13 July 1999 External T.I. 9512475 - FOREIGN AFFILIATES - DEEMED ACTIVE INCOME

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 an moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues: Whether the income from property of a foreign affiliate was income that was directly related to the active business activities carried on by another corporation for the purposes of subparagraph 95(2)(a)(i).

Position: Yes it was.

Reasons: The activities resulting in the income from property were completely dependent upon and would not have taken place were it not for the active business activities taking place.

							951247
XXXXXXXXXX					Olli Laurikainen
(613) 957-2116

Attention: XXXXXXXXXX

July 13, 1999

Dear Sirs:

Re: Foreign Affiliates - Subparagraph 95(2)(a)(i)

This is in response to your request for our views in reference to the above provision of the Income Tax Act (the "Act").

Consider the following hypothetical fact pattern.

1) Canco is a corporation resident in Canada.

2) Holco is a wholly-owned foreign affiliate of Canco resident in the United States.

3) Holco owns all of the shares of another foreign affiliate of Canco ("Leaseco") resident in the United States.

4) Leaseco employs 20-30 employees.

5) Leaseco identifies U.S. real estate investment opportunities for itself and other non-resident corporations wholly owned by Holco.

6) Leaseco owns real property for development and/or lease on its own account. Canco can establish that throughout the period in the year under consideration, more than five Leaseco employees or the equivalent of more than five Leaseco employees are employed full time in the active conduct of Leaseco's real property development or leasing business utilising property owned by Leaseco.

7) When certain other U.S. real properties were acquired, a new Ownerco was incorporated by Holco to hold the property in respect of each such acquisition. Canco can establish that the purpose for the separate existence of the Ownercos is the reduction of the exposure of individual companies in the U.S. group to liabilities of other U.S. group companies such as financing, torts, and earthquakes among other things. Were it not for these concerns, all the properties including those held by the Ownercos would be owned by Leaseco.

8) Leaseco employees manage all the U.S. properties held by the Ownercos. During the period referred to in paragraph 6 above, Leaseco will carry out activities on behalf of the Ownercos in the same way it would if the property of the Ownercos were owned by Leaseco (i.e. Canco can establish that the employees of Leaseco are actively engaged in the conduct of each Ownerco's core business activities on a substantial basis throughout the period). Leaseco employees perform the following functions on behalf of each Ownerco:

a) preparing detailed investment policies,
b) finding and investigating real estate investment opportunities,
c) negotiating major leases and approving all others,
d) attending meetings pertaining to Ownerco business,
e) arranging for the acquisition of Ownerco investments by co-ordinating and supervising the acquisition,
f) investigating and hiring property managers,
g) inspecting each property owned by the Ownerco's at least quarterly,
h) preparation of quarterly financial reports for each Ownerco,
i) negotiating with lending institutions and mortgage brokers,
j) advising on and co-ordinating the disposition of properties including the selection of sales agents,
k) dealing with auditors, accountants and counsel,
l) general supervision to ensure all debts are serviced and taxes, insurance and maintenance payments are made,
m) general supervision of all persons rendering services for property owned by each Ownerco,
n) operating bank accounts in the Ownerco's name for the purpose of receiving and making payments relating to the Ownerco's business, and
o) maintaining books of account of all receipts and disbursements by each Ownerco.

9) Leaseco will receive a fee from the Ownercos the aggregate amount of which will reflect Leaseco's contribution to earning of the profits of the particular Ownerco's business and will therefore in general, be equal to or greater than an arm's length fee and not less than the cost to Leaseco of compensation paid or accruing to the employees that performed the services.

10) Subject to the application of subparagraph 95(2)(a)(i) of the Act, all the income of each Ownerco for the period in the year under consideration is income from property (i.e. the property referred to in paragraph 7 above).

11) If all the property of all the Ownerco's were transferred into Leaseco, all the income of Leaseco could be considered to derive from a single active real estate development and leasing business.

Our Comments

Provided that Canco establishes that Leaseco has an active real estate development and leasing business with respect to property owned by Leaseco throughout the period in the year under consideration and is also able to establish that the facts set out in paragraphs 7 and 8 above are accurate, it is our view that in the above circumstances, the income from property of each Ownerco in respect of that period would be included in its income from an active business pursuant to subparagraph 95(2)(a)(i) of the Act.

The foregoing comments are given in accordance with the practice referred to in paragraph 22 of information Circular 70-6R3 and are not binding on Revenue Canada.

We hope the above will be of assistance to you.

Yours truly,

for Director
Reorganizations and International Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch