22 October 1992 Income Tax Severed Letter 9226346 - Interest on Borrowed Funds to Make Capital Contribution

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.

October 22, 1992

International Tax Programs Rulings Directorate
Directorate Financial Industries
Division
Attention: John Fenelly C. Tremblay
957-2744

922634

24(1)

We are writing in response to your memorandum of August 31, 1992 concerning a referral from the St. Catherines District Office. In their referral, the DO mentions that the above corporation deducted interest on money borrowed to make a capital contribution to a US subsidiary corporation. You have asked us to respond directly to you with our comments regarding questions #1 and #2 asked by the DO.

The facts as given:

24(1)

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24(1)
The questions we have been asked are as follows:

• 1. Is the interest expensed by 24(1) deductible under 20(1)(c)?
• 2. If the interest is disallowed, would a benefit be deemed to have been conferred on 24(1) by 24(1), subject to Part XIII tax per paragraph 246(1)(b)of the Act?

Our Comments

• 1) Interpretation Bulletin IT-445 outlines the Department's position concerning the deductibility of interest expense where a shareholder borrows funds and reloans those funds at less than a reasonable rate of interest or at no interest in non-arm's length circumstances. IT-445 includes, in paragraph 3(c), a statement of the Department's general position that interest expense incurred on borrowed money is generally not deductible in whole or in part when that money ...is not used to earn income directly by the borrower in his business or from a property acquired with that borrowed money. The fact that the borrower may earn income indirectly, for example through increased dividends from a corporation to whom an interest-free loan has been made, is not sufficient cause to permit the borrower to deduct interest on his liability.
• A shareholder who transfers borrowed funds to a corporation as contributed surplus would not acquire any property. Therefore, in accordance with the above-quoted comments, the interest expense would not be deductible.
• The exception in paragraph 7 of IT-445 to the general position on interest deductibility in paragraph 3 of IT-445

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is specifically confined to loans of borrowed funds by
a shareholder of a corporation to the corporation or its
Canadian subsidiary. It is not applicable to
contributions of capital.

• 2) In our view, the provisions of subsection 246(1)(b) of the Act would not apply to 24(1) on the funds provided by 24(1) by way of contributed surplus. The words used in subsection 246(1) specify that where at any time a person confers a benefit " ... the amount of the benefit shall, to the extent that... and would be included in his income if the amount of the benefit were a payment made directly by the person to the taxpayer and if the taxpayer were resident in Canada..." Thus for subsection 246(1) of the Act to apply, there must be a benefit conferred to the shareholder as a result of the transaction.

for Director
Financial Industries Division
Rulings Directorate

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