CRA considers that a member of an LLC is subject to U.S. income taxation on the LLC income for purposes of s. 95(2)(a)(ii)(D)(IV)(2) even though the net inclusion in its income is reduced by interest payable to a financing foreign affiliate

S. 95(2)(a)(ii)(D) may apply to deem interest payments received by FA #1 from FA #2 in a year on money borrowed by FA #2 to acquire shares of a foreign affiliate (Target) to be active business income. Among other conditions, s. 95(2)(a)(ii)(D)(IV) requires that in respect of both FA #2 and Target, either:

1. the affiliate is subject to income taxation in a foreign country in the year; or
2. the affiliate's shareholders are subject to income taxation in a foreign country on substantially all of the affiliate's income for the year.

CRA considers that the 2^nd test above will be satisfied, in the situation where Target is an LLC that is treated for U.S. purposes as a partnership in which FA #2 has a 95% partnership interest, if substantially all (i.e., 95% in this example) of the Target income is included in the computation of the income of FA #2, even though that computed income is reduced by the interest expense payable by FA #2 to FA #1 on the borrowed money that had been used to acquire Target.

Neal Armstrong. 24 November 2015 Annual CTF Roundtable, Q. 9.