6 December 2011 TEI Roundtable Q. 5, 2011-0427001C6 - 2011 TEI Q#5 - Distributions from Foreign Corp.

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: How to characterize a distribution from a foreign corporation for Canadian tax purposes

Position: The same two-step approach as set out in ITTN #38 will be used

Reasons: Recent case law

2011 CRA-TEI Liaison Meeting
December 6, 2011

Question 5 - Distributions from Foreign Corporations

At the May 2011 IFA roundtable CRA was also asked whether Technical Interpretation 2004-0060131I7 (October 21, 2004) continues to apply to distributions of share premium of a foreign affiliate. CRA confirmed its position in the interpretation and added that subsection 15(1) also applies to distributions. Under what circumstances will CRA apply subsection 15(1) to distributions of share premium? Assuming the August 19, 2011, foreign affiliate legislative provisions are enacted, would CRA still apply subsection 15(1) to distributions covered by the return of capital provisions?

CRA Response

In our view, the proper approach for determining the character of a distribution from a foreign corporation to a shareholder for Canadian tax purposes is the same two-step approach that is used for the classification of foreign entities for Canadian tax purposes as set out in ITTN #38. That is, the first step is to determine the characteristics of the distribution under foreign corporate law (not tax law), and then compare these characteristics with those of recognized categories of distributions under Canadian common law and corporate law in order to classify the distribution under one of those categories. This view is a slight change from the view that was expressed in document 2004-0060131I7 where we said that where the foreign corporate law specifies the character of a distribution, that characterization will generally be determinative for purposes of the Act.

However, the nature of a distribution under the foreign corporate law may contain nuances that do not exist in Canadian law. Therefore, as a practical matter, the CRA will adopt the following general guidelines:

• Where the distribution is a dividend or a return of legal capital under the foreign corporate law, that characterization will generally not be challenged by the CRA.
• Where the distribution is not a dividend or a return of legal capital under foreign corporate law, the distribution will be considered to be a dividend for purposes of the Act if it meets the basic common law requirements to be a dividend, such as being a pro rata distribution among shareholders of a particular class or series of shares.
• If the August 19, 2011 amendments are enacted as proposed, a pro-rata distribution after August 19, 2011 made by a foreign affiliate as described in new subsection 90(2) will be deemed to be a dividend. Taxpayers may also choose to apply a slightly modified version of new subsection 90(2) to a pro-rata distribution made by a foreign affiliate after February 27, 2004 and before August 20, 2011.
• Subsection 15(1) may apply if the distribution is not otherwise described above and is not one of the exceptions described in subsection 15(1).

Sherry Thomson
2011-042700