27 August 2010 Internal T.I. 2009-0345771I7 - Article XVI Canada -US Convention: Artiste and LLC

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 in scenarios submitted the LLC and its members are individually entitled to the treaty exemption stated in paragraph 1 of Article XVI of the Convention in respect of the income each one of them realizes considering the hybrid nature of LLC and the application of paragraph 6 of Article IV of the Convention?

Position: General comments provided.

							August 27, 2010

	Frank Grant							HEADQUARTERS
	Senior Compliance Program Advisor 			Income Tax Rulings
	Non-resident Advisory Services Unit 2	  		Directorate
	Compliance Programs Branch				Yannick Roulier
	Canada Revenue Agency					(613) 957-2134
	1050 Notre-Dame Avenue,
	Sudbury ON  P3A 5C1					2009-034577

Subject: Article XVI of the Canada - U.S. Convention: Artistes and LLCs

This is in reply to your email of October 27, 2009, wherein you requested our views with respect to the application of Article XVI of the Canada - United States Tax Convention ("Convention") in situations involving a United States Limited Liability Corporation ("LLC"). Unless otherwise indicated, all statutory references are to the Income Tax Act, R.S.C. 1985 (5th supp.) c. 1, as amended to the date of this memorandum ("Act").

Background

We understand the facts of the hypothetical scenarios submitted to be as follows:

Scenario 1

1. A, B, C and D (the "Artistes") are individuals resident in the United States of America ("US") and are the only members of an LLC.

2. The LLC's year end is December 31st.

3. In a given year after the entry into force of paragraph 6 of Article IV of the Convention, the LLC contracts for several performances of the Artistes in Canada during the same year.

4. The LLC receives $200,000 in gross receipts and incurs $100,000 of deductible expenses payable to arm's length third parties.

5. In its Canadian tax return for the given year, the LLC claims additional expenses of $60,000 as salary paid to its four members in equal parts. The remaining taxable income of the LLC is $40,000.

Scenario 2

1. Same facts as above, except that the LLC receives $150,000 in gross receipts and incurs $100,000 of deductible expenses payable to arm's length third parties.

2. In its Canadian tax return for the given year, the LLC claims additional expenses of $50,000 as salary paid to its four members in equal parts, reducing the taxable income of LLC to nil.

In both scenarios, the LLC is considered to be a corporation for Canadian income tax purposes. Also, it is assumed that the LLC has not elected to be treated as a corporation under the US "check-the-box" regulations and, consequently it is treated as a disregarded entity for US tax purposes.

Questions

Question 1

You ask whether the LLC and the four Artistes are individually entitled to the treaty exemption stated in paragraph 1 of Article XVI of the Convention in respect of the income each one of them realizes in the given the year, considering the hybrid nature of the LLC and the application of paragraph 6 of Article IV of the Convention?

Question 2

You mentioned that in some cases, the CRA is advised at the tax waiver stage that a salary will be paid but it is not in fact paid. The amount is simply allocated to the artistes (as salary) and then included as an expense when the income tax return of the corporation is filed. You ask whether an amount allocated but not paid to an artiste at the time of filing a return by a corporation is still deductible as an expense of the corporation.

Comments

Question 1

Paragraph 6 of Article IV of the Convention provides essentially that where an individual is considered under US law to have derived an amount of income or profit through an entity (including an LLC) and is treated for tax purposes as if he had derived the amount directly by reason of the entity being treated as fiscally transparent, the amount is considered to be derived by that person for purposes of the Convention. Consequently, each individual's share of the income of the LLC would be treated as having been derived by the artistes for the purposes of the Convention, including for the purposes of Article XVI.

In Scenario 1 above, the gross income of the LLC is $200,000, before expenses. Our interpretation in these circumstances would be that the artistes would not be entitled to claim the exemption under paragraph 1 of Article XVI, since each artiste would be considered to have received gross receipts of $50,000 for the purposes of this provision. The exemption provided for in paragraph 1 of Article XVI thus does not apply where the gross receipts derived by the artiste exceed $15,000, and in this situation, the amount is clearly exceeded.

In scenario 2, the gross income of the LLC ($150,000) would be regarded as having been derived by the four artistes equally, i.e. $37,500 each for the purposes of paragraph 1 of Article XVI.

This amount clearly exceeds the $15,000 exemption threshold for each of the four artistes.

In effect, the gross receipts of the LLC are considered to be derived by the members for the purposes of the Article XVI(1) exemption. The LLC member's share of the LLC income could be aggregated with any salary of the member in the same fiscal year for the purposes of applying paragraph 1 of Article XVI. For filing purposes however, the Article IV(6) deeming rule is not applicable however, since as noted in the 2007 Protocol Technical Explanations, for Canadian purposes, the LLC remains a visible taxpayer with respect to the amounts of its income. However, we would expect that the income and expenses of the LLC (including the salaries paid) would be relevant for Canadian tax filing purposes. The artistes who are in receipt of salary earned in Canada would be expected to file their T1 tax returns for Canadian tax filing purposes and the income tax provisions would apply to the taxpayers with regard to the application of paragraph 1 of Article XVI of the Convention where applicable. If the Article XVI(1) exemption is found to be applicable to income earned by an LLC directly, then the LLC should be granted the exemption in its T2 tax return, as though the income had been earned by each of its members who are entitled to the exemption in the year.

Question 2

In regards to your question concerning the deductibility by an LLC of salary that is declared as payable to a member of the LLC but that was not paid at year-end, we would expect that normal Canadian tax rules should apply to determine the deductibility of such amounts, taking into consideration subsection 78(4). In determining whether to grant waivers to a taxpayer or not, you may wish to consider whether waivers should be given where it cannot be established that salaries will be paid in the taxation year of the LLC. XXXXXXXXXX .

We trust the above comments will be of some assistance.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayers.

Yours truly,

Alain Godin, Manager
for Director
International and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch