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:
Are distributions from a partnership to a corporate partner that occur after the partnership's fiscal period but at or before the end of the corporation's taxation year included in the computation of capital pursuant to subsection 181.2(3) of the Act?
Position:
While each situation must be considered on a case by case basis if the distributions are in respect of current period earnings then such amounts would be included in the computation of capital pursuant to paragraph 181.2(3)(a) of the Act.
Reasons:
In this case the amounts received were reflected on the corporation’s balance sheet by debiting cash and crediting retained earnings. We understand that this reporting is in accordance with GAAP and supports our view that such amounts should be included in capital pursuant to paragraph 181.2(3)(a). It is recognized that the accounting classification of an item is not necessarily determinative of its legal classification or form.
September 9, 1998
CALGARY TSO HEADQUARTERS
G. C. Hoard Michael Cooke
Assistant Director, VECR (613) 957-3498
Attention: Keith Kam
Business Audit
982114
Large Corporation Tax
This is in reply to your memorandum of August 13, 1998, wherein you requested our views on the proper application of subsection 181.2(3) of the Act where a corporation holds an interest in a partnership.
The facts as we understand them are as follows:
- XXXXXXXXXX are related corporations that are members of a partnership called XXXXXXXXXX.
- XXXXXXXXXX have taxation years that end on XXXXXXXXXX while XXXXXXXXXX fiscal period ends on XXXXXXXXXX.
- You advise that the amount of retained earnings reflected on the unaudited balance sheet prepared by each of XXXXXXXXXX for the year ending XXXXXXXXXX, includes an amount in respect of each partner’s share of XXXXXXXXXX income for the fiscal period XXXXXXXXXX, as well as an amount in respect of each partner’s share of XXXXXXXXXX income for the 11 month period from XXXXXXXXXX (the “stub period income”).
- For the purposes of Part I.3 of the Act, both XXXXXXXXXX reduce the amount of their capital reported under subsection 181.2(3) of the Act by the amount their respective share of the stub period income of XXXXXXXXXX increased their retained earnings as described above.
Both XXXXXXXXXX maintain that they are not required to include their respective share of the stub period income in their computation of capital for Part I.3 tax purposes. In support of their position they refer to a technical interpretation letter dated November 18, 1991 (#E9128805) which states that a corporate partner’s share of (undistributed) earnings of a partnership should be included in the calculation of the corporate partner’s capital under Part I.3 of the Act on the same basis that the corporation reports its share of such earnings for the purposes of Part I of the Act.
It is your view that since both XXXXXXXXXX reported their respective share of XXXXXXXXXX stub period income on the balance sheet of each corporation as retained earnings and such balance sheets were prepared in accordance with GAAP then pursuant to subparagraph 181(3)(b)(i) of the Act neither XXXXXXXXXX is entitled to remove such amounts from capital for the purposes of Part I.3 of the Act.
We wish to note that based on your facsimile to us dated August 24, 1998, you indicate that XXXXXXXXXX actually distributes an amount of cash equal to each partner’s respective share of the stub period income as described above. While this information does seem to conflict with the excerpt from your proposal letter that states, “Income of the eleven (11) months after the partnership’s fiscal year end is still a receivable by the two parties...” our response is principally based on the assumption that the stub period income was in fact distributed in the taxation years in question since Mr. Cooke’s question on this point gave rise to your facsimile.
Where a corporation (other than a financial institution) is a member of a partnership at the end of its taxation year it is required to include in its computation of capital for Part I.3 tax purposes, pursuant to paragraph 181.2(3)(g) of the Act, its proportionate share of amounts (other than such amounts owing to any corporate partner) that would be determined under paragraph 181.2(3)(g) and paragraphs 181.2(3)(b) to (f) of the Act in respect of the partnership at the end of the partnership’s last fiscal period ending at or before the corporation’s taxation year (if the references in paragraphs (b) to (f) to “corporation” were read as references to “partnership”) and the balance sheet of the partnership was prepared in accordance with GAAP. However, paragraph 181.2(3)(a) of the Act is not specifically referred to in paragraph 181.2(3)(g) of the Act because a partnership does not legally have retained earnings. This is because the income and losses of a partnership are legally considered to be those of the partners.
Where a corporate partner is entitled to receive, or actually receives, a distribution in respect of its proportionate share of the current earnings of a partnership, it is our understanding that the retained earnings of the corporate partner would be increased by such an amount. Accordingly, it is our view that the amount by which the retained earnings of a corporation are increased in this manner should be reflected in the computation of capital of the corporation pursuant to paragraph 181.2(3)(a) of the Act. However, if the amount of the distribution received by the corporate partner was in respect of its proportionate share of the partnership’s income of a prior fiscal period that was already included in the corporate partner’s computation of capital (i.e. not previously distributed) then no further inclusion in respect of the current distribution would be required.
Based on the facts you have provided to us it appears that the amounts distributed by XXXXXXXXXX are in fact amounts in respect of XXXXXXXXXX proportionate share of current stub period income of XXXXXXXXXX and not amounts in respect of prior years’ undistributed income that would have already been included in XXXXXXXXXX respective retained earnings. Accordingly, it is our view that amounts received by XXXXXXXXXX in respect of their share of current stub period earnings of XXXXXXXXXX should be included in their respective computations of capital pursuant to paragraph 181.2(3)(a) of the Act as described above.
We hope that our comments have been of assistance.
F. Lee Workman
Manager
Financial Institutions Section
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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