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 Articles IV(6) and X(6) of the Treaty apply to provide treaty benefits on Canadian branch income derived by a U.S. resident corporation through multiple fiscally transparent limited liability companies.
Position: Generally yes.
Reasons: The conditions of Article IV(6) are met, including the condition that the treatment of the Canadian branch income for U.S. income tax purposes is the same as its treatment would have been had the U.S. resident corporation derived the income directly.
April 4, 2019
Income Tax Rulings
XXXXXXXXXX TSO Directorate
Cindy Xiao Xian Yan
Application of Articles IV(6) and X(6) of the Canada-US Treaty
This is in reply to your email of November 29, 2017 regarding the application of paragraph 6 of Article IV (“Article IV(6)”) and paragraph 6 of Article X (“Article X(6)”) of the Convention between Canada and the United States of America with Respect to Taxes on Income and on Capital Signed on September 26, 1980, as amended by the Protocols signed on June 14, 1983, March 28, 1984, March 17, 1995, July 29, 1997 and September 21, 2007 (the “Treaty”) to an amount of income, profit, or gain that is derived by a U.S. resident corporation through multiple fiscally transparent U.S. limited liability companies. We apologize for the delay in our response.
Unless otherwise stated, every statutory reference herein is a reference to the relevant Article or provision of the Treaty and all terms used herein that are defined in the Treaty have the meaning given in such definition unless otherwise indicated.
The hypothetical facts are as follows:
1. USCo1 owns 58% of LLC1. USCo1 is a non-resident corporation under the Income Tax Act, R.S.C. 1985 (5th Supp.), c.1, as amended, (the “Act”) and is resident in the United States (U.S.) for purposes of the Treaty.
2. USCo2 owns 42% of LLC1. USCo2 is a non-resident corporation under the Act and is resident in the U.S. for purposes of the Treaty.
3. Both USCo1 and USCo2 are “qualifying persons” within the meaning of Article XXIX-A.
4. LLC1 is a U.S. limited liability company which is treated either as a corporation (Scenario 1) or as a partnership (Scenario 2) for U.S. income tax purposes. LLC1 is a non-resident corporation for purposes of the Act. In Scenario 1, LLC1 is a U.S. tax resident corporation for purposes of the Treaty and a “qualifying person” within the meaning of Article XXIX-A.
5. LLC1 owns 100% of LLC2, a U.S. limited liability company that is a non-resident corporation under the Act and a disregarded entity for U.S. income tax purposes.
6. LLC2 owns 100% of LLC3, a U.S. limited liability company that is a non-resident corporation under the Act and a disregarded entity for U.S. income tax purposes.
7. LLC3 operates a branch in Canada (“Canadian Branch”) and earns business income in Canadian Branch. Canadian Branch is a permanent establishment of LLC3 in Canada pursuant to Article V.
8. In Scenario 1, LLC1 would be the U.S. resident entity that derives business income from Canadian Branch for U.S. income tax purposes.
9. In Scenario 2, USCo1 and USCo2 would be the U.S. resident entities that derive business income from Canadian Branch for U.S. income tax purposes.
10. LLC3 computes tax on its Canadian branch profits not reinvested in Canada (“Canadian Branch earnings”) in accordance with the provisions in section 219 of the Act, subject to potential treaty relief pursuant to Article X(6).
You have asked:
1. In Scenario 1 where LLC1 is a corporation for U.S. income tax purposes, would Articles IV(6) and X(6) apply to provide treaty benefits to LLC3 on the Canadian Branch earnings that LLC1 derives through multiple fiscally transparent LLCs?
2. In Scenario 2 where LLC1 is a partnership, would Articles IV(6) and X(6) apply to provide treaty benefits to LLC3 on the Canada Branch earnings that USCo1 and USCo2 derive through multiple fiscally transparent LLCs?
As a non-resident corporation carrying on business in Canada through its Canadian Branch, LLC3 would be subject to tax on its Canadian Branch earnings computed at 25% in accordance with the rules in section 219 of the Act, subject to any treaty relief under Article X(6) of the Treaty. However, as we have previously stated that a U.S. limited liability company that is treated as fiscally transparent for U.S. income tax purposes is not a resident of the U.S. for purposes of the Treaty, you have asked whether the Canadian Branch earnings of LLC3 that are earned for U.S. income tax purposes by LLC1 in Scenario 1 and by USCo1 and USCo2 in Scenario 2 would be entitled to the Article X(6) treaty benefits, including the reduced 5% branch tax rate.
We have previously stated (e.g., in 2009-0339951E5) that we will recognize treaty benefits under Article X(6) that are claimed by a fiscally transparent entity (such as LLC3) with respect to an amount of income or profit attributable to its Canadian permanent establishment only if the amount is considered to be derived, pursuant to Article IV(6), by a U.S. resident corporation that is a “qualifying person” under paragraph 2 of Article XXIX-A or is entitled, with respect to the amount, to the benefits of the Treaty pursuant to paragraph 3 or 6 of Article XXIX-A.
Pursuant to Article IV(6), an amount of income, profit or gain shall be considered to be derived by a person resident in the U.S. if, under U.S. income tax laws, the person is considered to derive the amount through a fiscally transparent entity that is not a resident of Canada, and that, by reason of the entity being fiscally transparent under U.S. laws, the U.S. income tax treatment of the amount is the same as the U.S. income tax treatment would be had the person derived the amount directly (the “same tax treatment” condition). We have previously stated (e.g., in 2009-0318491I7) that in performing a comparative analysis to determine if an item of income receives the same tax treatment, the timing of income recognition as well as the character and quantum of the income amount for tax purposes would be relevant factors.
As noted above, in order for Article IV(6) to apply, there needs to be a U.S. resident person and an entity that is fiscally transparent through which the U.S. resident person derives an amount of income, and the other conditions of Article IV(6) need to be met. In our view, the fact that there may be more than one fiscally transparent entity in the corporate chain does not alter the fact that the condition of there being an entity that is fiscally transparent and through which a U.S. resident person derives income is already met. Consequently, in our view multiple fiscally transparent entities in a corporate structure should not change a determination that Article IV(6) applies, provided all of the fiscally transparent entities are not residents of Canada and do not alter the tax treatment of the Canadian branch profits in the U.S. in such a manner that the same tax treatment condition would no longer be met.
We understand that for U.S. income tax purposes, the Canadian Branch profits of LLC3 are considered to be derived by the first entity in the corporate chain which is not treated as a fiscally transparent entity for U.S. income tax purposes. In Scenario 1, this entity would be LLC1 and in Scenario 2, it would be USCo1 and USCo2. Based on our understanding that the timing of income recognition, character and quantum of the income amount for U.S. income tax purposes in Scenario 1 and Scenario 2 would be the same as it would be if LLC1 (in Scenario 1) and USCo1 and USCo2 (in Scenario 2) had derived those profits directly, the same tax treatment condition would be met.
Therefore, as LLC1 (in Scenario 1) and USCo1 and USCo2 (in Scenario 2) are deriving income through LLC3, an entity that is fiscally transparent, and the same tax treatment condition is met Article IV(6) would apply. Further, as LLC1 (in Scenario 1) and USCo1 and USCo2 (in Scenario 2) are qualifying persons pursuant to Article XXIX-A, it is our view that Article X(6) would apply to grant treaty benefits to LLC3 in respect of the Canadian Branch earnings.
Unless exempted, a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency’s electronic library. After a 90-day waiting period, a severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. You may request an extension of this 90-day period. The severing process removes all content that is not subject to disclosure, including information that could reveal the identity of the taxpayer. The taxpayer may ask for a version that has been severed using the Privacy Act criteria, which does not remove taxpayer identity. You can request this by e-mailing us at: ITRACCESSG@cra-arc.gc.ca. A copy will be sent to you for delivery to the taxpayer.
Ann Kippen, CPA, CA
For Division Director
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2019
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2019