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 the active business income earned by a professional corporation carrying out services for a partnership of which the professional corporation's director and shareholder is a member, would qualify for the small business deduction, and not be restricted under the rules for specified partnership income and personal services business.
Position: No, provided that the facts are accurate and the proposed transactions are carried out as described.
Reasons: The facts and proposed transactions, as described, conform to our requirements as set out in similar rulings.
XXXXXXXXXX 2008-030093
July 6, 2009
Dear XXXXXXXXXX :
Re: Advance Income Tax Ruling
XXXXXXXXXX (the "Partnership")
XXXXXXXXXX ("Partner1" and "Partner2" respectively but collectively the "Electing Partners")
We are writing in response to your letter received XXXXXXXXXX , in which you requested an advance income tax ruling on behalf of the Partnership and the Electing Partners. We also acknowledge the information provided in various emails and telephone conversations (XXXXXXXXXX ).
To the best of your knowledge and that of the Partnership and the Electing Partners (collectively the "Taxpayers"), none of the issues involved in the ruling request is:
i. in an earlier return of one of the Taxpayers or a related person;
ii. being considered by a tax services office or a tax centre in connection with a tax return already filed by one of the Taxpayers or a related person;
iii. under objection by one of the Taxpayers or a related person;
iv. before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; and
v. the subject of a ruling previously issued by the Directorate to one of the Taxpayers or a related person.
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 definitions unless otherwise indicated.
Our understanding of the facts, the proposed transactions and the purpose of the proposed transactions is as follows:
Definitions
The following definitions have been used in this letter:
(a) "CCPC" means a "Canadian-controlled private corporation" as defined under subsection 125(7) of the Act;
(b) "Contract" refers to the sub-contracting agreement which will be used to set out the terms and conditions by which a ProCorp will provide Professional Services to the Partnership;
(c) "Corporation1" refers to the corporation through which Partner1 currently carries on his professional practice;
(d) "Corporation2" refers to the corporation through which Partner2 currently carries on his professional practice;
(e) "CRA" is the Canada Revenue Agency;
(f) "Electing Partner" refers to a Partner who elects to provide his or her Professional Services through a ProCorp;
(g) "Fees" refers to the fees to be charged by a ProCorp to the Partnership pursuant to the Contract;
(h) "Income" refers to the Partnership's income or loss for a particular Taxation Year as computed under subsection 96(1) of the Act;
(i) "Non-Electing Partner" refers to a Partner who does not elect to provide Professional Services using a ProCorp;
(j) "Non-Professional Services" means the administrative and managerial activities carried on by the Partners including business development, maintaining client relationships, promoting and contributing to the growth of the Practice, enhancing the profile of the Partnership, educating and managing staff, XXXXXXXXXX and generally conducting management functions.
(k) "Partner" refers to a partner of the Partnership;
(l) "Partnership Agreement" refers to the partnership agreement by which the Partnership will be governed;
(m) "Practice" means the XXXXXXXXXX practice to be carried on by the Partnership and encompasses both Professional Services and Non-Professional Services;
(n) "ProCorp" means each of the corporations to be formed by an Electing Partner and through which an Electing Partner will provide Professional Services to the Partnership as an employee of that corporation;
(o) "Professional Services" means XXXXXXXXXX services;
(p) "Province" means the Province of XXXXXXXXXX ;
(q) "Related Persons" has the meaning assigned by subsection 251(2) of the Act;
(r) XXXXXXXXXX ;
(s) "TCC" refers to a "taxable Canadian corporation" as defined under subsection 89(1) of the Act; and
(t) "Taxation Year" means the Partnership's taxation year for income tax purposes which is defined in paragraph 96(1)(b) of the Act as the Partnership's fiscal period.
Facts
1. Partner1 currently operates a XXXXXXXXXX practice through Corporation1 (XXXXXXXXXX ). The address of Corporation1 is XXXXXXXXXX .
2. Partner1 is the sole shareholder, director and officer of Corporation1.
3. Partner1 resides at XXXXXXXXXX .
4. Partner2 operates a XXXXXXXXXX practice through Corporation2 (XXXXXXXXXX ). The address of Corporation2 is XXXXXXXXXX .
5. Partner2 resides at XXXXXXXXXX .
6. Partner2 is the sole shareholder, director and officer of Corporation2.
7. Corporation1 and Corporation2 and the Partners file their tax returns with the XXXXXXXXXX Tax Centre and deal with the XXXXXXXXXX Tax Services Office.
Proposed Transactions
8. The Partnership will be created as a limited liability partnership under the Partnership Act of the Province and will carry on the Practice with Partner1 and Partner2 as the Partners.
9. Corporation 1 and Corporation 2 will dispose of all of their particular property, including goodwill and work-in-progress, to the Partnership at fair market value. No rulings have been requested with respect to these dispositions or with respect to the transactions described in the preceding paragraph.
10. The Partnership's Taxation Year will end on XXXXXXXXXX .
11. The Partnership will be governed by the terms of the Partnership Agreement, the key terms of which are as follows:
(a) Each Partner will be entitled to one vote per Partner, but both Partners must agree on all questions that come before a meeting of Partners.
(b) In order to provide funds for the financing of the Partnership, each Partner will be required to contribute the same amount of capital; however, if one Partner advances funds in excess of another Partner, reasonable interest is to be paid in respect of the amount of that excess capital.
(c) Income will be allocated and distributed to Partners equally.
(d) Partners can only be individuals.
(e) In the event a Partner dies, retires or otherwise ceases to be a Partner in the Partnership, that Partner (or the legal representative of that Partner) will be entitled to his or her share of profits for the year in which the Partner ceases to be a Partner plus any additional amounts as stipulated by the Partnership Agreement.
(f) The Partners will be responsible for, and must approve by way of a majority that includes the two original partners, namely Partner1 and Partner2, certain actions, including:
(i) admission of new Partners;
(ii) removal or expelling of Partners;
(iii) mergers, acquisitions and strategically significant associations;
(iv) the principles of income distribution to the Partners;
(v) minimum income amounts to the Partners;
(vi) changes in the financing structure of the Partnership; and
(vii) any amendment to the Partnership Agreement.
(g) Professional Services and Non-Professional Services will be differentiated.
(h) A Partner may elect to provide his or her Professional Services through a ProCorp controlled by him or her, and where a Partner so elects, he or she will no longer be permitted to provide any Professional Services to the Partnership in his or her capacity as a Partner. A Partner must provide a written notice setting out his or her intention to provide Professional Services through a ProCorp.
(i) A provision will be added to prohibit the transfer, conveyance or issuance of an interest in the Partnership to a ProCorp.
(j) A provision will be added to prohibit the carrying out of Non-Professional Services by the ProCorps. All Partners will continue in their capacity as Partners to carry out the Non-Professional Services for the Partnership.
(k) The formula for the allocation of Income for a Taxation Year will provide that an Electing Partner's allocation of Income for a Taxation Year will be dependent solely on factors connected to the Non-Professional Services carried out by the Electing Partner on behalf of the Partnership. For greater certainty, the Partnership Agreement will make it clear that the calculation of an Electing Partner's Income for a Taxation Year will not take into account any Professional Services provided by the Electing Partner's ProCorp, nor will it take into account any time spent by the Electing Partner performing Professional Services in his or her capacity as an employee of his or her ProCorp.
(l) All Non-Electing Partners must provide their Professional Services directly to the Partnership. Further, the Partnership Agreement will clarify that a Non-Electing Partner's allocation of Income for a particular year will be based on the Non-Electing Partner's capital contribution and factors connected to the Professional Services and Non-Professional Services carried out by the Non-Electing Partner on behalf of the Partnership.
(m) As long as a ProCorp fully discharges its responsibilities under the Contract, the ProCorp will not be restricted from providing Professional Services to other persons or otherwise prohibited from competing with the Partnership. Further, the Agreement will provide that Electing Partners are not restricted from competing with the Partnership with respect to Professional Services. For greater certainty, there will not be any terms in the Partnership Agreement, or any other agreement (oral or otherwise), that would prohibit ProCorps or the Electing Partners from competing with the Partnership in respect of the provision of Professional Services.
12. Each ProCorp will be required to comply with the following requirements:
(a) It will be incorporated pursuant to the laws of the Province.
(b) It will qualify as a TCC and a CCPC.
(c) It will be controlled by an Electing Partner, who will be the legal and beneficial owner of all of the shares of the particular ProCorp, whether voting or non-voting shares. All shareholders legally or beneficially owning voting and non-voting shares of the ProCorp will be residents of Canada.
(d) An Electing Partner will be the sole director of his or her ProCorp. He or she will also be an employee of ProCorp as evidenced by a written employment agreement and will be paid a salary for his or her service.
(e) An Electing Partner cannot be an employee, officer, director or shareholder, legal or beneficial, of more than one ProCorp.
(f) No two ProCorps will be Related Persons.
13. Upon receipt of a written notice from an Electing Partner, the Partnership will enter into a written Contract with the particular Electing Partner's ProCorp containing the following terms:
(a) The initial term of the Contract will terminate at the end of the first fiscal period of the Partnership occurring after the effective date of the Contract. Thereafter, the Contract will be automatically and continuously renewed for one year terms, subject to termination by either party by way of a notice of not less than XXXXXXXXXX days to the other party.
(b) ProCorp will provide Professional Services on behalf of the Partnership in return for Fees. The amount of the Fees will be based on the fair market value of the services provided by a ProCorp, and may take into account difficulty and the experience and areas of specialty of the particular Electing Partner but in no circumstances will it take into account the success in the XXXXXXXXXX . The ProCorps will invoice the Partnership for such Fees.
(c) All payments received by the Partnership from third parties in respect of Professional Services provided by the ProCorp under the Contract will be for the benefit of the Partnership and if a ProCorp receives any such amounts, they will be remitted to the Partnership.
(d) Provided that a ProCorp fully discharges its responsibilities under the Contract, the ProCorp will not be restricted from providing Professional Services to other persons or otherwise be prohibited from competing with the Partnership.
14. Each ProCorp will be responsible for the following expenses:
(a) professional membership fees and insurance in respect of the Electing Partner;
(b) transportation expenses;
(c) communication expenses;
(d) expenses related to maintaining the professional standards set by XXXXXXXXXX the Partnership (to the extent required under the Contract);
(e) expenditures relating to personal practice preference of the particular ProCorp;
(f) entertainment expenses connected to the business of ProCorp; and
(g) travel expenses, including car, accommodation and meal expenses.
15 Each ProCorp will reimburse the Partnership at fair market value for the following services as provided to it by the Partnership:
(a) office space;
(b) secretarial and administrative support; and
(c) office equipment and supplies.
16. The ProCorp's relationship to the Partnership is that of an independent contractor and nothing in the Contract should be construed as:
(a) allowing either party the authority to assume or create any obligation whatsoever, express or implied, in the name of the other nor to bind the other in any manner whatsoever,
(b) giving either party the power to direct and control the day-to-day activities of the other party or any of their respective employees or agents, or
(c) constituting the parties as partners, joint venturers, co-owners or otherwise participants in a joint or common undertaking.
17. Within six months of this Ruling and following the creation of the Partnership, the Electing Partners will establish ProCorps and will elect under the Partnership Agreement to provide Professional Services through such corporations. Immediately thereafter, each Electing Partner's ProCorp will enter into a Contract with the Partnership for the purpose of providing such services.
Purpose of the Proposed Transactions
The primary purpose of the proposed transactions is to allow the Electing Partners to earn professional income as independent contractors with minimal disruption to the business arrangements of the Partnership. This enhances the Partnership's ability to retain and recruit professionals since it provides these professionals with a number of advantages, including the following:
(i) It provides the Electing Partners with an increased level of control over their participation in the Practice through individual management of personal practice preferences.
(ii) It permits the Electing Partners to have more control over expenditures where such expenditures may not be in the interest of all Partners.
(iii) It permits the Electing Partners to have more control over their estate and financial planning.
Rulings Provided
Provided that
(a) the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purposes of the proposed transactions,
(b) the proposed transactions are completed in the manner described above, and
(c) there are no other transactions which may be relevant to the rulings requested,
we rule as follows:
A. Provided that an Electing Partner would not, if his ProCorp did not exist, reasonably be regarded as an officer or employee of the Partnership in respect of the provision of Professional Services, the Electing Partner's ProCorp will not be considered to be carrying on a personal services business as defined in subsection 125(7) of the Act.
B. Provided that an Electing Partner's ProCorp was not a member of any partnership in the relevant year in respect of the provision of Professional Services to the Partnership, the Fees earned by the particular ProCorp will not be specified partnership income as defined in subsection 125(7) of the Act.
C. Subject to sections 18 and 67 of the Act, the Fees payable by the Partnership to a ProCorp will be deductible by the Partnership in the determination of Income pursuant to subsection 96(1) of the Act.
D. The undertaking of the proposed transactions in paragraphs 10 to 17, and in particular the payment of the Fees, will not in and of themselves cause subsections 56(2), 56(4) or 246(1) of the Act to apply so as to cause an amount received by an Electing Partner's ProCorp under the Contract to be taxed as income in the hands of the particular Electing Partner.
E. Implementation of the proposed transactions as described above will not, in and by themselves, result in the application of the provisions of subsection 245(2) of the Act to re-determine the tax consequences confirmed in the rulings given above.
F. The execution and implementation of the proposed transactions described above, will not, in and of themselves, create a non-arm's length relationship between the Electing Partners with respect to sharing Income for income tax purposes.
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 that the proposed transactions are implemented 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.
Nothing in this letter should be construed as implying that the CRA has agreed to or accepted any of the tax consequences relating to the facts and proposed transactions described above except as expressly stated in the rulings. Without restricting the generality of the preceding statement, it should be noted that nothing in this letter should be interpreted as confirming, either expressly or implicitly, that the CRA has agreed to or accepted the income tax consequences, if any, related to the formation of the Partnership and whether it is a partnership at law, the disposition of assets of Corporation1 and Corporation2 to the Partnership, and whether amounts are reasonable and reflect fair market value.
Whether or not a particular Electing Partner would, if his ProCorp did not exist, be an employee of the Partnership or an independent contractor who has entered into a contract of services with the Partnership is a question of fact that can only be determined after a review of the actual agreements entered into between the ProCorp and the Partnership and between the ProCorp and the Electing Partner. This review and determination is the responsibility of the Electing Partner's local tax services office.
The attribution rules in sections 74.1 to 74.4 of the Act apply in situations where property is transferred or lent, directly or indirectly, to a spouse or child. These rules may apply to any income received by a spouse or a child who has not attained the age of 18 years before the end of a particular taxation year. Whether or not these rules will apply in respect of the possible ownership of any shares of an Electing Partner's ProCorp is a question of fact that can only be determined at the time that the shares are issued or property is lent or transferred to such a shareholder. Furthermore, subsection 56(2) of the Act may apply to any amounts paid by such ProCorp to a family member of the Electing Partner. Also, section 120.4 of the Act may apply with respect to taxable dividends or trust income in respect of taxable dividends from a ProCorp received in a taxation year by a family member of the Electing Partner who has not attained the age of 17 years before that year.
In accordance with paragraph 22 of Information Circular 70-6R5, the comments in the immediately preceding paragraph 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 CRA.
Yours truly,
XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
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