14 September 1993 Income Tax Severed Letter 923416A F - Production Sharing Agreement

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.

932242 XXXXXXXXXX

Attention:  XXXXXXXXXX

Dear Sirs:

RE:  Paragraph 126(7)(a) of the Income Tax Act (the "Act")

We are writing in reply to your letter dated August 3, 1993, in which you requested we reconsider the comments made in our letter dated July 15, 1993 (the "previous letter") with respect to the issue that the foreign taxes that were described therein are similar to Canadian taxes on the basis that they are very similar to taxes under Part XIII of the Act. In your view, many of the arrangements which were generically described in the previous letter as imposed by foreign governments are very similar to the effect on arrangements entered into between residents and non-residents of Canada which are subject to Part XIII of the Act. That is, in cases where Part XIII tax is exigible (for example, in the case of the payment of interest) negotiations often involve establishing a "gross-up" mechanism such that the gross amount of the payment results in the receipt by the non-resident of an agreed to "after-tax" amount.

In the hypothetical situation described in the previous letter, the Canadian taxpayer appears, for all intent and purposes, to have entered into an agreement with the foreign government, albeit through that government's state oil corporation, to carry on business in the foreign jurisdiction for the exploitation of oil for a negotiated after-tax profit. In our opinion, the hypothetical situation is not comparable to the Part XIII example described above where two parties (e.g. borrower/lender) carry out a bona fide business transaction with no element of involvement by the Canadian government.

We are of the view that when comparing a particular foreign tax with the Act to determine whether or not a particular foreign tax qualifies as an "income or profits tax" for purposes of section 126 of the Act, it is necessary to compare the basis of taxation of the business income in the foreign jurisdiction to the treatment of that source of income under the Act. In our opinion the comparison of the basis of taxation of business income in the foreign jurisdiction with Part XIII of the Act would not be appropriate. If the foreign tax on business income were computed on the basis of gross receipts instead of net income or profits it may be possible to make such a comparison. Accordingly, it remains our opinion that the basis of taxation under the hypothetical situation set out in your previous letter does not appear to be substantially similar to the basis of taxation under the Act. However, as indicated in our previous letter we cannot provide you with a definitive opinion as to whether the tax paid to the foreign jurisdiction is an "income or profits tax" without reviewing copies of the actual production sharing agreements and the relevant taxing statutes of the foreign jurisdiction.

We trust the above comments will suffice.

Yours truly,

for DirectorReorganizations and Foreign DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch