4 August 1999 External T.I. 9916875 - INTEREST DEDUCTIBILITY-NON ARMS LENGTH LOAN?

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 tiine 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 paid on borrowed money to be loaned by an individual at a lesser rate of interest to a related individual is deductible in whole or in part.

Position TAKEN:

No

Reasons FOR POSITION TAKEN:

Does not qualify under paragraph 20(1)(c).

XXXXXXXXXX						5-991687
P.  Diguer

August 4, 1999

Dear XXXXXXXXXX:

Re: Interest deductibility

This is in reply to your letter dated June 15, 1999, in which you request our views with respect to a situation where an individual borrows money at the current commercial rate and loans that money to related individuals at a lesser rate of interest than that at which the individual borrowed the money. At issue is whether the interest paid on the arm's length loan is deductible under paragraph 20(l)(c) of the Income Tax Act (Canada) (the “Act”).

Our comments

Written confirmation of the tax implications inherent in particular transactions are given by this Directorate only where the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular IC-70-6R3 dated December 30, 1996 (copy enclosed). This Directorate also provides technical interpretations of the various provisions of the of the Act but we do not provide tax planning advice.

The facts outlined in your letter appear to relate to actual proposed transactions involving particular taxpayers and therefore a binding determination from the Department regarding the applicability or the inapplicability of any provision of the Act can only be obtained by way of an advance income tax ruling request following the procedures outlined in IC-70-6R3. Nevertheless, we offer the following general comments in connection with your request which we hope is of assistance to you.

Briefly, paragraph 20(l)(c) of the Income Tax Act (Canada) (the "Act") provides that there may be deducted in computing a taxpayer's income for a taxation year from a business or property, an amount paid in the year or payable in respect of the year (depending on the method regularly followed by the taxpayer in computing the taxpayer's income) pursuant to a legal obligation to pay interest on borrowed money used for the purpose of earning income from a business or property.

It is a question of fact as to whether borrowed money is used for the purpose of earning income from a business or property. In this regard, borrowed money used to acquire a personal residence such as the condominium referred to in your letter would not be used for the purpose of earning income from a business or property and as a consequence the interest paid on this borrowed money would not be deductible under the Act.

With respect to money borrowed to be loaned at a reasonable rate of interest, it is the Department's view that this type of arrangement would generally satisfy the purpose test is paragraph 20(l)(c) of the Act. However, as stated in paragraph 3 of IT445 (copy attached) the Department considers that interest expense on borrowed money to be loaned at less than a reasonable rate of interest is generally not deductible in whole or in part. A loan will not be considered to be made at a reasonable rate of interest where an individual borrows money at a commercial rate of interest and loans that money to another individual at a lesser rate of interest than that at which the individual borrows the money.

We trust our comments will be of assistance to you.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch

Encl.