News of Note
Alta Energy Luxembourg – Tax Court of Canada finds no abuse in non-resident investors using a s.à r.l. to avoid capital gains tax on a new Canadian exploration company
Email this ContentA Blackstone LP and a U.S. shale company held their investment in a Canadian subsidiary (Alta Canada), that was to develop a shale formation in northern B.C., through a Luxembourg s.à r.l. About two years after the acquisition by Altas Canada of the exploration licences, it was sold to Chevron Canada at a significant gain. The s.à r.l. relied on the exclusion in Art. 13(4) of the Canada-Luxembourg Treaty, which provided that the Alta Canada shares were not deemed immovable property (and thus not subject to Canadian capital gains tax) if the Alta Canada licences qualified as property of Alta Canada “in which the business of the company … was carried on.”
The Crown contended that this exclusion should be applied on a licence-by-licence basis, so that virtually all of the property would not be excluded as only six wells had been drilled by Alta Canada by the time of the sale to Chevron. In rejecting this submission, Hogan J noted that Alta Canada, by starting off slowly in its drilling of the formation, was being consistent with its approach of “the development of its working interest on a systematic and commercially prudent basis” and stated:
Since the purpose of the carve-out is to attract foreign direct investments, it is reasonable to assume that the treaty negotiators wanted the exception to be granted in accordance with industry practices.
The Crown also sought to apply the general anti-avoidance rule to deny use of the Treaty exclusion. It was bothered that the capital gain was taxed in neither jurisdiction, whereas the purpose of the Treaty was only to prevent double taxation. Hogan J stated:
[I]f Canada wished to curtail the benefits of the Treaty to potential situations of double taxation, Canada could have insisted that the exemption provided for under Article 13(5) be made available only in the circumstances where the capital gain was otherwise taxable in Luxembourg. Canada and Luxembourg did not choose this option. It is certainly not the role of the Court to disturb their bargain … .
More generally, he considered that, as “the significant investments of the Appellant to de-risk the Duvernay shale constitute an investment in immovable property used in a business,” the rationale for the exclusion had been satisfied.
Accordingly, the gain was Treaty-exempt.
Neal Armstrong. Summaries of Alta Energy Luxembourg S.A.R.L. v. The Queen, 2018 TCC 152 under Treaties – Income Tax Conventions – Art. 13 and s. 245(4).
CRA confirms that aborted target acquisition expenses may qualify as Class 14.1 additions
IT-143R3, para. 23 states:
Since an outlay or expense is an eligible capital expenditure only if it is incurred for the purpose of gaining or producing income from a business, legal and accounting fees incurred in an abortive attempt to acquire shares of a corporation would normally not qualify. Where, however, the taxpayer can demonstrate that he or she proposed to make the business of the corporation part of a similar business which the taxpayer already operated, the fees may qualify as eligible capital expenditures.
CRA confirmed that this policy continues to apply respecting additions to Class 14.1. No mention was made of Rio Tinto, which carves out from acquisition expenditures those made before the decision to acquire is made.
Neal Armstrong. Summary of 19 July 2018 External T.I. 2017-0727041E5 under Schedule II, Class 14.1.
Devon – Tax Court of Canada finds that payments made to target’s employees for surrendering their options on target’s acquisition were mostly deductible by it
Two public-companies made cash payments for the surrender by employees of their options previously granted to them under employee stock option plans, with the surrenders occurring on the closing of their acquisition by other public companies.
Sommerfeldt J accepted the taxpayer submissions that the surrender payments were deductible as to 75% under s. 111(5.2) (since supplanted by s. 111(5.1).) Among other considerations, he determined that the surrender payments were made for the purpose of gaining or producing income from the acquired companies’ business given that under this test “it will suffice if the income-gaining purpose is [only] one of the purposes of the outlay or expense” and that, similarly to Imperial Tobacco, the surrender payments had “an employer-compensation-related purpose.”
Furthermore, the exclusion in para. (f) of the definition of eligible capital expenditure for “the cost of … a right to acquire [a share]” did not apply given that “the word ‘cost’ contemplates an acquisition of an asset or other property,” whereas “when a stock option is surrendered to the issuing corporation, the rights represented by that option [instead] are extinguished.”
The latter finding likely is authority for the proposition that (notwithstanding e.g., 2017-0717981E5) there is no liability under s. 116(5) where no clearance certificate has been obtained for the disposition by a non-resident beneficiary of a capital interest (that is taxable Canadian property) in a resident trust by virtue of the extinguishing of that beneficiary’s entitlements thereunder.
Neal Armstrong. Summaries of Devon Canada Corporation v. The Queen, 2018 TCC 170 under s. 14(5) - eligible capital expenditure and s. 20(1)(e)(i).
Income Tax Severed Letters 22 August 2018
This morning's release of three severed letters from the Income Tax Rulings Directorate is now availabel for your viewing.
CRA rules on cross-border butterfly including steps to come within “permitted exchange”
CRA ruled on a cross-border butterfly which entailed assets of the “Transferred Business” being transferred indirectly to a wholly-owned non-resident subsidiary (Foreign Spinco) of a non-resident public company (Foreign Parentco) or to a wholly-owned non-resident subsidiary of Foreign Spinco (Foreign Spinco Sub) – with a view to the shares of Foreign Spinco being dividended out to the shareholders of Foreign Parentco at the transactions’ completion. One of the indirect assets of Foreign Parentco was a Canadian corporation (DC) which held the Canadian portions of both the Transferred Business and the “Retained Business” – hence the need for a cross-border butterfly.
Preliminary transactions included the drop-down of the Canadian Transferred Business by DC to a Newco and the transfer of DC by its direct holder (a non-resident subsidiary of DC) to DC.
Following a s. 86 reorg of DC to split its share capital into special and new common shares, there then is a four-party exchange under which Foreign Parentco transfers its special shares of DC to a newly-formed Canadian sub of Foreign Spinco Sub (TCo), TCo issues common shares to Foreign Spinco Sub, Foreign Spinco Sub issues shares to Foreign Spinco and Foreign Spinco issues shares to Foreign Parentco.
On the butterfly proper, DC transfers Newco to TCo in consideration for preferred shares and the assumption of liabilities – except that in order to ensure that the transfer of cash (under the consolidated look-through approach) represented by the transfer of Newco is in the same proportion as the transfer of business assets, there also is a transfer of cash made as of the date of this butterfly distribution but that, in fact (and similarly to 2012-0459781R3 and 2014-0530961R3), is transferred a redacted number of days thereafter in order to accommodate a more accurate computation of the required amount. The sole investment property (a rental property) is valued at nil due to encumbrances.
Thereafter, there is a cross-cancellation of the shareholdings between DC and TC, and TC thus becomes an indirect wholly-owned subsidiary of Foreign Spinco.
Foreign Parentco had first acquired direct ownership of 100% of DC in order that the ensuing exchange by Foreign Parentco of its shares of DC for shares of Foreign Spinco under the four-party exchange arrangement would qualify as a “permitted exchange.”
The butterfly ruling was conditional on the Foreign SpinCo shares never deriving 10% or more of their fair market value from the TCo shares or DC special shares.
Neal Armstrong. Summaries of 2017 Ruling 2017-0699201R3 under s. 55(1) – distribution, s. 55(1) – permitted distribution – para. (b) and s. 143(3).
Six further full-text translations of CRA interpretations are available
The table below provides descriptors and links for six Interpretation released in May and April 2013 (including one 2012 APFF Financial Strategies and Instruments Roundtable item), as fully translated by us.
These (and the other full-text translations covering all of the 627 French-language Interpretations released in the last 5 1/3 years by the Income Tax Rulings Directorate) are subject to the usual (3 working weeks per month) paywall.
Soucy - Court of Quebec finds that a double gift was not an avoidance transaction
A direct gift of a vehicle to the taxpayer by her ex-husband would have been subject to Quebec sales tax as they were now unrelated persons. From this perspective, QST was avoided as a result of the vehicle being gifted by her ex-husband to her daughter, and then by her daughter to her – both of them, related-person transfers. In finding that these were not avoidance transactions for Quebec GAAR purposes, Poirier JCQ accepted the taxpayer’s testimony that the transactions had to happen this way in order for her to get the vehicle – her ex was only prepared to give the vehicle to her daughter.
He also stated that "utilizing the exemptions provided by the Act cannot constitute an abuse within the meaning of the Act."
Neal Armstrong. Summary of Soucy v. Agence du revenu du Québec, 2018 QCCQ 4845 under ETA s. 274(3).
A proposed amendment will allow charities to fully engage in non-partisan public policy dialogue and development in furtherance of their charitable purposes
Canada Without Poverty made a declaration “that the phrase 'charitable activities' used in s. 149.1(6.2) be read to include political activities, without quantum limitation, in furtherance of the organization’s charitable purposes.” A joint Finance/CRA Press Release has now indicated that although this decision (which contains “significant errors”) will be appealed “to seek clarification on important issues of constitutional and charity law,” this Fall the Government will also introduce retroactive amendments “consistent with recommendation no. 3 of the Report of the Consultation Panel on the Political Activities of Charities.” That recommendation (in its detailed form) stated:
The Panel recommends that amendments:
- retain the current legal requirement that charities must be constituted and operated exclusively for charitable purposes, and that political purposes are not charitable purposes;
- fully support the engagement of charities in non-partisan public policy dialogue and development in furtherance of charitable purposes, retiring the term "political activities" … and clearly articulating the meaning of "public policy dialogue and development" to include: providing information, research, opinions, advocacy, mobilizing others, representation, providing forums and convening discussions; and
- retain the prohibition on charities’ engaging in "partisan political activities", with the inclusion of "elected officials" (i.e. charities may not directly support "a political party, elected official or candidate for public office"), and the removal of the prohibition on "indirect" support, given its subjectivity. …
Neal Armstrong. Summaries of Statement by the Minister of National Revenue and Minister of Finance on the Government’s Commitment to Clarifying the Rules Governing the Political Activities of Charities (15 August 2018 Press Release) and of Report of the Consultation Panel on the Political Activities of Charities 13 March 2017 under s. 149.1(6.2).
CRA will apply a tracing approach for split income purposes where a shareholder-spouse works 20 hours (as measured by time logs) in only one of the corporation’s businesses
CRA provided a number of comments on the split income rules:
- In addition to repeating previous comments respecting shares of holdcos not being excluded shares, it confirmed that there was a similar problem for dividends from a related manufacturing company paid through a family trust.
- Where a shareholder-spouse works in only one of two businesses of the corporation, an excluded amount determination respecting the worked-in business requires “separate accounting for each business and a tracing of funds.”
- CRA will cut some slack with respect to pre-2018 years, but on a going forward basis, if reliance will be placed on the spouse or child having worked 20 hours per week in a business, “the ongoing maintenance of [timesheets, schedules, or logbooks] in respect of any family members involved in the business will ensure that businesses are able to comply with the new rules.”
- Respecting the requirement for excluded shares to be of a corporation that derives less than 90% of its business “income” (i.e., revenue) from the “provision of services,” CRA repeated some previous examples about replacement part sales by plumbers and mechanics being good, whereas charges by an office cleaner for cleaning supplies are to be ignored - but then went on to note that:
We are in the process of preparing examples to illustrate how the determination of whether less than 90% of the income of a corporation is from the provision of services is made.
Neal Armstrong. Summaries of 25 May 2018 External T.I. 2018-0761601E5 under s. 120.4(1) – excluded shares – para. (b), excluded shares – subpara. (a)(i), excluded amount – subpara. (e)(ii) and s. 120.4(1.1)(a).
Income Tax Severed Letters 15 August 2018
This morning's release of three severed letters from the Income Tax Rulings Directorate is now available for your viewing.