26 April 1993 External T.I. 9235535 F - Lien Notes and Large Corporations Tax

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.

XXXXXXXXXX

Attention:  XXXXXXXXX

Dear Sirs:

RE:  Large Corporations Tax and Lien Notes of Automobile Dealerships

This is in reply to your letter of November 24, 1992 on the above noted topic.

As indicated in your letter, an automobile dealership will often finance its inventory acquisitions through a finance corporation affiliated with the automobile manufacturer. The obligation of the dealership to the finance corporation is secured by the dealership's automobile inventory and is colloquially referred to a "lien note." The dealership records both the inventory acquired and the lien notes payable in its financial statements.

Paragraph 181.2(3)(d) of the Income Tax Act (the "Act") includes in capital "the amount of all indebtedness of the corporation at the end of the year represented by bonds, debentures, notes, mortgages, hypothecs or similar obligations." Paragraph 181.2(3)(f) of the Act includes in capital "the amount of all other indebtedness ...that has been outstanding for more than 365 days before the end of the year...."

In your opinion lien notes are not included in capital pursuant to paragraph 181.2(3)(d) of the Act as the dealership does not have a legal obligation to pay the lien notes until the inventory is actually sold and because the lien notes, which are typically outstanding less than three months, have the characteristics of short term accounts payable. Therefore, in your view, lien notes would only be included in capital to the extent that they fall within paragraph 181.2(3)(f) of the Act.

We do not agree with your view. While we acknowledge that lien notes may be short term reoccurring obligations and thus similar to accounts payable they are, nevertheless, a type of indebtedness specified in paragraph 181.2(3)(d) of the Act. There is no requirement in paragraph 181.2(3)(d) of the Act that the indebtedness referred to therein be outstanding for a prescribed time period or relate to the acquisition of certain types of assets. The deferral of the obligation to pay until such time as the inventory is actually sold is not relevant; the obligation exists, it is only the payment of that obligation which is deferred.

It should also be noted that while accounts payable would typically be included in capital only if they are outstanding for more than 365 days, if a corporation were, for example, to borrow or issue a note to pay those payables the amount of the borrowing or note would be included in the capital of the corporation irrespective of the time outstanding.

We hope our comments are of assistance to you.

Yours truly,

for DirectorFinancial Industries DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch

NOTES

In Black's Law Dictionary:

Note: An instrument containing an express and absolute promise of signer (i.e. maker) to pay to a specified person or order, or bearer, a definite sum of money at a specified time." Collateral note is defined as "Two party instrument containing promise to pay and secured by a pledge of property such as securities, real estate, etc.

Floored: An automobile is "floored" when it is financed under a trust receipt, floor plan financing agreement, or similar title retention document, whereby retail dealer obtains possession of automobile from distributor for exhibition and sale through payment to distributor by finance company.

Floor Plan Financing. Arrangement for lending of money to an automobile dealer, or other supplier of goods, so that he may purchase cars, or other articles, to include in his inventory; the loan being secured by the automobile or other goods while in the dealer's possession, and is gradually reduced as the cars or other merchandise are sold.

It appears that the dealer gets title to the vehicles immediately. Per discussions with the DO interest accrues on the lien notes.

It appears the lien itself simply the security mechanism for the note.

The Ontario Corporations Tax Act specifically includes lien notes in capital. The British Columbia Corporations Tax Act does not specifically include lien notes.

Per discussions with the DO, XXXXXXXXXX has included in its investment allowance the amount of the lien notes receivable.