CRA confirms that the salary imputation rule in Reg. 402(7) is narrow (and may be impracticable)

Reg. 402(7) provides that where a corporation pays a fee to a third party for services which would "normally" be performed by its employees, the part of the fee that may reasonably be regarded as a payment in respect of services rendered at a particular permanent establishment of the corporation shall be deemed to be salary paid to an employee of the corporation at that permanent establishment for purposes of the Part IV provincial income allocation rules.  Reg. 402(6) effectively treats partnerships as transparent under these rules.

CRA dealt with the application of Reg. 402(7) in a two-tier partnership structure, where a "bottom" partnership paid fees to a 3rd party manager.  The "normally" test required that: the third party service previously had been provided by employees of the recipient partnership; the partnership had employees; and the manager’s assignment was a short-term one.

CRA considered that any profit element in an otherwise-qualifying management fee should be backed-out; and had no words of wisdom as to how the partners of the top-tier partnership would be able to figure this out.

Neal Armstrong.  Summary of 25 September 2013 T.I. 2013-0477571E5 F under Reg. 402(7).