News of Note
CRA accepts a tracing approach to determining whether interest on money borrowed to return capital is considered for s. 95(2)(a)(ii)(B) to be deductible in computing exempt earnings
Email this ContentWhere FA1 borrows from a sister (FA3) to make a capital distribution on its Class A common shares, which had previously been issued solely to finance FA1’s active business, CRA would accept that the interest on this loan would be received as deemed active business income by FA3 under s. 95(2)(a)(ii)(B). This signifies that the “fill the whole” approach to determining a source of business income under s. 20(1)(c) is portable to s. 95(2)(a)(ii)(B)(I). It also signifies a tracing approach is at work, as CRA indicated that this result would be so even if FA1 had issued shares of another class (its Class B common shares), to finance the acquisition of shares which were not excluded property, at the same time as it issued the Class A common shares.
If instead, shares of only one class had been issued to fund the two (good and bad) uses of funds, CRA “could consider that the appropriate method would be to apply clause 95(2)(a)(ii)(B) on a pro rata basis.”
Neal Armstrong. Summary of 26 May 2016 IFA Roundtable, Q. 8 under s. 95(2)(a)(ii)(B).
CRA considers a contribution of shares to a subsidiary causes the subsidiary shares to be substituted property for s. 93(2.01) purposes
The stop-loss rule in s. 93(2.01) applies to grind the capital loss realized on the disposition of a share of a foreign affiliate by the amount of exempt dividends previously received on that share “or on a share for which [it] was substituted.”
CRA considered that this stop loss rule applied where Canco made a contribution of capital to a foreign subsidiary (FA2) of its shares of a non-resident Finco subsidiary which had paid dividends out of its deemed active business income to Canco – so that s. 93(2.01) denied a subsequent capital loss realized on an arm’s length sale of the FA2 shares to the extent of such dividends. This was so even though the contribution did not entail any exchange of property and even though the Finco shares likely would never have generated an accrued loss.
However, CRA stated:
[W]e may be prepared to develop administrative solutions to the extent this could result in double-counting, or the same dividends being counted, or producing two or more losses.
Neal Armstrong. Summary of 26 May 2016 IFA Roundtable, Q. 7 under s. 93(2.01).
CRA considers that profit transfer payments made by a German sub to its German parent are s. 90(2) deemed dividends and not FAPI
Under an “Organschaft,” a German parent (“Parentco”) and its German subsidiary (“Subco”) can enter into an agreement under which Subco agrees to annually transfer its entire profit determined in accordance with German (statutory) GAAP to Parentco, and Parentco agrees to compensate Subco for any loss incurred under German GAAP. CRA has confirmed that, at least in the simple case where Parentco wholly-owns Subco through ownership of a single class of shares, the annual profit transfers will be deemed to be dividends under s. 90(2) and, thus, not foreign accrual property income to the direct or indirect Canadian parent of Parentco.
This will supplant an earlier position (e.g., 2001-0093903) that a profit transfer payment made by Subco to Parentco could be re-characterized as income from an active business of Parentco under s. 95(2)(a) to the extent that Subco had earnings from an active business before taking into account the profit transfer payment – so that this previous position will only apply to profit transfer payments made before 2017.
Neal Armstrong. Summaries of 26 May 2016 IFA Roundtable, Q. 6 under s. 90(2) and s. 53(1)(c).
CRA indicates it would not apply s. 90(7) to a back-to-back loan made to avoid an anomalous application of the s. 90(9) surplus deduction rule
Where Canco holds FA1 with an exempt deficit of $20M, which holds FA2 with exempt surplus of $100M, Canco can take advantage of the surplus deduction rule in s. 90(9) on an upstream loan of, say, $10M from FA2. This is by having FA2 lend that sum to FA1 for on-loaning to Canco. This permits the elevation of the exempt surplus of FA2, so that FA1 is considered to have ample surplus for purposes of accessing the s. 90(9) deduction on the $10M loan to it from FA1 – whereas this result would not obtain if FA2 made the $10M loan directly to Canco.
However, this planning confronts the back-to-back loan rule in s. 90(7) which, applied literally, would deem FA2 to have made its loan directly to FA1. However, having regard to the policy of the provisions, CRA would not apply s. 90(7) in a situation such as this.
Neal Armstrong. Summary of 26 May 2016 IFA Roundtable, Q. 5 under s. 90(8).
CRA indicates that the replacement of an “2nd-tier” upstream loan to a non-resident parent by a PLOI will not occur as part of the same series
Canco indirectly distributed $10M to its non-resident parent (NRco) in 2010 through a capital contribution to a new foreign subsidiary (FA) and a loan of the $10M by FA to NRco. In order to unwind this upstream loan structure by the August 19, 2016 deadline for doing so, NRco will repay the $10M loan owing to FA, FA will pay a $10M dividend to Canco out of pre-acquisition surplus and Canco will make a fresh (direct) loan to NRco, which it will elect to be a “pertinent loan or indebtedness.”
CRA confirmed that the new PLOI loan will not cause the old loan to be considered to have been “repaid…otherwise than as part of a series of loans or other transactions and repayments,” so that a $10M income inclusion to Canco under the upstream loan rules will be avoided.
Neal Armstrong. Summary of 26 May 2016 IFA Roundtable, Q. 4 under s. 90(8)(a).
CRA indicates that a Canadian corporation with a USD functional currency can be subject to Part XIII withholding obligations on its USD prefs resulting from FX fluctuations
CRA considers that a Canadian corporation which has the U.S. dollar as its elected functional currency nonetheless is required to keep track of the paid-up capital of its shares, so that if it issued U.S.$100,000 of shares when the Canadian dollar was at par and redeemed those shares when their Canadian-dollar equivalent was $125,000, there would be a resulting deemed dividend to its shareholder (unless the shareholder was a Canadian corporation that also had the U.S. dollar as its functional currency for the relevant period.) However, there would be no Part VI.1 tax, as that would relate to the tax results of the corporation rather than its shareholder.
Neal Armstrong. Summary of 26 May 2016 IFA Roundtable, Q. 3 under s. 84(3).
CRA continues to not accept the deduction of notional expenses from the profits of PEs of (non-U.S.) non-residents
Notwithstanding a somewhat revised OECD approach, CRA continues to consider (in light of Cudd Pressure and s. 4(b) of the Income Tax Conventions Interpretations Act) that notional expenses are not deductible in computing the profits attributable to a Canadian permanent establishment for Treaty purposes – with the exception of PEs of qualifying U.S. residents, as to which there is an overriding agreement with the U.S. competent authority.
Neal Armstrong. Summary of 2016 IFA Roundtable, Q. 2 under Treaties – Art. 7.
CRA requires Florida and Delaware LLPs and LLLPs to convert to “true” partnerships before 2018
CRA has finalized its view that Florida and Delaware limited liability partnerships and limited liability limited partnerships are corporations for ITA purposes in light inter alia of their separate legal personality and limited liability. However, CRA is prepared as an administrative matter to continue accepting that an existing LLP or LLLP (that had been formed from scratch rather than being converted from an LLC) is 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 having been treating it as a partnership for ITA purpose, and the LLP or LLLP converts to a “true” partnership before 2018.
Neal Armstrong. Summary of 2016 IFA Roundtable, Q. 1 under s. 248(1) – corporation.
CRA provides example of deduction of loss deduction under s. 88(1.1) being postponed until year in which sub is dissolved
CRA has provided a simple example of the proposition that a Canadian parent generally may deduct a loss of a subsidiary that has been wound up in any taxation year of the parent commencing after the winding-up.
The subsidiary, which has losses for its taxation years ending on June 30, 2013 and June 30, 2014, commences its winding-up on June 15, 2014 and is dissolved in October 2015. The parent can deduct those losses only in its 2015 calendar taxation year, and not in its 2014 year, as 2015 is the year of the dissolution.
Neal Armstrong. Summary of 2015-0618211E5 under s. 88(1.1).
CRA states that no intention to claim exemption on future recognition of a capital gains reserve claimed on a s. 84.1 transfer to a purchaser corporation is irrelevant to the operation of the ACB grind
CRA considers that s. 84.1(2.1) essentially treats a resident individual who. having made a non-arm’s length transfer of shares to a purchaser corporation, then claims a capital gains reserve on the disposition, to have claimed a capital gains deduction on the disposition to the extent of the individual’s unused capital gains exemption room in that year, irrespective of whether such exemption was actually claimed and regardless whether there is no intention to claim the deduction when the reserve is recognized in future years.
Neal Armstrong. Summary of 2015-0594461E5 under s. 84.1(2.1).