CRA considers that a s. 247(12) secondary-adjustment deemed dividend paid by Canco to an LLC sister qualified under Art. IV(6) for the 5% Treaty-reduced rate on dividends to its U.S. parent

Canco, which is wholly-owned by a disregarded US LLC (Parentco LLC which, in turn is wholly-owned by a corporation residing in the US for Treaty purposes (Parentco),), will be assessed by CRA to include in its income, under s. 247(2), the difference between an arm’s length price for goods sold by Canco to a sister company (Sisterco LLC, a disregarded LLC wholly-owned by Parentco LLC) and the consideration paid, and also will be assessed for a secondary adjustment under s. 247(12) on the basis that the resulting benefit conferred on Sisterco LLC was deemed to be a dividend that was paid by Canco and that was subject to a Pt. XIII remittance obligation.

In finding that this deemed dividend would be eligible for a Treaty-reduced rate, CRA had to address Art. IV(6) of the Canada - U.S. Treaty having regard to the requirements thereunder that the deemed dividend amount be considered under U.S. tax law to have been derived by Parentco through Sisterco LLC and Parentco LLC and that by reason of those LLCs being fiscally transparent, the U.S. treatment of such amount was the same as its treatment would be had it been derived directly by Parentco.

CRA considered that even if there was no adjustment in the U.S. pursuant to competent authority proceedings, this test would be satisfied given that from a US tax perspective, Parentco would have a reduced cost of the inventory considered, from that perspective, to have been purchased by it directly from Canco, so that the s. 247(12) deemed dividend corresponded to income (i.e., inventory profit) generated by Parentco. Consequently, Art. IV(6) would result in the s. 247(12) deemed dividend being derived by Parentco for purposes of Art. X(1) and (2), and Parentco would benefit from the 5% dividend rate under Art. X(2)(a).

The requirements of Art. IV(6) would be more obviously satisfied if a corresponding adjustment were made in the U.S. to consider that Canco had paid a dividend that was derived by Parentco through Parentco LLC. Thus, either way, the s. 247(12) amount would not be disregarded for U.S. tax purposes.

Neal Armstrong. Summaries of 18 April 2019 Internal T.I. 2018-0753621I7 under Treaties – Income Tax Conventions – Art. 10, Art. 4, s. 247(12).