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 CCRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ADRC.
Principal Issues:
1. Will the incorporation of a professional partnership to form "Newco", where the individual partners also incorporate and provide services to Newco through their corporations ("ServiceCos"), result in disallowance of the small business deduction?
2. Will the incorporation of a professional partnership, where the individual partners also incorporate, result in the application of 256(2.1)?
Position:
1. Generally, not in and of itself, as long the ServiceCos are not personal services businesses. This involves determining whether or not the incorporated professional would reasonably be regarded as carrying out services to Newco in his/her capacity as an officer or employee of Newco, but for the existence of their ServiceCo.
2. Generally, not in and of itself, as long as reducing tax is not one of the main reasons for incorporating.
Reasons:
1. & 2. Reading of 125(1) & (7) and 256(2.1). However, these issues do involve certain question of fact that must be addressed before a conclusive answer can be given.
2001-011214
XXXXXXXXXX Allan Nelson, C.M.A.
(613) 443-7253
February 6, 2002
Dear XXXXXXXXXX:
Re: Technical Opinion Request
We are writing in reply to your letter to us dated November 22, 2001, and our telephone conversation (Nelson/XXXXXXXXXX) on January 28, 2002, wherein you asked for our comments on a hypothetical reorganization of a professional partnership. The salient facts and terms of this hypothetical reorganization are as follows:
? There is an existing professional partnership (the "Partnership"), to which section 34 of the Income Tax Act (the "Act") applies.
? All of the partners are individuals resident in Canada and none of the partners are related to another partner within the meaning of paragraph 251(2)(a) of the Act.
? A corporation ("Newco") will be incorporated as a Canadian-controlled private corporation and a taxable Canadian corporation for the purposes of the Act.
? The Partnership will transfer, pursuant to subsection 85(2) of the Act, all of its assets to Newco in exchange for common shares of Newco and debt. The agreed upon amounts will be within the limits of subsection 85(1) of the Act.
? The Partnership will wind-up its affairs within 60 days of the disposition of its property to Newco. Immediately prior to the wind-up, no property other than the shares and debt received from Newco on the disposition will be in the Partnership.
? Newco will obtain all necessary permits, carry on the same professional business as was carried on by the Partnership and will also be subject to the application of section 34 of the Act.
? Each shareholder of Newco may, at their discretion, provide professional services to Newco by:
a) entering into an employment arrangement with Newco;
b) entering into a contract for services (i.e., independent contractor) arrangement with Newco; and/or
c) providing professional services through an incorporated company ("ServiceCo") on a contract for services arrangement with Newco.
? All contract for service arrangements will be remunerated at a mutually agreed upon per diem rate. Newco's board of directors will set the per diem rates at least annually. These arrangements will be subject to a signed written contract for services.
? All professional service payments received from third parties in respect of the professional practice for the benefit of Newco shall be paid directly to Newco. Third parties will not know that their professional services may be performed by an independent contractor acting on behalf of Newco.
? Each respective professional will be the sole officer and director of their ServiceCo and will also control their ServiceCo. Family members may participate in the shareholdings of these companies. All shareholders will be residents of Canada.
? All ServiceCos shall agree not to compete with Newco while, and for a reasonable time period following, their association with Newco.
Stated Benefits of the Proposed Structure
You have advised that the benefits of the revised arrangement include the following:
(a) provides a more flexible structure in which members of the existing Partnership can deliver professional services;
(b) allows partners to maintain more control of their individual needs and goals for their practice;
(c) reduces the exposure to joint and several liability that is inherently present in providing professional services through a partnership; and
(d) ensures that no adverse tax consequences arise while allowing for increased flexibility in shareholder estate planning.
As explained in Information Circular 70-6R4, it is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an advance income tax ruling. If your situation involves a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate tax services office for their views. However, we are prepared to offer the following general comments, which may be of some assistance to you.
As we discussed during our telephone conversation (Nelson/XXXXXXXXXX), your hypothetical reorganization described above is somewhat similar to proposed transactions on which we have provided advance income tax rulings. Specifically, reference is made to our file numbers 2001-008098, 2000-006120, 2000-003481 and 991540 (collectively referred to hereafter as the "Rulings"), all of which you have advised us that you have access to in severed electronic format. Our views described in the Rulings remain unchanged.
In particular, where a professional practice that was previously carried on in a partnership is incorporated and subsequently carried on in a Newco by the former partners, such as is described above and the former partners incorporate their business activities and commence to provide services to Newco through their newly incorporated ServiceCos, generally, this fact will not in and of itself result in
a) Newco or the ServiceCos being denied the entitlement to compute their income for a taxation year from a business under subsection 9(1) of the Act, subject to the usual limitations such as in paragraphs 18(1)(a) & (p) and section 67 of the Act,
b) the elimination of Newco's entitlement to claim the small business deduction as otherwise provided for in section 125 of the Act,
c) the application of subsection 256(2.1) of the Act to associate two or more corporations, as long as none of the main reasons for the separate existence of those corporations in a taxation year is to reduce the amount of taxes that would otherwise be payable under the Act (As we discussed on the phone, a determination of the reasons for such a reorganization would have to be made, including those you provided (i.e., flexibility, control, liability, estate and succession planning reasons, etc.) to determine if one of the main reasons was the reduction of taxes.), or
d) a ServiceCo being denied the small business deduction, in subsection 125(1) of the Act, because it was characterized as a "personal services business" (within the meaning of that term in subsection 125(7) of the Act), as long as the particular incorporated professional (former partner) would not reasonably be regarded as carrying out services to Newco in his/her capacity as an officer or employee of Newco, but for the existence of their particular ServiceCo. (As part of the process to make this determination, additional information would be required concerning each non-competition agreement between Newco and a particular ServiceCo to see if the terms are indicative of the existence of an employer/employee relationship.)
Ultimately, all of the above matters involve a question of fact that must be addressed before conclusive answers could be given. We do not have sufficient information to comment further at this time.
In accordance with paragraph 22 of Information Circular 70-6R4, the above comments are only an expression of opinion, and as such should not be construed as an advance income tax ruling, nor are they binding on the Canada Customs and Revenue Agency. In addition, none of the above comments should be construed as providing comfort with respect to the potential application of subsection 56(2) of the Act or any provision regarding attribution.
We hope the above will be of assistance to you.
Yours truly,
Milled Azzi, C.A.
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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