26 March 2001 External T.I. 2001-0064055 - DEDUCT. OF MANAGERS BONUSES&SALARIES

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: Whether the CCRA's position on the reasonableness of a manager's bonus applies where a manager does not directly own his or her own shares but holds shares through a holding company which is not 100% owned by the manager, but rather is owned by the manager and family members.

Position: Question of fact.

Reasons: In our view, one of the primary factors to be considered when determining the reasonableness of the amount of salary and/or bonus is the recipient's contribution to the business. Where a corporation pays a salary and/or bonus out of business profits to a manager who is actively engaged in the business of the corporation, it is unlikely that the reasonableness of the deduction will be questioned unless it results in an undue tax advantage. The CCRA does not and do not intend to develop criteria relative to the ownership and management structure of a Canadian-controlled private corporation in relation to the determination of whether the amount of salaries and bonuses will be considered reasonable.

XXXXXXXXXX 	J. Gibbons, CGA
		2001-006405
March 26, 2001

Dear XXXXXXXXXX:

We are replying to your letter of December 28, 2000, concerning the issue of the reasonableness of a manager's bonus where a manager does not directly own his or her own shares. In particular, you requested the CCRA's position on this issue where the manager holds shares through a holding company which is not 100% owned by the manager, but rather is owned by the manager and family members. You indicated that examples of this structure would be an estate freeze or family income splitting structure where children of the shareholder-manager have non-voting shares. You also ask whether it matters if the manager owns all of the voting shares of the holding company.

As requested, we have considered the situation outlined in your letter and have provided some comments below. However, we cannot confirm the tax implications of particular transactions unless the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R4. Thus, our comments are of a general nature only.

As you know, in our answer to question 42 at the 1981 Canadian Tax Foundation Revenue Canada Roundtable (1981 CTF), we stated that, in general, we will not challenge the reasonableness of salaries and bonuses paid to the principal shareholders-managers of a corporation when (a) the general practice of the corporation is to distribute the profits of the company to its shareholders-managers in the form of bonuses or additional salaries; or (b) the company has adopted a policy of declaring bonuses to the shareholders to remunerate them for the profits the company has earned that are, in fact, attributable to the special know-how, connections, or entrepreneurial skills of the shareholders. We also stated that bonuses paid to shareholders other than the principal shareholders-managers will be subject to the normal test of reasonableness.

In opinion letter 2000-001308, noted in your letter, the situation we were asked to review involved a somewhat complex structure in which the owner-managers owned shares in the operating company through holding companies and family trusts. In that situation, we were unable to make a categorical statement that the reasonableness of salaries and bonuses would not be challenged.

In opinion letter 2000-001603, noted in your letter, we concluded that our position (as stated at the 1981 CTF) would generally not change where the active managers held shares of an operating company indirectly through wholly-owned holding companies. In other words, the reasonableness of salaries and bonuses paid by the operating company to the active managers would likely not be challenged if they, as shareholders of the holding companies, are actively engaged in the day-to-day operations of the operating company.

It is always a question of fact whether the amount of an owner-manager's salary and/or bonus is reasonable in the circumstances and thus deductible in computing income from a business pursuant to section 67 of the Income Tax Act. Although our 1981 CTF comments continue to provide some guidance in this regard, it reflects a general position only which may vary according to the particular facts of a specific situation. In our view, one of the primary factors to be considered when determining the reasonableness of the amount of salary and/or bonus is the recipient's contribution to the business. Where a corporation pays a salary and/or bonus out of business profits to a manager who is actively engaged in the business of the corporation, it is unlikely that the reasonableness of the deduction will be questioned unless it results in an undue tax advantage. With regard to the situation you outlined in your letter, we have not and do not intend to develop criteria relative to the ownership and management structure of a Canadian-controlled private corporation in relation to the determination of whether the amount of salaries and bonuses will be considered reasonable.

We trust that these comments will be of assistance.

Yours truly,

John Oulton, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate