29 October 1993 External T.I. 9311645 F - Capital Gains Distribution - Foreign Mutual Funds (6950-1)

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:  XXXXXXXXXX

Dear Sirs:

RE:  Capital Gains Distribution-Foreign Mutual Funds

This is in reply to your letter of April 21, 1993 wherein you indicated that XXXXXXXXXX receives both short and long term capital gains from a U.S. mutual fund which are then distributed to the beneficial holder. The U.S. mutual fund provides you with Form 1042S which codes the distribution as a capital gains dividend. You have asked whether such distribution should be taxed as a foreign dividend or a capital gains dividend for Canadian tax purposes.

In our view it is necessary to review the U.S. law under which the U.S. mutual fund was created and to rely on common law principles in Canada to determine whether the mutual fund qualifies as "corporation" or "trust" for Canadian income tax purposes since the treatment in Canada of such an entity may be different. As you have not provided us with sufficient details to determine whether the entity would be considered a trust or corporation we will provide you with a response for both situations. These comments are based on the assumptions that the distributions to Canadians are made in cash and that XXXXXXXXXX is merely acting as an intermediary on behalf of the Canadian taxpayers.

U.S. Mutual Fund Qualifies as a Trust

Where the fund is treated as a trust for Canadian tax purposes, it is our opinion that a "capital gains" distribution should be included in computing the income of the Canadian beneficiary as income from a property that is an interest in a trust, and not as a capital gain, pursuant to paragraphs 104(13)(c) and 108(5)(a) of the Canadian Income Tax Act (the "Act"). Where the trust is not resident in Canada there is no exception that would permit a flow through of the capital gains dividend to the Canadian beneficiary. Where tax was withheld on behalf of the beneficiary with respect to an amount paid out of such a trust and included in the beneficiary's income, the beneficiary would be permitted to claim a foreign tax credit in accordance with subsection 126(1) of the Act. To the extent, if any, that the tax did not result in a foreign tax credit, it would qualify for a deduction under subsection 20(12) of the Act.

U.S. Mutual Fund Qualifies as a Corporation

Where the U.S. mutual fund is treated as a corporation for Canadian tax purposes, we are of the view that the full amount of the capital gains distribution will be included in the Canadian shareholder's income as a dividend in accordance with subsection 90(1) and paragraph 12(1)(k) of the Act. Subsections 126(1) or 20(12) of the Act would also apply to permit a foreign tax credit or deduction, as the case may be, with respect to any withholding tax paid on behalf of the Canadian shareholders in respect of such a distribution.

U.S.Taxation

U.S. taxation of distributions from the mutual fund will be subject to the Canada-U.S. Income Tax Convention.

We trust the above comments are adequate for your purposes.

Yours truly,

for DirectorReorganizations and Foreign DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch