5 June 1997 External T.I. 9702855 - INTEREST-FREE MORTGAGE BETWEEN ARM'S LENGTH INDIVIDUALS

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 interest would be imputed on an interest-free mortgage between arm's length parties (both individuals) -lender is not a corp, borrower is not non-resident so 17(1) doesn't apply -the borrower is the life insurance agent of the lender, the reason for the lack of interest is goodwill and the life insurance agent will agree to be co-executor of the lender's estate on death and will hold Power of Attorney

Position:

it may be a barter transaction but if not, no interest is likely to be imputed

Reasons:

the provisions relating to interest as listed in it-396, especially the deeming provisions, as well as ss 80.4(1), do not relate to the situation as described

                                   		970285
XXXXXXXXXX	                              A. Humenuk

Attention: XXXXXXXXXX

June 5, 1997

Dear Sirs:

Re: Interest-Free Mortgage on a Principal Residence

We are replying to your letter of January 28, 1997 in which you asked about the tax implications arising from an interest-free loan between two unrelated parties, both of whom are resident in Canada.

You are a life insurance agent and a client of yours has offered to assume the mortgage on your principal residence at the next renewal date on an interest-free basis. The sole reason for the lack of interest is goodwill on behalf of your client. You have asked whether any portion of the repayments by yourself on the mortgage will be required to be included in your client's income as interest. You also asked whether the granting to you of a Power of Attorney or your appointment as co-executor of their estate would affect our answer.

The particular circumstances outlined in your letter relate to a factual situation involving specific taxpayers. As explained in Information Circular 70-6R3 "Advance Income Tax Rulings", it is not our practice to comment on proposed transactions involving specific taxpayers. In addition, it should be noted that it is not possible to provide you with definitive comments without a review of all the relevant facts and documentation related to a particular loan. Nevertheless, we offer the following general comments which may be of assistance to you.

As stated in paragraph 12 of Interpretation Bulletin IT-396R, while interest is not defined in the Income Tax Act (the "Act"), it is generally accepted that interest is the compensation for the use or retention by one person of a sum of money, belonging to or owed to another. The amount of compensation or interest due on a particular amount is usually expressed as a rate of interest. Generally, the amount of interest to be included in a person's income under paragraph 12(1)(c) of the Act is the amount received or receivable in the year, depending on the method ordinarily followed by the taxpayer.

In addition, pursuant to section 16 of the Act, where an amount receivable under the terms of an arrangement can reasonably be regarded as being in part interest or other amount of an income nature and in part a repayment of capital, irrespective of the form or legal effect of the arrangement, the part that can reasonably be regarded as interest is deemed to be interest and the part that can reasonably be regarded as an amount of an income nature must be included in income to the extent that it has not otherwise been included in the recipient's income. However, as indicated in paragraph 2 of Interpretation Bulletin IT-265R3, if all the constituent elements of a payment are provided for in a contract of arrangement, and are reasonable, subsection 16(1) of the Act will not apply to the payment.

When the terms of a loan arrangement are such that the total of all repayments due in respect of the loan do not exceed the loan amount, the loan would be considered to be interest-free. No amount of interest would be included in income in respect of an interest-free loan, unless interest was imputed pursuant to a deeming provision in the Act.

Subsection 80.4(1) of the Act is such a deeming provision. It applies to deem a benefit to have been received where an interest-free or low interest loan is received by an individual, if the loan is received by virtue of the previous, current or intended office or employment of the individual. In this respect, you should note that, as stated in paragraph 5 of Interpretation Bulletin IT-377R, acting in the capacity of an executor of an estate may be considered to be an office. In addition, as indicated in paragraph 1 of Interpretation Bulletin IT-421R2, subsection 80.4(1) of the Act may apply even if the loan is provided by a person or partnership that is not the previous, current or intended employer of the individual. Since it is a question of fact whether a loan is attributable to the previous, current or intended employment or office of an individual, a determination of whether subsection 80.4(1) of the Act would apply in your particular scenario could only be made after a detailed examination of all the relevant documentation related to the loan and the services provided as executor of the estate.

In a situation where an interest-free loan is given in exchange for a service or a commitment to provide a service and a deeming provision, such as subsection 80.4(1) of the Act, does not apply, the transaction may be a barter transaction. The Department's views regarding the income tax implications of barter transactions are set out in Interpretation Bulletin IT-490, "Barter Transactions".

Please note as well that when funds are lent interest-free or at less than a reasonable rate of interest in arm's length circumstances, any loss incurred as a result of the default of such a loan is not deductible to the lender by reason of subparagraph 40(2)(g)(ii) of the Act.

We are enclosing copies of the Interpretation Bulletins mentioned above.

We trust that these comments are of assistance but caution you that they do not constitute an advance income tax ruling and, accordingly, are not binding on the Department with respect to any particular transaction.

Yours truly,

C. Chouinard
for Director
Business and Publications Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
Enclosure