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.
Dear Sirs:
Re: At-Risk Rules
We are writing in reply to your letter of June 18, 1991, wherein you requested our comments regarding the application of the "at-risk rules" in subsections 96(2.2) and 96(2.4) of the Income Tax Act (the "Act") to the hypothetical situations described below.
FACTS
Our understanding of the facts given to illustrate the issues is as follows:
Situation A
In order to purchase a partnership unit valued at $100, a partner invests $25 of his own funds and in an arm's length transaction borrows the remaining $75 from a Canadian chartered bank under terms which limit the bank's remedies, in the event of default, to the partnership unit so acquired.
Situation B
A partner acquires a unit in a partnership at fair market value of $25 and the partnership subsequently borrows an additional $75 in order to acquire an asset to be used by the partnership. The partnership's borrowings are made in an arm's length transaction from a Canadian chartered bank under terms and conditions which limit the bank's remedies, in the event of default, to the partnership's assets acquired with the proceeds of the capital contribution of the partner and the bank borrowings.
YOUR OPINION
Situation A
Assuming that the partner is a "limited partner" as defined in subsection 96(2.4) of the Act and the partner's at-risk amount otherwise determined under paragraphs 96(2.2)(a) to (c) of the Act is $100, it is your view that paragraph 96(2.2)(d) of the Act will not reduce the at-risk amount of the limited partner as a result of the non-recourse borrowings. In addition, the word "benefit" in that paragraph can not be interpreted to encompass the results achieved by parties in arm's length negotiations nor could a benefit result in the absence of a specific provision, such as subsection 15(1) of the Act, which clearly defines the relationship necessary for such a result to arise. Had the legislators intended that the word benefit be interpreted to reduce the at-risk amount in arm's length situations, paragraph 96(2.2)(f) of the Act would not have restricted its application to non-arm's length arrangements.
It is your opinion that the value of the benefit could not be determined with sufficient precision so as to permit an adjustment under paragraph 96(2.2)(d) of the Act. There would be no economic advantage until a definitive event, such as a foreclosure, and even then it would be necessary to determine the value of the property given up in satisfaction of the obligation. In your view, a chartered bank will grant a loan for reasons which are entirely related to the economic security of the lender and in no circumstances will nonrecourse borrowings be provided "..for the purpose of.." reducing the partner's economic exposure. As a lender is concerned with protecting its own financial interests and decides on the appropriate rate of return based on the security offered and risk involved, the reduction to a partner's financial exposure is entirely incidental to the purposes for which non-recourse borrowings are provided.
In those circumstances where it is appropriate to reduce the partner's at-risk amount by non-recourse borrowings, the at-risk amount would be increased on an annual basis to the extent that the borrowings had been repaid.
Situation B
Assuming the partnership were a general partnership, it is your opinion that the at-risk amount of the general partner would not be reduced under paragraph 96(2.2)(d) of the Act as the partner would not meet the definition of "limited partner" in paragraph 96(2.4)(b) of the Act. Since section 96 of the Act requires a partnership to calculate its income as if it were a separate person, paragraph 96(2.4)(b) of the Act can not be applied to the partner as a result of non-recourse borrowings advanced to the partnership. In addition, the arguments provided for situation A above will also be applicable.
OUR COMMENTS
While we are unable to provide confirmation of the income tax effects of the particular situations described in your letter, we can offer the following general comments related to limited recourse financing obtained by a partner and by a partnership.
Situation A
The Department indicated its position on limited recourse financing obtained by a limited partner on page 53:11 in the 1988 Conference Report of the Canadian Tax Foundation:
Where a limited partner has financed all or a portion of the purchase price of his partnership interest with limited recourse borrowings, the department considers that the limited recourse borrowings constitute an amount or benefit that has been granted for the purpose of reducing a loss that the taxpayer may sustain by virtue of his being a member of the partnership or disposing of his partnership interest. Therefore, such limited recourse borrowings will reduce the limited partner's at-risk amount.
It is our opinion that the wording in paragraph 96(2.2)(d) of the Act does not limit the entitlement to a benefit to specific types of business relationships in existence between parties or to non-arm's length situations. Had the restrictive interpretation that you suggested been intended, it would not have been necessary to exclude the arrangements listed in subparagraphs 96(2.2)(d)(i), (ii), (iv) and (v) of the Act from the ways in which an entitlement to a benefit can arise. Those subparagraphs describe situations that can include business arrangements of various types entered into between an arm's length party and the partner or the partnership. While paragraph 96(2.2)(f) of the Act does refer to a benefit arising in non-arm's length situations, paragraph 96(2.2)(e) of the Act, which also describes how the amount of a benefit will be calculated, does not limit the parties involved to non-arm's length situations. The amount of the reduction under paragraph 96(2.2)(d) of the Act at any particular time to a limited partner's at-risk amount as a result of limited recourse borrowings obtained by the partner will be the amount of the limited recourse borrowings outstanding at that time.
Situation B
It is our opinion that paragraph 96(2.2)(d) of the Act generally will not apply with respect to the benefit that may arise by virtue of a general partnership obtaining non-recourse or limited recourse financing that arose as a result of legitimate commercial transactions unrelated to a general partner's acquisition of a partnership interest. Consequently, the general partner of such a partnership will not be considered to be a limited partner by virtue of paragraph 96(2.4)(b) of the Act. However, it is not possible to state that this paragraph would never apply to such financing provided to a general partnership, as such a decision could only be rendered based on the facts of a particular case.
These comments represent our opinion of the law as it applies generally. As indicated in paragraph 21 of Information Circular 706R2 dated September 28, 1990, this opinion is not a ruling and accordingly, it is not binding on Revenue Canada, Taxation.
We trust these comments will be of assistance.
Yours truly,
for DirectorBusiness and General DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch
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