19 March 1985 Income Tax Severed Letter A-0930

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Dear Sirs:

This is in reply to your letter of December 31, 1984 concerning payments made to a non-resident in respect of application software. The situation you describe is as follows:

• 1. A Canadian person imports an inventory of certain applications software from a foreign software manufacturer.
• 2. Each software package is serially numbered and consists of a sealed diskette, instruction manual, sample programs and utilities, and a back up copy of the diskette.
• 3. The software package also contains a pre-printed license agreement. This agreement is intended to be a binding contract between the manufacturer and the end user. Acceptance of contract occurs when the end user breaks the seal on the diskette. The agreement gives the end user the right to use the materials but precludes the end user from copying, distributing or otherwise disclosing the materials. Right of use is provided for a defined term, usually 50 years, or until the materials are returned to the manufacturer, whichever comes first. All materials in the software package remain the property of the foreign manufacturer. No license fee is provided for under the agreement. The contract can be voided only if the end user returns the sealed diskette to the Canadian importer/dealer within a specified number of days.
• 4. The Canadian importer purchases the diskette for a lump sum, under a simple invoice, at a normal wholesale or import price.
• 5. The Canadian importer sells the diskette to the Canadian end user, again under a simple invoice at a normal retail price.

It is your view that the payments made to the non-resident owner of the software package are not subject to Part XIII tax because

• (a) the payments are not rentals, royalties or similar payments, and
• (b) the Canadian importer/dealer cannot be said to use the software program.

Our Comments

A payment need not be a "rental, royalty or similar payment" in order to be caught by subparagraph 212(1)(d)(i) of the Income Tax Act (the "Act"). All that is required is that the payment be for the use of, or the right to use, in Canada any property. In this regard, we refer you to paragraph 9 of Interpretation Bulletin IT-303. The comments in the said paragraph 9 are in our view supported by the courts in the following cases:

A. Farmparts Distributing Ltd. [[1980] C.T.C. 205] (80 DTC 6157 at page 6160).

B. Saint John Shipbuilding & Dry Dock Co. Ltd. [[1980] C.T.C. 352] (80 DTC 6272 at page 6274).

That having been said, the sole issue to be decided is whether the payment to the non-resident represents a payment for the use of, or the right to use, property. In our view, it does. Since the non-resident retains ownership of the software program, all that it is giving up is the right to use that property. Since that is what is being given up or "sold" to the Canadian importer/dealer, it follows that the non-resident is being paid for the right to use its property. Hence, that payment, whether it be from the Canadian importer/dealer or the end user, is subject to Part XIII tax at the rate of 25%, unless reduced or eliminated pursuant to the terms of a reciprocal tax treaty.

We trust that the above comments are satisfactory for your purposes.