News of Note
Income Tax Severed Letters 28 February 2024
Email this ContentThis morning's release of six severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Yao – Tax Court of Canada finds that the denial of the CCB benefit to refugee claimants was not contrary to the Charter
Bocock J held that he was bound by the decision in Almadhoun (2018 FCA 112) that, as a matter of statutory interpretation of s. 122.6 – eligible individual - s. (e)(ii) of the Canada child benefit (the “CCB”) provisions, the CCB was not available to refugee claimants. He also found that the exclusion of refugee claimants from the CCB was not contrary to s. 7 or 15 of the Charter. Regarding s. 7 (security of the person), Bocock J noted the finding in Carter (2015 SCC 5) that security of the person is engaged by “state interference with an individual’s physical or psychological integrity, including any state action that causes physical or serious psychological suffering” and found that “[w]hile the mental health of the [refugees before him] was impacted, this does not constitute a ‘serious and profound effect’ … .”
Regarding s. 15(1) (discrimination), he was bound by the finding in Toussaint (2011 FCA 213) that immigration status is not an analogous ground, and he indicated that “[r]efugee claimant status is conceptually a subset of immigration status.”
The denial of the CCB to refugees claimants also, in its impact, did not create a distinction on the basis of race or sex. He noted in this regard that “racialized people” already received the CCB in a greater proportion than their representation within the Canadian population, and that there was “insufficient evidence that excluding refugee claimants from the CCB disproportionately affects racialized women receiving the benefit.”
Neal Armstrong. Summaries of Yao v. The King, 2024 TCC 19 under s. 122.6 – eligible individual - s. (e)(ii), Charter, s. 7(1), s. 15(1).
We have translated 6 more CRA interpretations
We have translated 6 further CRA interpretations released during April of 2002. Their descriptors and links appear below.
These are additions to our set of 2,762 full-text translations of French-language Technical Interpretation and Roundtable items (plus some ruling letters) of the Income Tax Rulings Directorate, which covers all of the last 21 3/4 years of releases of such items by the Directorate. These translations are subject to our paywall (applicable after the 5th of each month).
Arrangements to use a ULC to generate an interest deduction in Canada and the US, or a non-inclusion in the US, need to be examined under the hybrid mismatch rules
In considering the application of the hybrid mismatch arrangements to cross-border arrangements involving the generation of an interest deduction to a Canadian unlimited liability company (ULC), one should be mindful of the currently-drafted rules in Bill C-59 (the “first package”) and a potential “second package” to implement other proposals contained in the (BEPS) OECD Action 2 Report.
In Example 1, a US C corporation (“US Parent”) wholly owns a Canadian ULC (“Cansub”) that is disregarded in the U.S. and to which it made an interest-bearing loan. The interest payments are deductible in Canada by Cansub.
Although there is a deduction in Canada but no recognition of income in the United States, resulting in a deduction/non-inclusion (D/NI) mismatch, this structure may not represent a hybrid financial instrument under the first package given inter alia that the D/NI mismatch arises primarily because of the difference between the countries in their tax treatment of Cansub (as opaque or disregarded) and not because of a difference in the tax treatment of the financial instrument as such and that the OECD Action 2 Report states that “[a] payment cannot be attributed to the terms of the instrument where the mismatch is solely attributable to the status of the taxpayer or the circumstances in which the instrument is held.”
Regarding the second package, the BEPS Action 2 Report relevantly provides that no mismatch will arise to the extent that the payer’s deduction is set off against “dual-inclusion income,” being an item included in income under the laws of both the payer and payee jurisdictions. Interest expense might be disallowed in Canada to the extent that Cansub was in a net loss position. A deeming rule might be introduced to deem the interest payment to be a dividend paid to US Parent, which would be subjected to a 25% withholding tax rate based on the anti-hybrid rule in Art. IV(7)(b) of the Treaty.
In a variation of Example 1, the loan to Cansub is made by a US C-corp. subsidiary of US Parent (US Sub) out of its own funds rather than by US Parent.
As in Example 1, it is arguable that the first package will not apply.
Respecting the second potential package, although Cansub would be a “hybrid payer” (its interest payments are deductible in Canada and also generate a duplicate deduction for the US investor, viz., US Parent, in the US), the BEPS “deductible payments rule” does not apply if a deduction can be offset against an amount that will be included in income in both jurisdictions, so that if the interest expense can be offset against income of Cansub (which is taxed in both jurisdictions), the rule may not apply – but may apply if Cansub is in a loss position.
Example 3 is the same as Example 2, except that Cansub receives the loan from a third party rather than US Parent. There is a double interest deduction: by Cansub in Canada; and by US Parent in the US.
If this was not a structured arrangement (which would entail it being reasonably considered that a portion of the economic benefit arising from the D/NI mismatch is reflected in the pricing of the transaction giving rise to a D/NI mismatch, or the transaction or series was otherwise designed to give rise to the D/NI mismatch), then it would not be considered a hybrid financial instrument arrangement and would not be caught by the first package.
Regarding the potential second package, there is a BEPS scoping rule, which denies a deduction in the payer jurisdiction (Canada) only where the parties are in the same control group or are part of a structured arrangement – so that if this loan is not a structured arrangement, the interest deduction may not be disallowed in Canada.
Neal Armstrong. Summary of Simon Townsend and Silvia Wang, “Can the Hybrid Mismatch Rules Affect Canadian ULCs?”, International Tax Highlights, Vol. 3, No. 1, February 2024, p. 5 under s. 18.4(10).
CRA indicates that it has no discretion to extend the 2-year refund application deadline under s. 227(6)
CRA reassessed a Canadian-resident discretionary personal trust to deny the s. 104(6) deduction it claimed for income it had distributed to a Barbados-resident beneficiary, on the grounds that there had been an income inclusion to that beneficiary under s. 105(1) rather than s. 104(13). On the basis that there was no Part XIII tax on a s. 105(1) benefit, the beneficiary applied, beyond the two-year period under s. 227(6) for doing so, for a refund of the Part XIII tax that had been withheld on the distributions.
In finding that the refund application should be denied, the Directorate stated:
[W]here the specific conditions of subsection 227(6) have not been met, the implied exception rule … prevents relief from being available under the more general provision of subsection 220(2.1). Such relief would not be harmonious with … the intention of Parliament to limit Part XIII refund applications to two years after the end of the calendar year in which the amount was paid to the non-resident. …
[T]here is no relief available to a taxpayer under the Canada-Barbados Tax Convention to override the two-year limitation period required by subsection 227(6).
The above answer implies that CRA regarded s. 220(2.1) as having a potentially broad scope. There was no indication of whether CRA’s refusal to exercise discretion under s. 220(2.1) was challenged by the beneficiary on the usual Vavilov grounds.
Neal Armstrong. Summaries of 6 October 2022 Internal T.I. 2021-0911541I7 under s. 227(6), s. 227(10.1), and s. 221.2.
Income Tax Severed Letters 21 February 2024
This morning's release of six severed letters from the Income Tax Rulings Directorate is now available for your viewing.
CRA publishes a new Folio on inter-provincial corporate income allocation
CRA has released a new Folio on the corporate interprovincial income allocation rules in Part IV of the Regulations. Positions noted include:
- Gross revenue for Pt. IV purposes including the general allocation formula in Reg. 402(3) (generally giving equal weight to relative gross revenues and relative salaries and wages) does not include expenditure-related credits, such as expenditure reimbursements, volume rebates (“as these amounts would normally relate to expenditures incurred”) and governmental assistance respecting taxpayer expenditures.
- Reg. 402(5), which provides that, for Reg. 402(3) purposes, corporate gross revenue does not include interest on bonds, debentures or mortgages, dividends - or rentals or royalties from property that is not used in connection with the principal business operations – is broadly interpreted by CRA to also extend to interest on promissory and other notes, bankers’ acceptances, intercompany loans, certificates, guaranteed investment certificates, and any unsecured debt instruments.
- Regarding the allocation pursuant to Regs. 402(4)(j) and 402(5) of rents from land that is used in the corporation’s principal business operations, CRA considers that gross revenue from non-financial leases (generally, operating leases) should be allocated:
- to the permanent establishment in the province in which the leased property is being used, where the corporation has reasonable knowledge of such information (based on what it already was required to know for business reasons); or.
- if the corporation does not have reasonable knowledge of where the property is being used, or does not have a permanent establishment in the jurisdiction described in (a) above, the gross revenue should be allocated to the permanent establishment to which the person negotiating the lease may reasonably be regarded as being attached.
- Regarding the recharacterization under Reg. 402(7) of fees paid by a corporation to a services provider as salary where the services are in respect of services that would “normally” be performed by the corporation’s employees, CRA considers that these rules apply where:
- The service or function performed by the service provider must be one that is already performed by an employee of the corporation. Subsection 402(7) will not apply in situations where the corporation does not have any employees.
- The need for the individual service provider to perform a particular service or function is short-term.
- Each member of a partnership has a permanent establishment where the partnership has PEs, and the gross revenue and salaries and wages of the partnership for a taxation year are considered to be allocated under Reg. 402(6) based on the respective corporate partners’ shares of the partnership income for that year.
Neal Armstrong. Summaries of Income Tax Folio S4-F3-C2, Provincial Income Allocation, 30 January 2024 under Reg. 402(3), Reg. 402(5), Reg. 402(4)(g), Reg. 402(4)(j). Reg. 402(7), Reg. 402(8), Reg. 402.1(1) and Reg. 402(6).
We have translated 8 more CRA interpretations
We have translated 2 CRA interpetations released last week and a 6 further CRA interpretations released during April of 2002. Their descriptors and links appear below.
These are additions to our set of 2,756 full-text translations of French-language Technical Interpretation and Roundtable items (plus some ruling letters) of the Income Tax Rulings Directorate, which covers all of the last 21 3/4 years of releases of such items by the Directorate. These translations are subject to our paywall (applicable after the 5th of each month).
Messrs. Jones and Love discuss numerous fund taxation issues including restrictions on pushing out capital gains, and the onerous investment fund and EIFEL rules
There is space in this post to mention only a few of the fund issues discussed.
S. 132(5.3)(b) produced an inappropriate result for exchange-traded funds (ETFs) where a market maker, in order to avoid the units trading at a significant discount to NAV, would purchase units on the exchange and redeem them, and also subscribe for units, so that effectively all the redemption proceeds were paid to a unitholder (the market maker) with full cost for its redeemed units, without account being taken of the gains of the unitholders selling their units to the market maker.
This led to s. 132(5.31). However, if a significant portion of an ETF’s capital gains related to satisfying units redemptions rather than being from ordinary course trading activities, and the amount paid to redeeming unitholders was small relative to the aggregate NAV of all ETF units, then the ETF would only be able to allocate a small portion of those capital gains to redeemed unitholders (and a July 29, 2020 IFIC submission suggested that the ETF should be allowed to allocate to redeemed unitholder a proportionate amount of the ETF’s unrealized gains at the beginning of the day on which the redemptions occurred).
A trust breaching any of the conditions in paras. (a) or (b) of the definition of investment fund, even momentarily, will permanently lose its investment fund status and thus lose protection from the occurrence of a loss restriction event.
In practice, it is possible for funds to violate the concentration test in (b)(vi)(D) of the investment fund definition by investing in a bottom fund that is a partnership, a Canadian resident trust that is not an investment fund, or a non-resident trust or corporation, given that the fund might have obtained exemptive relief in this regard from the application of NI 81-102.
The s. 18.2 limitations on deducting interest and financing expenses can be relevant to a fund, for example, if the bank-owned asset manager (by virtue of providing seed capital) or the bank-owned broker-dealer (by virtue of its market-maker function) owned more than 50% of the FMV of the fund units.
The adjusted taxable income (ATI) definition in relation to a trust requires adding back (under Variable B(g)) the s. 104(6) deductions of the trust except to the extent of any portion designated under s. 104(19) in respect of taxable dividends, and Variable C(h) deducts any s. 104(13) inclusion to the trust except to the extent of the portion designated under s. 104(19).
A trust with interest and financing expenses of $30 (e.g., loan interest) which invested in Canadian equities, received $100 of taxable dividends and distributed $70 to its unitholders which it designated under s. 104(19), would have an ATI of $30 (reflecting the add-back of the IFE, but with not the add-back of the $70 under B(g) because of the s. 104(19) designation) so that the trust could deduct no more than $9 of interest in the year, thereby requiring a further distribution of $21 of income.
A trust receiving all of its income (being $100 of ordinary income) from a trust investment would have an ATI of nil - since, although it would have an addback of its $30 of IFE under B(a) and of $70 under B(g) for its s. 104(6) deduction, the $100 of income received from the subtrust and included in its income under s. 104(13) would be deducted under C(h), so that the IFE could not be deducted.
Neal Armstrong. Summaries of Josh Jones and Jeffrey Love, "Recent Developments in Asset Management", draft 2023 CTF Annual Conference paper under s. 132(5.3)(a), s. 132(5.3)(b), s. 104(7.1), s. 132(4) – capital gains redemption, s. 132(5.31), s. 251.1(2)(b), s. 251.2(1) – investment fund, s. 18.2(1) – excluded entity – (c), eligible group entity, adjusted taxable income, and s. 94(1) - fixed interest.
CRA finds that a carpooling arrangement is inherently unreasonable under s. 6(1)(b)(x)
In order to encourage carpooling and have a positive effect on the environment, a company pays a car travel allowance as follows:
- Per kilometre rate: $0.50
- Additional allowance of $0.10 per kilometre for each additional person accompanying the driver.
In finding that the additional allowance rendered the total allowance as a taxable benefit, CRA stated:
[T]he two parts of the allowance constitute a single allowance since they relate to the same use of the vehicle. … [T]his allowance is deemed not to be reasonable under subparagraph 6(1)(b)(x) because the use of the vehicle is not determined solely on the basis of the number of kilometres driven to perform the duties of the employment.
Neal Armstrong. Summary of 29 November 2023 External T.I. 2019-0812661E5 F under s. 6(1)(b)(x).