News of Note

In Sommerer, Sharlow JA found obiter that the gains exemption article in the Canada-Austrian treaty would have precluded the purported application of  a Canadian domestic gains attribution rule (s. 75(2)) to the Canadian taxpayer in that case even though the person invoking the exemption was that Canadian resident rather than the Austrian alienator (i.e., an Austrian foundation) of the Canadian shares giving rise to the attributed gain.  She found that preventing such "economic" double taxation was within the intended general purview of the treaty.

Michael Lang suggests that the "allocation conflict" arising on the Sommerer facts (i.e., Austria treating the Austrian foundation as the taxpayer, but with Canada attempting to treat the foundation as transparent) is analogous to Case study 16 of the OECD partnership report respecting a partnership with Partner A resident in State P and Partner B resident in state R. The partnership has a permanent establishment in State P and is treated as a taxable entity by State P while State R treats it as transparent and seeks to tax partner B on royalty income derived by the partnership.

Lang notes that the majority opinion in the partnership Report was that State R is able to tax partner B on his share of the royalty income. Under the same approach, Canada would be able to tax the Canadian taxpayer on gain of the foundation that under Canadian principles was allocated to the Canadian resident (if CRA had successfully established that s. 75(2) applied under Canadian domestic law).

Neal Armstrong.  Summary of Michael Lang, "Income Allocation Issues Under Tax Treaties," Tax Notes International, April 21, 2014, p. 285 under Treaties - Article 13 and Treaties - General and summaries of Sommerer v. The Queen, 2012 FCA 207 under Treaties - Article 13, Treaties- General and ITA  75(2).

CRA found that foreign currency forward contracts were entered into by the taxpayer on capital account notwithstanding that they were not put into place to hedge its FX borrowing until a few years after the borrowing. In addition, as it is CRA policy that property maintains its capital character when transferred on a s. 85 rollover to a controlled subsidiary or a sister, the taxpayer was able to utilize capital loss carryforwards of a subsidiary by subsequently transferring the forwards on a s. 85 rollover basis to the subsidiary, with the forwards being settled in the subsidiary’s hands.

Neal Armstrong. Summary of 5 March 2014 Memo 2013-0500891I7 under s. 9 – capital gain v. profit – foreign exchange, and s. 85(1.1).

CRA has published five of the Roundtable answers which it gave at the 2013 annual CTF conference:

• Q2(b).  Where there is a mismatch in the loans amounts comprising a back-to-back loan to which s. 90(7) applies, the pay-down in the larger loan amount is treated as not going first to reduce the notional upstream loan.
• Q5(a).  Where a U.S. public company has super-voting shares which are thinly traded or not at all, and subordinate voting shares which clearly are "regularly traded" on an exchange, CRA likely will not recognize it as a "qualifying person" under Art. XIXA, 2(c) of the Canada-US Convention.
• Q5(b).  CRA considers relative assets, revenues, income and payroll in assessing whether a US company’s business is "substantial" in relation to a connected Canadian business under Art. XXIX-A(3). However, this test can be satisfied by a US parent even if it now is bankrupt.
• Q9. CRA generally will accept that a gross revenue tax is an income tax if the taxpayer has an annual option to instead pay income tax at a reasonable rate.
• Q12. CRA would consider GAAR to apply to a transaction which avoids the stop-loss rule in s. 93(2.01) by creating a special class of shares to distribute exempt dividends prior to the sale of common shares of a foreign affiliate at a loss, even where the capital loss on such sale merely offsets an FX gain on a borrowing that was used to acquire the shares – unless such FX borrowing fits within the narrow confines of the s. 93(2.01)(b) safe harbor.
• Q12.  "It would be difficult to arrive at a different conclusion" for similar transactions in a s. 112(3) context. The absence of any safe harbour under s. 112(3) likely signifies an intention that nothing will work.
• Q15.  CRA does not accept using stock dividends to accomplish the approximate equivalent of a s. 85.1(3) drop-down.

These responses are now linked under the 2013 Roundtable summary.

Neal Armstrong.

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