22 October 2012 External T.I. 2012-0455921E5 - Free Rent in Lieu of Receiving Interest Income

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 should the amount of interest income that a Vendor includes in income be determined when a second mortgage on the sold property is registered in favour of the Vendor and the Vendor has use and possession for a property rent-free in lieu of the payment of interest on a mortgage.

Position: The value of the rent foregone granted by the Purchaser in exchange for the interest-free loan from the Vendor is subject to taxation in the hands of the Purchaser and the Vendor.

Reasons: The receipt of a free rental accommodation in exchange for an interest-free loan is a barter transaction.

XXXXXXXXXX
2012-045592
Andrea Boyle, CGA
October 22, 2012

Dear XXXXXXXXXX:

Re: Income Inclusion

This is in reply to your letter of July 12, 2012, in which you requested our assistance. In general terms, the situation described is as follows:

An individual (the “Vendor”) sold real property to a Purchaser and a second mortgage on the property was registered in favour of the Vendor. For a period of time, the Vendor had use and possession of one or both of the residences on the property rent-free in lieu of the payment of interest on the second mortgage by the Purchaser. You have asked how to determine the amount of interest income, if any, that the Vendor should include in income.

Written confirmations of the tax implications inherent in particular transactions are provided by this Directorate 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 Ruling”, dated May 17, 2002. This Information Circular and other Canada Revenue Agency (“CRA”) publications can be accessed on the internet at http://www.cra-arc.gc.ca/formspubs/menu-e.html. Where a particular transaction has already been completed, a review of the relevant facts and circumstances surrounding the situation would be required. Such review would normally be conducted by the applicable Tax Services Office during the course of an income tax audit which, if undertaken, would be carried out after the particular taxpayer has prepared and filed its income tax return for the year. Although we cannot provide specific comments on your fact situation, we are prepared to provide the following general comments which may be of assistance.

Without access to the complete facts and circumstances surrounding the described transaction it is very difficult to provide any specific direction to you. You have not, for instance, indicated the specific nature of the real property transferred and whether the parties involved in the transaction were dealing at arms-length with each other.

Generally, in the situation which you have described, after the transfer of the ownership of the property, the Purchaser would now be a “Landlord” and the Vendor would now be a “Tenant”.

In our view the receipt of a free rental accommodation in exchange for an interest free loan is a barter transaction. As indicated in paragraph 4 of Interpretation Bulletin IT-490 Barter Transactions (available on our website at: http://www.cra-arc.gc.ca/E/pub/tp/it490/it490-e.html), barter transactions can result in income as contemplated by sections 3 and 9 of the Act.

In arm's length transactions, where an amount must be brought into income, that amount is the price which the taxpayer would normally have charged an arm’s-length person for his services or would normally have sold his goods or property to an arm’s-length person. Thus, the value of the rent foregone granted by a Landlord in exchange for an interest-free loan from a Tenant is generally subject to taxation in the hands of the Landlord and the Tenant.

We trust that these comments will be of assistance.

Yours truly,

Doug Watson
for Director
Corporate Financing Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch