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.
Principal Issues: 1. Whether a shareholder/manager bonus can be considered reasonable if it creates a non-capital loss. 2. Whether the non-capital loss created by the bonus can be carried back pursuant to paragraph 111(1)(a), to the three preceding taxation years to reduce income approximately to the small business deduction limit.
Position: 1. Yes. 2. Yes.
Reasons: 1. The proposed payment is within the scope of the CRA policy with respect to the reasonableness of shareholder/manager remuneration. The company has adopted a policy of declaring bonuses to its principal shareholder/manager to remunerate him for the profits the company has earned that are attributable to his special know-how, connections and entrepreneurial skill. The company is a CCPC paying a bonus to an active, principal shareholder/manager who is resident in Canada, in order to reduce the CCPC's taxable income approximately to the small business deduction limit for the carryback period. The remuneration will be paid out of income derived from the normal, ongoing operations of the business. The loss carryback request will not generate any undue tax advantage. Refund interest will be effective from the date of reassessment to adjust for the loss carryback. 2. Straightforward application of the law.
XXXXXXXXXX 2004-007274
XXXXXXXXXX, 2004
Dear XXXXXXXXXX,
Re: Advance Income Tax Ruling
XXXXXXXXXX
This is in reply to your letter of XXXXXXXXXX, in which you requested an advance income tax ruling in respect of the above-noted company and individual as it pertains to the deductibility of shareholder/manager remuneration.
We understand that, to the best of your knowledge and that of the taxpayers involved, none of the issues involved in the ruling request:
(i) is in an earlier return of a taxpayer or a related person;
(ii) is being considered by a Tax Services Office or Taxation Centre in connection with a previously filed tax return of a taxpayer or a related person;
(iii) is under objection by a taxpayer or a related person;
(iv) is before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; and
(v) is the subject of a ruling previously issued by the Directorate.
Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended, (the "Act") and all terms and conditions used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.
Definitions
1. "Corporation" is XXXXXXXXXX.
2. "Shareholder/Manager" is XXXXXXXXXX.
3. "Shareholder B" is XXXXXXXXXX.
Our understanding of the relevant facts, proposed transactions and the purpose of the proposed transactions is as follows:
Facts
4. The Corporation is a "Canadian-controlled private corporation" as defined in subsection 125(7) of the Act.
5. Since XXXXXXXXXX, the Corporation has operated a business of XXXXXXXXXX (hereafter referred to as the "Business").
6. The shareholders of the Corporation are as follows:
a) Shareholder/Manager owns XXXXXXXXXX% of the issued and outstanding Class A common voting shares.
b) Shareholder B owns XXXXXXXXXX% of the issued and outstanding Class D preferred redeemable non-voting shares.
7. Shareholder/Manager and Shareholder B are directors of the Corporation and residents of XXXXXXXXXX, Canada.
8. Shareholder/Manager, Shareholder B and the Corporation each file income tax returns at the XXXXXXXXXX Taxation Centre and their Tax Services Office is located in XXXXXXXXXX.
9. Shareholder/Manager is active in the day-to-day management of the operations of the Business.
10. The Corporation's profits since inception have stemmed from the Shareholder/Manager's special knowledge, skills and connections in the Business.
11. The Corporation's taxable income for its XXXXXXXXXX taxation years is as follows:
XXXXXXXXXX Total
Active Business Income $XXXXXXXXXX
Investment Income XXXXXXXXXX
Total taxable income $XXXXXXXXXX
12. The Corporation's Active Business Income described in paragraph 11 above was derived from the normal, ongoing operations of the Business.
13. The Corporation paid the following Federal and Provincial taxes for the XXXXXXXXXX taxation years (hereafter referred to as the "Carryback Period"):
XXXXXXXXXX Total
Federal tax payable $XXXXXXXXXX
Provincial tax payable XXXXXXXXXX
Total tax payable $XXXXXXXXXX
14. On XXXXXXXXXX, the Corporation passed a Director's Resolution adopting a policy of declaring annual bonuses to certain Canadian resident individuals who are active in the business of the corporation to reduce its income from an active business carried on in Canada to the small business limit.
15. On XXXXXXXXXX, the Corporation declared a bonus in the amount of $XXXXXXXXXX payable to the Shareholder/Manager (hereafter referred to as the "Bonus").
16. The date of payment of the Bonus has not been determined, however, the Corporation is legally obligated to pay the Bonus to the Shareholder/Manager.
17. The Bonus will be paid from cash reserves that were generated in prior years by the Corporation from the normal, ongoing operations of the Business.
Proposed Transactions
18. The Corporation will file its XXXXXXXXXX income tax return and claim a deduction for the Bonus, thereby creating a non-capital loss for the XXXXXXXXXX taxation year in the amount of $XXXXXXXXXX (hereafter referred to as the "Non-Capital Loss").
19.The Corporation will request a carryback of the Non-Capital Loss pursuant to paragraph 111(1)(a) of the Act, to reduce its taxable income for the Carryback Period as follows:
XXXXXXXXXX Total
Former Taxable Income $XXXXXXXXXX
Loss Carryback Request XXXXXXXXXX
Revised Taxable Income $XXXXXXXXXX
20. The Corporation will pay the Bonus to the Shareholder/Manager on or before the day that is XXXXXXXXXX days after XXXXXXXXXX.
Purpose of the Proposed Transactions
21. The purpose of the payment of the Bonus is to remunerate the Shareholder/Manager for contributing towards the successful management of the Corporation, and to create the Non-Capital Loss to carryback to the XXXXXXXXXX taxation years thereby reducing the Corporation's income from an active business carried on in Canada in those years approximately to the small business deduction limit.
Rulings Given
Provided that:
(a) The preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purpose of the proposed transactions;
(b) The proposed transactions are completed in the manner described above;
(c) There are no other transactions, which may be relevant to the ruling requested; and
(d) The Bonus is paid to the Shareholder/Manager on or before XXXXXXXXXX,
our rulings are as follows:
A. Paragraph 18(1)(a), section 67 and subsection 78(4) of the Act will not apply to prohibit the Corporation from deducting the amount of the Bonus in computing its business income for the taxation year ended XXXXXXXXXX.
B. The Corporation may deduct the Non-Capital Loss as described in paragraph 19 above, pursuant to paragraph 111(1)(a) of the Act.
C. The amount of the Bonus that will be paid by the Corporation must be included in calculating the Shareholder/Manager's employment income in XXXXXXXXXX, pursuant to subsection 5(1) of the Act.
These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 issued by the CRA on May 17, 2002, and are binding on the CRA provided the Proposed Transactions are carried out on or before XXXXXXXXXX.
These rulings are based on the Act in its present form and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.
Except as expressly stated, these rulings do not imply acceptance, approval or confirmation of any income tax implications of the facts or proposed transactions.
Yours truly,
XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch
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