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: Would a plan constitute a salary deferral arrangement for purposes of the Act?
Position: No.
Reasons: There is no right to receive an amount that is being deferred and the plan does not appear to be tax motivated.
November 24, 2000
TORONTO CENTRE TSO HEADQUARTERS
S.M.E., Verification & Enforcement Division M.P. Sarazin
(613) 824-5441
Attention: Naomi Tsuji
2000-005653
XXXXXXXXXX (the "Company") Incentive Plan
We are writing as a follow-up to our memorandum of August 25, 2000 and your telephone request of November 17, 2000, dealing with the Company's worldwide employee incentive plan which became effective XXXXXXXXXX and whether it would constitute a salary deferral arrangement ("SDA") for purposes of the Income Tax Act (the "Act").
The XXXXXXXXXX (the "Plan") was designed to reward participants only if the Company achieves certain earnings projections in the fiscal period commencing in XXXXXXXXXX and ending in XXXXXXXXXX. The relevant terms of the Plan are as follows:
(a) Any employee of the Company or a subsidiary of the Company may participate in the Plan (the "Participant"). Each Participant is chosen by the Plan Administrator.
(b) Each Participant is granted Incentive Awards under the Plan. Each Incentive Award is made up of two components: Incentive Bonuses and Incentive Units. Each Participant is restricted to a maximum of XXXXXXXXXX Incentive Awards under the Plan and the Plan can only grant a maximum of XXXXXXXXXX Incentive Awards.
(c) The Incentive Awards held by a Participant will only vest if the Company earns certain cumulative projected consolidated net income before interest, taxes, depreciation and amortization ("EBITDA"). The EBITDA targets are set out in Annex A of the Plan. For instance, units will only vest in XXXXXXXXXX if the cumulative EBITDA for XXXXXXXXXX reaches the following projections:
Projected Cumulative EBITDA Cumulative % Vesting
XXXXXXXXXX
(d) In the year that an Incentive Award vests, the Incentive Bonus component of the Incentive Award entitles the Participant to an immediate cash bonus. The cash bonus is computed by XXXXXXXXXX The Incentive Bonus originated as a way to help pay a Participant's income taxes in respect of the vested Incentive Units earned in the year because of his or her participation in the Plan. Once the vested Incentive Bonus is paid by the Company, the vested Incentive Bonus in respect of that year's vested Incentive Award ceases to exist for purposes of the Plan.
(e) At the end of XXXXXXXXXX, Incentive Awards that have not vested will cease to exist. Vested Incentive Unit Components of the Incentive Awards that have vested up to and including XXXXXXXXXX will be repurchased by the Company in the following manner: XXXXXXXXXX Where a Participant retires, dies or ceases to be employed after XXXXXXXXXX, the vested Incentive Units that have not been repurchased will be repurchased in that year. The price to be paid for the redemption of each Incentive Unit will be computed as XXXXXXXXXX.
(f) The Plan provides for cash payments through the Incentive Bonuses for the XXXXXXXXXX fiscal years which will be based on the Company's performance in each of those years. The Plan also provides for cash payments through the repurchase of Incentive Units in XXXXXXXXXX and subsequent years based on the Company's performance in the subsequent years. The stated purpose of the Plan is to promote the achievement of corporate earnings goals and paying employees only where these goals are achieved.
XXXXXXXXXX has requested your views as to whether the Plan would constitute a salary deferral arrangement ("SDA") for purposes of the Act.
The Company's representative is of the view that the Plan does not constitute a SDA within the meaning assigned by subsection 248(1) of the Act and the amounts paid under the Plan constitute employment income in the year the amounts are received by the Canadian Employees. This is because the Plan was not implemented for the purpose of postponing taxes payable under the Act. The Plan does not qualify as a salary deferral arrangement because the amount that might be received as a result of the existence of the Incentive Units and the Incentive Bonuses do not relate to services rendered in the year the Incentive Units are granted or any preceding year and none of the main purposes of the creation or existence of the Incentive Units or Incentive Bonuses is to postpone tax payable under the Act. The Plan was designed to reward employees for future services only and not for past services and it was developed outside Canada for all employees of the Company so it would be difficult to conclude that one of the main purposes is to postpone Canadian taxes.
It is clear that the primary objectives of the Plan are as follows:
- to motivate employees to increase the Company's earnings in future years (units only vest if the EBITDA targets are achieved or surpassed and the value of Incentive Units is dependent directly on the future EBITDA of the Company),
- to retain employees, and
- to manage cash flow related to the payment of the Company's obligations under the Plan.
In applying the SDA rules, we are of the view that a deferred bonus plan will become an SDA when an amount is determinable, the employee has a right to receive the amount which is in respect of services that have been rendered and we can conclude that one of the main purposes for the existence or creation of the right is to postpone taxes payable under the Act.
We have reviewed the terms of the Plan and we agree with the representative that the Incentive Bonus element of the Incentive Awards are future oriented and, as such, would not qualify as an SDA for purposes of the Act. There is no right to any amount until the Incentive Award vests and the Incentive Bonus element of the vested Incentive Award is paid out immediately upon vesting so there is no deferral in respect of the Incentive Bonus element.
The determination of whether the Incentive Unit element of the Incentive Award would constitute an SDA for purposes of the Act is more difficult in the above case. When an Incentive Unit vests, we have to determine whether the Participant has a right in that taxation year to receive an amount after the year where it is reasonable to consider that one of the main purposes for the creation or existence of the right is to postpone taxes payable under the Act in respect of an amount that is or is on account or in lieu of salary or wages of the taxpayer for services rendered by the taxpayer in the year or a preceding year. The Plan does not provide a Participant with the right to receive an ascertainable amount at the time that the Incentive Unit element of the Incentive Award vests. The amount that will be paid to the Participant, if any, depends totally on future events (i.e., the Company's EBITDA and debts for the fiscal year immediately preceding the year that an amount is due under the Plan). Consequently, it would be difficult for you to conclude that one of the main purposes of the Incentive Unit element of the Incentive Award is to postpone taxes under the Act in the above situation. The fact that the amount is computed based on the EBITDA and corporate debts supports the Company's position that the primary intention is to motivate the Participants to increase future earnings in order to maximize the value of each vested Incentive Unit element of the Incentive Award. Therefore, there is sufficient basis to support a conclusion that the Plan does not constitute an SDA for purposes of the Act.
For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Legislation Access Database (LAD) on the Canada Customs and Revenue Agency's mainframe computer. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the LAD version, or they may request a copy severed using the Privacy Act criteria, which does not remove client identity. Requests for this latter version should be made by you to Mrs. Jackie Page at (613) 994-2898. A copy will be sent to you for delivery to the client.
Roberta Albert, CA
for Director
Financial Industries Division
Income Tax Rulings Directorate
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2000
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2000
Email this Content