News of Note
CRA indicates that the Treaty anti-hybrid rule (Art. 7(b)) applies to dividends paid by a ULC to two LLCs held by U.S. C-Corps
Email this ContentA Canadian-resident unlimited liability company (ULC) pays dividends to its two (disregarded) LLC shareholders, which are each held by a U.S. C-Corp. Are the dividends eligible for Treaty benefits?
CRA indicated that because ULC is fiscally transparent, the payment from ULC of a dividend is viewed as a partnership distribution, so that the same result in the two jurisdictions is not being obtained. Accordingly, the application of the anti-hybrid rule in para. 7(b) of Article IV of the Treaty would apply, so that the LLCs (which in the absence of the 7(b) rule, would qualify under para. 6 of Art. IV for Treaty benefits) would be subject to 25% Canadian withholding tax on the dividends.
Neal Armstrong. Summary of 21 November 2017 CTF Annual Conference Roundtable, Q.11 under Treaties – Articles of Treaties - Art. 4.
CRA indicates that it could assess the same cross-border transaction both under GAAR and the PPT
CRA indicated that the GAAR Committee “may offer a useful model” for ensuring consistency of application of the MLI principal-purpose test (“PPT”) within the CRA when the MLI comes into effect. PPT ruling requests will be entertained when this occurs.
Although CRA continues to contemplate the application of GAAR to transactions undertaken primarily to secure a tax benefit accorded by a tax treaty (and has done so), it considers that in appropriate circumstances, the PPT and GAAR could apply as alternative assessing positions.
CRA considers it to be premature to assess how the case law on s. 245(4) will inform the PPT’s application.
Neal Armstrong. Summary of 21 November 2017 CTF Annual Conference Roundtable, Q.8 under Treaties - MLI - Art. 7(1).
CRA indicates that it will not extend its policy on set-off of unequal redemption notes beyond a butterfly reorg
As described in 2015-0601441R3, a partnership was wound-up under s. 98(5) by one partner (Sub2) transferring its partnership interest under s. 85(1) to the other partner (Sub2) for consideration including Sub1 Preferred Shares.
A second ruling letter deals with the elimination of this cross-shareholding in reliance on the s. 55(3)(a) rule. This is accomplished by the Parent of Sub2 exchanging its common shares of Sub2 under a s. 86 reorg for new common shares and (non-voting redeemable retractable) Sub2 Preferred Shares – and then transferring the Sub2 Preferred Shares under s. 85(1) to Sub1 under s. 85(1) in exchange for common shares of Sub1. Notes arising from the cross-redemption of the Sub1 Preferred Shares and Sub2 Preferred Shares then are set-off.
CRA ruled that the debt forgiveness rules would not apply to the note set-offs provided that the two notes were equal in amount. This is not as vacuous as it sounds. On a spin-off that complied with the butterfly rules, CRA would have ruled that s. 80 did not apply to the note set-off even though the two note amounts differed. This note difference typically arises because the value of the shares of the distributing corporation has a discount for underlying taxes, whereas the assets distributed by it to the transferee corporation do not. Here, the summary answered the question of “Whether administrative position in respect of section 80 applies” with “No,” stating: “Set-off and cancellation of debts not occurring in context of a distribution as defined in subsection 55(1).” The value of the Sub1 Preferred Shares reflected the value of a partnership interest for which there would be no discount for underlying taxes, whereas the value of the Sub2 Preferred Shares was effectively required to be based on the value of that partnership interest even though their redemption value was being carved out of a Sub2 equity value that likely reflected such a discount.
After the ruling application went in, a paragraph was added stipulating that, on the s. 86 reorg of Sub2, the paid-up common shares of the old common shares of Sub2 would be divided between the Sub2 Preferred Shares and the new common shares based on their relative fair market value.
Neal Armstrong. Summary of 2016 Ruling 2015-0623731R3 under s. 55(3)(a), s. 80(1) – forgiven amount and s. 86(1).
9141-5315 Québec - Court of Quebec finds that a restaurant established due diligence respecting a cashier’s failure to provide a receipt
A Revenue Quebec employee made a purchase at a Tim Hortons restaurant in Montreal and was not provided by the cashier with a receipt. The restaurant was charged for this failure under a more rigorous Quebec version of ETA s. 223(2) that was applicable to Quebec restaurants.
In finding that the restaurant had made out a due diligence defence, Costom JCQ noted that it had a detailed system in place to remind employees of the obligation to provide a receipt (including a pop-up reminder on the cash register on each sale, required written acknowledgements of this obligation by the employees and potential disciplinary consequences) and stated:
All these measures have satisfied the Court that the accused was not simply content to inform its employees of the obligation to provide customers with their invoice, but that it had put into effect a system of control and supervision of the application of this directive.
Neal Armstrong. Summary of Agence du revenu du Québec v. 9141-5315 Québec Inc., 2017 QCCQ 12233 under ETA s. 223(2).
CRA indicates that where Holdco receives a dividend subject to refundable Pt. IV tax and to s. 55(2), two different dividends should be reported for Pt. IV and s. 55(2) purposes
Holdco receives a dividend of $400,000 that is subject to Part IV tax of $153,333 (38.33% of $400,000) equalling the connected payer’s dividend refund and, in turn, pays a dividend to its shareholders resulting in a refund of the Part IV tax – so that the dividend received by Holdco is subject to s. 55(2). However, such application of s. 55(2) converts the dividend into a capital gain, thereby (it was suggested) reducing the Part IV tax under a circular calculation.
CRA considered such a circular calculation to be contrary to the scheme of s. 55(2), that for a dividend to be subject to s. 55(2), based on a Part IV tax refund, such refund must be a real refund of real tax (as per Ottawa Air Cargo) and that the right approach is for Holdco to declare $153,333 of Part IV tax in its initial return and, in a second return, show the Part IV tax paid for the taxation year as unchanged, even though the amount of the dividend received has been reduced by the application of s. 55(2).
Neal Armstrong. Summary of 21 November 2017 CTF Annual Conference Roundtable, Q.6 under s. 55(2).
CRA indicates that, notwithstanding dividend bifurcation under s. 55(5)(f) (or 55(2.3), the s. 55(2.1)(b) purpose test is to be applied to the whole dividend
CRA did not like the suggestion that safe income of Opco effectively can be duplicated on the basis that where a dividend in excess of safe income is paid by Opco to Holdco, the bifurcation by s. 55(5)(f) of the dividend into two parts means that the first component is protected as coming out of safe income, and the second component also is not subject to s. 55(2) if, as per s. 55(2.1)(b), its purpose is not to significantly reduce the gain on or the value of the shares.
However, to get to the “right” result, CRA applied a gymnastic interpretation of ss. 55(2.1) and (2) under which in four places “dividend” refers to the whole dividend, and in two places refers only to the portion thereof in excess of safe income. For some reason, this brings to mind the statement in Gulf Canada that: "There is a strong, indeed overwhelming, presumption that Parliament, having used the same word three times in the same subsection, intended it to bear the same meaning each time."
Hopefully Finance will accept the CRA interpretation as being judicially persuasive, so that these rules do not suffer further encrustation.
Neal Armstrong. Summary of 21 November 2017 CTF Annual Conference Roundtable, Q.5 under s. 55(2.1)(b) and s. 55(2.3).
CRA indicates that there is an immediate CDA addition for a non-redemption dividend subject to s. 55(2)
S. 55(2)(c) deems most dividends that did not arise on a share redemption and to which s. 55(2) applies to be gains “for the year,” without specifying when in the year the deemed gains occurred. In a reversal of the result in 2011-0412131C6 (which dealt with somewhat different statutory wording), CRA has now indicated that a gain under s. 55(2)(c) is deemed to be realized at the time of the payment of the dividend, with the result that there is an addition to the capital dividend account at that time rather than only on completion of the year.
Neal Armstrong. Summary of 21 November 2017 CTF Annual Conference Roundtable, Q.4 under s. 55(2)(c).
CRA appears to indicate that QSBC purification dividends may not engage s. 55(2.1)(b)
CRA confirmed its position that:
- Where dividends were paid to purify a corporation for qualified small business corporation share purposes, it would be necessary under s. 55(2.1)(b) for the taxpayer to establish as a factual matter that the dividends had no purpose of reducing the gain on the shares or increasing the cost of property to the dividend recipient. The way in which the answer was articulated seemed to imply that regular annual dividends to distribute excess cash would be OK..
- Purpose for s. 55(2.1)(b) purposes is to be determined objectively (as articulated in Ludco) - rather than on the basis primarily of the taxpayer’s testimony as to its subjective intent.
Neal Armstrong. Summary of November 2017 CTF Annual Conference Roundtable, Q.3 under s. 55(2.1)(b).
Finance is still anticipating that its pending revised income-sprinkling proposals will be effective throughout 2018
Points made by Ted Cook include:
- As previously announced, the revised income sprinkling legislative proposals will not limit access to the lifetime capital gains exemption. What this means is that where the LCGE would be available prior to July 2017, that eligibility for the exemption will be preserved under the revised proposals.
- He reiterated the proposition that the revised income splitting proposals will look at total contributions, including previous contributions of capital or labour and assumptions of risk.
- In clarifying the annnouncement that measures to limit access to the lifetime capital gains exemption would not be proceeded with, he indicated that where the LCGE would be available prior to July 2017, that eligibility will be preserved under the revised proposals.
- The intention is still to have the (pending) revised split income proposals apply to 2018 and subsequent taxation years.
- Finance intends to continue to work on accommodating intergenerational transfers.
- Although s. 246.1 and the revised s. 84.1 are dead and the current focus is on passive income and income splitting, “We will have to see where we end up with the conversion of income into capital gains.”
- Finance is still working through key design elements in the revised passive income proposals, but also still expects that there will be detailed proposals in Budget 2018.
CRA intends for taxpayer to rely on appropriate exercise of discretion by senior auditors in voluntary disclosure matters when the new VDP takes effect later in 2018
Q.1 CRA explained that a major driver in its decision to make the voluntary disclosure program more stringent (along with pressure from the Finance Committee in the House of Commons) was CRA’s increasing confidence in its ability to detect high-risk taxpayers for audit.
Q.2, Q.15 The increase in CRA discretion under the revised program should be acceptable because there will be a group of three or four senior auditors whom representatives will be able to speak to on a no-names basis and who will have the judgment to give reliable guidance.
Q.8 There likely will be a delay in the implementation date for the new program until at least the summer of 2018 or perhaps October, although this decision is up to the Minister. Further major changes (or eliminating the VDP entirely) likely will not occur, if at all, for another three years.
Q.16 The revised Circular will be generally similar to the draft Circular.
Summary of 20 November 2017 CTF Annual Conference Panel on Issues in Administration and Enforcement.