23 August 2011 External T.I. 2010-0385581E5 - SIFT partnership

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: 1. In the situation described, would a partnership that has none of its units listed or traded on a stock exchange meet condition (b) of the definition of "SIFT partnership" in subsection 197(1) if the shares or trust units of one of its investors are listed or traded on a stock exchange? 2. Are the partnership units listed or traded in a public market.

Position: 1 Question of fact but unlikely given the facts in the submission. 2. Question of fact.

Reasons: 1. It is unlikely that the "security test" or the "replicate test" would be met based on the facts provided in the submission. 2. We were not provided with sufficient details to provide our views as to whether the partnership units might be considered as listed or traded on a public market.

XXXXXXXXXX
									2010-038558
									R. Ferrari

August 23, 2011

Dear XXXXXXXXXX :

Re: XXXXXXXXXX

We are writing in reply to your letter dated October 26, 2010, wherein you inquire about the application of the SIFT partnership rules to a partnership in a situation in which the units of a partnership are not listed or traded on a stock exchange. You ask whether the publicly-traded shares and publicly-traded trust units of the investors in the partnership would cause these securities to be viewed as an "investment" as that term is defined in subsection 122.1(1) of the Income Tax Act (the "Act").

Since your inquiry concerns an actual situation involving questions of fact, it should be dealt with by your local tax services office. If you wish to have the Canada Revenue Agency review your actual situation, you should submit all of the relevant information and documentation to the particular tax services office serving your area, a list of which is available on the "Contact Us" page of the CRA Web site at www.cra-arc.gc.ca. However, we are prepared to provide the following general comments to a hypothetical situation, which may be of assistance. Please note that the lack of comment on any particular issue should not be construed as assurance of the tax consequences relating to that issue. Hypothetical situation:

• A wholly-owned subsidiary ("Subco") of a publicly-traded company ("Public Co") formed a limited partnership (the "Partnership"), with an Indian Band that is tax exempt pursuant to paragraph 149(1)(c) of the Act. Subco holds a majority interest in the Partnership.
• Subco and Public Co together hold a 35% interest in a publicly-traded trust (the "Fund"), that is a SIFT trust as defined in subsection 122.1(1) of the Act. Subco will transfer its interest in the Partnership to the Fund in 2011.
• Dividends on Public Co and Subco shares and disbursements on the Fund's units are and will not be legally tied to the revenue, income or capital of the Partnership, and the terms of the shares of Public Co and Subco and the units of the Fund do not provide shareholders or unit holders with any specific legal rights to, or in respect of, any portion of the Partnership's capital, revenue, or income or to interest payable by the Partnership. Further, in the event of dissolution of the Partnership, or if the Partnership returned capital to the corporations or the Fund for whatever reason, the shareholders or unit holders would not be entitled to receive from the corporations or from the Fund, a return of capital or dividend payment equal to a preset amount or a proportionate amount as determined by an existing formula.
• None of the units of the Partnership are directly or indirectly exchangeable for shares of Subco, Public Co or for units of the Fund and none of the shares of Subco and Public Co and the units of the Fund are directly or indirectly exchangeable for units of the Partnership.
• Subco, Public Co and the Fund have other material investments and business undertakings.
• All parties are resident in Canada.

Our Comments

In your correspondence, you refer indirectly to our document 2009-0309281E5 dated May 3, 2010, wherein we provided our views on the "security test" and the "replicate test" with reference to hypothetical examples. We note that the above situations are similar to Example 3 wherein we opined that the security test would not be met in the example "provided the terms of the shares are such that they do not provide shareholders with any legal entitlement to, or in respect of, amounts of capital, revenue or income from the partnership, or interest payable by the partnership, and there are no exchange features." Further, we noted that factors that likely would result in the shares of the company being regarded as a security of the partnership would include share terms requiring that:

(i) the value of, or return on, a class of shares be specifically based on amounts that may reasonably be tracked to revenue, income, or capital of the partnership, or to interest payable by it; or
(ii) in the event of dissolution of the partnership, or where the partnership returns capital to the corporation for whatever reason, shareholders are entitled to receive from the corporation a return of capital or dividend payment equal to a preset amount or a proportionate amount as determined by an existing formula.

Therefore, given the terms of the publicly-traded securities and the above comments, it is our view that the publicly-traded securities of Public Co and the Fund would not cause the security test to be met.

As for the replicate test, we stated in document 2009-0309281E5 that the amount of the company's investment in a partnership is expected to be a relevant, but not necessarily a determinative consideration in applying the replicate test. In addition, we stated that there is no "safe harbour" to be identified based only on this consideration. In our view, the question whether a right "may reasonably be considered" to replicate the value of or return on a security of the partnership is an objective determination based on the reasonable expectations of a hypothetical investor. We further stated that we do not think that such expectations would require that there be a 1:1 matching between actual values or returns. However, we agreed that it would require that the anticipated values or returns would reasonably be expected to be very close.

For example, in and of itself, an initial investment by the company of 10% of its assets - or 50% - may not be a sufficient basis for an objective investor to consider that the company's shares would replicate the value of, or the return on, a security of the partnership, particularly if the company's remaining assets were invested in other commercial undertakings. However, where the corporation derives all or most of its value from the partnership or where the corporation's business undertakings are represented wholly or largely by the activities of the partnership, we would generally expect that an objective investor would consider the company's shares to replicate the value of, or the return on, a security of the partnership.

Example 4 in document 2009-0309281E5 stated that the following factors may reduce the potential that the publicly-traded shares would be regarded as investments in the partnership:

(a) the corporation is a large corporation with other sources of income, or the investment in the partnership is a relatively small component of its business;

(b) there are no share provisions or corporate practices in place to track revenue, income or capital from the partnership, or interest payable by it, to any dividends paid on the corporation's shares or returns of capital paid to shareholders; and

(c) there are no exchange features to allow a partner to exchange their partnership interest for shares of the corporation.

In contrast, the following factors may increase the likelihood that the replicate test could be satisfied at some time:

(a) the corporation had no other material business undertakings; and

(b) the corporation has a practice of paying dividends based on its earnings from the partnership (by reason of the share terms or otherwise).

The facts in these situations state that Subco, Public Co and the Fund have other material investments and business undertakings. This would suggest that Subco, Public Co and the Fund would not derive all or most of their value from the partnership and its business undertakings are not represented wholly or largely by the activities of the partnership. As a result, it would appear unlikely that an objective investor would expect the common shares of Public Co or the trust units of the Fund to replicate a return on, or the value of, the units of the partnership. Accordingly, it would be unlikely that the publicly-traded securities of Public Co and the Fund would cause the replicate test to be met. However, it is a question of fact whether or not an entity's other assets and business undertakings are sufficient in a particular situation so as to materially influence the reasonable expectations of an objective investor such that it would not be reasonable for the shares or units of the entity to be considered to replicate a return on, or the value of, the units of the partnership.

Therefore, having regard to the above comments and given only the limited facts in the circumstances described, it would be unlikely, in our view, that the publicly-traded common shares of Public Co and the units of the Fund would cause these securities to be viewed as an "investment" in the partnership as that term is defined in subsection 122.1(1).

Notwithstanding the above, we would also note that a SIFT partnership as defined in subsection 197(1) of the Act can include a partnership where its units of the partnership are listed or traded on a "public market." A public market as defined in subsection 122.1(1) "includes any trading system or other organized facility on which securities that are qualified for public distribution are listed or traded, but does not include a facility that is operated solely to carry out the issuance of a security or its redemption, acquisition or cancellation by its issuer." The Department of Finance News Release 2006-061 stated:

"...the concept of a public market is broader than just those stock exchanges that are prescribed for purposes of the Income Tax Act, and broader than even all stock exchanges. For example, an organized quotation system that supports over-the-counter trading is considered a public market for this purpose..."

We were not provided with sufficient details as to the circumstances or restrictions, if any, in which units in the Partnership may be issued, sold or transferred by the Partnership or the partners. We are therefore unable to provide our views as to whether the units of the Partnership units could be considered as listed or traded on a public market.

We trust that these comments will be of assistance.

Yours truly,

G. Moore
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch