News of Note
Not ignoring subsidiary debt for all TCP purposes can affect the TCP status of shares in a Canadian parent
Email this ContentA closely-held Canadian parent, whose shares are being tested as to whether they are taxable Canadian property (“TCP”), holds both debt and shares of a Canadian subsidiary. Assuming that, in this situation, “CRA’s approach…ignores the intercompany debt as an asset for the parent and as a liability for the subsidiary, but continues to recognize it in the calculation of the fair market value of the subsidiary’s equity,” then “this approach may…produce cases where an equity/debt capital structure of a subsidiary would result in the parent’s equity constituting TCP, where a 100% equity structure would otherwise not, and vice versa.”
Neal Armstrong. Summary of Jared A. Mackey, "Canada Revenue Agency Views on Taxable Canadian Property Determinations Involving Subsidiaries," Tax Topics (Wolters Kluwer), No. 2315, July 21, 2016 p. 1 under s. 248(1) – taxable Canadian property – para. (d).
CRA treats a Dutch co-op as a corporation
CRA briefly concluded (after the obligatory nod to its two-step approach to foreign entity classification) that a Dutch Co-op was a corporation for purposes of the Act. (See also 2010-0373801R3.)
Neal Armstrong. Summary of 21 June 2016 Memo 2015-0581151I7 under s. 248(1) – corporation.
CRA rules that conversion of a Delaware corporation to an LLC was not a disposition
CRA has ruled that the conversion of a Delaware C-Corp into an LLC does not entail a disposition at the shareholder or corporate level (see also 2008-0272141R3). The ruling letter stipulated that the existing common shares were converted into LLC “shares” with similar attributes rather than into an undivided membership interest, but appears to have been unnecessary, as CRA’s reasons referred to (i) the Delaware legislation treating the LLC as a continuation of the converting corporation and (ii) the LLC being a corporation for ITA purposes.
Neal Armstrong. Summary of 2016 Ruling 2015-0615041R3 under s. 248(1) – disposition.
CRA confirms that s. 132.11(4) requires backdating of December 31 income distributions by December 15 year-end MFTs even where their units were acquired in the stub period
Application of the plain wording of ss. 132.11(4) and 132.11(5)(c) can produce an odd result. Where, in the last 16 days of December, a mutual fund trust, which has elected a December 15 year end under s. 132.11(1), acquires some units of another mutual fund trust that also has elected a December 15 year end, an income distribution payable by the acquired trust on December 31 (presumably out of post-December 15 earnings) will be deemed to have been received by the top trust in its year that had already ended on December 15, notwithstanding that it was not a beneficiary of the acquired trust at that time.
Neal Armstrong. Summaries of 17 May 2016 T.I. 2014-0546831E5 under s. 132.11(4) and s. 132.11(3).
CRA confirms that no T1135 filing is required of a non-resident portion trust (or by a particular trust not holding foreign property)
S. 94(3)(f) provides for an election which effectively permits a (s. 94) deemed non-resident trust to elect to bifurcate itself into a “non-resident portion” trust (in broad-brush terms, holding property that has not been contributed by current or former residents of Canada) and the “particular trust” (holding the tainted property). CRA considers that neither of these two deemed subtrusts is required to report foreign property on T1135s provided that all the foreign property is held in the non-resident portion trust rather than the particular trust.
Neal Armstrong. Summary of 27 June 2016 T.I. 2014-0532601E5 under s. 94(3)(f).
Golini – Tax Court of Canada finds that a loan to a shareholder with recourse limited to an asset pledged by the corporation was a shareholder benefit (and an abuse of s. 84(1) when the loan was used to acquire high-PUC shares)
A simplified description of a “structured transaction” is that Opco used proceeds of a daylight loan to redeem shares of Holdco, which used those proceeds to purchase a life insurance policy (or, to be more precise, to purchase an annuity to fund the premiums on the acquired policy) from an accommodating offshore insurance company, with those funds making their way back, through a series of equally accommodating intermediaries, to the sole individual shareholder of Holdco (“Paul Sr.”) as a loan. This loan was guaranteed by Holdco, with the guarantee secured by Holdco’s life insurance policy. The loan terms limited the lender’s recourse thereunder to realization of such security.
In finding that most of the loan amount was a shareholder benefit, given that “Holdco has agreed to use insurance proceeds from a policy it owns to pay off its shareholder’s debt,” C. Miller J stated
The transactions were structured such that there would be no sensible reason for Paul Sr. to repay the loan. Everyone’s understanding was the annuity and insurance were the only manner in which the obligation of the… loan would be met… .
He did not consider it necessary, in order to reach the above conclusion, to consider that there had been an absolute assignment of the insurance policy by Holdco to the lender at the time of the loan – but considered that, in any event, the purported non-absolute assignment of the policy was a sham, which further buttressed his finding of a shareholder benefit. However, in referring to a clause in the purchased annuity contract which incorrectly indicated that there was a potential investment return on the annuity, he stated that
Although there has been a misrepresentation, my view is that to void the entire transaction as a sham transaction because of a misrepresentation that is not fundamental to the nature of the annuity extends the concept too broadly.
He also found that the 8% interest on the loan (which he appeared to consider to be in excess of a reasonable rate of 5.5%) was deductible in full, but that there was an offsetting shareholder benefit to the extent this interest was capitalized, so that Paul Sr. only received a net interest deduction for the portion of the interest (equivalent to about a 1.33% rate) paid by him in cash.
Paul Sr. used the loan proceeds to acquire shares of Opco with full paid-up capital, with Opco paying off the daylight loan. C Miller J found that if it had been necessary to rely on GAAR, he would have found “there is an abuse of the underlying policy of subsection 84(1).”
Neal Armstrong. Summaries of Golini v. The Queen, 2016 TCC 174 under s. 15(1), s.20(1)(c), s. 245(4), General Concepts – Sham.
Joint Committee Submission on B2B and s. 212.1(4) rule
The Joint Committee has provided very detailed submissions on the current back-to-back (B2B) loan rules and their proposed expansion in the 2016 Budget to rents, royalties and similar payments and on the narrowing of the exception in s. 212.1(4) from the s. 212.1 surplus-stripping rule.
Neal Armstrong. See Joint Committee submissions.
Income Tax Severed Letters 27 July 2016
This morning's release of 10 severed letters from the Income Tax Rulings Directorate is now available for your viewing.
CRA indicates that late-filed ETA s. 156 elections will not be accepted if there was negligence or GST/HST in fact was charged
Since 2014, GST/HST nil consideration elections under ETA s. 156 have been required to be filed with CRA rather than just stuffed in a filing cabinet. CRA has now published a Policy on when it will accept late-filed elections, which in addition to other more mechanical or obvious criteria, specifies that the parties must have consistently treated their inter-group supplies as having been made for nil consideration from the requested effective date onwards, the request for the late filing must “provide a clear explanation as to why the specified members have filed the election… late,” and “the parties to the late-filed election...must not have been negligent or careless in complying with the provisions of section 156.”
This last point is reinforced by an example which concludes with the comment:
The request would generally be accepted where the explanation as to why the election was filed late demonstrates that the parties were not negligent or careless in complying with the election provisions.
Similar criteria apply to a late-filed request for revocation of an election.
Neal Armstrong. Summary of P-155 under ETA s. 156(4)(b)(ii).
The international shipping non-residency exemption may cause a deemed exit tax for foreign shipping companies which had nil income in a prior year
There are some unresolved rules relating to the Canadian international shipping rules:
- The branch exemption found in s. 81(l)(c) only provides that the international shipping income earned by the foreign taxpayer is not included in income – it does not provide that the company is not carrying on business in Canada, thereby potentially resulting in an obligation for a large international shipping company to file hundreds of nil returns.
- It is not clear whether a foreign company can satisfy the revenue tests in s. 250(6)(b) if it happens to have nil revenue in a year, as might occur if its only assets are vessels under construction, or shares in vessel operating companies that do not pay any dividends in the year. If, as a result of this problem, it is considered to be resident in Canada, then in a subsequent year when it earns income qualifying it as a deemed non-resident of Canada under s. 250(6)(b), it will be treated as migrating from Canada, thereby triggering tax on accrued gains.
Neal Armstrong. Summaries of Michael Shields, "Taxation of International Shipping Companies in Canada," International Tax, Wolters Kluwer CCH, No. 88, June 2016, p. 1 under s. 81(1)(c) and s. 250(6)(b).