13 August 1992 External T.I. 9207735 F - Resource Royalty Payments - Resource Profits

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.

Attention:  19(1)

Dear Sirs:

Re:  Resource Royalty Payments

This is in reply to your letter dated March 12, 1992 wherein you requested a technical interpretation in connection with the application of certain provisions of the Income Tax Act (the "Act") and the Income Tax Regulations (the "Regulations") to resource royalty payments in the context of a hypothetical fact situation.  We apologize for the delay in providing our response.

The context in which our comments are provided is one in which Corporation A owns "Canadian resource properties" ("CRP"), within the meaning of paragraph 66(15)(c) of the Act, from which it receives production revenue in respect of which it pays a "Crown royalty", within the meaning of subsection 1206(9) of the Regulations.

Where Corporation A continues to own the CRP and to pay Crown royalties in respect of production revenue therefrom, but creates a gross overriding royalty ("GOR") that is a Canadian resource property and a "resource royalty", i.e., it is not a "production royalty" within the meaning of this term in subsection 1206(1) of the Regulations, and which does not fall within the ambit of the carve-out rules in section 209 of the Act, and the GOR is then transferred to Corporation B in consideration for common shares of Corporation B of equal value, we share your view that, irrespective of whether the GOR is computed solely by reference to gross production revenue or production revenue net of production expenses incurred, the income tax implications would include the following:

1.     the production revenue from the CRP would be included in the computation of Corporation A's income for purposes of the Act and in the calculation of Corporation A's resource profits under paragraph 1204(1)(b) of the Regulations;

2.     the amount of the GOR paid by Corporation A would be deductible by Corporation A in computing its net income for purposes of the Act provided that the amount of the GOR is reasonable and incurred for the purpose of gaining or producing income pursuant to section 9 and paragraph 18(1)(a) of the Act;

3.     the GOR paid by Corporation A would not reduce Corporation A's resource profits in computing its resource allowance under clause 1210(1)(a)(i)(A) of the Regulations; and

4.     Corporation B would include the amount of GOR in computing its income for purposes of the Act and in computing its resource profits pursuant to paragraph 1204(1)(b.1) of the Regulations, but would be required to deduct the GOR in computing its resource allowance by virtue of subparagraph 1210(1)(a)(iii) of the Regulations.

Where Corporation A transferred beneficial ownership of the CRP, such as the working interest in the CRP, to Corporation B and retained a GOR, which is a Canadian resource property and a resource royalty calculated solely as a percentage of gross production revenue, we share your view that the income tax implications would be as described in 1 to 4 above if the references to Corporation A therein were to Corporation B and the references to Corporation B were to Corporation A. These comments are merely the expressions of opinion of those Revenue Canada officials named herein and as such should not be construed as advance income tax rulings, nor are they binding on the Department.  Our practice is to make this specific disclaimer in all instances in which we provide an opinion.  We refer you in this respect to paragraphs 21 and 22 of Information Circular 70-6R2.

Yours truly,

Section ChiefResource Industries SectionManufacturing Industries, Partnerships and Trusts DivisionRulings Directorate