6 June 2000 2000-001204A - INTEREST EXPENSE ATTRIBUTION RULES

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues: Transferee spouse borrows funds to acquire shares from transferor spouse. No 74.5(1) election. Is interest deductible?

Position: Cannot determine without full knowledge of facts.

Reasons: 20(1)(c) test (borrowing to earn income) in hands of transferee spouse is a purpose test. Also 74.5(11) or 245(2).

XXXXXXXXXX 						2000-001204
J. P. Dunn
Attention:  XXXXXXXXXX 

June 6, 2000

Dear Sirs:

Re: Interest Deductibility and the Income Attribution Rules

We are writing in response to your correspondence of February 28, 2000 in which you had requested the views of Canada Customs and Revenue Agency with respect to a situation in which a transferee spouse acquires investment property from a transferor spouse and the transferee spouse pays full fair market value for that investment property. The funds used to pay for the property are borrowed by the transferee spouse from an arm's length lender.

Also, because the transferor spouse does not elect pursuant to subsection 74.5(1) of the Income Tax Act (the "Act"), subsection 73(1) of the Act is applicable such that that the investment property is disposed of by the transferor and acquired by the transferee at the adjusted cost base of that property to the transferor spouse. Furthermore, because no election pursuant to subsection 74.5(1) of the Act is made, the provisions of subsections 74.1(1) and (2) of the Act are applicable to attribute any income from or gains derived on the investment property to the transferor spouse.

You have requested whether, in such circumstances, interest on the funds borrowed by the transferee spouse to acquire the investment property would be deductible by that spouse.

Interest on borrowed funds is deductible pursuant to paragraph 20(1)(c) of the Act only to the extent that those borrowed funds can be considered to have been used for the purpose of earning income from a business or from property. The resolution of this question from the perspective of the transferee spouse would require an analysis of all of the pertinent facts surrounding the acquisition of the property. Also, the possible application of subsections 74.5(11) or 245(2) of the Act would depend on these facts. Accordingly, we are unable to provide a definitive response by way of general interpretation.

We would be pleased to consider these questions in the context of an advance income tax ruling.

for Director
Financial Industries Division
Income Tax Rulings Directorate
Policy and Legislation Branch