30 March 1988 Income Tax Severed Letter 5-5337 - [Tax on Royalties in Respect of Home Videos]

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.

K.B. Harding (613) 957-2129

Attention XXXX

March 30, 1988

Dear Sirs:

Re: Tax on Royalties in Respect of Home Videos

This is in reply to your letter of January 4, 1988 concerning the taxability of royalties in the following hypothetical situation.

1. Company X, a Canadian home movie videotape distributor purchases the master copy of a particular video from Company Y, a U.S. company which owns the rights to the videos.

2. Company X then engages Company Z, a Canadian company to manufacture and reproduce the tapes for distribution to the retail level.

3. Company X then sells the videos to Canadian retail rental stores who rent out the movies to individuals for home television use.

4. Company X is required to pay a fair market value royalty to Company Y based on the amount of sales made by Company X to Canadian retailers.

5. Companies X, Y, and Z are related companies.

It is our view that subsection 212(5) of the Income Tax Act is applicable to the royalty paid by Company X to Company Y notwithstanding that subparagraphs 212(1)(d)(i) and (vi) may also be applicable since the former subsection is more specific. Furthermore, it is our view that the term "in connection with television" is very broad and would encompass both videotapes used for private (home) use as well as videotapes used in television broadcasting.

It should be noted that the Federal Budget of February 10, 1988 proposes to amend subsection 212(5) of the Act to add the words "or other means of reproduction" in paragraph 212(5)(b) between the words "videotape" and "for use in connection with television". This should not affect the hypothetical situation referred to above unless another mode of reproduction is used.

We are of the view that provided the payment is made to a resident of the U.S. who is the beneficial owner of the royalty payment for the right to reproduce videotapes which are used for private home use, then such payments will be exempt from Part XIII tax by virtue of paragraph 3 of Article XII of the Canada-U.S. Income Tax Convention (Convention). It is our view that the amounts are exempt from tax under subsection 212(5) by virtue of the technical explanation to the Convention, to which the Canadian negotiators have agreed. The intention of the technical explanation would appear to indicate that the Department of Finance officials are primarily concerned with television broadcasting and were prepared to give up the right to tax royalties paid in connection with the rental of videotapes used for private viewing. We would also point out that the Second Protocol of the Canada-United Kingdom Income Tax Convention amended paragraph 4 of Article XII by adding the word "broadcasting" after the phrase "for use in connection with television". Presumably, the negotiators intended to limit the scope of subsection 212(5) to put it in line with the Canada-U.S. Income Tax Convention.

We trust these comments are adequate for your purposes.

Yours truly,

for Director Reorganizations and Non-Resident Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch