11 June 1990 Administrative Letter 58516 F - Residual Interest in Partnership

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.

June 11, 1990

Dear Sirs:

Re:   Application of Section 98.1 and Subsection 96(1.1) of the Income Tax Act (the "Act") to a departing partner

This is in reply to your letter of August 11, 1989, concerning the application of the above noted provisions to a departing partner.  We regret the delay in replying.  You describe the following hypothetical situation:

1.     Partnership X has a fiscal year end ending January 31, 1989.

2.     Mr. A, a partner, leaves the partnership on July 1, 1989.

3.     The partnership determines Mr. A's share of the profits to July 1, 1989, after the financial results for January 31, 1990 are calculated, in March, 1990, and

4.     The partnership agreement provides that the partnership will not be terminated on the departure of a partner.

You question whether the income included by Mr. A at January 31, 1990, is considered "earned income" for the purposes of a Registered Retirement Savings Plan (RRSP) contribution.  If so, you also ask whether Mr. A could make a contribution to an RRSP for 1990 while being a non-resident.

If Mr. A leaves Canada in November of 1989 it is your understanding that there would be a deemed disposition of his residual interest unless it is taxable Canadian property.  In your view, Mr. A is not a partner from July 1989 to December 1989 and is not considered to be carrying on business in Canada in 1989 but rather in 1990 and section 115 of the Act could be applied to tax the income allocated to him under subparagraph 115(1)(a)(ii) of the Act.  You seek our views.

Our Comments

In answer to your first question, it is our opinion that a partner must be actively engaged in the partnership business in order for his share of the profits (or losses) therefrom to qualify as earned income for purposes of subparagraph 146(1)(c)(ii) or 146(1)(c)(v) of the Act.  Thus the portion of the allocated income that can be considered to be from the partnership business during the period from February 1, 1989, to July 1, 1989, would be considered "earned income" for the purposes of a RRSP contribution, if Mr. A was actively engaged in the business during that period.  Any allocation of income for any period subsequent to that period would, in our view, not qualify as Mr. A would no longer be actively engaged in the business.  The income from the partnership for the period from February 1, 1989 to July 1, 1989, would be brought into Mr. A's income for his 1990 taxation year. There is no requirement that Mr. A be resident in Canada in order to contribute to an RRSP.

Implications if partner becomes a non-resident

Our general position with respect to a partner ceasing to be a member of a partnership in circumstances where all his rights to partnership  property are not satisfied, is discussed in Interpretation Bulletin IT-242.  In our opinion.  Mr. A has a residual interest in respect of his partnership interest pursuant to section 98.1 of the Act.  If  Mr. A leaves Canada in November of 1989, there would be a deemed disposition of his residual interest unless it is taxable Canadian property.  If it is taxable Canadian property as described in subparagraph 115(1)(b)(v) of the Act or if Mr A elects to treat the property as taxable Canadian property pursuant to paragraph 48(1)(c) of the Act, the disposition is delayed until the interest is satisfied.  Whether the residual interest in a Canadian partnership qualifies as taxable Canadian property as described in subparagraph 115(1)(b)(v) of the Act will be a question of fact.

Where the partners of a partnership, whose principal activity is carrying on business in Canada, have agreed to allocate a share of the income or loss of the partnership to the departing partner in a period subsequent to the departure, that income or loss is included in his income for his taxation year in which the particular fiscal period of the partnership for which the allocation was made ends (pursuant to the provisions of subsection 96(1.1) of the Act).  However, subsection 96(1.1) of the Act does not appear to apply to the facts of your hypothetical situation.  Mr A appears to be entitled to a share of the profits only to July 1, 1989 by reason of his membership in the partnership until that time.  Accordingly, subsection 96(1) would apply to bring the appropriate amount into Mr. A's income.

Subsection 2(3) of the Act deals with 811 persons who were not residents in Canada at any time in the year, and provides that their taxable income shall be determined in accordance with Division D (sections 115 and 116 of the Act).  A middle ground is recognized in section 114 which is applicable to a person who was resident in Canada throughout part of a year and who for some other part of the year was not resident in Canada.  Paragraph 114(b) of the Act requires that taxable income earned in Canada for the period or periods in the year during which the taxpayer was not resident in Canada be computed as though that period or those periods were the whole taxation year.  Consequently, we do not agree with your analysis of the interaction between subsection 2(3) and section 114 and 115 of the Act.  We refer you to IT-81R, paragraphs 1 to 3, for a discussion of the interaction between subsection 96(1) and 115(l) of the Act.

We agree that if the residual interest has a negative adjusted cost base at January 31,1990, after the allocations, this will be considered a capital gain.

We trust our comments are of assistance.

Yours truly,

for DirectorBusiness and General Division  Specialty Rulings DirectorateLegislative and Intergovernmental Affairs Branch