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: Whether two partnerships can be considered to be related for the purpose of determining if the shares of a non-resident corporation are excluded property.
Position: No
Reasons: The definition "excluded property" in subsection 95(1) does not deem a partnership to be a non-resident corporation for the purpose of applying the related persons test in section 251.
2006-016857
XXXXXXXXXX J. MacGillivray
(613) 957-2103
September 1, 2009
Dear Sir:
Re: Meaning of Excluded Property
We are writing in response to your letter of January 25, 2006 in which you requested our comments on the interpretation of the definition of "excluded property" in subsection 95(1) of the Income Tax Act (Canada), R.S.C. 1985, c.1 (the "Act") with respect to the following hypothetical situation:
1. A corporation resident in Canada ("Canco") holds all of the issued shares of two non-resident corporations ("Forhold 1" and "Forhold 2") and all of the issued shares of a corporation resident in Canada ("Cansub").
2. Forhold 1 holds 25% of the sole class of issued shares of a foreign operating company ("Forco"). Forco carries on active business operations exclusively outside Canada and all or substantially all of the fair market value ("FMV") of the property of Forco is used or held principally for the purpose of gaining or producing income from its active business.
3. Forhold 2 is the sole general partner of a limited partnership ("LP1"). The FMV of its interest in LP1 is equal to 30% of the FMV of all of the partnership interests in LP1. Cansub is a limited partner of LP1. The FMV of its interest in LP1 is equal to 25% of the FMV of all of the partnership interests in LP1. The remaining limited partners of LP1 are non-resident persons who are not related to Canco and its subsidiaries.
4. LP1 is the sole general partner of another limited partnership ("LP2"). The FMV of LP1's interest in LP2 is equal to 15% of the FMV of all of the partnership interests in LP2. The limited partners of LP2 are non-resident persons who are not related to Canco and its subsidiaries. None of these limited partners are partners of LP1.2 holds 75% of the issued shares of the capital stock of Forco. LP2 holds no other assets.
You have asked us whether LP2 would be considered to be a foreign affiliate of Canco for the purposes of the definition of "excluded property" in subsection 95(1). In the event that LP2 is not considered a foreign affiliate of Canco for the purposes of that definition, you ask whether capital gains arising on a disposition of shares of Forco held by LP2 would be gains from the disposition of excluded property.
Our Comments
Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling submitted in the manner set out in Information Circular 70-6R5, "Advance Income Tax Rulings", dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. Although we cannot comment on your specific situation, we are prepared to provide the following general comments.
Paragraphs (d) and (e) of the definition of "excluded property" states:
...for the purpose of the definitions "foreign affiliate" in this subsection and "direct equity percentage" in subsection (4) as they apply to this definition, where at any time a foreign affiliate of a taxpayer has an interest in a partnership,
(d) the partnership shall be deemed to be a non-resident corporation having capital stock of a single class divided into 100 issued shares, and
(e) the affiliate shall be deemed to own at that time that proportion of the issued shares of that class that
(i) the fair market value of the affiliate's interest in the partnership at that time
is of
(ii) the fair market value of all interests in the partnership at that time;
The term "foreign affiliate" is defined in subsection 95(1) as follows:
"foreign affiliate", at any time, of a taxpayer resident in Canada means a non-resident corporation in which, at that time,
(a) the taxpayer's equity percentage is not less than 1%, and
(b) the total of the equity percentages in the corporation of the taxpayer and of each person related to the taxpayer (...) is not less than 10%,
Forhold 2 is a foreign affiliate of Canco and a partner of LP1. Consequently, LP1 is deemed to be a non-resident corporation under paragraph (d) of the definition of "excluded property" and paragraph (e) of the definition deems Forhold 2 to own 30% of the shares of that deemed corporation for the purposes of the definitions of "foreign affiliate and "direct equity percentage". Canco therefore has an equity percentage in LP1 of 30%, 1 making LP1 a foreign affiliate of Canco for the purposes of the definition of "excluded property". As LP1 is deemed to be a foreign affiliate of Canco for the purposes of the excluded property definition, LP2 is deemed to be a non-resident corporation under paragraph (d) of the definition; LP1 is deemed to hold 15% of the issued shares of LP2 under paragraph (e).
In determining whether LP2 is a foreign affiliate of Canco, LP1 is considered to have a direct equity percentage of 15% in LP2. Accordingly, Canco has an equity percentage in LP2 that is not less than 1%, thereby fulfilling the requirement in paragraph (a) of the definition of "foreign affiliate". However, it is our view that the requirement in paragraph (b) of the definition of "foreign affiliate" is not met in these circumstances and therefore LP2 cannot be considered a foreign affiliate of Canco. Paragraph (e) of the definition of "excluded property" only deems LP1 to hold shares in LP2. As no other person is deemed to hold shares in LP2 in this fact pattern, it follows that LP1 is the only holder of a direct equity percentage in LP2. As a result, the only means by which the requirement in paragraph (b) of the definition of "foreign affiliate" could be satisfied is if Canco is related to LP1 for the purposes of the definition of "excluded property". In our view, the deeming provisions in paragraphs (d) and (e) of the definition of "excluded property" do not speak to the matter of the de jure control of the "deemed corporation" and therefore do not apply to treat a partnership as a corporation for the purposes of determining if a partnership is related to a corporation. Accordingly, Canco would not be considered to be related to LP1 for the purposes of determining whether LP2 is a foreign affiliate of Canco for the purposes of the definition of "excluded property".
Having concluded that LP2 is not a foreign affiliate of Canco for the purposes of the definition of "excluded property", the shares of Forco held by LP2 are not property of a foreign affiliate of Canco and are therefore not excluded property.
We trust that these comments are of assistance.
Yours truly,
Daryl Boychuk
Manager, International Tax Section I
International and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
ENDNOTES
1 Although Canco holds all of the shares of Cansub, which, in turn, has a partnership interest in LP1, Forhold 2 is the only partner of LP1 that is deemed to hold shares of LP1 under paragraph (e) of the definition of "excluded property". Cansub cannot be considered to have a direct equity percentage in LP1 and therefore Canco's equity percentage in LP1, for the purposes of applying the definition of "excluded property" to the shares of Forco held by LP2, is 30%.
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