News of Note
The Copthorne series test adds uncertainties as to the scope of s. 246.1
Email this ContentThe apparent harshness and breadth of the proposed s. 246.1 rule for converting capital account transactions into deemed dividends to the individual recipient (but not, apparently, to the corporation) is compounded by the unpredictable nature of the concept of “series of transactions” enunciated in Copthorne, which could suggest that a capital dividend paid out of a gain, and the gain-producing transaction, are part of the same series even where the capital dividend was not planned.
The credit to the capital dividend account should not be eliminated but instead only suspended until the capital property leaves the affiliated group.
Neal Armstrong. Summary of Michael N. Kandev, "Proposed Section 246.1", Canadian Tax Highlights, Vol. 25, No. 8, August 2017, p.5 under s. 246.1.
Aon – Tax Court finds that replacing a parking garage roof with one better designed to deal with a problem was currently deductible
The roof for an underground parking garage deteriorated much more quickly than expected since it also served as a platform for ground level traffic, which resulted in significant water and salt damage. It was replaced with a better-designed roof to deal with these problems.
In finding that the $4 million repair expense was currently deductible, Jorré J noted the engineering improvements (see also Shabro) but, at the end of the day, gave weight to the facts that the garage was an integral part of a larger asset (an apartment complex) and “there is no improvement in the functionality or profitability of the garage and … there is no reason to conclude that the work has had any significant effect in terms of increasing the value of [the complex] compared to its value with the garage in a good state of repairs.”
Neal Armstrong. Summary of Aon Inc. v. The Queen under s. 18(1)(b) – capital expenditure v. expense – improvements v. repairs or running expense.
The MLI may have interpretive effects on existing Treaties even where their provisions are not directly changed by the MLI
It is unclear how the principal purpose test in Art. 7(1) of the Multilateral Instrument will be applied for Treaties where there already was a PPT (often, more narrowly worded.)
While some countries that have experience applying PPT-type rules might be expected to apply the new PPT in line with their past practice, the breadth of the new PPT would permit for substantially more aggressive approaches by countries inclined to take them.
Option A in MLI Article 13 provides that existing activity exceptions in Treaties would apply only where the activity is of a "preparatory or auxiliary" character, whereas Option B would do the opposite, and would provide that the existing activity exemptions are per se exceptions. Although the OECD had concluded that existing Treaty provisions already provided per se exceptions for locations at which only a single listed activity was conducted, the presence of these Options may cause uncertainty where countries choose neither Option.
If a source country adopts the expanded PE standard in its domestic law but its Treaty partner does not, the source country nonetheless may view a structure that does not rise to the level of a PE under the existing unmodified Treaty, as being subject to the PPT.
Parties are permitted under the MLI Arbitration provisions (Part VI) to craft their own reservations with respect to the scope of cases that will be subject to arbitration. If the other party objects to such "free form" reservations, Part VI will not apply to their Treaty. Of the 26 countries that chose to adopt Part VI, 16 made such "free form" reservations. Many of the reservations involve carving out broad, and often vague, categories of cases, including, for example, all cases involving the application of domestic anti-avoidance rules, or all cases involving serious penalties. Canada is mentioned as an example.
Neal Armstrong. Summaries of Manal Corwin and Jesse Eggert, "Understanding the Operation, Impact, and Practical Implications of the MLI", Tax Management International Journal, Vol. 46, No. 8, 11 August 2017, p. 407 under Multilateral Instrument, Art. 7, 13 and 28.
Income Tax Severed Letters 6 Septemeber 2017
This morning's release of four severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Gillen – Tax Court of Canada finds that property was not used in a business for s. 110.6(14)(f)(ii) purposes when it was beneficially acquired and dropped-down on the same day
The availability of the enhanced capital gains exemption to a group of taxpayers depended on the proposition that a newly-formed limited partnership had used, in a Canadian active business, applications to the Saskatchewan government for potash exploitation rights before it transferred such property to a newly-incorporated corporation (“Devonian”), whose shares were sold a number of months later. D’Arcy J found that, in fact, on the same day that the LP acquired the permit rights from the general partner, it had transferred the beneficial ownership of those permit rights to Devonian, so that its fleeting beneficial ownership of those assets did not qualify them as being used in a Canadian active business.
In rejecting the taxpayer’s submission that, until the subsequent completion of the transfer of the permits to Devonian (on their subsequent grant by the government), the taxpayer nonetheless was using the permit applications in a business carried on by it, as required under the s. 110.6(14)(f)(ii) test, D’Arcy J stated that this ignored the so-called “relation-back” theory, and in this regard quoted a judicial statement that “while the trust relationship between vendor and purchaser may be dubious before closing, once the agreement is completed the trust relationship is solidified retroactively.”
Neal Armstrong. Summaries of Gillen v. The Queen, 2017 TCC 163 under s. 110.6(14)(f)(ii), General Concepts – Ownership, General Concepts – Effective Date.
Our translations of CRA technical interpretations and Roundtable items now go back 3 years
Full-text translations of six technical interpretations released between October 10, 2014 and September 3, 2014, are listed and briefly described in the table below.
These (and the other translations covering the last three years of CRA releases) are subject to the usual (3 working weeks per month) paywall. You are currently in the “open” week for September.
CRA rules on a s. 55(3)(a) split-up between Newcos for two siblings which were related due to multiple-voting shares held by the father’s and mother’s Holdco
S. 55(5)(e)(i) provides that siblings are unrelated for s. 55(3)(a) purposes, and s. 55(4) stipulates that a transaction which is inserted so as to make persons related for s. 55 purposes is to be ignored for such purposes.
CRA has ruled on a s. 55(3)(a) split-up of a real estate rental corporation (Canco) whose common shares were held by Son Holdco and Daughter Holdco and whose prefs were held by a Holdco for the father and mother of Son and Daughter (Holdco 1). Before the split up of the real estate between Newco 1 (whose common shares and prefs were acquired on the spin-off by Son Holdco and Holdco 1, respectively) and Newco 2 (whose common shares and prefs were acquired on the spin-off by Daughter Holdco and Holdco 1, respectively), Holdco 1 subscribed (presumably a nominal amount) for “super” voting shares of Canco and of Newco 1 and 2, so that at all relevant times, Canco, Newco 1 and Newco 2 were controlled by the two parents.
CRA also ruled that the undepreciated capital cost of depreciable property could be split based on the relative capital cost rather than relative fair market value of the depreciable properties that were spun-off. (Butterfly rulings typically have prorated UCC based on relative FMV – see e.g., 2014-0530961R3 and 2013-0498651R3).
Neal Armstrong. Summary of 2017 Ruling 2016-0675881R3 under s. 55(3)(a), s. 55(4), s. 85(1)(e) and s. 186(1)(b).
CRA has raised the avoidance of an FMV disposition on a dividend-in-kind of a life insurance policy with Finance
A corporation (“Holdco”) holds a policy on the life of its sole shareholder with a nominal cash surrender value (“CSV”) and an adjusted cost basis (“ACB”) and fair market value (“FMV”) of $50K and $450K, respectively. If Holdco transfers the policy to its shareholder as a dividend in kind, its proceeds of disposition (and his cost) will be only the ACB of $50K, since the FMV of the consideration received by it is nil. Accordingly, the transfer occurs on a rollover basis - whereas its proceeds of disposition would have been $450K if Holdco instead had paid a $450K dividend to its shareholder, and he had purchased the policy for $450K. (In both scenarios, he would include a $450K dividend (plus gross-up) in his income.)
This Interpretation is essentially identical to 2016-0671731E5 F, except that in the latter, there was a modest excess of the CSV of the policy over the ACB, so that such excess was realized as a gain on the dividend-in-kind –rather than a much higher gain that would have been realized on a sale of the policy at FMV. In both Interpretations, CRA considered that the lower gain in the dividend-in-kind scenario might be anomalous, and has raised this with Finance.
Neal Armstrong. Summary of 18 May 2017 CLHIA Roundtable, Q.2, 2017-0690331C6 under s. 148(7)(a).
CRA states that the adjusted cost basis of a life insurance policy is “a reasonable proxy” for its cost
An individual transferred a life insurance policy, having a nil adjusted cost basis and cash surrender value to his company for nil proceeds, and then the company within the following three years gifts the policy to a registered charity at a time the policy has a higher adjusted cost basis and even higher fair market value. S. 248(35)(b)(i) deems the FMV of property that has been gifted by a taxpayer within three years of its acquisition to be equal to the lesser of its FMV and its cost (or of its adjusted cost base in the case of capital property, or of its adjusted cost basis in the case of a life insurance policy respecting which the taxpayer is the policyholder) for gift-receipting purposes. However, in this context, s. 248(36) deems the cost or adjusted cost base of the property to be the lower of its cost or adjusted cost base to (i) the taxpayer and (ii) any non-arm’s length person from whom it was acquired during the three-year period preceding the gift.
There is a gap in the wording of s. 248(36) - it refers only to the cost or adjusted cost base of property – and not to the adjusted cost basis of a life insurance policy. CRA is not flummoxed by this and states that the adjusted cost basis:
of an interest in a life insurance policy, as defined in subsection 148(9), is generally a reasonable proxy for the "cost" of an interest in a life insurance policy for purposes of subsection 248(36).
Accordingly, the company’s gift to the charity is deemed by s. 248(35)(b)(i) to have a nil value given that s. 248(36) deems the “cost” to the company of its gifted property to be the nil adjusted cost basis it had to the individual.
Neal Armstrong. Summary of 18 May 2017 CLHIA Roundtable, Q.4, 2017-0692361C6 under s. 248(36).
CRA finds that post-retirement benefits paid directly by the employer under a SERP did not generate refunds of the Part XI.3 tax paid in connection with the RCA trust established to pay related LC fees
Payments of the promised benefits under a supplemental executive retirement plan were secured through an LC provided by a bank, with the employer funding the annual LC fees by making contributions to a trust, which then paid the fees. In order to fund the Part XI.3 tax, those contributions were grossed-up, and with such tax being kept track of in the “refundable tax” in respect of this “RCA trust.”
In accordance with the terms of the SERP, the employer paid post-retirement benefits directly to the retired employees. In finding that these did not qualify as distributions under the retirement compensation arrangement (“RCA”) as per para. (c) of the s. 207.5(1) “refundable tax” definition – so that no refund of the refundable tax was generated - CRA stated:
[A]n amount is not paid as a distribution under the RCA unless the amount is paid from property held in connection with the RCA. [Here] the amounts of the direct payments made by the Employer to retired employees of post-retirement benefits in accordance with the Plan are not amounts paid as distributions under the RCA and would not be taken into account under paragraph (c) of the definition.
Neal Armstrong. Summary of 18 May 2017 CLHIA Roundtable, Q.3, 2017-0692331C6 under s. 207.5(1) - “refundable tax” – para. (c).