News of Note
CRA considers the Treasury Board per-kilometre travel rates to always be “fair and reasonable”
Email this ContentIn connection with confirming that for medical expense tax credit purposes regarding medically-necessary travel, CRA uses the per-kilometre rates set by the National Joint Council (NJC) of the Public Service of Canada (which have been adopted by the Treasury Board), CRA stated:
The CRA has always accepted the NJC rates as fair and reasonable. The NJC determines the rates by analyzing new vehicle prices, depreciation and financing rates, current fuel prices, insurance premium rates, and operating costs in each province or territory.
Neal Armstrong. Summary of 12 July 2018 Ministerial Correspondence 2018-0761301M4 under s. 118.2(2)(h).
Finance issues comfort letter respecting provision of a deemed repayment rule for B2B loans under s. 90(7)
The upstream loan regime in s. 90 provides for income inclusions under s. 90(6) for certain loans and indebtedness owing to FAs, and offsetting deductions on repayment under s. 90(14). The rules contain back-to-back loan (B2B) provisions in s. 90(7). Finance was provided with an example where a B2B loan from an foreign affiliate of Canco to Forco 1 and by Forco 1 to Forco 2 (both specified debtors respecting Canco but not foreign affiliates) was repaid, and a fresh loan was made to a third specified debtor respecting Canco. The concern was expressed that the repayment of such B2B loan would not result in repayment of the deemed direct loan under s. 90(7) from Canco to Forco 2, so that Canco would face double income inclusions from the still-outstanding deemed loan and from the new actual loan.
As foreshadowed at the 2018 IFA Finance Roundtable, Q.10, Finance indicated that it was recommending to the Minister that there be new repayment rules (effective for repayments after April 10, 2018) similar to the ones in s. 15, so as to eliminate a second income inclusion under the (now deemed-repaid) B2B loan. In particular, what is recommended are:
rules - similar to the deemed repayment rules in subsections 15(2.18) and (2.19) (which apply for the purposes of the back-to-back shareholder loan rules in subsections 15(2.16) and (2.17), but with such modifications as are required by the context of the upstream loan rules - that would deem all or a portion of a loan that is deemed to be made under subsection 90(7) to be repaid for the purposes of paragraph 90(8)(a) and subsection 90(14) if certain conditions are met.
These conditions would be similar to those in subsection 15(2.18). In general terms, a loan deemed to have been made under subsection 90(7) would be deemed to be repaid, in whole or in part, as a result of certain repayments, in whole or in part, of one or both of the loans between the "initial lender" and the "intermediate lender", and the "intermediate lender" and the "intended borrower" (as those terms are defined in subsection 90(7)).
Neal Armstrong. Summary of May 1, 2018 Finance Comfort letter under s. 90(14).
CRA’s published position on the imposition of branch tax on U.S. LLCs with non-resident U.S.-citizen members may not reflect its assessing practice
In response to a recent post on the hybrid rules in the Canada-U.S. Treaty, a correspondent suggested that the reference made in the post to the published CRA position on the imposition of Canadian branch tax on U.S. LLCs with a Canadian business does not reflect CRA’s actual assessing practices. Art. X(6) provides:
“Nothing in this Treaty shall be construed as preventing [Canada] from imposing a tax on the earnings of a company attributable to permanent establishments in [Canada], in addition to the tax which would be chargeable on the earnings of a company which is a resident of [Canada], provided that any additional tax so imposed shall not exceed [5%]… .”
Because Article X(6) only refers to “companies”, CRA has stated that it does not operate to reduce the branch profit tax rate on income that is deemed to have been derived by non-corporate LLC members through the LLC.
The point made was that, contrary to this view, Art. X(6) is not a relieving provision, but is instead an exception to Art. XXV which, inter alia, prevents Canada from subjecting U.S. nationals (e.g., U.S. citizens or companies) to taxation in Canada that is more burdensome than that imposed on Canadian nationals – as signalled by the Art. X(6) preamble, which states that it applies notwithstanding anything else in the Convention (i.e., Art. XXV) (thereby permitting the 5% branch tax to be imposed on U.S. companies).
A December 2013 article on this point states:
[T]he alternative interpretation advocated in this article, to the effect that Article X(6) serves as an exemption to the non-discrimination provisions contained in Article XXV of the Treaty and only permits Canada to impose a 5% branch profits tax on corporations, is, we would submit, entirely consistent with both the text and the spirit of the Treaty.
We are aware of several instances recently (either at the audit or the objection stage) where the CRA has backed away from its published views on the branch profits tax provisions, and instead opted to apply the interpretations advocated herein.
Neal Armstrong. Summary of Carl Irvine and Todd Miller, "Canadian Branch Profits Tax - Challenging the Denial of Treaty-Benefits for US LLCs," Newsletter - TerraLex Connections, 26 December 2013 under Treaties – Income Tax Conventions – Art. 4.
Income Tax Severed Letters 5 September 2018
This morning's release of three severed letters from the Income Tax Rulings Directorate is now available for your viewing.
CRA accepts that a significant arm’s length investment in a related corporation that will purchase the assets retained under a s. 55(3)(a) spin-off did not occur as part of the series
Mother along with an arm’s length business associate (“Investor”) wanted to use some of the assets of the family business corporation (“Amalco”) to engage in some sort of development project, whereas her daughter did not want any part of this. Accordingly, it was agreed that one of the two businesses would be spun off to the Daughter’s Newco under s. 55(3)(a). It was also contemplated that thereafter the business retained by Amalco would be sold by Amalco at fair market value to a recently formed development company (XCo) which was controlled by Mother but in which Investor had made a significant equity investment.
This investment by Investor would have jettisoned s. 55(3)(a) treatment of the spin-off by virtue of s. 55(3)(a)(ii) if it had been considered to have occurred as part of the same series of transactions. However (before giving a s. 55(3)(a) ruling of sorts), CRA accepted a representation that:
The Acquisitions [including Investor's equity investment] did not rely on the Proposed Transactions in order to produce a given result. The Proposed Transactions will not rely on the Acquisitions to produce a given result.
In addition ... the Acquisitions ... would have been undertaken irrespective of whether any of the Proposed Transactions will be implemented..
Neal Armstrong. Summary of 2018 Ruling 2017-0683941R3 under s. 55(3)(a)(ii).
Solar Power. v. ClearFlow - Ontario Court of Appeal confirms that a daily discount fee had the 3 attributes of interest
A typical loan made by the lender (ClearFlow) to the borrower bore base interest rate of 12% p.a. compounded monthly, an administration fee that was charged when the Loan was initially advanced, and each time it renewed (of, say, 1.81% of the loan balance), and a “discount fee” of 0.003% per day of the outstanding principal. Sharpe JA confirmed the finding of the application judge that the administration fee was not interest, as well as his finding that the discount fee was interest, stating:
[T]he amount of the fee did not vary according to the administrative work required by the loan as in the case of the administrative fee, and the fee was charged at a daily fixed rate unrelated to any ongoing or specific events… [It] bore all the hallmarks of the test for interest: it was consideration or compensation for the use of money, it related to the principal amount, and it accrued over time.
He went on to find that the disclosure of the “rate” of such interest through the provision of a simple formula complied with s. 4 of the Interest Act. For this and other reasons the borrower was unsuccessful in its arguments that the total interest under the loan was subject to a 5% cap imposed under s. 4.
For a borrower whose business in not money-lending or something similar, the distinction between a fee and interest informs whether deductibility of a lender's charge is to be analysed under s. 20(1)(e) or (e.1), or under s. 20(1)(c).
Neal Armstrong. Summary of Solar Power Network Inc. v. ClearFlow Energy Finance Corp., 2018 ONCA 727 under s. 20(1)(c).
Custeau – Court of Quebec finds that GAAR did not apply where individuals used PUC thrust upon them by an arm’s length investor (through PUC averaging) to subsequently strip surplus
When the taxpayers’ corporation (“Opco”), a small business corporation, was in financial difficulty, a Quebec regional development fund agreed to inject equity capital in Opco on terms dictated by the fund – which entailed the fund investing in the common shares of Opco, so that the paid-up capital of the taxpayers’ shares was boosted from a nominal amount to $1.45 million. About five years later, the taxpayers engaged in capital gains crystallization transactions in which they transferred most of their common shares of Opco to personal holding companies, realizing capital gains of $1 million, and took back preferred shares with a correlative adjusted cost base and also a paid-up capital that reflected the earlier step-up in the transferred shares’ PUC. Following the repurchase of all of the fund’s common shares of Opco, the taxpayers’ had their Holdcos distribute most of the PUC of their preferred shares in cash.
The ARQ considered there to have been abusive surplus-stripping, and applied the Quebec general anti-avoidance rule to treat most of the paid-up capital distributions as taxable dividends. Dortélus JCQ found both that there had been no avoidance transaction (with his focus being on the boosting of the paid-up capital of the taxpayers’ shares), and that there was no abusive tax avoidance.
Respecting his first finding, he noted that the increase in the taxpayers’ PUC was not their doing but was a result of terms imposed by the fund, and that at that time it was “financially inconceivable” that Opco would be able to turn around within six years so as to both redeem out the fund at a large gain to it and fund the distribution of the taxpayers’ PUC.
Respecting his second finding, he accepted the taxpayers’ submission that Pomerleau and 1245989 were distinguishable on the basis that in those two decisions “the surpluses were stripped as part of ‘internal’ transactions between individuals and corporations not dealing at arm’s length, which is not the case here, as there is an arm’s length relationship between the plaintiffs and [the fund].”
Neal Armstrong. Summaries of Custeau v. Agence du revenu du Québec, 2018 QCCQ 5692 under s. 245(3) and s. 245(4).
Where an LLC has a Canadian business, it may be advantageous for U.S. members to hold their membership interests through S Corps
Art. IV(6) of the Canada-U.S. Treaty does not provide Treaty benefits to non-U.S. residents (including Canadians) investing through an LLC. This extends to the situation where the LLC carries on business in Canada but does not have a Canadian permanent establishment, so that only the income allocable to the LLC's U.S. resident members would be exempted under Art. VII. Where U.S. resident individuals invest through an LLC, CRA considers that the pro rata share of branch earnings attributable to them should be subject to branch tax at the statutory 25% rate rather than the Treaty-reduced 5% rate, since the relieving provisions in Art. X(6) are only applicable to corporations. This might be addressed by interposing S Corps (viewed by CRA as Treaty residents notwithstanding their U.S. tax transparency) as the members of the LLC.
Neal Armstrong. Summary of Julie Colden and Éric Lévesque, “An In-Depth Look at the Hybrid Rules in the Fifth Protocol,” 2017 Annual CTF Conference draft paper under Treaties – Income Tax Conventions – Art. 4.
Care should be taken in structuring an inbound PE investment or in implementing post-acquisition restructuring so as to avoid FAD-rule application
As a result of an amendment enacted on December 2017, the foreign affiliate dumping (FAD) rules have been expanded to apply where the Canadian corporation (CRIC) making the investment in the non-resident subject corporation is not itself controlled by a non-resident corporation but a non-arm’s length Canadian resident corporation is, and the subject corporation is a foreign affiliate of that other Canadian corporation but not of the CRIC. This expanded rule might apply, for example, where the CRIC is a 9% shareholder of Canco with the other 91% held by Canco’s non-resident parent and the CRIC lends to a non-resident subsidiary of Canco – provided that the CRIC does not deal at arm’s length with Canco as a factual matter.
It is suggested that the s. 212.3(25) deeming rule likely supplements rather than supplants the regular de jure control test, so that if there is an acquisition by a limited partnership, a determination as to whether the FAD rules apply should take into account both the residence of the general partner and also, having regard to the s. 212.3(25) look-through rule, whether there is any control of the CRIC by a limited partner.
Application of the FAD rules where there is an inbound investment through a private equity LP with a non-resident general partner could be avoided, for example, through the use of subsidiary buyco LP having a Canadian-resident general partner. Given that the drafting of those rules chose foreign corporate control rather than foreign economic ownership as the tripping point for their engagement, such avoidance “appears to be consistent with the object and spirit of the FAD rules.”
The supposed safe harbour in s. 212.3(18)(a)(i) for transfers of shares or debts of subject corporations between Canadian-resident corporations operates in a capricious manner having regard to any reasonable policy rationale for the scope of this exception. To mention only one example, if an acquisition of control of a foreign parent (“FP”) holding Canco1 (which, in turn, holds Canco2) is followed as part of the series of transactions by a transfer of a foreign affiliate between the two Cancos, the safe harbour is unavailable – unless, following such acquisition of FP, FP first transfers the Canco1 shares it owns to a new Canadian corporation and a new Canadian company is also inserted between Canco1 and Canco2.
Neal Armstrong. Summaries of Dean Kraus and John O’Connor, “Foreign Affiliate Dumping: Selected Issues,” 2017 Annual CTF Conference draft paper under s. 212.3(1)(a)(ii), s. 212.3(1)(b) and s. 212.3(18)(a)(i).
Six further full-text translations of CRA interpretations are available
The table below provides descriptors and links for six Interpretation released in March 2013, as fully translated by us.
These (and the other full-text translations covering all of the 639 French-language Interpretations released in the last 5 1/2 years by the Income Tax Rulings Directorate) are subject to the usual (3 working weeks per month) paywall. You are currently in the “open” week for September.