8 December 1997 External T.I. 9637025 - WHETHER A PARTNERSHIP IS A PERSON

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.

Principal Issues:

whether a partnership is a person for purposes of applying section 84.1

Position: no

Reasons:

section 84.1 does not affect the computation of partnership income and consequently we would look through to the individual partners

XXXXXXXXXX 			963702
F. Francis

Attention: XXXXXXXXXX

December 3, 1997

Dear Sirs:

Re: Section 84.1 of the Income Tax Act (the "Act")

This is in reply to your letter of October 28, 1996, wherein you requested a technical interpretation of the applicability of section 84.1 of the Act to the following hypothetical situation:

Mr. A, an individual resident in Canada, owns all the shares of ACo, a Canadian-controlled private corporation.

ACo’s only asset is an interest in the ABC Partnership. The other members of the Partnership are Corporation B and Corporation C.

Mr. A does not deal at arm’s length with Corporation B and Corporation C.

You enquire as to whether section 84.1 of the Act would apply in a situation where Mr. A sold the shares of ACo to the ABC Partnership in exchange for fair market value cash consideration. In particular, the issue is whether the shares would be considered to be acquired by the partnership or by the corporate partners for purposes of section 84.1 of the Act. It is your position that the case of Norco Development Ltd. v. The Queen, 85 DTC 5213, is distinguishable because it dealt with the calculation of taxes payable whereas section 84.1 deals with the computation of income. Consequently, in your view section 84.1 would not apply in this particular situation since the ABC Partnership would be the purchaser of the shares.

Our Comments

The situation described in your letter would appear to involve a proposed transaction. Assurance as to the tax consequences of proposed transactions will only be given in the context of an advance income tax ruling. The procedures for requesting an advance income tax ruling are outlined in Information Circular 70-6R3 dated December 30, 1996. However, we can offer the following general comments.

As noted in the response to question 28 at the 1990 Canadian Tax Foundation Round Table, it is the Department’s practice, relying on the provisions of subsection 96(1) of the Act, to consider a partnership to be a person when the computation of income at the partnership level under Division B of Part I of the Act is involved. It is our understanding that section 84.1 of the Act is an anti-avoidance provision designed to prevent the removal of taxable corporate surplus as a tax-free return of capital through a non-arm’s length transfer of shares by an individual resident in Canada to a corporation. Consequently, while section 84.1 is contained in Division B of Part I of the Act, it would not be relevant in the computation of income of the ABC Partnership or in the computation of the income of ACo.

In the case of Norco Development Ltd., McNair, J. decided that it was the corporate partners of a partnership who paid interest to Noort Bros. Construction Ltd., a corporation associated with all of the corporate partners of the partnership, and he stated at pages 5217-8:

"In my opinion, the partnership, Noort Developments, is not a legal entity. Section 96 of the Act provides rules for the computation of partnership income. The partnership is envisaged as a separate person solely for the purpose of measuring the flow of income to the individual partners, which is then taxed in their hands. ---- In the result, it is my opinion that the plain meaning of the words "by another corporation" in subsection 129(6) is patently broad enough to reach the plaintiff (a corporate partner of the partnership) as payer of the interest to the recipient corporation, Noort Bros. Construction Ltd."

As noted in the above-noted case, a partnership is only a relationship and not a legal person under common law or any provincial Partnership Act and, as such, cannot own property. It is our view that the legal fiction created by paragraph 96(1)(a) of the Act would not apply in this situation since section 84.1 is not relevant for the purpose of computing partnership income. Consequently, Corporations B and C would be considered to be the purchasers of the shares and section 84.1 may be applicable to the situation that you have described.

In a phone conversation of December 1, 1997, (XXXXXXXXXX/Francis), you enquired as to whether our response would be different if, in the above-described hypothetical situation, Mr. A held a direct "voting interest" in the ABC Partnership without any right to participate in the income. In our view, this additional fact would not change our response.

We trust our comments will be of assistance to you.

Yours truly,

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