17 June 2014 External T.I. 2013-0506731E5 - Immigration

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 90(1) and 90(2) apply to an amount in respect of a dividend declared and payable to a shareholder before her immigration to Canada, but received after the immigration in two hypothetical Scenarios (2) Whether 128.1(1) applies to a dividend receivable (3) Whether a loss on the settlement of the dividend receivable will arise in Scenario 1 (4) Whether the GAAR applies in Scenario 2

Position: (1) "Yes" in Scenario 1 and "No" in Scenario 2 (2) Yes (3) No (4) Can only be decided based on specific facts

Reasons: (1) Scenario 1 - the amount received is a deemed dividend under 90(2); Scenario 2 - dividend is received before the shareholder becomes resident in Canada (2) Dividend receivable is property (3) Proceeds equal to the cost of property (4) Can only be decided based on specific facts

XXXXXXXXXX
2013-050673
Julia Belova

June 17, 2014

Dear XXXXXXXXXX,

Re: Immigration - dividend declared but not received

We are writing in response to your letter dated September 29, 2013 in which you asked us to consider two hypothetical scenarios as described below.

Unless otherwise stated, all references to a statute are to the Income Tax Act (Canada), R.S.C. 1985, c.1 (5th Supp.), as amended to the date of this letter (the "Act") and every reference herein to a section, subsection, paragraph, subparagraph or clause is a reference to the relevant provisions of the Act.

Scenario 1:

An individual shareholder immigrates into Canada on a particular day (the "Immigration Day") and subsequently receives an amount from a wholly-owned non-resident corporation ("NRCo") in satisfaction of a dividend declared and payable to her before the Immigration Day.

Scenario 2:

This scenario is the same as Scenario 1 except NRCo issues and delivers a promissory note (the "Note") to the shareholder in satisfaction of the dividend declared before the Immigration Day and settles the Note after the Immigration Day.

In each scenario, it is assumed that NRCo continues to be a non-resident of Canada; the amount of the dividend is $1,000; the dividend is paid from the earnings and profits of NRCo that accumulated before the Immigration Day; the shares of NRCo are not taxable Canadian property and their fair market value before the declaration of the dividend is $1,000; the shares of NRCo and the Note in Scenario 2 are held by the shareholder on account of capital; all amounts are in US dollars, but for simplicity it is assumed that the Canadian and US dollar are at par at any relevant time. You asked us to consider the following questions:

1. Would funds received by the shareholder after the Immigration Day from NRCo be deemed to be a dividend received pursuant to subsection 90(2) and included in income of the shareholder pursuant to subsection 90(1) in each scenario?
2. In Scenario 1, would subsection 128.1(1) apply to the shareholder's right to receive the dividend?
3. In Scenario 1, if the amount received is included in income under subsection 90(1) and subsection 128.1(1) applies to the dividend receivable would the CRA allow a loss on the settlement of the receivable?
4. Would the GAAR apply in Scenario 2?

Your view is that upon the declaration of the dividend by NRCo a "debtor – creditor" relationship arises between NRCo and the shareholder and as a result, in Scenario 1, the amount paid by NRCo to the shareholder after the Immigration Day should not be considered a dividend, but should rather be considered a payment to discharge the debt claim arising as a result of the declaration of the dividend. Effectively the distribution of NRCo earnings takes place at the time the dividend is declared and the amount received by shareholder in satisfaction of the dividend receivable should not be included in her income after the Immigration. In Scenario 2 you don't believe that subsections 90(1) and 90(2) should apply to the receipt of funds from NRCo because the payment clearly discharges NRCo's obligation under the Note. If subsections 90(1) and 90(2) were to apply in Scenario 1 to include the amount received by shareholder in income, you point out that the tax results would be different in Scenario 1 and 2 despite the "similar legal substance" of the transactions.

Our comments:

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R5, Advance Income Tax Rulings.

Scenario 1:

While it was not expressly stated in your submission, we assume that the individual shareholder is a non-resident of Canada throughout part of the year and a resident of Canada throughout another part of the year. Notwithstanding subsection 2(2) the taxable income for a taxation year of such an individual would be determined pursuant to section 114. For the period in which the individual is a non-resident of Canada the taxable income would only include income earned in Canada as described in subsection 115(1). For the period in which the individual is a resident of Canada, income from all sources (i.e. world-wide income) will be included in the income of the individual. Pursuant to paragraph 12(1)(k) and subsection 90(1), dividends from a non-resident corporation are included in income of a Canadian resident taxpayer when received.

We are of the view that a "mere receivable" arising as a result of the declaration of the dividend should not result in an "amount received" by the shareholder before the Immigration Day such that it would not be included in income of the shareholder after the Immigration Day. Our view is supported by the Federal Court's decision in Banner Pharmacaps (footnote 1). We will consider the amount received by the shareholder from NRCo after Immigration Day, which at that time should be a controlled foreign affiliate of the Canadian resident taxpayer, to be a dividend pursuant to subsection 90(2). We do not accept the view that the amount received by the shareholder after the dividend declaration date in satisfaction of such dividend is no longer a dividend in nature for the purposes of section 90 simply by virtue of the existence of a time lag between the declaration and the payment of such a dividend. Furthermore, subsection 90(2) is a deeming rule that applies notwithstanding the characterization of an amount under common law. Therefore, the amount received by the shareholder when the dividend is actually paid in our view represents "the share's portion of a pro rata distribution …made at that time by the corporation in respect of all the shares of that class" and will be deemed to be a dividend received by the taxpayer resident in Canada.

As a consequence of immigration, pursuant to subsection 128.1(1), the shareholder will be deemed to have disposed of each property it owned immediately prior to the immigration for proceeds equal to its fair market value and re-acquired each property at a cost equal to its proceeds of disposition. Subsection 128.1(1) should apply to a dividend receivable which is declared by NRCo but not paid until after the shareholder becomes resident in Canada, where the ex-dividend date (or if none the date of record) is prior to the time the individual becomes a resident in Canada. As a result, the cost to the shareholder of the dividend receivable should equal to the fair market value of the receivable immediately prior to the immigration.

We acknowledge your observation that, in this scenario, the cost of NRCo shares established by subsection 128.1(1) upon immigration should be nil taking into account the liability arising in respect of a dividend payable, while if the dividend was declared and paid after the immigration the cost base of NRCo shares would have been $1,000. In other words, while the dividend would be included in income of the shareholder in both cases, the immigration between the declaration and the payment of the dividend results in a loss of the cost base in the shares of NRCo. In that regard you ask us whether the CRA would consider the dividend receivable to have been settled for nil consideration such that a capital loss would arise on the settlement of the receivable.

The declaration of the dividend effectively shifts the value from the shares of NRCo to the dividend receivable. When the dividend receivable is settled it will be considered disposed of under subsection 248(1) for proceeds equal to the dividend received. Ignoring foreign exchange, in this hypothetical scenario, no loss should arise on the settlement of the receivable. In addition, a loss on NRCo's shares triggered under subsection 128.1(1) in the pre-immigration period cannot be used in the post-immigration period by operation of section 114 and subsection 111(9).

Scenario 2:

In Scenario 2 we will consider the dividend to have been received by the shareholder before the Immigration Day on the presumption that the Note is issued and delivered to the shareholder in satisfaction of the obligation to pay the dividend to the shareholder. However, as stated in Banner Pharmacaps (footnote 2)

"The legal effect of delivery of a promissory note depends upon all the relevant facts, the most important fact being the intention of the maker of the note as determined by the evidence. For example, in some circumstances a promissory note may be evidence of a debt to be paid at some future time. In other circumstances, delivery of a promissory note may itself be payment of a particular obligation".

Since in Scenario 2, the dividend would be considered received at the time when the shareholder is a non-resident of Canada, section 114 and subsection 90(1) would not apply to include such dividend in income of the shareholder after the Immigration Day. In contrast to the first Scenario, we would not consider the amount received on the repayment of the Note to be a deemed dividend under subsection 90(2) since it would not be "the share's portion of a pro-rata distribution made at that time by the corporation…" because the distribution would have occurred at the time when the Note was issued and delivered to the shareholder in satisfaction of the obligation to pay the dividend.

In our view, there is a fundamental difference between the two Scenarios: in Scenario 1 the dividend remains unpaid until after the Immigration Day, while in Scenario 2, as described above, the dividend should be considered paid before the Immigration Day by virtue of the delivery of the Note to the shareholder in satisfaction of such dividend. This distinguishing factor determines the tax consequences in each Scenario.

It is not uncommon for transactions or a series of transactions with similar economic substance to produce different tax results depending upon the specific steps undertaken, their legal form and respective treatment for tax purposes. Taxpayers are generally not precluded from structuring their affairs in a tax advantageous manner subject to the application of specific anti-avoidance rules and the GAAR. Whether the GAAR applies to a particular transaction or a series of transactions can only be decided with the full knowledge of all the relevant facts. If you are contemplating a transaction similar to the one described in Scenario 2 we are prepared to consider the application of the GAAR in the context of a ruling request.

We trust these comments to be of assistance.

Yours truly,

Olli Laurikainen, CPA, CA
For Director
International Division
Income Tax Rulings Directorate

FOOTNOTES

Note to reader: Because of our system requirements, the footnotes contained in the original document are shown below instead:

1 Banner Pharmacaps NRO Ltd. v. The Queen, 2003 DTC 5642 (FCA). Although in Banner Pharmacaps this conclusion was reached in the context of dividends received from a Canadian resident corporation, there is no basis for a different finding in respect of dividends received from a non-resident corporation.
2 Ibid.