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.
Principal Issues:
whether subsection 80.4(3) applies in a given situation
Position:
yes
Reasons:
loans to US parent were made on commercial terms
January 5, 1996
Calgary Taxation Services Income Tax Rulings and
Office Interpretations Directorate
Attention: V.K. Mahajan T. Harris
International Audit (613) 957-2114
7-953255
XXXXXXXXXX - Subsection 80.4(2)
This is in response to your memorandum of November 30, 1995 wherein you requested our views as to whether subsection 80.4(2) of the Income Tax Act (the "Act") would be applicable in respect of certain loans made by XXXXXXXXXX. To the extent that subsection 80.4(2) deems XXXXXXXXXX to have conferred a benefit on its U.S. parent as a consequence of such loans, then, by virtue of subsection 15(9) and paragraph 214(3)(a) of the Act, such benefit would be subject to withholding under subsection 212(2) of the Act.
Our understanding of the facts is as follows:
XXXXXXXXXX
Since the prescribed rate during the relevant period was approximately 3% higher than the prevailing market rates in the U.S., the basic file auditor is of the view that XXXXXXXXXX is deemed to have conferred a benefit on its U.S. parent by virtue of subsection 80.4(2). You believe that the auditor has taken a strict interpretation of this provision since he considers the foreign currency gains to be a separate and distinct transaction. The auditor also considers that the exception in subsection 80.4(3) does not apply since the parties do not deal at arm's length.
You are of the view that XXXXXXXXXX did not confer a benefit on its U.S. parent as its yield on the short term paper (including both interest and the currency gains) compared favourably with the prevailing prescribed rate. In addition, you believe that the loans have been made on terms which are equivalent to those which would be made by arm's length parties.
Based on our understanding of the information provided to us, we do not believe that subsection 80.4(2) would apply to deem XXXXXXXXXX U.S. parent to have received a benefit. First, since the short term loans are made by XXXXXXXXXX through a broker on the open market and are made at the prevailing U.S. market rates, it is not clear that these loans have been received by the U.S. parent "by virtue of (its) shareholding" in XXXXXXXXXX as required by subsection 80.4(2).
Even if the loans could be considered to have been received by virtue of the U.S. parent's shareholding, we believe that paragraph 80.4(3)(a) would apply to exempt the loans from subsection 80.4(2). In this regard, we do not agree with the basic file auditor that subsection 80.4(3) is not applicable to this situation merely because XXXXXXXXXX and its U.S. parent do not deal at arm's length.
As noted in paragraph 10 of Interpretation Bulletin IT-421R2, paragraph 80.4(3)(a) provides that subsection 80.4(2) does not apply "if, having regard to all of the circumstances (including the terms and conditions of the loan or debt), the interest rate on the loan or debt is equal to or greater than the rate that would have been agreed upon at the time the indebtedness arose between hypothetical parties dealing with each other at arm's length if
(a) none of the hypothetical parties received the loan or incurred the indebtedness by virtue of...the shareholding of a person or partnership, and
(b) the ordinary business of the hypothetical creditor included the lending of money."
In other words, the exception in paragraph 80.4(3)(a) will be available if the interest rate charged on the indebtedness is equal to or greater than that which would have been charged by an arm's length financial institution or money lender on a loan having the same terms.
In view of the fact that XXXXXXXXXX acquired the short term paper of its U.S. parent on the open market through brokers and such paper was issued at the prevailing U.S. market rates, we believe that the interest rate received by XXXXXXXXXX should have been equal to that which an arm's length financial institution or money lender would have charged. In fact, it is likely that some of the short term paper issued by XXXXXXXXXX U.S. parent may have been acquired by one or more arm's length financial institutions or institutional investors on the same terms. Consequently, it is our view that the exception in paragraph 80.4(3)(a) would be applicable to XXXXXXXXXX acquisition of the short term paper of its U.S. parent provided that no party, other than the U.S. parent of XXXXXXXXXX, made or was required to make any interest payments on the indebtedness.
We trust that our comments will be of assistance.
For Director
Reorganizations and Foreign Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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