News of Note
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Income Tax Severed Letters 20 March 2013
This morning's release of 19 severed letters from the income tax rulings directorate is now available for your viewing.
CRA recharacterizes cross-border franchise payments
Among other payments, a Canadian franchisee paid "procurement licence fees" to a US-resident franchisor based on the volume of its purchases of products from third parties rather than the US franchisor. (In theory, the US franchisor was giving up the right to require the franchisee to purchase these goods from it at a mark-up.) CRA found that the field auditor could choose to recharacterize portions of this procurement fee as being applicable (based on "a valuation of the various rights") to withholding under ss. 212(1)(d)(i) and (ii) (non-copyrighted know-how and access to the franchisor's system) and (iv) (the exclusive aspects of the franchisor's system), while acknowledging that other elements such as payments for services generally would not be subject to withholding.
The results of this purported "valuation" exercise would essentially be indeterminate and highly sensitive to how CRA exercised its discretion. Analogous difficulties tend to be avoided in characterizing supplies of goods or services for HST/GST purposes through application of the single supply doctrine.
Neal Armstrong. Summary of 4 December 2012 Memorandum 2011-0431871I7 under s. 212(1)(d) and ss. 212(1)(d)(i), (ii), (iii), (iv), and (v).
CRA states that deductibility of legal fees incurred for reinstatement of employment must be determined on a retroactive basis, based on the result
CRA considered that legal fees incurred by a dismissed employee to be reinstated did not qualify for deduction under s. 8(1)(b) as being incurred to establish a right to unpaid remuneration until such time as such suit is successful - in which case the employee can file an amended return for the year in which the fees were incurred if that year is still open for reassessment. CRA's reasoning is that until the suit is successful, it cannot be known whether the employee will be reinstated and receive the award of remuneration owing, or the employee (if successful at all) will instead receive another award, for example, damages for wrongful dismissal, which would qualify as a retiring allowance rather than unpaid remuneration.
This approach may be inconsistent with general jurisprudential principles (and at least one of the decisions cited by CRA), which likely suggest that the focus should be on the purpose for incurring the legal fees rather than the result - so that if the thrust of the action is for reinstatement, rather than damages for wrongful dismissal, the fees should be currently deductible regardless of the outcome.
Neal Armstrong. Summary of 19 November 2012 Memorandum 2012-0433201I7 under s. 8(1)(b).
CRA maintains that s. 116 certificates are required for distributions to non-resident beneficiaries holding their capital interests as taxable Canadian property
CRA continues to maintain its long-standing policy that a non-resident beneficiary of an estate or trust whose capital interest is taxable Canadian property (e.g., where the trust held mostly Canadian real estate) is required to apply for a section 116 certificate before that interest is settled. This position is dubious insofar as it suggests that there is a potential liability of the trustees under s. 116(5), based on the "cost" of taxable Canadian property "acquired" by them. Trustees axiomatically do not hold beneficial interests in already-distributed trust property.
Neal Armstrong. Summary of 29 March 2012 T.I. 2010-0385771E5 under s. 116(1).
Ollenberger - Federal Court of Appeal finds that an "active business" need not be active
Valerie Miller J denied a business investment loss claimed by the taxpayer on a loan made to a Canadian-controlled private corporation which went bad, on the basis that the CCPC did not carry on its business in an "active" manner - so that its business did not qualify as an "active business" as required by the "small business corporation" definition.
In reversing her decision, Noël JA essentially found that this represented an improper departure from the "active business" definition in s. 248(1), which defines that term (outside the foreign affiliate context) to mean any business other than a specified investment business or a personal services business: there is no statutory requirement that an "active business" be active.
Scott Armstrong. Summary of Ollenberger v. The Queen, 2013 FCA 74 under s. 248(1) - "small business corporation."
CRA applies the tax avoidance test in the non-portfolio property rule to the hypothetical Canadian tax treatment of dividend distributions rather than of underlying earnings
CRA considered whether s. 94.1 would impute foreign accrual property income to an LLC subsidiary (BCo) of Canco on its investment in another LLC (CCo) which had an indirect investment in a non-resident corporation (Opco) with an active business. CRA discussed the tax avoidance test in s. 94.1(1), which refers to the income from non-portfolio invetments being subject to income tax that is significantly less than the income tax that would be applicable if earned directly by the taxpayer. CRA stated that this test would not be satisfied (so that s. 94.1 would not apply) because the earnings of Opco could be distributed up the chain out of exempt surplus. Thus, CRA interpreted this test as referring to the Canadian tax treatment of such distributions rather than the Canadian tax treatment of the business earnings if they had been earned directly by Canco in a branch business.
CRA also noted that if (contrary to the facts before it) "Canco's economic investment in Opco were substantially less than 10%, then we suggest that the CRA might consider the application of [s. 95(6) or GAAR] to say that the Class B shares [of CCo] were issued only to take advantage of the foreign affiliate status."
Neal Armstrong. Summary of 10 January 2011 Memorandum 2009-0342861I7 under s. 94.1(1).
Income Tax Severed Letters 13 March 2013
This morning's release of 18 letters from the Income Tax Rulings Directorate is now available for your viewing.
Manitoba Métis Federation - The Supreme Court's reference to "the fact that the Métis are Aboriginal" is unlikely to have tax consequences
The Supreme Court granted a declaration that the Crown breached its fiduciary duty to the Métis in failing to appropriately implement an 1870 land grant provision in the Manitoba Act. This finding entailed an acceptance of "the fact that the Métis are Aboriginal." Aboriginal and Indian status are not synonymous concepts. Accordingly, this statement is unlikely to cause CRA to change its position (see, for example, Excise and GST/HST News, No. 87) that Métis are not exempt from taxation under the Indian Act.
Scott Armstrong. Summary of Manitoba Métis Federation Inc. v. Canada, 2013 SCC 14 under Indian Act - s. 87.
CRA finds that out-sourcing of laboratory diagnostic services causes them to cease to be GST/HST exempt
Laboratory, radiological or other diagnostic services provided by a health care facility on the order of a medical practitioner generally are exempt from HST or GST. CRA considers that "services supplied by...independent contractors to the medical laboratory are not exempt under this provision," as such services are regarded as mere inputs to the diagnostic services provided by the laboratory, rather than being diagnostic services in their own right.
Neal Armstrong. Summary of Excise and GST/HST News No. 87 under Health Care Services (GST/HST) Regulations, s. 2.