2010 Ruling 2009-0349951R3 - Ptnshp contracting out pro services to ptnr corp

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: Whether the active business income earned by a professional corporation carrying out services for a partnership as an independent contractor, where the sole common shareholder of the professional corporation is a partner of the partnership, would qualify for the small business deduction and not be restricted under the rules for specified partnership income or personal services business or other anti-avoidance provisions.

Position: No, provided the facts described in the ruling are accurate and proposed transactions set out in the ruling are carried out as described.

Reasons: The facts and the proposed transactions conform to the requirements set out by the ITRD for these types of proposed partnership reorganizations.

XXXXXXXXXX
									2009-034995
XXXXXXXXXX , 2010

Dear XXXXXXXXXX :

Re: Advance Income Tax Ruling
XXXXXXXXXX (the "Partnership") - XXXXXXXXXX
XXXXXXXXXX (collectively the "Named Partners")

We are writing in response to your letter of XXXXXXXXXX , in which you requested an advance income tax ruling on behalf of the Partnership and the Named Partners. We also acknowledge the information provided in various emails.

To the best of your knowledge and that of the Partnership and the Named Partners (collectively the "Taxpayers"), none of the issues involved in the ruling request is:

i. in an earlier return of any of the Taxpayers or a related person;
ii. being considered by a tax services office or a tax centre in connection with a tax return already filed by any of the Taxpayers or a related person;
iii. under objection by any of the Taxpayers or a related person;
iv. before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; or
v. the subject of a ruling previously issued by the Directorate to any of the Taxpayers or a related person.

This document is based solely on the facts and proposed transactions described below. The documentation submitted with your request does not form part of the facts and proposed transactions and any references thereto are provided solely for the convenience of the reader.

Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended (the "Act"), and all terms and conditions used herein that are defined in the Act have the meaning given in such definitions unless otherwise indicated.

Our understanding of the facts, the proposed transactions and the purpose of the proposed transactions is as follows:

Definitions

The following definitions have been used in this letter:

(a) "CCPC" means a "Canadian-controlled private corporation" as defined under subsection 125(7) of the Act;

(b) "Contract" refers to the sub-contracting agreement which will be used to set out the terms and conditions by which a ProCorp will provide Professional Services to the Partnership;

(c) "CRA" is the Canada Revenue Agency;

(d) "Electing Partner" refers to a Named Partner who elects to provide his or her Professional Services through a ProCorp;

(e) "Fees" refers to the fee to be charged under the Contract by a ProCorp to the Partnership;

(f) "Income" refers to the Partnership's income or loss for a particular Taxation Year as computed under subsection 96(1) of the Act;

(g) "Non-Electing Partner" refers to a Partner who does not elect to provide Professional Services through a ProCorp;

(h) "Non-Professional Services" refers to the services, other than the Professional Services, provided by the Partnership;

(i) "Organization" means XXXXXXXXXX ;

(j) "Partner" refers to a partner of the Partnership;

(k) "Partnership Agreement" refers to the existing partnership agreement by which the Partnership is governed;

(l) "Practice" means the XXXXXXXXXX practice currently carried on by the Partnership and encompasses both Professional Services and Non-Professional Services;

(m) "ProCorp" means each of the corporations to be formed by an Electing Partner and through which an Electing Partner will provide Professional Services as an employee of that corporation;

(n) "Professional Services" means the XXXXXXXXXX services provided by the Partnership;

(o) "Province" means the Province of XXXXXXXXXX ;

(p) "Related Persons" has the meaning assigned by subsection 251(2) of the Act;

(q) "TCC" refers to a "taxable Canadian corporation" as defined under subsection 89(1) of the Act; and

(r) "Taxation Year" means the Partnership's taxation year for income tax purposes which is defined in paragraph 96(1)(b) of the Act as the Partnership's fiscal period.

Facts

1. The Practice is currently carried on by the Partnership. The Partners, currently XXXXXXXXXX in total, are the only partners of the Partnership. The Partnership has been carrying on business since XXXXXXXXXX , under the Partnership Agreement. However, it had been carrying on business under predecessor partnership agreements for many years prior to this date.

2. The Partnership and the Electing Partners file their information and tax returns with the XXXXXXXXXX Tax Centre and deal with the XXXXXXXXXX Tax Services Office. The main office of the Partnership is located at XXXXXXXXXX .

3. Currently, the Partners provide all of their Professional Services through the Partnership.

4. All of the Electing Partners are individuals resident in Canada for the purposes of the Act and none of them are Related Persons.

5. The Partnership operates the Practice on a "fee for service" basis. Remuneration for Professional Services provided to XXXXXXXXXX clients of the Partnership is paid by the Organization, XXXXXXXXXX and other third parties.

6. The Partnership is governed by the Partnership Agreement, the terms of which include the following:

(a) The net profit and loss of the Partnership is allocated equally among the "full-time" Partners.

(b) If for any reason a Partner is not a full-time Partner in a year, his or her share of profit or losses is determined by resolution of the Partners approved by at least XXXXXXXXXX Partners.

(c) Capital accounts are maintained for each Partner.

(d) Upon the death or retirement of a Partner (for whatever reason), the estate of the deceased or the retiring Partner is entitled to the Partner's capital account together with his or her undrawn profits in the Partnership at the date of such death or retirement but is not entitled to any goodwill of the Partnership.

Proposed Transactions

7. The Partnership Agreement will be amended as follows:

(a) A provision will be added to differentiate between Professional Services and Non-Professional Services.

(b) A provision will be added to allow a Partner to elect to provide his or her Professional Services through a ProCorp engaged by the Partnership as an independent contractor, and where a Partner so elects, he or she will no longer be permitted to provide any Professional Services to the Partnership in his or her capacity as a Partner.

(c) Each Partner will have the right to elect to provide his or her Professional Services through a ProCorp controlled by that Partner.

(d) A provision will be added to prohibit the transfer, conveyance or issuance of an interest in the Partnership to a ProCorp.

(e) A provision will be added to prohibit the carrying out of Non-Professional Services by the ProCorps. All Electing Partners will continue in their capacity as Partners to carry out the Non-Professional Services for the Partnership.

(f) The formula for the allocation of Income for a Taxation Year will be amended to provide that an Electing Partner's allocation of Income for a Taxation Year will be based on the Electing Partner's capital contribution to the Partnership and on factors connected to the Non-Professional Services carried out by the Electing Partner on behalf of the Partnership. For greater certainty, the Partnership Agreement will make it clear that the calculation of an Electing Partner's Income for a Taxation Year will not take into account any Professional Services provided by the Electing Partner's ProCorp, nor will it take into account any time spent by the Electing Partner performing Professional Services in his or her capacity as an employee of his or her ProCorp.

(g) A provision will be added to ensure that all Non-Electing Partners will continue to provide their Professional Services directly to the Partnership. Further, the Partnership Agreement will clarify that a Non-Electing Partner's allocation of Income for a particular year will be based on the Non Electing Partner's capital contribution to the Partnership and factors connected to the Professional Services and Non-Professional Services carried out by the Non-Electing Partner on behalf of the Partnership.

(h) The Partnership Agreement will provide that Electing Partners themselves are not restricted from competing with the Partnership with respect to Professional Services. For greater certainty, there will not be any terms in the Partnership Agreement, or any other agreement (oral or otherwise), that would prohibit the ProCorps or the Electing Partners from competing with the Partnership in respect of the provision of Professional Services.

8. Each ProCorp will be required to comply with the following requirements:

(a) It will be incorporated pursuant to the laws of the Province and will hold a valid certificate of authorization issued by the XXXXXXXXXX .

(b) It will qualify as a TCC and a CCPC.

(c) It will be controlled by an Electing Partner, who will be the legal and beneficial owner of all of the voting shares of the particular ProCorp. Non-voting shares may be held by an Electing Partner's spouse, children or parents. All shareholders legally or beneficially owning voting and non-voting shares of the ProCorp will be residents of Canada.

(d) An Electing Partner will be the sole director of his or her ProCorp. He or she will also be an employee of ProCorp pursuant to a written employment contract and will be entitled to receive a salary.

(e) An Electing Partner cannot be an employee, officer, director or shareholder, legal or beneficial, of more than one ProCorp.

(f) No two ProCorps will be Related Persons.

9. Upon receipt of a written notice from an Electing Partner, the Partnership will enter into a written Contract with the particular Electing Partner's ProCorp containing the following terms:

(a) The ProCorp will provide Professional Services on behalf of the Partnership in return for Fees. The amount of the Fees will be negotiated on a case-by-case basis and will reflect the fair market value of the Professional Services provided by the ProCorp to the Partnership. The Fees will relate only to the level of work performed by ProCorp and will not take into account the success of collected billings in respect of that work.

(b) The Contracts will be for a fixed period of 12 months. The Contracts may be renewed each year and may be terminated by either party upon one-month's notice.

(c) All payments received by the Partnership from the Organization and other third parties in respect of Professional Services provided by the ProCorp under the Contract will be for the benefit of the Partnership, and if a ProCorp receives any such amounts, they will be remitted to the Partnership.

(d) Provided that ProCorp fully discharges its responsibilities under the Contract, ProCorp will not be restricted from providing Professional Services to other persons or otherwise be prohibited from competing with the Partnership.

(e) The Partnership will provide the ProCorps certain supplies, facilities and equipment required in the provision of Professional Services under the Contracts but will be reimbursed at fair market value for such items by the ProCorps.

(f) The ProCorps will also be responsible for, among other things, the following expenses:

(i) professional membership fees and insurance;
(ii) the cost of continuing professional education;
(iii) transportation expenses;
(iv) communication expenses; and
(v) the cost of maintaining the professional standards set by the Partnership.

10. The ProCorp's relationship to the Partnership is that of an independent contractor, and nothing in the Contract should be construed as:

(a) allowing either party the authority to assume or create any obligation whatsoever, express or implied, in the name of the other nor to bind the other in any manner whatsoever,

(b) giving either party the power to direct and control the day-to-day activities of the other party or any of their respective employees or agents, or

(c) constituting the parties as partners, joint venturers, co-owners or otherwise participants in a joint or common undertaking.

11. Within six months of this Ruling, the Electing Partners will establish ProCorps and will elect under the Partnership Agreement to provide Professional Services through such ProCorp. Immediately thereafter, each Electing Partner's ProCorp will enter into a Contract with the Partnership for the purpose of providing such services.

Purpose of the Proposed Transactions

The purpose of the proposed transactions is to allow the Electing Partners to provide their Professional Services through ProCorps with the following advantages:

(i) to permit each Electing Partner to benefit from recent amendments to the laws of the Province which permit XXXXXXXXXX to render professional services through a professional corporation;

(ii) to provide each Electing Partner with an increased level of control over his or her participation in the Practice through individual management of personal practice preferences;

(iii) to permit each Electing Partner to have control over expenditures where such expenditures may not be in the interest of all Partners;

(iv) to provide each Electing Partner with more control over his or her own estate and financial planning; and

(v) to enhance the Partnership's ability to retain current XXXXXXXXXX .

Rulings Provided

Provided that

(a) the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purposes of the proposed transactions,

(b) the proposed transactions are completed in the manner described above, and

(c) there are no other transactions which may be relevant to the rulings requested,

we rule as follows:

A. Provided that an Electing Partner would not, if his or her ProCorp did not exist, reasonably be regarded as an officer or employee of the Partnership in respect of the provision of Professional Services, the Electing Partner's ProCorp will not be considered to be carrying on a personal services business as defined in subsection 125(7) of the Act.

B. Provided that an Electing Partner's ProCorp was not a member of any partnership in the relevant year in respect of the provision of Professional Services to the Partnership, the Fees earned by the particular ProCorp will not be specified partnership income as defined in subsection 125(7) of the Act.

C. Subject to sections 18 and 67 of the Act, the Fees payable by the Partnership to a ProCorp will be deductible by the Partnership in the determination of Income pursuant to subsection 96(1) of the Act.

D. The undertaking of the proposed transactions above, and in particular the payment of the Fees, will not in and of themselves cause subsection 56(2), 56(4) or 246(1) of the Act to apply so as to cause an amount received by a Electing Partner's ProCorp under the Contract to be taxed as income in the hands of the particular Electing Partner.

E. Provided that the amount of Income allocated to each Electing Partner is reasonable, having regard to all the relevant circumstances, the sharing of the Income between the Electing Partners will not be subject to adjustment pursuant to subsection 103(1) of the Act solely as a result of an Electing Partner being allowed, pursuant to amendments to the Partnership Agreement, to incorporate a ProCorp and to provide all of his or her Professional Services to the Partnership through that ProCorp for Fees.

F. The execution and implementation of the proposed transactions described above, in and of themselves, will not constitute a disposition of part or all of an interest in the Partnership by any of the Electing Partners.

G. The execution and implementation of the proposed transactions described above, will not, in and of themselves, create a non-arm's length relationship between any Electing Partner and any other Partner with respect to sharing Income for income tax purposes.

H. Implementation of the proposed transactions as described above will not, in and by themselves, result in the application of the provisions of subsection 245(2) of the Act to re-determine the tax consequences confirmed in the rulings given above.

These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 issued by the CRA on May 17, 2002, and are binding on the CRA provided that the proposed transactions are implemented on or before XXXXXXXXXX . These rulings are based on the Act in its present form and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.

Nothing in this letter should be construed as implying that the CRA has agreed to or accepted any of the tax consequences relating to the facts and proposed transactions described above except as expressly stated in the rulings. In particular, nothing in this letter should be interpreted as confirming, either expressly or implicitly, that the CRA has agreed to or accepted the fair market value or reasonableness of any amounts, including the Fees, and whether the Partnership is a partnership at law.

Additional Comments

Whether or not a particular Electing Partner would, if his or her ProCorp did not exist, be an employee of the Partnership or an independent contractor who has entered into a contract of services with the Partnership is a question of fact that can only be determined after a review of the actual agreements entered into between the particular ProCorp and the Partnership and between the particular ProCorp and the particular Electing Partner. This review and determination is the responsibility of the particular Electing Partner's local tax services office.

The attribution rules in sections 74.1 to 74.4 of the Act apply in situations where property is transferred or lent, directly or indirectly, to a spouse or child. These rules may apply to any income received by a spouse or a child who has not attained the age of 18 years before the end of a particular taxation year. Whether or not these rules will apply in respect of the possible ownership of any shares of an Electing Partner's ProCorp is a question of fact that can only be determined at the time that the shares are issued or property is lent or transferred to such a shareholder. Furthermore, subsection 56(2) of the Act may apply to any amounts paid by such ProCorp to a family member of the Electing Partner. Also, section 120.4 of the Act may apply with respect to taxable dividends or trust income in respect of taxable dividends from a ProCorp received in a taxation year by a family member of the Electing Partner who has not attained the age of 17 years before that year.

Opinion

The application of subsection 256(2.1) of the Act is determined on a year-to-year basis. We are therefore unable to rule that this provision will never apply to a ProCorp. In general, where a particular function of a professional partnership that was previously carried on by the partnership is subsequently carried on by a partner's professional corporation, and no longer in partnership, for bona fide reasons other than income tax, this fact, in and of itself, would generally not cause subsection 256(2.1) of the Act to be applicable. The reasons for the separate existence of two or more professional corporations or the reasons for a change in the functions performed directly by the partners of the professional partnership is a question of fact that can only be determined on a case-by-case basis. However, based on the facts and proposed transactions described herein, it is our view that the incorporation of ProCorps to provide the Professional Services to the Partnership will not, in and of itself, cause subsection 256(2.1) of the Act to be applicable to the ProCorps.

In accordance with paragraph 22 of Information Circular 70-6R5, the comments in the immediately preceding paragraph are only an expression of opinion, and as such should not be construed as an advance income tax ruling, nor are they binding on the CRA.

Yours truly,

XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch