News of Note
CRA favourably applies the anti-hybrid rule where U.S. individuals lend to a ULC through an S Corp.
Email this ContentTwo S Corporations (USCo and USCo2), whose shares are owned by the same U.S.-resident individuals in identical proportions, hold the shares of a Nova Scotia ULC (which is a partnership for Code purposes) and, in the case of USCo, also hold an interest-bearing loan of the ULC.
As a shareholder of USCo, each individual includes a pro rata portion of the interest in income under the Code. Pro rata portions of that same interest also are deductible by USCo and USCo2 in the computation of their income, with such deductions then flowing through to the individuals qua shareholders of both USCo and USCo2. Accordingly, there is no net inclusion of the interest in each individual’s income. On the other hand, if the ULC were not fiscally transparent, the individual would be taxable on the full amount of his or her share of the interest, as the applicable portion of the ULC interest deduction would not flow through to the individual via the S Corps.
CRA ruled that the interest enjoys the Treaty-reduced withholding rate of 0% notwithstanding Art. IV, subpara. 7(b) requiring that the treatment of the interest under the Code be the same as its treatment were the ULC not fiscally transparent.
CRA also ruled that USCo and USCo2 are eligible for the Treaty-reduced rate (of 5%) for substantial corporate shareholders when the usual 2-step (increase PUC, then distribute it) is used to extract cash profits of the ULC, notwithstanding that Canadian source income of an S Corp. may be considered to be derived instead by its individual shareholders pursuant to Art. IV, para. 6 (see also 2 February 2012 T.I. 2012-0434311E5: CRA considers that there is no need to engage para. 6 as the S Corps. are themselves Treaty residents.)
Neal Armstrong and Abe Leitner. Summary of 2013 Ruling 2012-0467721R3 under Treaties – Art. 4.
FTC provision in Canada-U.S. Treaty beats the s. 20(11) deduction for U.S. dividend income of U.S. citizens in Canada
The tax rate for U.S. citizens on certain dividends and capital gains increased from 15% to 20% in 2013. Would a U.S. citizen who was resident in Canada receive only a deduction from Canadian income under s. 20(11) for the additional 5% tax?
CRA indicated that Art, XXIV, para. 5 of the Treaty, is "a complete code in respect of the deductions and credits available to U.S. citizens resident in Canada for the purposes of eliminating double taxation on dividends, interest, and royalties," and that this generally produces a more favourable result than under s. 20(11) (because the deduction is not reduced by any U.S. foreign credit for Canadian taxes allowed in computing the U.S. tax on such item, i.e., it is based on the taxpayer's gross rather than net U.S. tax liability).
Neal Armstrong. Summary of 11 June 2013 STEP CRA Round Table, Q. 4, 2013-0480301C6 "Foreign Tax Credits for U.S. Citizens under Treaties - Art. 24.
Failure to properly complete a T1135 could extend the normal reassessment period for unrelated matters
Draft s. 152(4)(b.2) (contained most recently in the September 13, 2013 package) extends the normal reassessment period by three years where (a) there has been a failure to file the T1135 as and when required or to provide therein the required information in respect of a specified foreign property, and (b) to report an amount, in respect of a specified foreign property, that is required to be included in the taxpayer's income. CRA has stated that this extension occurs "for all purposes," suggesting that CRA considers that it could then reassess unrelated matters within the extended period.
Neal Armstrong. Summary of 11 June 2013 STEP Round Table, Q. 3, 2013-0485761C6 under s. 152(4)(b.2).
Part-year residents can plug the whole year’s income taxes for a foreign country into their FTC formula
CRA implicitly accepts the proposition that "the foreign tax credit which can be claimed in respect of a part-year resident is not limited to the portion of the foreign tax paid while ... resident in Canada [and] the foreign tax for the entire year may be claimed as a foreign tax paid."
Neal Armstrong. Summary of 2013 STEP Round Table, Q. 5, 2013-0480311C6 ("Foreign Tax Credit/Part Year Resident") under s. 126(1).
CRA confirms that it no longer requires notification of a price adjustment clause
CRA stated that the decision not to carry over paragraph 1(b) of IT-169 into S4-F3-C1 was deliberate - CRA will not require notification of a price adjustment clause in order for the clause to be effective.
Scott Armstrong. Summary of 10 June 2013 STEP Round Table Q. 7, 2013-0480291C6 ("Price adjustment clause") under General Concepts - Effective Date.
CRA confirms that a Canadian individual can claim a s. 20(11) deduction for US taxes (in excess of 15%) payable on distributed income of a non-CFA LLC
Where US tax is paid by a Canadian individual on the distributed income of an LLC (which is not a controlled foreign affiliate and therefore does not give rise to FAPI), CRA considers that the individual will be eligible for the deduction under s. 20(11) of the excess of the US tax paid over 15% of the dividends received even though such US tax is payable independently of whether or not it is distributed and, therefore, is paid independently of whether there is any corresponding income to the individual for Canadian purposes.
Neal Armstrong. Summary of 2013 STEP Round Table, Q. 13, 2013-0480371C6 under s. 20(11).
US taxes for an LLC are not FAT even if the LLC actually pays the tax
CRA’s policy that US tax paid by the Canadian shareholder on the income (which also is foreign accrual property income) of an LLC does not qualify as foreign accrual tax, applies even where it is arranged for the LLC to actually makes those tax payments to the IRS. However, where the Canadian shareholder was a corporation, a deduction under s. 113(1)(c) would be available to it in respect of the US tax paid by it where a dividend distribution out of taxable surplus was received by it.
Neal Armstrong. Summary of 2013 STEP Round Table, Q. 6, 2013-0480321C6 under s. 95(1) – FAT.
Income Tax Severed Letters 16 October 2013
This morning's release of 17 severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Loans by Canco to a wholly-owned CFA might result in Part XIII tax
Ss. 15(2) and 214(3)(a) on a literal reading can deem there to be a dividend that is subject to Part XIII tax where a Canadian corporation (Canco) lends money to a non-resident subsidiary that happens to be the shareholder of another non-resident subsidiary.
Although CRA has considered (in 2004-0064811E5) that s. 15(2.3) only exempts a loan from the application of s. 15(2) where it was "made in the ordinary course of the lender’s ordinary business of lending money," the loan nonetheless might be exempted (under the other branch of s. 15(2.3)) as "a debt that arose in the ordinary course of [Canco’s] business" if it is customary for Canco to finance its foreign subsidiaries.
Neal Armstrong. Summary of Randy S. Morphy, "The Modern Approach to Statutory Interpretation, Applied to the Section 15 Anomaly in Foreign Affiliate Financing", Canadian Tax Journal, (2013) 61:2, 367-85, under s. 15(2.3).
Lecavalier – Tax Court of Canada finds that GAAR applied to a debt conversion using cash-circling, as an abusive avoidance of the debt forgiveness rules
In an arm’s length sale of a Canadian subsidiary (Greenleaf) of Ford U.S. to a Canadian purchaser for a purchase price ($10M) which thus was less than the $25M debt owing by Greenleaf to Ford U.S., $15M of the debt was first converted into common shares through a cash subscription by Ford U.S. for Greenleaf common shares, and a debt repayment – so that the debt-parking rules did not apply on the subsequent sale of the debt and shares of Greenleaf.
The general anti-avoidance rule applied to include debt forgiveness income in the hands of Greenleaf. The conversion of the debt to shares through a circling of cash rather than a direct conversion represented an abusive circumvention of s. 80(2)(g); and it did not matter that this was implemented by Ford U.S. rather than the purchaser.
A subtlety not captured in the above round numbers is that the confirmed GAAR assessment treated the debt forgiveness as the amount of the debt repayment, which was $100,000 higher than the cash subscription amount due to the application of excess Greenleaf cash. Implicitly applying GAAR on the basis that it was abusive to use cash already on hand to pay down debt, thereby potentially reducing any impact of the debt-parking rules, was inconsistent with the reasons of Bédard J.
Neal Armstrong. Summaries of Pièces Automobiles Lecavalier Inc. v. The Queen, 2013 TCC 310 under ss. 245(4), 248(10), 245(3) and General Concepts – Evidence.