FLSmidth - Court of Appeal confirms that foreign taxes of a partnership are paid for Canadian purposes by the partners

The taxpayer utilized a tower structure: a hybrid partnership atop a hybrid Nova Scotia ULC atop an LLC, which made loans to a C-Corp subsidiary of the partnership.  For U.S. purposes, the partnership was subject to US corporate tax on interest income (net of 3rd-party interest expense) considered to be received directly from the C-Corp.  For Canadian purposes, the taxpayer was considered to receive dividends from the ULC ("through" the partnership) eligible for the intercorporate dividend deduction (and effectively deducted the partnership-level interest expense from that income); and the ULC received exempt surplus dividends from the LLC.

The taxpayer unsuccessfully sought to deduct its 98.9% share of the US taxes paid by the hybrid partnership under s. 20(12) on the basis that those taxes: (i) were paid by it in respect of its income; and (ii) could not be reasonably regarded as having been paid by it in respect of income on foreign affiliate shares (i.e., the LLC).  Two problems: (1) its income for Canadian purposes was its (98.9%) share of dividends from the ULC, and US taxes were not imposed on that dividend income (contrary to the requirement in (i)); and (2) if the US taxes nonetheless could be considered to have been paid by it "in respect of" that income (a broad phrase), this entailed looking further down the tower structure and recognizing that it got such income via dividends on the LLC shares (contrary to the requirement in (ii)).

Respecting the second problem, taxpayer's counsel argued that the US taxes were paid by a partnership (the US taxpayer), whereas they had to be paid by a corporation (namely, the taxpayer) in order for the foreign affiliate exclusion in (ii) to apply.  Noël JA disagreed, finding that it was the partners who should be considered to have paid the US taxes for Canadian purposes.  This point may be the broader significance of the case.

Neal Armstrong.  Summary of FLSmidth v. The Queen, 2013 FCA 160 under s. 20(12).