2002 Ruling 2002-0152593 - INCORPORATING A MEDICAL PARTNERSHIP

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: Whether the professional corporation that is the result of the incorporation of a medical partnership is a personal services business?

Position: No, if it is not reasonable to regard the Taxpayer that is carrying out services through a Contracting Company as providing those services to MedCo in his/her capacity as an employee or officer of MedCo, but for the existence of the Contracting Company.

Reasons: Reading of the definition in subsection 125(7) and similar rulings were given in files #2002-013306, 2001-010266 and 2001-008098.

XXXXXXXXXX 			2002-015259

XXXXXXXXXX, 2002

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling Request
XXXXXXXXXX

We are writing in response to your letter of XXXXXXXXXX, wherein you requested an advance income tax ruling.

DEFINITIONS

In this letter the following definitions are used:

"Act" means the Income Tax Act, R.S.C 1985 (5th Supp.) c.1, as amended to the date hereof, and, unless otherwise stated, every reference herein to a Part, section, subsection, paragraph or subparagraph is a reference to the specified Part or provision of the Act;

"Canadian-controlled private corporation" has the meaning assigned by subsection 125(7);

"CCRA" means the Canada Customs and Revenue Agency;

"College" means the XXXXXXXXXX of the Province;

"Contracting Company" means a company, which will be incorporated for the benefit of a particular Taxpayer as a medical corporation according to the rules and regulations of the College. Each Contracting Company will enter into contractual relations with MedCo to carry on the independent practice of providing professional medical services, as contemplated in Paragraph 22;

"Contracting Professionals" means the Professionals who choose to personally enter into contractual relations with MedCo for the provision of professional medical services in the Practice as an independent contractor, as described in Paragraphs 19-21. For greater certainty, the Taxpayers will not be Contracting Professionals;

"Hospitals" mean the XXXXXXXXXX;

"MedCo" means the XXXXXXXXXX, as described in Paragraph 9;

"Paragraph" refers to a numbered paragraph in this letter;

"Partner" means a partner of the Partnership;

"Partnership" means the existing partnership described in Paragraph 1. It is currently carrying on the Practice under the firm name and style of "XXXXXXXXXX", a registered partnership name pursuant to the laws of the Province;

"Practice" means the professional practice of medicine carried on by the Partnership;

"Professional" means an individual physician who currently provides professional services to the Partnership, as required in the Practice, whether in his or her capacity as a Partner, or an independent contractor;

"Province" means the Province of XXXXXXXXXX;

"Taxable Canadian corporation" has the meaning assigned by subsection 89(1); and

"Taxpayers" means the XXXXXXXXXX individual Partners who are applying for this ruling, as listed in Appendix A.

FACTS

1. The Partnership was formed prior to XXXXXXXXXX and presently consists of XXXXXXXXXX medical doctors. The Partnership files its returns with the XXXXXXXXXX Tax Services Office and its tax account number is XXXXXXXXXX. There are also a number of self-employed medical doctors who provide services to the Partnership, but who are not Partners.

2. XXXXXXXXXX.

3. A written partnership agreement governs the Partnership. The most recent version is the "Partnership Agreement" that was signed on XXXXXXXXXX. The major terms of the Partnership Agreement are as follows:

(a) Partners are all partners without differentiation;

(b) Partners share in profits of the Partnership based on a formula which takes into account the Partners' contributions to the Partnership;

(c) the Partnership also has medical doctors doing work for it as independent contractors (XXXXXXXXXX independent contractors are currently engaged). These independent contractors are not members of the Partnership, but are charged a fee equal to XXXXXXXXXX% of their billings for administration costs associated with their practices; and

(d) while the Partnership provides limited short and long-term disability and life insurance, Partners and the independent contractors referred to above in (c) are responsible for obtaining their own extra coverage for short and long-term disability and life insurance.

4. The Partnership's relationship with the Hospitals is a complex one. Each Hospital acts as a "host" for the Partnership and provides physical space, clerical and administrative staff, and equipment to the Partnership. In exchange, the Partnership provides clinical support to the Hospital and at some Hospitals the Partnership fills some administrative positions.

5. The Worker's Compensation Board of XXXXXXXXXX, third parties like private insurance companies, or XXXXXXXXXX (the Province's medical insurance organization, known as "XXXXXXXXXX"), pays the Partnership remuneration for services provided by the Partnership to patients in Hospitals. XXXXXXXXXX is a separate entity from the Hospitals, with its own budget. Partnership staff prepare the monthly billings to XXXXXXXXXX for medical services provided by the Partnership at Hospitals and responsibility for payment of services provided by the Partnership rests with XXXXXXXXXX. Revenue from this source accounts for approximately XXXXXXXXXX% of the revenue of the Partnership.

6. The Partnership provides medical services at one privately owned clinic located in XXXXXXXXXX. Remuneration for these services provided to patients is paid by XXXXXXXXXX or by the XXXXXXXXXX. This facility is leased by the Partnership. Revenue from this clinic accounts for approximately XXXXXXXXXX% of the revenue of the Partnership.

7. All of the Partners are residents of Canada. None of the Partners who will be incorporating Contracting Companies are related to another Partner within the meaning of subsection 251(2).

8. To the best of your knowledge and that of the taxpayers involved, none of the issues involved in this ruling

(a) is in an earlier return of the taxpayer(s) or a related person,

(b) is being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayer(s) or a related person,

(c) is under objection by the taxpayer(s) or a related person,

(d) is before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired, and

(e) is the subject of a ruling previously issued by Revenue Canada or CCRA.

PROPOSED TRANSACTIONS

9. MedCo will be incorporated under the laws of the Province, being authorized to issue an unlimited number of common shares without nominal or par value. MedCo will be a Canadian-controlled private corporation and a taxable Canadian corporation.

10. MedCo shall make an application to the College for a permit to practice medicine in the Province. XXXXXXXXXX authorizes a corporation to engage in the practice of medicine upon having obtained a permit from the College.

11. Upon MedCo obtaining a permit from the College, the Partnership will sell to MedCo, as a going concern, all of its assets (the "Assets" - these are all described in subparagraphs 85(2)(a)(i) through (iii) inclusive) at fair market value. It is anticipated that the Partnership will not have any debts at this point in time. In return MedCo will issue the Partnership XXXXXXXXXX of its common shares and a non interest bearing promissory note (the "Promissory Note") in an amount equal to the Partnership's cost amounts of the Assets. MedCo and all of the Partners will jointly elect pursuant to subsection 85(2), in prescribed form, and within the time permitted by subsection 85(6). The agreed amounts for each Asset (or group or class of Assets) in respect of such election will be within the limits prescribed by subsection 85(1) and for example will not be less than the least of the amounts specified in subparagraphs 85(l)(c.1)(i) and (ii), 85(1)(d)(i), (ii) and (iii), 85(1)(e)(i), (ii) and (iii), and will not exceed the respective fair market value of each Asset (or group or class of Assets), nor will they be less than the amount permitted by paragraph 85(l)(b).

12. For administrative convenience (in accordance with paragraph 2 of Interpretation Bulletin IT-378R - Winding Up of a Partnership)

(a) the XXXXXXXXXX common shares of MedCo issued on the acquisition of the Partnership Assets, as outlined in Paragraph 11, shall be issued directly in the names of the XXXXXXXXXX Partners, instead of in the name of the Partnership, so that each of the XXXXXXXXXX Partners will have one common share of MedCo issued in his or her name; and

(b) the Promissory Note shall be issued by MedCo in the names of the Partners, on a pro rata basis (i.e., XXXXXXXXXX to each Partner) in accordance with his or her respective interest in the Partnership, instead of in the name of the Partnership.

It is the intent of MedCo, the Partners and the Partnership to have the common shares of MedCo and the Promissory Note beneficially owned by the Partnership and not the Partners themselves at the time of issue. It is also intended (as further indicated in paragraph 2 of IT-378R) that this procedure will not invalidate the application of subsection 85(2) or the subsequent application of subsection 85(3).

13. The Partnership shall wind up its affairs the day immediately following the sale of all of the Assets to MedCo. Immediately before this wind up, the Partnership shall have no assets other than the property received from MedCo as consideration for the sale of the Assets referred to in Paragraph 11. Specifically, the only property in the Partnership will be the XXXXXXXXXX common shares of MedCo and the Promissory Note. Upon the winding up of the Partnership, each Partner shall receive, in full satisfaction of his or her respective interest in the Partnership, 1 common share of MedCo and a pro rata share of the Promissory Note (i.e., XXXXXXXXXX to each Partner), based on his or her respective interest in the Partnership.

14. The shareholders of MedCo will elect directors from among themselves. It is expected that each shareholder of MedCo will be a director.

15. MedCo and each of its shareholders (being the XXXXXXXXXX prior Partners) shall enter into a "Shareholders' Agreement", which shall provide, among other things:

(a) the business of MedCo shall be the Practice;

(b) MedCo will conduct the Practice by contracting with independent contractors to provide the required services ;

(c) each shareholder of MedCo can be a member of the board of directors, should he or she so desire;

(d) the net profits of MedCo available for distribution (in the discretion of the directors) shall be distributed annually by way of dividends on the outstanding shares from time to time; and

(e) the alienation or transfer of issued shares of MedCo shall be restricted to the following circumstances:

(i) a shareholder may demand that MedCo purchase his or her shares for fair market value at the particular time; or

(ii) MedCo may, upon approval of XXXXXXXXXX vote of the shareholders, purchase any shares held by any shareholder, and such shareholder shall sell such shares, for fair market value at that particular time.

16. Upon incorporation, MedCo will carry on the Practice by providing the professional services through

(a) individuals who are licensed to practice medicine in the Province and are engaged by MedCo as independent contractors to perform such services on behalf of MedCo (i.e., Contracting Professionals), and/or

(b) companies engaged by MedCo as independent contractors to provide the services of individuals, who are licensed to practice medicine in the Province, to perform such services on behalf of MedCo (e.g., Contracting Companies).

17. Each of the XXXXXXXXXX prior Partners will have the option of providing professional services to MedCo in respect of the Practice as a Contracting Professional (by entering into a contract for services personally with MedCo), or by forming a new company to enter into a contract for services with MedCo. Presently, only the XXXXXXXXXX Taxpayers have decided to provide medical services to MedCo by forming new companies to enter into contracts for services with MedCo (i.e., by way of Contracting Companies).

18. Other Professionals who are not Partners may provide services to MedCo as Contracting Professionals, upon such terms as the respective Professional and MedCo may agree, much as they do now with the Partnership.

19. Contracting Professionals may, as contemplated in Paragraph 16(a), enter into a contractual relationship with MedCo, whereby the Contracting Professional, as an independent contractor, agrees to provide certain professional services required in the Practice on a per diem fee basis. The amount of the per diem fee will be negotiated on a case-by-case basis and will vary with the level and type of professional services to be provided. This arrangement will be evidenced by a written contract, which will provide, among other things, that

(a) the Contracting Professional, as an independent contractor, shall provide certain professional medical services required by MedCo in the Practice;

(b) the contract shall be for a fixed period ending on XXXXXXXXXX of each year. The contract may be renewed each year and it may also be terminated by either party upon XXXXXXXXXX days notice;

(c) the obligation of the Contracting Professional shall be set out in a negotiated practice profile, expressed as the number of work days per year the Contracting Professional agrees to provide each of the following professional services, with a per diem rate for each type of service:

(i) clinical practice, including "on call" responsibility;

(ii) clinical practice, not including "on call" responsibility;

(iii) administration; and

(iv) other;

(d) the per diem rates will be established for each type of services, and will take into account such factors as difficulty, risk to the practitioner, and the requirement to work outside of normal hours;

(e) the Contracting Professional shall be compensated for each type of services based upon the established per diem rate, to be paid by MedCo to the Contracting Professional on the last day of each month, provided the Contracting Professional's level of services is substantially complete (as defined by the agreement) in keeping with the set practice profile;

(f) all payments from third parties in respect of services provided by a Contracting Professional for the benefit of MedCo in the Practice shall be made directly to MedCo;

(g) MedCo shall supply certain supplies, instruments, facilities, and equipment required in the provision of professional services by the Contracting Professional, but the contracting Professional shall be responsible for all expenses incurred in respect of the following:

(i) professional membership fees and insurance;

(ii) continuing professional education;

(iii) transportation;

(iv) communication;

(v) maintaining the professional standards set by the Hospitals or the College from time to time; and

(vi) expenditures on personal practice preferences of the Contracting Professional.

20. The particulars of the Contracting Professional's practice profile, the per diem compensation rate for services and the definition of "substantial completion" will be negotiated with MedCo on an individual basis each year of the term of the arrangement. Generally, it is expected that "substantial completion" will be negotiated to have taken place when a particular point between XXXXXXXXXX% of the services to be provided in a particular period are completed.

21. So long as the Contracting Professional fully discharges his or her responsibilities under the services contract with MedCo, he or she will not be restricted from providing professional services to other persons or otherwise prohibited from competing with MedCo, except that during the term of the services contract and for a period of XXXXXXXXXX years following the termination of that contract with MedCo, the Contracting Professional shall be prohibited from providing competing services to any Hospitals to which services are/were provided by the Contracting Professional on behalf of MedCo.

22. The Taxpayers will incorporate Contracting Companies to provide professional services to MedCo (as contemplated in Paragraphs 16(b) and 17) upon the same basis as with the Contracting Professionals, mutatis mutandis, which arrangement between MedCo and each Contracting Company will be evidenced in writing.

23. Each Taxpayer and, in some cases his or her family members, will be the beneficial owner(s) of the shares of their particular Contracting Company. That Taxpayer will control his or her particular Contracting Company, will be the legal and beneficial owner of the majority of issued shares and of all the issued voting shares, and will also be the sole officer and director of that Contracting Company. All persons legally or beneficially owning shares of a Contracting Company will be residents of Canada. For greater certainty, each Contracting Company will be a Canadian-controlled private corporation and a taxable Canadian corporation.

24. Each Contracting Company shall obtain a permit from the College to practice medicine in the Province prior to entering into a contract with MedCo to provide professional services.

25. The respective Taxpayer of a particular Contracting Company will be an employee of that Contracting Company and will provide professional medical services for the benefit of the Contracting Company, pursuant to the terms of the Contracting Company's contract with MedCo.

26. The Contracting Company shall agree not to compete with MedCo in the Hospitals during the term of the contract with MedCo (referred to in Paragraphs 22 and 25) and for a period of 3 years thereafter.

27. No Taxpayer will be an employee, officer, director or shareholder (whether legally or beneficially) of more than 1 Contracting Company.

28. Related persons of a particular Taxpayer (within the meaning of subsection 251(2)) shall be shareholders, if at all, of only the Contracting Company controlled by the particular Taxpayer.

29. Each year MedCo shall estimate its annual revenues and expenses for the year. It will also endeavour to contract with the Contracting Professionals and the Contracting Companies in such a manner that will result in an annual net profit to MedCo. To the extent MedCo's taxable income for any particular taxation year would otherwise exceed $200,000, the excess will likely be distributed (in the absolute discretion of the directors) as fees, bonuses or similar payments to the directors of MedCo.

30. There will not be any contractual relations between or among any of MedCo and the Contracting Companies other than the arrangements described above.

PURPOSE OF THE PROPOSED TRANSACTIONS

The purpose of the proposed transactions is to restructure the professional practices of the Partners, without adverse tax consequences, so that they meet their professional obligations in respect of the Practice while:

i) eliminating joint and several liability inherent in providing professional services through a partnership;

ii) providing each Partner with the opportunity to become an independent contractor and, as such, having increased control over his or her individual level of participation in the Practice;

iii) providing each Partner with a better congruence between effort put into the Practice and the financial return received from his or her respective professional practice;

iv) providing a vehicle thorough which an individual Partner may, if he or she so desires and has the time to do so, provide professional services external to the Practice;

v) providing increased business efficiency for each Partner through individual management of personal practice preferences and expenses;

vi) permitting each Partner to have control over expenditures reflecting personal practice preferences, where such expenditures may not be in the interest of all participants in the Practice;

vii) providing more flexibility for estate planning on the part of each individual Partner;

viii) facilitating ease of entry to the Practice by other professionals and exit from the Practice by the Partners.

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and purposes of the proposed transactions, and provided that the proposed transactions are completed in the manner described above, we confirm the following:

A. Where, in a taxation year, a Taxpayer's Contracting Company is engaged as an independent contractor to carry out medical services for MedCo, as described in Paragraph 22, that Contracting Company will not be considered to be carrying on a "personal services business", as defined in subsection 125(7), in relation to the services it provides to MedCo in that taxation year, provided the Taxpayer would not reasonably be regarded as an officer or employee of MedCo, but for the existence of the Contracting Company.

B. Provided that MedCo was not a member of a partnership in a particular taxation year and any Contracting Company was not a member of a partnership in that same year, the income of MedCo and any Contracting Company for that taxation year will not be considered "specified partnership income" within the meaning of subsection 125(7).

C. Where, in a taxation year of MedCo, a Contracting Professional or a Contracting Company is engaged as an independent contractor to provide medical services for MedCo, as described in Paragraphs 19 and 22, the amount of compensation payable for such services by MedCo to the Contracting Professional or the Contracting Company, as the case may be, will be deductible in computing the business income of MedCo under section 9, within the limitations of the Act such as those imposed by paragraph 18(1)(a) and section 67.

D. Subsection 245(2) will not be applied to redetermine the tax consequences confirmed in the rulings given.

These rulings are given subject to the general limitations and qualifications set forth in Information Circular 70-6R5, issued by CCRA on May 17, 2002, and are binding provided the proposed transactions are entered into on or before XXXXXXXXXX. These rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments. Except as expressly stated, our rulings do not imply acceptance, approval or confirmation of any income tax implications of the facts or proposed transactions. In particular, nothing in this letter should be interpreted as confirming, either expressly or implicitly that CCRA has agreed to or accepted:

(i) the reasonableness of any expenditures referred to in this letter, or the determination
of fair market value, adjusted cost base or undepreciated capital cost of any property referred to in this letter;

(ii) the GST implications of any of the proposed transactions; and

(iii) the classification for income tax purposes of the amount of any excess paid in accordance with Paragraph 29, or of any amounts paid or payable by a Taxpayer's Contracting Company to the Taxpayer's family members.

OPINION

A direction in accordance with subsection 256(2.1) is based on the facts on a year-to-year basis, and therefore we are not able, pursuant to paragraph 15(j) of Information Circular-70-6R5, to rule that this provision will not be applied. However, we are prepared to offer the following general comments.

Where a business that was previously carried on in a partnership is subsequently carried on by the former partners and no longer in partnership for reasons other than tax reasons, this fact, in and of itself, would generally not cause subsection 256(2.1) to be applicable should the former partners incorporate their business activities. A particular determination of the reasons for such reorganization would be a question of fact. However, based on the facts disclosed in this ruling, when the Taxpayers incorporate their business activities, it is our opinion that this fact will not, in and of itself, cause subsection 256(2.1) to be applicable.

In accordance with paragraph 22 of Information Circular 70-6R5, 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 CCRA.

Yours truly,

XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Legislation Branch

XXXXXXXXXX