News of Note
Conversions of LLPs or LLLPs after 2017 to LPs may occur at FMV
Email this ContentAt 2016 IFA Roundtable, Q. 1, CRA orally indicated that Florida and Delaware limited liability partnerships and limited liability limited partnerships are corporations for ITA purposes – but indicated it will treat an existing LLP or LLLP (that had been formed from scratch rather than being converted from an LLC) as a partnership if it is clear that the members are carrying on business in common with a view to profit, all members and the LLP or LLLP have been treating it as a partnership for ITA purpose, and the LLP or LLLP converts to a “true” partnership before 2018.
26 U.S. states provide for LLLPs, and nearly all of these also allow for the formation of LLPs. LLLPs and LLPs are essentially LP, except that the general partner also has limited liability.
An LLP may be a partial shield or a full shield. In a partial-shield jurisdiction, a partner is protected from partnership obligations that arise from the negligence of another partner, but not those that arise in the ordinary course of business. (The CRA oral comments did not address this distinction.)
A Canadian who is a minority partner of an LLP may not be able to convince the majority to convert to an LP by the end of 2017. If such a conversion occurs after this grace period, it may be challenged by CRA as giving rise to a FMV disposition at both the partnership and partner level given existing CRA views on conversions from a U.S. corporation to partnership (see 2004-0104691E5).
Neal Armstrong. Summaries of Allan Lanthier, "Limited Liability Partnerships", Canadian Tax Highlights, Vol. 24, No. 6, June 2016, p. 10 and Roy A. Berg, "CRA Classifies US LLLPs and LLPs as Corporations", Canadian Tax Highlights, Vol. 24, No. 6, June 2016, p. 9 under s. 96.
The new CRA Organschaft policy may engage s. 95(2)(a)(ii)(D)
In an “Organschaft” a German parent and its German subsidiary agree for Subco to annually transfer its entire accounting profit to the parent, and for the parent to compensate for any loss sustained by the subsidiary. At 2016 IFA Roundtable, Q. 6, CRA confirmed that, at least in the simple case of a wholly owned subsidiary with one class of shares, the annual profit transfers will be deemed to be dividends under s. 90(2) – in replacement of an earlier position (e.g., 2001-0093903) that a profit transfer payment made by Subco to Parentco could be re-characterized as active business of Parentco under s. 95(2)(a)(ii) to the extent that Subco had earnings from an active business – so that this previous position can apply only to profit transfer payments made before 2017.
It is unclear whether the new view will apply where the taxpayer has elected under Reg. 5901(2)(b) for s. 90(2) to apply retroactively to distributions made by the German sub after December 20, 2002. Furthermore:
For structures that are funded with a loan from a financing FA to the German parent, the financing FA's interest income, under the CRA's new position, is now subject to the recharacterization requirements in clause 95(2)(a)(ii)(D) instead of those in clause 95(2)(a)(ii)(B). Clause D requires that the German subsidiary's shares be excluded property; thus, the subsidiary's excluded property status must be regularly reviewed and monitored.
Neal Armstrong. Summary of Melanie Huynh and Paul Barnicke, "German Organschafts", Canadian Tax Highlights, Vol. 24, No. 6, June 2016, p. 5 under s. 90(2).
Credit Counselling Services of Atlantic Canada – Federal Court of Appeal finds that the prevention of poverty is not a charitable head
Webb JA found that the purpose for which a credit counselling registered charity had been operating since 1993 should be characterized as the prevention of poverty which (unlike the relief of poverty) was not a recognized charitable purpose, so that the annulment of its registration was confirmed.
Neal Armstrong. Summary of Credit Counselling Services of Atlantic Canada Inc. v. The Queen, 2016 FCA 193 under s. 149.1(1) – charitable organization.
630413NB Inc. – Tax Court of Canada rejects plan for generating ITCs for legal fees
A group of four corporations and their ultimate individual shareholder were unsuccessful in generating input tax credits for GST/HST on legal fees by assigning the rights to the proceeds of the actions to a fifth group company in consideration for that company assuming obligations for the legal fees. Ouimet J found the arrangement to be insufficiently business-like to qualify as a business of the fifth company.
Neal Armstrong. Summary of 630413NB Inc. v. The Queen, 2016 TCC 156 under ETA s. 123(1) – business.
CRA confirms that the s. 207.31 recapture tax on sales of ecological lands applies even if no deduction was claimed
S. 207.31 provides inter alia for the payment by a municipality of a 50% tax on the fair market value of ecologically sensitive land, now disposed of by it without authorization of Environment Canada, which previously had been donated to it under the s. 110.1 or 118.1 ecological gift rules. CRA confirmed that this tax would apply even if the (corporate) donor had not claimed a s. 110(1)(d) deduction for the gift, stating that s. 207.31’s purpose is “to ensure the long term protection of ecologically sensitive land,” i.e., even ignoring the literal words, its purpose is regulatory rather than protecting the fisc.
Neal Armstrong. Summary of 4 April 2016 Memo 2016-0625241I7 Tr under s. 207.31.
CRA indicates that if a contingent amount is included in income under s. 7(1)(b), it cannot subsequently be excluded if not received
On a sale of a corporation, the outstanding employee stock options are surrendered for a price reflecting the sale price for the shares. However, as the sale price depends on the outcome of litigation, part of the agreed amount for the option surrenders is retained until the action is settled.
CRA indicated that if the price expressed to be payable for the surrendered options included the contingent amount, it would be included in the employees’ income arising under s. 7(1)(b), and that if it was not subsequently received, they would not be able to amend their returns for the year of surrender to then exclude the amount from their income.
Neal Armstrong. Summary of 16 June 2016 T.I. 2015-0623031E5 Tr under s. 7(1)(b).
Trimax – Quebec Court of Appeal invalidates a law firm search for failure of the information to demonstrate that there was no alternative for getting the documents
Hilton JCA applied the principle in Lavalee, [2002] 3 S.C.R. 209 - that “before searching a law office, the investigative authorities must satisfy the issuing justice that there exists no other reasonable alternative to the search” - to invalidate a search warrant that had been given to the ARQ to search a Montreal law firm’s premises for documents relating to a client who was suspected of claiming input tax refunds/credits on fictitious inputs (so that the seized documents were ordered to be returned.) The information laid before the issuing judge had not addressed any absence of an alternative solution – and Hilton JCA also chided the ARQ for failure to disclose the “material fact” that the law firm in question was acting for the client in the tax dispute with the ARQ.
Neal Armstrong. Summary of 9162-4676 Québec Inc. (known as Trimax) v. ARQ, 2016 QCCA 962 under s. 231.3(3).
Peach – Federal Court of Appeal finds that s. 67 cannot be applied on a global basis
Trudel JA noted that s. 67 should be applied on an expense-by-expense basis to determine what is the reduction in each expense which would render it reasonable. Accordingly, the Tax Court Judge had erred in instead considering whether, globally, the taxpayer’s business expenses were reasonable.
Neal Armstrong. Summary of Peach v. The Queen, 2016 FCA 173 under s. 67.
Kruger Wayagamack – Federal Court of Appeal affirms Tax Court’s decision without addressing any distinction between operating and strategic control
In the Tax Court, Jorré J found that Kruger Inc. did not have de jure or de facto control of a corporation - notwithstanding that it was the 51% shareholder and was entitled under the unanimous shareholders agreement with the 49% shareholder (SGF) to appoint three of the five directors. – on the basis that such a wide range of decisions were specified in the USA to require unanimous director (or shareholder) approval that Kruger had control only of operating, and not strategic, decisions.
However, he went on to find that the corporation was associated with Kruger under s. 256(1.2)(c) as the Kruger bloc had more that 50% of the fair market value of all the shares. The 49% bloc might have had a greater value to SGF than that of the 51% bloc to Kruger because of a contingent put right accorded to SGF under the USA. However, since this put could not be assigned to any third-party purchaser, it did not affect the shares' FMV.
This decision has now been affirmed in the Federal Court of Appeal, but with the Court only dealing with the valuation issue, and finding that there were no noteworthy errors.
Neal Armstrong. Summaries of Kruger Wayagamack Inc. v. The Queen, 2015 TCC 90, aff’d 2016 FCA 192 under s. 256(1.2)(c) and s. 256(1)(a).
Income Tax Severed Letters 29 June 2016
This morning's release of seven severed letters from the Income Tax Rulings Directorate is now available for your viewing.