22 December 2010 External T.I. 2010-0387591E5 - Subsections 129(6) and 256(2)

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: Does an election by a third corporation not to be associated with another corporation under 256(2) mean that income that was or may be deductible in computing income from an active business carried on in Canada by the otherwise associated corporation cease to be treated as income from an active business of the recipient corporation for the purposes of section 125 as required by subsection 129(6)?

Position: No. While it remains a question of fact as to whether the particular corporations, absent subsection 256(2), would otherwise be associated under section 256, the fact that an election is made not to be associated does not affect the application of subsection 129(3).

Reasons: The law.

XXXXXXXXXX
					2010-038759
					Michael Cooke, C.A.

December 22, 2010

Dear XXXXXXXXXX :

Re: Subsections 129(6) and 256(2)

This is in reply to your facsimile of November 17, 2010, wherein you requested our views on the above-noted provisions of the Income Tax Act (the "Act").

Briefly, in your correspondence you indicate that a corporation ("Corporation A") receives rental income from an associated corporation ("Corporation B"). Corporation B carries on an active business in Canada and is able to deduct, in computing its income from that business, the rent it pays to Corporation A. You indicate that paragraph 129(6)(b) of the Act ordinarily deems this rental income to be active business income of Corporation A.

While it is not clear from the facts in your correspondence, it appears that Corporation A and Corporation B may only be associated corporations because each corporation is associated with a third corporation ("Corporation C"). You mention that if Corporation C makes the appropriate election under subsection 256(2) of the Act to not be associated with Corporation A and Corporation B, such corporations will not otherwise be associated corporations for the purposes of section 125 of the Act. Assuming such an election is made by Corporation C, you have asked whether paragraph 129(6)(b) would still apply to deem Corporation A's rental income from Corporation B to be active business income.

Our Comments:

Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed the inquiry should be addressed to the relevant Tax Services Office (the "TSO"). A list of TSOs is available on the "Contact Us" page of the CRA website. Notwithstanding the forgoing, we are prepared to provide the following comments.

Subsection 256(2) of the Act provides that where two corporations are associated or deemed to be associated with a third corporation that is a Canadian-controlled private corporation, the corporations shall, for the purposes of the Act, be deemed to be associated with each other. However, where the third corporation is a Canadian-controlled private corporation it may, for the purposes of section 125 of the Act, elect under subsection 256(2) of the Act not to be associated with either of the other two corporations. The effect of this deeming rule is that the third corporation's "business limit", as that term is defined in subsection 125(2) of the Act, is deemed to be nil and each of the other two corporations will not have to share its business limit.

The rules in subsection 129(6) of the Act provide, inter alia, that, in computing the recipient corporation's income from property from a source in Canada for the purposes of subsection 129(4), such income will not include any portion of an amount that was or may be deductible ("deductible portion") in computing income from an active business carried on in Canada by an associated corporation and that, for the purposes of section 125 and subsection 129(6) of the Act, the deductible portion will be deemed to be income from an active business of the recipient corporation.

The CRA's longstanding position is that notwithstanding the fact that a third corporation has made an election under subsection 256(2) of the Act not to be associated with the other two corporations, such corporations will continue to be treated as associated corporations for the purpose of subsection 129(6) of the Act. This is because the election under subsection 256(2) of the Act is valid only for the purposes of section 125 of the Act.

As such, in the above situation, if any amount was or may be deductible in computing income from an active business carried on in Canada by Corporation B such amount will continue to be treated as income from an active business of Corporation A for the purposes of section 125 and subsection 129(6) of the Act regardless of any election by Corporation C under subsection 256(2).

We trust that these comments will be of assistance.

Yours truly,

Sandy Parnanzone
Manager
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch