18 September 1995 External T.I. 9507235 - LOAN OF MONEY-17(1) & GUARANTEE V. INDEMNITY-40(2)(G)

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

RULINGS DIRECTORATE
CORRESPONDENCE SUMMARY

Principal Issues:

I.Whether the general position in paragraph 4 of IT-239R2 applies to the honouring of (a) a guarantee, (b) a performance guarantee or (c) an indemnity of a foreign corporation.

II.Whether the honouring of a (a) guarantee, (b) performance guarantee or (c) indemnity of a foreign corporation is considered to constitute a "loan of money" for the purpose of subsection 17(1).

Position TAKEN:

I.Appears to apply to (a) but is dependent upon legislation. IT position not extended.

II.Generally no but results are dependent upon factual determination.

Reasons FOR POSITION TAKEN:

I. IT position should be limited to straight-forward guarantees. The Act particularly subparagraph 40(2)(g)(ii) should, on the facts, determine tax consequences in other cases.

II.Legislation & jurisprudence (SEE A.C.Simmonds 89 DTC 707)

		950723
XXXXXXXXXX		G. Donell

Attention: XXXXXXXXXX

September 18, 1995

Dear Sirs:

Re: Guarantees & Indemnities - Foreign Corporation

This is in reply to your letter of March 1, 1995 in which you have requested our opinion on the application of subparagraph 40(2)(g)(ii) of the Income Tax Act (the "Act") to a particular situation. Specifically you have asked whether the Department's general position with respect to the interpretation of that subparagraph, as described in paragraph 4 of IT-239R2 will apply to payments made by a Canadian corporation ("Canco") pursuant to a guarantee, a performance guarantee or an indemnity agreement it has provided, for a reasonable fee, to its wholly-owned foreign subsidiary corporation ("Forco"). Moreover you have asked for our comments as to whether the honouring of such guarantee, performance guarantee or indemnity would constitute the lending of money for the purpose of applying subsection 17(1) of the Income Tax Act (the "Act"). We apologize for the delay of our response.

Guarantees/indemnities & IT-239R2

The deemed or actual disposition of a capital property that is a debt or other right to receive an amount (the "debt or right") may result in a gain or loss as determined by subsection 40(1) of the Act. Subsection 40(2), in the case of the disposition of such a property, may, by virtue of subparagraph 40(2)(g)(ii) thereof, consider such a loss to be nil unless the debt or right was acquired by the taxpayer

(a)for the purpose of gaining or producing income (other than exempt income) from a business or property, or

(b)as consideration for the disposition of capital property to a person with whom the taxpayer was dealing at arm's length.

The determination of whether a debt or right has been acquired for the purpose of gaining or producing income is a question of fact that can only be resolved by reviewing the circumstances surrounding the transactions in question.

The Department's position with respect to the deductibility of capital losses arising from the disposition of a debt or right in specific circumstances is set out in Interpretation Bulletin IT-239R2. That bulletin addresses the acquisition and subsequent disposition of capital debts or rights where shareholders are called upon to honour loan guarantees. In this regard it is our understanding that a "performance guarantee" possesses legal characteristics of an indemnity and accordingly would not be considered to be within the scope of IT-239R2.

Section 17: Loans to non-residents

Subsection 17(1) of the Act reads,

Where a corporation resident in Canada has lent money to a non-resident person and the loan remained outstanding for one year or longer without interest on the loan computed at a reasonable rate having been included in computing the lender's income, the corporation shall be deemed to have received, on the last day of each taxation year during which the loan was outstanding, interest on the loan at the prescribed rate computed for the period in the taxation year during which it was outstanding. (Underlining added)

Subsection 17(1) of the Act is very explicit in that it refers to a corporation resident in Canada having "...loaned money to a non-resident person..." The underlined words have a very specific meaning in law. For example, Black's Law Dictionary provides that:

a)money means "coins and paper currency used as a circulating medium of exchange, and does not embrace notes, bonds, evidences of debt..." and

b)loan means "delivery by one party to and receipt by another party of sum of money upon agreement, express or implied, to repay with or without interest".

Given the strict meaning of the underlined words, subsection 17(1) of the Act is, in our opinion, operative only where the relationship between the corporation resident in Canada and the non-resident person is one of lender/borrower as opposed to debtor/creditor. Whether or not the honouring of a guarantee, indemnity or performance guarantee would constitute the lending of money (i.e. a lender/borrower relationship) for the purpose of subsection 17(1) of the Act is a question of fact which can only be ascertained from the legal relationships created between the parties and the true character of the transactions.

Consequently where the situation referred to in your letter deals with a proposed transaction you may wish to consider the submission of a request, in writing, for an advance income tax ruling. Conversely, if your enquiry relates to a completed transaction, you may wish to submit the enquiry along with all relevant facts and documentation to your local Tax Services office for their views in this regard.

While we hope our comments are of assistance to you we caution that they do not constitute an advance income tax ruling and therefore are not considered binding upon the Department with respect to any particular transaction.

Yours truly,
Chief
Financial Institutions Section
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy & Legislation Branch