable rate of interest, which would have been a minimum of 10% p.a.

This issue was not fixed by the split receipting rules. It is true that having regard only to ss. 248(30)(a), (31) and (a), they could have been entitled to have a gift recognized for the difference between the cash contributed to the charity and the low-interest-rate benefit received from FT. The bigger problem was posed by the combined effect of s 248(32)(b) (deeming the amount of limited-recourse debt to be a benefit), s. 143.2(7)(a) (deeming debt to be limited-recourse if there were no bona fide arrangements for repayment within 10 years) and s. 143.2(12) (deeming there to be no such arrangement if the debtor’s arrangement to repay within 10 years “can reasonably be considered to be part of a series of loans or other indebtedness and repayments that ends more than 10 years after it begins.”) Although the loan from FT to them had a term of 9.3 years, Owen J found that this was insufficient to establish that there were bona fide arrangements for repayment which, in his view, required “that the arrangements reflect what one would reasonably expect arm’s length commercial relations to look like in the circumstances.” This was not the case here as the conduct of the lender (FT) showed relative indifference to the creditworthiness of the taxpayers. Furthermore, respecting s. 143.2(12), it was reasonable to expect the loans to the taxpayers to be renewed on their maturity with the promoter’s assistance.

In finding that Reg. 7000(2)(d) interest accrual did not apply to the index-linked note, Owen J stated:

The assumption underlying paragraph 7000(2)(d) is that [the maximum amount of interest] is capable of determination… .

…In the absence of an actual crystallizing event there is simply no way of knowing the actual amount that the … LP is entitled to be paid under the terms of the Linked Notes… .

In finding that the taxpayers were entitled to an interest deduction on their loans from FT, he noted that the potential for the receipt of interest on the maturity of their share of the Linked Notes held by the LP was sufficient to justify the deduction of interest by them for the 19 preceding years.

Neal Armstrong. Summaries of Cassan v. The Queen, 2017 TCC 174 under s. 118.1(1) – total charitable gifts, s. 143.2(7)(a), s. 143.2(12), Reg. 7000(2)(d), s. 20(1)(c)(i) and Statutory Interpretation – Realization Principle.

CRA finds that a payout of (non-excess) sick leave credits on termination was a retiring allowance

On termination of employment, the employee would be paid the value of his or her accumulated sick leave credits. CRA considered that this payment would be a retiring allowance (and thereby presumably excluded from CPP contribution requirements) except for the amount paid in excess of the equivalent of 20 days, which generally would be considered to be employment income given that this excess, in the absence of the termination, would have been paid out to the employee at the end of the year.

Neal Armstrong. Summaries of 21 July 2017 Internal T.I. 2017-0714931I7 F under s. 248(1) – retiring allowance and s. 248(1) – death benefit.

CRA confirms that s. 38(a.1) prevails over s. 69(4)

CRA confirmed that the s. 38(a.1) rule prevails over s. 69(4), as well as s. 69(1)(b)(ii), so that where a corporation transfers shares of a public corporation for no consideration to its sole shareholder, which is a private foundation, s. 38(a.1) will deem there to be no gain to the corporation if the transfer qualifies as a gift.

Neal Armstrong. Summary of 31 May 2017 External T.I. 2016-0642621E5 under s. 38(a.1).