News of Note
NRT Technology – Federal Court of Appeal confirms the application of REOP tests in a loss-streaming case
Email this ContentAlthough the reasonable expectation of profit doctrine has been largely defunct since Stewart and Walls in the context in which it was originally most often applied by CRA (businesses financed as tax shelters and losses of part-time "farmers"), its existence has been preserved in various statutory provisions, including the GST definition of "commercial activity," and the loss-streaming rule in s. 111(5)(a).
The Federal Court of Appeal has briefly affirmed a decision of Campbell Miller J, where he applied the criteria developed in the pre-Stewart cases for determining the existence of "REOP" (e.g., Tonn) to find that a loss business of a purchased corporation was not carried on with a REOP, as required by s. 111(5)(a) (and, in fact, the business was essentially dormant following the acquisition). Accordingly, the losses could not be utilized.
Neal Armstrong. Summary of NRT Technology Group v. The Queen, 2013 DTC 1021, 2012 TCC 420, briefly aff’d 2013 FCA 221, under s. 111(5)(a).
CRA accommodates the s. 90(2) “pro rata” requirement in a foreign divisive reorganization
Canco holds, say, 25% of the shares of FA1 directly and 75% of its shares through a grandchild foreign affiliate (Forsub2). In using a foreign divisive reorganization to create a new Finco for the group ("Newco"), 25% of FA1’s assets (being loans to other FAs) are transferred by operation of law to Newco and Canco’s shares of FA1 become shares of Newco. CRA confirmed that s. 90(2) deems there to be a dividend on the FA1 shares in the amount of the transferred loans.
Although somewhat similar to Q.2 at the 2013 IFA Round Table (where in effect Forsub2 started off as a 100% rather than 75% shareholder of FA1), this one requires mental gymnastics: a transfer of the loans effectively 100% in favour of Canco is treated as a pro rata distribution on the shares of FA1 held by both shareholders.
Neal Armstrong. Summary of 2013 Ruling 2012-0463611R3 under s. 90(2).
CRA indicates that a Canadian-resident trust was eligible for a full FTC notwithstanding its gain was lower for Canadian than foreign purposes
Where a non-resident trust was deemed to be resident in Canada under s. 94 and a gain which it realized on the disposition of marketable securities was lower for Canadian than U.S. purposes (due to a previous step-up in the securities’ adjusted cost base under s. 128.1(1)(c)), there was no resulting reduction of the foreign non-business income tax credit of the trust – i.e., it got full credit for the U.S. tax paid.
CRA’s reasoning suggests that the same result could obtain for an individual who is resident in Canada on ordinary principles.
Neal Armstrong. Summary of 28 May 2013 Memorandum 2013-0476381I7 under s. 94(3)(b).
CRA takes pragmatic approach to meaning of “regularly traded” under the Canada-U.S. Treaty?
A "U.S. Holdco" which was the parent of a ULC and was not a qualifying person for purposes of the Canada-U.S. Treaty was able to access the Treaty-reduced rate on a deemed (s. 84(1)) dividend received by it from the ULC on the basis of the derivative benefits rule in Art. XXIX A, para. 4. Both the immediate parent and grandparent of U.S. Holdco were entitled to full benefits under the Treaty between Canada and their country of residence, which was not the U.S. (with the dividend withholding tax rate under that Treaty presumably being no higher than under the Canada- U.S. Treaty); the common shares of the ultimate parent traded on recognized stock exchanges; and U.S. Holdco was represented to satisfy the "base erosion test" (re expenses paid to non- qualifying persons).
The ruling contains no explicit representations respecting the requirement that the shares of the ultimate parent be "regularly traded" on the recognized stock exchanges. After a screed on the U.S. meaning of this requirement (which CRA may have adopted - see 8 December 2009 TEI Round Table, Q. 4, 2009-0347701C6), the 2007 U.S. Technical Explanation states that "subject to the adoption by Canada of other definitions, the U.S. interpretation of ‘regularly traded’ and ‘primarily traded’ will be considered to apply, with such modifications as circumstances require, under the Convention for purposes of Canadian taxation."
The usual 2-step (increase PUC, then distribute it) was used to deal with the hybrid status of the ULC.
Neal Armstrong. Summaries of 2013 Ruling 2012-0471921R3 under Treaties, Art. 4 and 29A.
Geoff Turner points out that the proposed safe-harbour for Canadian parent guarantees is too narrow
Draft s. 247(7.1) provides relief from the application of the Canadian transfer pricing rules to a guarantee of debt of a controlled foreign affiliate by the Canadian parent if the borrowed funds were used in the specific active business manner described in s. 17(8)(a) or (b).
The draft s. 247(7.1) exception is unduly narrow. For example, if the CFA is generating foreign accrual property income, the savings generated to the corporate group by accessing the parent's credit rating through a guarantee will be captured in the Canadian tax base irrespectively of the charging (or not) of a guarantee fee.
Having said that, were CRA consistent with its position in the General Electric cases, it would not require a guarantee fee even where the draft s. 247(7.1) exception did not apply.
Neal Armstrong. Summary of Geoffrey S. Turner, "Downstream Loan Guarantees and Subsection 247(7.1) Transfer Pricing Relief," CCH Tax Topics, No. 2166, September 12, 2013, p.1 under s. 247(7.1).
CRA rules that the unwinding of a sandwich structure avoids the application of the upstream loan rule
A US marketing subsidiary (US Salesco) has lent to an indirect Canadian parent (Can Opco 1) which, in turn, is ultimately indirectly owned by a non-resident parent. Can Opco 1 repays this payable, the sandwich structure is unwound (so that US Salesco now is a "sister" rather than indirect sub of Can Opco 1), and US Salesco then relends the same amount back to Can Opco 1.
CRA ruled that this avoids the application of the upstream loan rule in s. 90(6). It also ruled on routine applications of the reorganization exemption rules in s. 212.3(18) to the "de-sandwiching" transactions, including a mildly interesting illustration of the dovetailing of those rules with the partnership look-through rule in s. 212.3(25).
Neal Armstrong. Summary of 2013 Ruling 2013-0491061R3 under s. 90(8)(a).
CRA confirms that a holding company investment may satisfy the exemption from the FAD rules for closely-connected business investments
An investment made by a "CRIC" (a Canadian corporation controlled by a non-resident parent) in a US subsidiary (viewed as a "subject corporation") will not engage the deemed dividend rule in s. 212.3(2) if that investment satisfies the exeception in s. 212.3(16), including a requirement that the "business activities caried on by the subject corporation and all other corporations…in which the subject corporation has ... an equity percentage ... are ... on a collective basis, more closely connected to the business activities carried on in Canada ... than to the business activities carried on by any [specified] non-resident corporation...."
CRA has confirmed that this more-closely-connected test can be satisfied where the subject corporation (US Holdco) itself is a passive holding company, so that all the closely-related US business activities are carried on by subsidiaries of US Holdco.
Neal Armstrong. Summary of 6 September 2013 T.I. 2013-0474671E5 under s. 212.3(16)(a).
Income Tax Severed Letters 18 September 2013
This morning's release of 22 severed letters from the Income Tax Rulings Directorate is now available for your viewing.
CRA finds that most insurance premiums and municipal taxes incurred during a rental building renovation are deductible
CRA found, in the situation where a taxpayer renovated a rental property, that: s. 18(3.1) only required the capitalization of insurance premiums that related to any risk connected to the renovation (suggesting that most of the premiums would be deductible), and; municipal taxes incurred during the renovation period were only required to be capitalized to the extent they related to the relevant land, rather than to the building (which, although not so stated by CRA, typically would represent a large part of the property’s value).
Neal Armstrong. Summary of 5 July 2013 2013-0489821I7 F under s. 18(3.1).
Canadian Tire REIT will be a closed-end fund
The new Canadian Tire REIT (called CT REIT) will be a closed-end (s. 108(2)(b)) rather than an open-end (s. 108(2)(a)) fund in order to accommodate the potential future issuance of preferred units.
Similarly to Melcor and Choice Properties (the Loblaw REIT), Canadian Tire will have a substantial (i.e., $1.8 billion) holding of Class C LP units (effectively like cumulative preferred shares) in the subsidiary real estate limited partnership of the REIT (presumably in order to service debt retained by Canadian Tire) along with around $900 million of exchangeable units of that LP, and around $600 million of units directly in the REIT. As only around $265 million is being raised on the IPO, the REIT will be substantially owned, directly or through the subsidiary LP, by Canadian Tire.
Also similarly to Choice Properties, the appropriate position also likely is implicitly being taken that the new character conversion rules do not apply to the exchangeable LP units.
Notes will be issued as part consideration for the transfer of the properties to the LP, before being immediately converted into LP units. This pseudo note consideration has the effect of guaranteeing a minimum cost to the LP for those properties.
Neal Armstrong. Summary of Preliminary Prospectus for CT REIT under Offerings – REIT and LP Offerings – Domestic REITs.