29 November 2022 CTF Roundtable
This provides the text of written questions that were posed, and abbreviated summaries of the CRA oral responses, at the CRA Roundtable on 29 November 2022 at the Canadian Tax Foundation annual conference held in Toronto. The presenters from the Income Tax Rulings Directorate were:
Yves Moreno, Director, International Division
Stéphane Prud'Homme, Director, Reorganizations Division
The questions were orally presented by Dean C. Landry (PwC) and Marie-Emmanuelle Vaillancourt (Davies). We have provided our own titles.
Q.1 - Loans by LPs to limited partners
In technical interpretation 2016-0637341E5 (dated June 27, 2016), the Canada Revenue Agency (CRA) stated that the scope of subparagraph 53(2)(c)(v) is very broad and could in theory (depending on all relevant facts) apply to the amount of the loans made by a limited partnership to a limited partner in a situation as described in the letter.
The situation described in technical interpretation 2016-0637341E5 involved loans arguably made by a limited partnership to a limited partner, in lieu of the payment of distributions of the limited partner’s share of the partnership profits.
What are the CRA’s current views on situations where loans are received by a limited partner from a limited partnership that have a purpose of avoiding a gain that could be realized under subsection 40(3.1)?
Summary of Preliminary Response
CRA noted that it had also answered this question at the 2022 APFF Roundtable, Q.5. A summary of its position (with editorial additions by it in bold) is provided below:
CRA generally will not attempt to include a loan received by the partner from a limited partnership under s. 53(2)(c)(v) if five conditions are met:
- The loan should not be made in satisfaction of a return of contributions of capital of the partner. (This position is meant to permit only the distribution of profits.)
- The aggregate of the loans received by the partner in respect of the partnership’s fiscal period should not materially exceed the total of:
- the partner’s share of the partnership-adjusted income for the period; and
- the limited partner’s ACB.
- Shortly after the end of the fiscal period, the limited partnership should make a distribution payable to the partner which is equal to amount of the loans received by the partner in the fiscal period, and the distribution should be used to fully settle the loans – in other words, CRA needs to see a set-off of the loans and the distributions.
- The loan should be made primarily for the purpose of avoiding a deemed gain under s. 40(3.1) that would be realized by the partner at the end of the partnership’s fiscal period, and that would solely be due to the timing difference between the addition in, and deduction from, the calculation of the ACB of the partnership interest related to the partner’s share of the partnership-adjusted income, and the distributions to the limited partner in respect of the period on their side. (This administrative position enables the partner to enjoy the income being earned during the year because of the technical mismatch between the timing of the income inclusion and the distributions.)
- The partnership interest cannot be a tax shelter, and the transactions involving the partnership cannot be part of a series of transactions to which GAAR applies.
If any of these conditions are not met, CRA may consider the application of 53(2)(c)(v) or GAAR to the whole amount received as a loan.
Q.2 - Advance guidance on TCP status
Where a non-resident of Canada disposes of taxable Canadian property (TCP) that is shares of a private corporation, interest in a partnership or interests in a trust, subsection 116(5) imposes an obligation on the purchaser to remit to the Receiver General within 30 days after the end of the month in which the purchaser acquired the property 25% of the amount by which the purchaser’s cost exceeds the certificate limit issued under subsection 116(2). At the same time, the purchaser is entitled to deduct or withhold the amount remitted from the purchase price paid or credited to the non-resident vendor. The failure to remit under subsection 116(5) could result, in the hands of the purchaser, in penalties and interest in addition to the tax payable on capital gains realised on the disposition.
There are exceptions to the remittance obligation as described above. For example, the purchaser would not be held obligated to remit where, after reasonable enquiry, such purchaser has no reason to believe that the vender is a non-resident of Canada. Neither would the purchaser be liable to remit where the property is treaty-protected property.
The legislation does not provide an exception where, after reasonable enquiry, the purchaser believes that the property is not TCP. The CRA has confirmed at the 2010 Canadian Tax Foundation Conference that it does not make determinations of whether a property is TCP in the course of processing a section 116 certificate request.
The determination of whether shares of a private corporation, interests in a partnership or interests in a trust are TCP can be complicated because it must be determined if at any time in the previous 60-month period more than 50% of the fair market value of the share or interest was derived directly or indirectly from real or immovable property, Canadian resource properties, timber resource properties and options or interests in these properties. Even if the non-resident vendor believes that the property disposed of is not TCP, a purchaser may be inclined to withhold and remit 25% of the purchase price to the CRA to avoid the potential liability exposure under subsection 116(5). Although the amount remitted can be recovered by the non-resident vendor when a tax return reporting the disposition is filed, there can be serious financial consequences of not having 25% of the purchase price available on closing.
Would the CRA consider an advance income tax ruling process for a seller or a purchaser to confirm whether a property is TCP?
Summary of Preliminary Response
CRA noted that it does not offer a program to confirm, before the transfer of property (or an audit), whether it is TCP.
Although the Income Tax Rulings program is there to provide advance comfort on the tax consequences of a transaction, as noted in IC70-6R12, CRA will not confirm the fair market value of a property, and the Rulings program is not in a position to verify the facts provided – and there are also timing considerations. However, if the taxpayer identifies a particular interpretive issue (such as under the TCP definition) that informs the determination of the status of the property as TCP, it can request a pre-ruling consultation, in response to which the Income Tax Rulings Directorate could provide a view on its ability to rule or not, and on what information would be expected from the taxpayer.
The vendor might also consider requesting a s. 116 certificate based on paying the estimated tax or furnishing acceptable security. CRA would not view the mere request for a s. 116 certificate as an admission that the property is TCP.
Q.3 - Return of escrow shares
Can the CRA comment on whether subsection 84(3) applies in the following situation?
A vendor (Vendor) sells all of its shares of a corporation (Target) to a purchaser corporation (Purchaser) in consideration for, exclusively, shares of the Purchaser. The agreement governing the purchase and sale of the Target shares (“the Agreement”) requires the Vendor to place some of the share consideration received from the Purchaser in escrow (“the Escrow Shares”) pending any downward post-closing adjustments to the purchase price. The applicable corporate law treats the Escrow Shares as having been issued to the Vendor at the time of issuance and the Vendor is the legal and beneficial owner of the Escrow Shares at that time, notwithstanding that the escrow agent has physical possession of them.
Subsequently, the post-closing adjustments under the Agreement require that the purchase price be adjusted downwards (“the Downward Adjustment”) and all of the Escrow Shares are returned to the Purchaser for cancelation to satisfy the obligation of the Vendor to repay an amount equal to the Downward Adjustment. The Escrow Shares have a value equal to the amount of the Downward Adjustment and have a paid-up capital (PUC) that is less than the amount of the Downward Adjustment.
Summary of Preliminary Response
CRA indicated that the Vendor will be deemed to have received a dividend under s. 84(3) to the extent that the amount paid by the Purchaser on the cancellation of the escrow shares exceeds the PUC of those shares. The amount so paid would be considered to equal the amount of the downward adjustment: the Vendor should be viewed as having received an amount equal to the downward adjustment on the cancellation of the escrow shares in order to satisfy its obligation to repay the overpayment of the purchase price.
Q.4 - Remote servicing of Canadian servers
With the expansion of e-commerce, and more people working virtually, what is the CRA's position on the taxation of a non-resident physically located outside of Canada that provides support services related to servers and data centres physically located inside Canada?
To be more precise, assume the following scenario: a Canadian customer (Canco) has engaged Serverco, an arm’s length server provider, to host Canco’s copy of a software and the data related to it. Canco also enters into an agreement with a company incorporated in the United States (USco) which will provide it with the right to use the software and to receive updates and support services (“the Canco-USco agreement”). Canco and USco are non-arm’s length parties. For regulatory purposes and/or in order to ensure that Canco’s Canadian customers’ data is protected under Canadian privacy laws, the server running the software and storing the data will be located in Canada. As part of the services provided by USco, U.S. based employees of USco will frequently access the server in order to provide application support and upgrades.
More specifically, the employees of USco will access the Canadian server periodically to provide the following services:
- Ongoing software maintenance, i.e., maintaining network communications, fixing any software issues, technical support;
- Customization of the software and upgrades, as needed; and
- Quality control and disputes, i.e., periodic quality control tests and investigating customer complaints regarding software output.
The services described above are being provided by USco to Canco. Canco then uses USco’s software to provide other products and services to its Canadian customers such as selling the output of the software (i.e., data and analytics) to create reports for Canadian customers. Thus, it is not selling USco’s software to its customers.
In such a scenario, could part of the services rendered by USco be:
A. considered “services rendered in Canada” for purposes of Regulation 105; and
B. considered “services… provided in that other State" for purposes of Article V:9(b) of the Canada-U.S. Tax Treaty?
For each of these provisions, would USco’s remote application support and upgrade on the server located in Canada be considered services performed in Canada, or does the physical presence of its employees outside of Canada prevail in making that determination?
Summary of Preliminary Response
A. Reg. 105
CRA noted that although the server was being used in Canada to store information, CRA characterized the support services of USco as being accessory to the main supply of the software provided to Canco: USco is providing support services through telecommunications, computer, telephone, and software updates.
On this basis, it appeared to CRA that the office support services of the USco employees would be rendered in the United States and delivered, through a communications system such as a computer or telephone, to Canco and its employees and on that basis such aspect of the payment would be viewed as being in respect of services rendered.
B. Art. V:9(b)
After noting that as Canco is a single Canadian customer, Art. V:9(b) might otherwise apply, depending on the number of days and the extent of time over which services were rendered in the year, CRA noted a passage from the 2008 US Treasury Department Technical Notes, including the statement that:
Where, for example, an enterprise provides customer support or other services by telephone or computer to customers located in the other State [Canada], those would not be covered by paragraph 9 because they are not performed or provided by that enterprise within the other State.
On this basis, it appeared that USco would not have a sufficient presence in Canada under Art. V:9(b) (or otherwise).
Q.5 - Critical METC filings
In order for taxpayers to be eligible for the critical mineral exploration tax credit (CMETC) one of the requirements is that a qualified professional engineer or professional geoscientist provide certification within the 12-month period immediately preceding the time that the flow-through share (FTS) agreement is made, in prescribed form and manner, that the expense will be incurred pursuant to an exploration plan that primarily targets critical minerals. Presently, there is no prescribed form available to taxpayers.
Given that the CMETC applies to FTS agreements entered into after April 7, 2022, can the CRA:
a) provide some guidance to taxpayers as to when the prescribed form will be made available; and
b) describe the certification process, including the information that it will require as part of that process for corporations that have raised FTS prior to the prescribed form being made available?
Summary of Preliminary Response
CRA indicated that the prescribed form is in the process of being completed and will be released to the public very shortly. It should be attached to one of the existing forms that are already required in connection with a flow-through share offering, such as the T100A. Specific instruction on this will be released very shortly.
CRA then repeated the guidance on the filing of the required information by letter pending the release of the form, as described in detail in 2022-0949081E5, and noted its position in Q.16 of the 2009 CRA Roundtable regarding filing based on proposed legislation (summarized in 2020-0874621E5).
Q.6 - Crypto-assets reporting
The number of jurisdictions with crypto tax guidance has continued to rise as tax authorities around the world realise that individuals and businesses alike need guidelines to be aware of how to meet their tax obligations regarding crypto-assets.
Does the CRA plan on providing additional guidance with respect to the taxation of crypto-asset related transactions and associated reporting obligations in the near future?
Summary of Preliminary Response
CRA noted that it has recently added a Division to the Income Tax Rulings Directorate to deal inter alia with cryptocurrency. The new Division will also work closely with existing teams responsible for crypto asset-related audits.
In order to facilitate the reporting of crypto-related transactions, CRA is currently in the process of updating a number of forms, schedules, and guides. CRA is working on providing further guidance on preparing tax returns for crypto asset dispositions by updating the T1 form, the Federal Income Tax Guide, the T1 Schedule 3, and the T4037 Capital Gains Guide, for the 2022 taxation year.
Q.7 - Crypto-asset mining PE
Crypto-asset mining can generally be described as the process of using computing power, often called “hash power”, to verify and record transactions on a blockchain. In order to generate such computing power, most crypto-asset “miners” rely on the use of application specific integrated circuit miners (ASIC) or graphics processing units (GPU). In many cases, this equipment is housed and operated in large datacenters capable of providing significant electricity and internet connections required for their use.
Consider the following situation:
- UKco is a company incorporated under the laws of the United Kingdom (U.K.).
- Hostco is incorporated under the Canada Business Corporations Act and is a resident of Canada.
- UKco owns a significant number of ASICs and GPUs that it uses in the process of mining crypto-assets in Canada (“the Mining Equipment”).
- Hostco owns real estate located in Canada that is used to provide “hosting services” to UKco with respect to the Mining Equipment. The hosting services include the supply of housing, security, electricity, internet access and maintenance/management services to ensure the proper operation of the Mining Equipment. The Mining Equipment will be hosted in Hostco’s premises and will remain at the same location throughout its useful life.
- UKco does not have any employees or physical presence in Canada otherwise than through the use of the Mining Equipment.
- UKco employees located in the U.K. have the capacity to direct the use of the Mining Equipment remotely through the use of software. However, the employees do not have the ability to alter the physical state of the Mining Equipment.
In the situation described above, will CRA consider that UKco has a permanent establishment in Canada under Article 5 of the Canada – U.K. Tax Convention (“the Treaty”)?
Summary of Preliminary Response
CRA noted that, in the case of a services businesses, Folio S5-F2-C1 places weight on the place where the services are actually performed in determining where the business is carried on, and that specific CRA positions indicate that the crypto-miner receiving cryptocurrency for validating a blockchain is viewed as providing a service. Here, as the service was provided by the mining equipment, the location of the equipment was a factor in determining where the business was carried on.
Here the relevant factors seemed to suggest that the business was being carried on in Canada through a permanent establishment, and that it was carried on wholly or predominantly through operating the crypto-mining equipment, which was at the non-resident’s disposal (as to which it did not matter whether it was owned or leased by it) and was situate in Canada.
Non-residents wishing more certainty could apply for an advance tax ruling.
Q.8 - CCA class for crypto-mining hardware
Commercial crypto-asset mining operations often involve the use of several graphics processing units (GPUs) or application-specific integrated circuit (ASIC) miners to generate computing power (hash power). In the context of commercial crypto-asset mining operations, the cost of both GPUs and ASIC miners generally represents a significant portion of the total cost of capital assets relating to the operation.
The hash power generated by this equipment is used by crypto-asset miners in order to solve a cryptographic “puzzle” and hopefully receive crypto-asset rewards in the process. This activity is an integral part of the process of verifying and recording transactions on a blockchain. Although crypto-asset mining equipment can connect directly to a blockchain network through an internet connection, most will prefer to connect to “mining pool” servers to increase their likelihood of receiving rewards.
The use of either GPUs or ASIC miners will generally be dependant on the blockchain selected by the crypto-asset miner.
GPU mining rigs
GPUs can be used for a variety of purposes including gaming, professional applications, and crypto-asset mining. In order to connect to a blockchain network or mining pool server, GPUs must generally be linked to other computer components, such as a motherboard, a central processing unit (CPU), a USB flash/hard drive, RAM, a power supply, and other components, together forming a “rig”. GPU mining rigs are generally composed of several GPUs. GPUs typically come with preinstalled updatable firmware in order to allow low-level control of the devices. Additional operating software is also installed on the rig’s USB flash/hard drive.
ASIC miners, on the other hand, are designed and optimised to perform a single task – mine crypto-assets. ASIC miner components generally include hash boards, a control board, a power supply and other components. ASIC miners also come with preinstalled updatable firmware. Once installed, ASIC miners can be controlled using a separate computer device and be directed to connect to a mining pool server. Additional software can also be installed on the separate computer device to manage the ASIC miners.
For GPU mining rigs and ASIC miners that are capital property acquired after March 18, 2007, will CRA consider that such hardware qualifies under capital cost allowance (CCA) class 50?
Summary of Preliminary Response
CRA noted that Class 50 refers to general-purpose electronic data processing equipment, and includes desktop and laptop computers, and that the GPU and ASIC mining rigs could meet the detailed conditions set out in Class 50.
Q.9 - T3 reporting where multiple wills
For non-income tax reasons, an individual may establish two wills – one that is subject to probate and one that is not subject to probate. The beneficiaries under each will may be substantially the same; however, the terms under which distributions can be made may be different. Provincial law may direct that the executors of each will must be different.
Can the CRA confirm the tax-filing obligations of the executors under each will – specifically, does subsection 104(2) apply so that one T3 return is filed for the estates created under both wills? At what point in time can each executor file a return for the estates created under each will?
Summary of Preliminary Response
CRA noted that although, where an individual had multiple wills, the wills could be administered separately, the individual would be regarded as having only one estate, which would encompass all the property owned at death. Since a trust was defined in ss. 248(1) and 104(1) to include an estate unless the context otherwise required, there would only be one trust. As there was only one trust, the postamble to s. 104(2) could not apply.
As there was one estate, there would be one T3 filed for each taxation year.
Pursuant to s.150(1)(c), the T3 return is to be filed within 90 days from the end of each taxation year of a trust or estate. S. 249(1)(b) defines a taxation year of a GRE as the period for which the accounts of the estate are made up for purposes of assessment under the Act, and under s. 249(1)(c), the taxation year of a trust other than a GRE is a calendar year.
Q.10 - CRS scope of “controlling persons”
Assume that a trust is resident in Canada, is not a “reporting financial institution” (RFI), is a “passive non-financial entity” (Passive NFE), and has a “financial account” with an RFI.
In this circumstance, the RFI with which the trust has a financial account will have reporting obligations under Part XIX if one or more “controlling persons” are “reportable persons”, as both of these terms are defined in subsection 270(1).
Subsection 270(1) defines “controlling persons”, in part, as follows:
“controlling persons, in respect of an entity, means the natural persons who exercise control over the entity (interpreted in a manner consistent with the Financial Action Task Force Recommendations - International Standards on Combating Money Laundering and the Financing of Terrorism and Proliferation, adopted in February 2012 and as amended from time to time) and includes,
(a) in the case of a trust,
(i) its settlors,
(ii) its trustees,
(iii) its protectors (if any),
(iv) its beneficiaries (for this purpose, a discretionary beneficiary of a trust will only be considered a beneficiary of the trust in a calendar year if a distribution has been paid or made payable to the discretionary beneficiary in the calendar year), and
(v) any other natural persons exercising ultimate effective control over the trust.” [emphasis added]
A. With respect to whether a discretionary beneficiary is a “controlling person”, the CRA’s Guidance on the Common Reporting Standard (“CRA Guidance”) states as follows:
“9.54 In the case of a trust, the controlling persons include its settlors, trustees, protectors (if any), beneficiaries or class of beneficiaries, and any other natural persons exercising ultimate effective control over the trust. A person is treated as a beneficiary if they have the right to receive, directly or indirectly, a mandatory distribution; or they receive, directly or indirectly, a discretionary distribution from the trust. In the case of discretionary distributions, the beneficiary may only be treated as a beneficiary in the calendar year in which they receive a distribution.” [emphasis added]
Can the CRA provide examples of “indirect” distributions?
B. The term “settlor” is not defined in the Act and the CRA Guidance is also silent on this point.
Would the CRA consider any contributor to the trust as a “settlor” for purposes of Part XIX of the Act?
Summary of Preliminary Response
A. Indirect distributions
CRA indicated that, in light of ITA s. 270(2), the question of who was a beneficiary under the ITA “controlling persons” definition should be interpreted “consistently” with the OECD guidance on this point “unless the context otherwise provides.”
In this regard, the OECD maintains a Q&A page on the application of CRS, and one of the responses (under "Section VIII" - "C. Financial Account" - Non-Reporting Financial Institutions - 11. Indirect distributions by a trust") was especially relevant:
Indirect distributions by a trust may arise when the trust makes payments to a third party for the benefit of another person. For example, instances where a trust pays the tuition fees or repays a loan taken up by another person are to be considered indirect distributions by the trust. Indirect distributions also include cases where the trust grants a loan free of interest or at an interest rate lower than the market interest rate or at other non-arm’s length conditions. In addition, the write-off of a loan granted by a trust to its beneficiary constitutes an indirect distribution in the year the loan is written-off.
In all of the above cases the Reportable Person will be person that is the beneficiary of the trust receiving the indirect distribution (i.e. in the above examples, the debtor of the tuition fees or the recipient of the favourable loan conditions).
Although these comments are not incorporated into the CRA guidance, quoted in the question, describing a beneficiary as a person receiving or having the right to receive an indirect distribution, this OECD commentary provides context as to what is referred to in such CRA guidance.
CRA again noted the relevance of OECD commentary under ITA s. 270(2) and further noted that the OECD Model Competent Authority Agreement provides that an undefined term has the meaning that it has at the time under the law of the jurisdiction that implements the CRS (Canada, in this case), subject to the same “unless the context otherwise provides” qualification.
Having regard to this reference to Canadian law, under such law, a settlor is the person who sets up the trust by contributing property to the trust. Turning to the OECD material, there is a general statement that a settlor is a natural or legal person who transfers ownership of their assets to trustees by means of a trust deed or similar arrangement. Of particular interest is that the UK chapter of STEP, in collaboration with the OECD, posted a Guidance Note on the interpretation of what “settlor” means in the CRS rules:
1.3 … [T]here may be trusts in existence where an individual (X) acts as the named settlor of the trust and contributes a nominal amount on its creation but where another individual (Y) then makes the substantive contribution of assets to the trust. In circumstances where trustees satisfy themselves that X has only made a nominal contribution to trust assets and that Y has made the substantive contribution, then applying AML/KYC principles, Y should be regarded as the settlor of the trust for CRS purposes rather than X. However, in accordance with CRS and FATF recommendations, HMRC consider that it is also necessary to identify and disclose X as a settlor and that the full value of the trust assets should be reported with respect to both X and Y notwithstanding the fact that X had added only a nominal amount.
CRA also observed that the definition of “controlling person” is open-ended. It “includes” the different persons described, but under the preamble someone else might be viewed as a controlling person, so that if that person makes a substantive contribution they could also be viewed as a controlling person under the facts and circumstances.
Q.11 - Shares sold under earnout
In the Interpretation Bulletin IT-426R “Shares Sold Subject to an Earnout Agreement” (September 28, 2004) [archived] (IT-426R) the CRA describes the cost recovery method of reporting gains or losses on the sale of shares subject to an earnout agreement. Generally speaking, under the cost recovery method the vendor reduces their adjusted cost base of the shares as amounts on account of the sale price become determinable. Once such an amount on account of the sales price exceeds the adjusted cost base of the shares, as reduced by any such previous amounts, the excess is considered to be a capital gain that is realized at the time that that amount became determinable, and the adjusted cost base becomes nil.
A. Paragraph 2 of IT-426R sets out the conditions for a taxpayer to be able to use the cost recovery method. Subparagraph 2(c) states that it must be reasonable to assume that the earnout feature relates to underlying goodwill, the value of which cannot reasonably be expected to be agreed upon by the vendor and the purchaser at the time of the sale.
At the CRA Round Table at the Canadian Tax Foundation’s (CTF’s) 2019 Annual Conference, the CRA addressed a situation where a vendor sold shares of a corporation, with the only assets owned by the corporation being the shares of a subsidiary. The proceeds of disposition of the shares of the corporation were determined pursuant to an earnout clause, with the quantum of proceeds determined by reference to the future earnings generated by the subsidiary. Under this scenario, the earnout feature related only to the underlying goodwill of the subsidiary. The CRA indicated that the mere fact that the earnout feature related only to the underlying goodwill of the subsidiary would not preclude the application of the cost recovery method.
Suppose a vendor owns shares of a Holdco and the Holdco owns shares of 3 corporations: ACo, BCo and CCo. The proceeds of disposition of the shares of Holdco are determined pursuant to an earnout clause, with the quantum of proceeds determined by reference to the future earnings generated by ACo. Under this scenario the earnout feature relates only to the goodwill of ACo.
Does this earnout feature meet the condition of subparagraph 2(c)?
B. There is a difference between the html and pdf versions of the condition in subparagraph 2(d) of IT-426R on the CRA website. Specifically, the html version on the CRA website provides:
The earnout feature in the sale agreement must end no later than 5 years after the end of the first taxation year of the corporation (whose shares are sold) in which the shares are sold. For the purposes of this condition, the CRA considers that an earnout feature in a sale agreement ends at the time the last contingent amount may become payable pursuant to the sale agreement.
whereas the pdf version provides:
The earnout feature in the sale agreement must end no later than 5 years after the date of the end of the taxation year of the corporation (whose shares are sold) in which the shares are sold. For the purposes of this condition, the CRA considers that an earnout feature in a sale agreement ends at the time the last contingent amount may become payable pursuant to the sale agreement.
Can the CRA confirm which version of subparagraph 2(d) reflects its policy?
C. Suppose a vendor owns shares of a target corporation whose year-end is September 30, 2022. The shares of the target corporation were sold on October 1, 2022. The purchaser of the shares of the target corporation chooses a December 31 year-end for the target corporation. Under the terms of the purchase and sale agreement for the shares of the target corporation, the earnout amount will be determinable no later than September 30, 2027.
For the conditions of subparagraph 2(d) to have been met, must the earnout amount be paid by December 31, 2027, or September 30, 2028, or is it sufficient that it was determinable on September 30, 2027.
Summary of Preliminary Response
A. Earnout based on 1 out of 3 subs
CRA indicated "yes," the same reasoning applies as in 2019-0824531C6.
B. Wording inconsistency
CRA indicated that it had fixed this disparity (which struck it as having been insubstantial).
C. 5-year limitation in IT-426R
CRA noted that since (per para. 2(a) of the Bulletin) the vendor and purchaser referred to in para. 2(d) were dealing at arm’s length, one would expect s. 249(4) to deem the target to have a year-end immediately before the acquisition of control. In the example, the shares of the target thus would be acquired in the short taxation year of the target ending on December 31, 2022 so that, under the 5-year rule in para. 2(d), the earnout feature would be required to end no later than December 31, 2027.
Regarding the requirement that the last contingent amount “may [only] become payable” pursuant to the sale agreement within the 5-year period, CRA noted that under the cost-recovery method set out in para. 3, the vendor will reduce the ACB of the shares sold as amounts on account of the sale price becoming determinable, and that para. 5 of the Bulletin indicates that an amount becomes determinable when it is capable of being calculated with certainty, and the taxpayer has an absolute (but not necessarily immediate) obligation to pay. CRA considered that para. 2(d) of the Bulletin required that there be a clear legal, but not necessarily immediate, obligation to pay the last contingent amount, no later than December 31, 2027, in order for the cost recovery method to apply.
Finally, CRA indicated that there is no requirement under subpara. 2(d) that the contingent amount in fact be paid within such 5-year period.
Q.12 - T1134 reporting
A. Various Questions Relating to T1134 Reporting (for 2021 and later taxation years)
(i) Part I Section 3E – Lower tier non-controlled foreign affiliates (Table)
Column 6 of the table asks, “Were there any transformation transactions during this reporting period that impacted its surplus account balance(s)?”. The term “transformation transactions” is not defined with sufficient clarity. The term also appears in the context of Part II Section 3B regarding surplus accounts with more specific questions.
Can the CRA provide more guidance on meaning of this term?
(ii) Part II Section 1D – Foreign Affiliate Dumping Rules (Table)
Where a corporation resident in Canada is not controlled by a non-resident such that the conditions in subsection 212.3(1) are not met, should this table be left blank?
(iii) Part II Section 3A – Surplus Accounts – 4. Upstream Loan Rules (Table)
Column 2 of the Table requires reporting entities to identify if a specified debtor (as defined in subsection 90(15)) owes an amount to the foreign affiliate (or a partnership of which the foreign affiliate was a member) at any time during the reporting period. If so, columns 3 and 4 require the reporting entities to indicate if subsections 90(6) or 90(8) apply to that debt. As the application of subsection 90(6) or paragraph 90(8)(a) may not be confirmed until after the T1134 information return is required to be filed, the reporting entities may not have a firm answer as to the application of subsection 90(6)/paragraph 90(8)(a).
Could the CRA provide guidance as to how the reporting entities should respond to columns 3 and 4 in such instance?
B. T1134 Missing Substantial Information (for 2021 and later taxation years)
In technical interpretation 2019-0791541I7 the CRA indicated that an information return missing substantial information will be considered invalid, and therefore, will not be considered to have been filed.
Can the CRA provide examples of what it would consider to be “substantial information” on the T1134 information return?
Summary of Preliminary Response
CRA indicated that it has created a Q&A page on its website to provide guidance in filing T1134s. More questions have been received, and they will be answered soon.
Q.13 - Pt. XIII tax on royalties for performances
At the 2011 IFA Conference, the CRA stated that the position set out in Interpretation Bulletin IT-303SR “Know-how and similar payments to non-residents” (January 1, 1995) [archived] (IT-303SR) should be followed, such that the exception in subparagraph 212(1)(d)(vi) applied to all payments for copyright in respect of a literary, dramatic, musical or artistic work, unless that payment is for a right referred to in subsection 212(5) (“the 2011 Position”). Consistent with this position, we understand that the exception in subparagraph 212(1)(d)(vi) applies to payments made by a Canadian resident to a non-resident for the right to broadcast live events in Canada such that they are not subject to Canadian withholding tax. For example, payments made by a Canadian broadcaster to acquire the rights from a non-resident to broadcast live sport or artistic events in Canada (“Broadcast Rights Payments”) fall within the exception of subparagraph 212(1)(d)(vi), unless the Broadcast Rights Payment is in respect of a right referred to in subsection 212(5).
The Supreme Court of Canada (SCC) analyzed the definition of “copyright” under the Copyright Act, R.S.C., 1985, c. C-42 (“the Copyright Act”) in Entertainment Software Association v. Society of Composers, Authors and Music Publishers of Canada  2 S.C.R. 231 (“the SCC Decision”) and made a clear distinction between the right to perform in public and the right to produce or reproduce a copyright work.
In light of the SCC Decision, could the CRA confirm whether it is still of the view that Broadcast Rights Payments would be considered as being in respect of a “copyright in respect of the production or reproduction of any literary, musical or artistic work” for purposes of the exception in subparagraph 212(1)(d)(vi)?
Summary of Preliminary Response
CRA noted that its 2011 IFA statement indicated that the exemption in s. 212(1)(d)(vi) would be applicable to a payment made to a non-resident for the right to broadcast a live event in Canada, but also indicated that the payment would still be taxable under Part XIII if s. 212(5) applied, which provides for withholding where the payment is for the use of a film, video tape, or other means of reproduction for use in connection with television.
The 2012 ESA decision dealt with one of the enumerated rights accorded to copyright holders under s. 3 of the Copyright Act, namely, s. 3(f), which accords the copyright holder the sole right to, “in the case of any literary, dramatic, musical or artistic work, to communicate the work to the public by telecommunication.”
The Supreme Court found that the enumerated rights in s. 3 essentially protect three basic rights: the right to perform, the right to produce, and the right to reproduce, a work; and found that the communication right under s. 3(f) came within the performance aspect of copyright, and not that of production or reproduction.
Therefore, the ESA decision establishes that broadcasting relates to the performance of a work, not to its production or reproduction. The 2011 IFA response therefore ceased to be correct and, as a result, CRA was thereafter required to assess broadcast rights payments as being subject to tax under s. 212(1)(d).
Q.14 - Charitable gifts with implied conditions
Recently, the Act was amended to permit Canadian registered charities to make disbursements by way of a gift or by otherwise making resources available to a “grantee organization” which is defined to include a person, club, society, association or organization or prescribed entity, but not a qualified donee.
Paragraph 168(1)(f) was amended to permit the Minister to revoke a charity’s registration as follows:
168(1) Notice of intention to revoke registration
The Minister may, by registered mail, give notice to a person described in any of paragraphs (a) to (c) of the definition “qualified donee” in subsection 149.1(1) that the Minister proposes to revoke its registration if the person
(f) in the case of a registered charity, registered Canadian amateur athletic association or registered journalism organization, accepts a gift the granting of which was expressly or implicitly conditional on the charity, association or organization making a gift to another person, club, society, association or organization other than a qualified donee [emphasis added].
This amendment indicates that a registered charity cannot accept a gift of property where the donor, expressly or implicitly, directs the registered charity to transfer the property by way of a gift to a grantee organization.
For purposes of paragraph 168(1)(f), can a registered charity accept a gift of property from a donor who provides a letter of wishes expressing the hope that the charity will transfer the property to a named grantee organization? If the charity makes that transfer, will the Minister simply consider that the donation was “implicitly conditional” on the charity transferring the property to the grantee organization, notwithstanding that the letter says that it was not?
Summary of Preliminary Response
CRA indicated that whether a registered charity accepted a gift that was implicitly conditional for the purposes of s. 168(1)(f) is a mixed question of fact and law, and so must be made on a case-by-case basis. CRA is preparing guidance on these measures, which is to come shortly.
1 The terms “RFI”, “Passive NFE” and “financial account” are defined in subsection 270(1).
3 https://www.canada.ca/en/revenue-agency/services/tax/international-non-residents/enhanced-financial-account-information-reporting/reporting-sharing-financial-account-information-other-jurisdictions/gu..., paragraph 9.54.