21 November 2017 CTF Annual Conference CRA Roundtable - Official Response

Presented by:

• Stéphane Charette, Acting Director, Financial Industries and Trusts Division, Income Tax Rulings Directorate, CRA; and
• Stéphane Prud'Homme, Director, Reorganizations Division, Income Tax Rulings Directorate, CRA

Unless otherwise stated, all statutory references in this document are to the Income Tax Act, R.S.C. 1985, c. 1 (5th Suppl.) (the "Act"), as amended to the date hereof.

FN1: We gratefully acknowledge the following CRA personnel who were instrumental in helping us prepare for these Q&As: Ken Anders, Mary Pat Baldwin, Mélanie Beaulieu, Nicolas Bilodeau, Pamela Burnley, Katie Campbell, Lori Carruthers, Dawn Dannehl, Claudio DiRienzo, Randa El-Kadi, Ina Eroff, Steve Fron, Yves Grondin, Robin Howard, Ann Kippen, Phil Kohnen, Lita Krantz, Faye Kravetz, Mark Mayer, Gwen Moore, Yves Moreno, David Palamar, Marina Panourgias, Yannick Roulier, Louise Roy, Marc Ton-That, Sherry Thomson, Chrys Tzortzis, Daniel Wong, and Dave Wurtele.

Question 1: Distribution of property by a Canadian resident trust to a Canadian corporation that is wholly owned by one or more non-residents

A common planning method to avoid the application of the 21-year deemed disposition rule in subsection 104(4) in respect of property with inherent gains held by a Canadian resident discretionary family trust involves the distribution of trust property to a Canadian resident beneficiary on a tax deferred basis pursuant to subsection 107(2) in advance of the trust’s 21st anniversary. Where the recipient beneficiary is a natural person and subsection 107(2) is applicable, the gains inherent in the distributed property will be deferred until the earlier of the date that the recipient beneficiary disposes of the property or the date of death of the beneficiary (or his or her spouse where a spousal rollover is available). However, subsection 107(2) is not available in respect of a distribution of property by a trust to a non-resident beneficiary, with the exception of certain properties. Instead, where property is distributed to a non-resident beneficiary, subsection 107(5) will typically apply and result in the application of subsection 107(2.1) which would deem the property to be distributed to the non-resident beneficiary on a taxable basis.

Consider a situation where the trustees of a Canadian resident discretionary family trust (the “Trust”) are planning to distribute of all or a portion of the Trust’s property (the “Property”) to one or more of its beneficiaries in advance of the Trust’s 21st anniversary. The Property does not consist of any of the properties described in subparagraphs 128.1(4)(b)(i) to (iii). The beneficiaries of the Trust that are intended to receive the Trust property are natural persons who have emigrated from Canada and are non-residents of Canada at the relevant time (“NR beneficiaries”). Instead of distributing the Property to the NR beneficiaries directly, the trustees propose to distribute the Property, on a tax deferred basis pursuant to subsection 107(2), to one or more Canadian companies (“Canco”) that are wholly owned by one or more of the NR beneficiaries, and that are beneficiaries of the Trust. The result is that the Property will no longer be held by the Trust and as such will not be subject to the 21-year deemed disposition rule. In addition, since the Property will be distributed to one or more Canadian resident corporations, subsection 107(5) should not be applicable and thus the Property will be transferred out of the Trust on a tax-deferred basis pursuant to subsection 107(2).

Does the CRA agree with this conclusion?

CRA Response

The CRA addressed the income tax implications associated with other 21-year deemed disposition planning methods at the 2016 CTF Annual Conference and the 2017 STEP National Conference. The situations considered at those conferences involved the distribution of property by a Canadian resident discretionary family trust to a Canadian corporation whose shares would be wholly owned by a newly established Canadian resident discretionary family trust. It was noted that it is the CRA’s view that the situations addressed circumvented the application of the anti-avoidance rule in subsection 104(5.8) in a manner that frustrates the object, spirit and purpose of that provision, the deemed disposition rule in paragraph 104(4)(b) and the scheme of the Act as a whole. It was also noted that the CRA has significant concerns with these transactions and will consider the application of GAAR where similar transactions are proposed to be put in place unless substantial evidence supporting its non-application is provided.

In respect of the transactions described herein, any capital gains inherent in the Property distributed to Canco may be deferred beyond the 21st anniversary of the Trust and potentially beyond the life of the NR beneficiary or indefinitely. It is the CRA’s view that the intention of subsection 107(5) is to ensure that Canada maintains the ability to tax capital gains that accrue during the period that property is held by a Canadian resident trust and that the transactions described are not consistent with this intention. Further, these transactions contravene one of the underlying principles of the taxation of the capital gains regime which is to prevent the indefinite deferral of tax on capital gains and which is supported by subsections 70(5), 104(4) and 107(2). Accordingly, it is the CRA’s view that such transactions circumvent the application of subsections 107(5) and 107(2.1) in a manner that frustrates or defeats the object, spirit or purpose of those provisions, subsections 70(5), 104(4) and 107(2) and the Act as a whole. The CRA has significant concerns regarding these transactions and will consider the application of GAAR when faced with a similar set of transactions unless substantial evidence supporting its non-application is provided. In addition to the specific transactions described herein, it is the CRA’s view that GAAR may be applicable in respect of other situations involving the distribution of property from a family trust to a Canadian corporation with one or more non-resident shareholders.

Accordingly, unless substantial evidence supporting the non-application of GAAR is provided, the CRA will not provide any Advance Income Tax Ruling where such structure is proposed to be put in place.

Question 2: Trusts and principal residence exemption

The Department of Finance released new rules in a Notice of Ways and Means Motion on October 3, 2016 which restrict the circumstances under which a personal trust will be able to claim the principal residence exemption effective for taxation years starting in 2017 or later.

Only certain trusts will be eligible to claim the exemption under the new rules. Eligible trusts include life interest trusts (e.g., alter ego trusts, spousal or common-law partner trusts and joint spousal trusts), among certain other trusts.

Under the new rules, where the trust acquires the property on or after October 3, 2016, the terms of the trust must provide the eligible beneficiary with “a right to the use and enjoyment of the housing unit as a residence throughout the period in the year that the trust owns the property”.

Does a life interest trust’s deed have to include the specific wording found in new subclause 54(c.1)(iii.1)(A)(III) of the definition of “principal residence”? One of the conditions of being classified as a life interest trust is that only the settlor and/or his or her spouse, as the case may be, is entitled to receive or otherwise use any of the trust’s capital property during their lifetime. Is it sufficient that the trust deed already incorporates language providing that no one other than the life interest beneficiary has the right to use any of the trust property, which would include any housing unit held by the trust?

CRA Response

The Notice of Ways and Means Motion of October 3, 2016 (the “2016 NWMM”) introduced proposed new rules whereby only certain types of personal trusts would be eligible to claim the principal residence exemption for a taxation year that begins after 2016. These personal trusts included trusts for which a day is to be determined under paragraph 104(4)(a), (a.1) or (a.4) by reference to the death or later death, as the case may be, that has not occurred before the beginning of the year, of an individual who is resident in Canada during the year (referred to in this response as a “life interest trust”). One of the requirements to qualify as a life interest trust is that the terms of the trust must ensure that only the settlor and/or his or her spouse or commonlaw partner, as the case may be, (referred to in this response as a “specified beneficiary”) is entitled to receive or otherwise use any of the life interest trust’s capital during their lifetime.

The 2016 NWMM introduced proposed subclause (c.1)(iii.1)(A)(III) of the definition of principal residence in section 54 (the “Proposed Subclause”) which provided that in order for a property acquired by a life interest trust on or after October 3, 2016 to qualify as a principal4 residence, the terms of the trust had to provide the specified beneficiary with “a right to the use and enjoyment of the housing unit as a residence throughout the period in the year that the trust owns the property.”

However, we note that the Proposed Subclause, as well as proposed subclauses (c.1)(iii.1)(B)(III) and (C)(II), which would have imposed the same requirement in respect of the other categories of trusts identified in proposed subparagraph (c.1)(iii.1) of the principal residence definition in the 2016 NWMM, is not present in Bill C-63, The Budget Implementation Act, 2017, No 2, which was tabled in Parliament on October 27, 2017.

Notwithstanding the changes in Bill C-63 noted above, it is our view that a provision in the terms of the trust that only the specified beneficiary is entitled to the use of the life interest trust’s capital during their lifetime would not be equivalent to a right of that specified beneficiary to use and enjoy a housing unit as a residence throughout the period in the year that the life interest trust owns the property. Trust terms that provide that no one other than the specified beneficiary has the right to use and enjoy the property of the trust would have fallen short of specifically meeting the key requirement in the 2016 NWMM that the specified beneficiary must have the right to use the housing unit owned by the trust as a residence.

Question 3: Meaning of purpose

A) A technical interpretation released in April 2017 (2016-0658841E5) notes that paying a dividend with the goal of purifying the corporation by distributing surplus assets so that the shares in the capital stock of that corporation are “qualified small business corporation shares” within the meaning of subsection 110.6(1) (“QSBCS”) would certainly be a relevant factor that should be taken into account. The TI says, however, that it also should be ensured that the dividend has no other purpose described in paragraph 55(2.1)(b). The TI says that if, for example, the dividend paid to the corporation exceeds the amount that would be required to transfer the surplus assets, this could be a sign that the dividend has another purpose, which was one of those referred to in paragraph 55(2.1)(b).

If the dividend’s only purpose is to maintain the QSBCS status of the shares, the dividend should not have a purpose (but might have the result) of reducing the FMV or the gain on the shares. In this situation, would CRA agree that the purpose tests are not met?

B) Is the test under Ludco Enterprises Ltd et al v. The Queen, 2001 DTC 5505 (SCC) (“Ludco”), the right test to use to determine “purpose” in the context of subsection 55(2) as opposed to the test under The Queen v. Placer Dome, 96 DTC 6562 (FCA) (“Placer Dome”), which was a decision under subsection 55(2)? Note that Ludco is a decision under paragraph 20(1)(c) which does not have both a purpose and a result test and recent jurisprudence on subsection 55(2), including Placer Dome, does not apply the principle established in Ludco that the objective manifestation of purpose is critical to ascertain the purpose or intention behind actions under former subsection 55(2) because of the particular language therein that distinguishes between purpose and result. Placer Dome held that the purpose test in subsection 55(2) requires a subjective understanding whereas an objective approach is required for the result test. Also, it is understood that the determination of “purpose” in Placer Dome does not require the taxpayer to adduce corroborative or additional evidence when a taxpayer’s explanation of purpose is neither improbable nor unreasonable.

CRA Response (A)

Subsection 55(2) could apply where any one of the purposes described in paragraph 55(2.1)(b) is present and, therefore, it is important to demonstrate that the payment or receipt of the dividend has no purpose described in paragraph 55(2.1)(b).

Whether a purpose of maintaining QSBCS status cannot be divorced from other purposes such that a payment of a dividend can be viewed as having only the purpose of maintaining QSBCS status but has no purpose of reducing the accrued gain or value of the shares or increasing the cost of property of the dividend recipient can only be made in light of all the relevant facts and circumstances.

As indicated in the above-mentioned interpretation, where the dividend is paid with assets other than surplus assets, this might be a sign that the payment of the dividend could have a purpose referred to in paragraph 55(2.1)(b). Or, if the removal of the surplus assets from the corporation through the payment of a dividend is made in contemplation of a possible disposition of the shares of the corporation, it may also indicate that there is a purpose referred to in paragraph 55(2.1)(b).

The above are only examples of questions that could be asked to help determine whether a purpose referred to in paragraph 55(2.1)(b) could be present in respect of a dividend paid to qualify as QSBCS. They do not represent the only guidelines to use to determine such purpose in that context.

We also question why the payment of a dividend to remove surplus assets is not covered by safe income since the generation of surplus assets or a disposition of such assets would generally result in a realization of income.

CRA Response (B)

As indicated in document 2015-0610651C6, the correct test to use to determine purpose in respect of subsection 55(2) is the Supreme Court’s test in Ludco which is as follows: “in the interpretation of the Act, as in other areas of law, where purpose or intention behind actions is to be ascertained, courts should objectively determine the nature of the purpose, guided by both subjective and objective manifestations of purpose.”

Ludco followed the purpose test in respect of paragraph 18(1)(a) established by the Supreme Court in Elizabeth C. Symes v. The Queen, 1994 DTC 6001 (“Symes”) [at para. 74]:

“As in other areas of law where purpose or intention behind actions is to be ascertained, it must not be supposed that in responding to this question, courts will be guided only by a taxpayer's statements, ex post facto or otherwise, as to the subjective purpose of a particular expenditure. Courts will, instead, look for objective manifestations of purpose, and purpose is ultimately a question of fact to be decided with due regard for all of the circumstances. For these reasons, it is not possible to set forth a fixed list of circumstances which will tend to prove objectively an income gaining or producing purpose.”

The test provided in Symes and Ludco constitutes the benchmark test to determine purpose or intent. The test was followed by a long line of cases on various subjects including, but not restricted to:

• Petro-Canada v. The Queen, [2004 DTC 6329, 2004 FCA 158]: qualifying of expenses as CEE.
• Makuz v. The Queen, [2006 DTC 3201, 2006 TCC 263]: existence of a partnership.
• McPherson v. The Queen, [2007 DTC 326, 2006 TCC 648]: whether a gift is a genuine gift.
• Canada Safeway Ltd. v. The Queen, [2008 DTC 6074, 2008 FCA 24]: secondary intention (income vs. capital gain).
• Groupe Honco Inc. v. The Queen, [2013 DTC 1032, 2013 FCA 128]: application of subsection 83(2.1).
• Perera v. The Queen, [2014 DTC 1172, 2014 TCC 280]: expenses incurred for the purpose of earning employment income.
• Standard Life Assurance Co of Canada v. The Queen, [2015 DTC 1113, 2015 TCC 97]: designated insurance properties.
• Lyn Kew v. The Queen, [2015 DTC 1172, 2015 TCC 193]: purpose of a relocation expense.
• Mariano v. The Queen, [2015 DTC 1209, 2015 TCC 244]: intent of donation.
• 3488063 Canada Inc. v. The Queen, [2016 DTC 5099, 2016 FCA 233]: application of section 94.1.
• Edison Transportation LLC v. The Queen, [2016 DTC 1063, 2016 TCC 80]: section 9 and paragraph 18(1)(a).
• MacDonald v. The Queen, 2017 TCC 157: capital gain vs. income determination.

The decision of the Federal Court of Appeal in Placer Dome was in response to the Crown’s argument that “purpose” in subsection 55(2), based on some Australian case law, does not embrace the motivation of each of the participants and that term is to be understood in an objective, not a subjective sense, especially when a dividend and a disposition of a share are inextricably linked where the transaction has the effect of reducing substantially a capital gain. The Crown lost the argument and the Court reaffirmed that the “purpose” test in subsection 55(2) is a subjective test. This has to be differentiated from the standard established by Ludco and Symes on the determination of purpose.

At paragraph 20 of the FCA decision in Placer Dome, the Court made the following comment: “it is not necessary that the taxpayer adduce corroborative or additional evidence which shows or tends to show that his or her testimony is true.” Such comment was derived from McAllister Drilling v. The Queen, 95 DTC 5001 (FCTD), where the Court made the following comment at paragraph 8 of the decision:

“In the somewhat unusual circumstances of this case where credibility is conceded, if I agree that the taxpayers' evidence is credible, it will not require the bolstering or corroboration afforded by external facts”. [Our emphasis]

In both Placer Dome and McAllister Drilling, the court determined the “purpose” of the taxpayers by not only listening to their testimony but also by examining all the facts and corroborating their testimony with the objective facts and the evidence. The comments made by the courts and quoted above only meant that a court does not need to probe further if the facts and evidence in front of them are sufficient to establish the credibility of the testimony.

The court in Placer Dome and McAllister Drilling did not contradict Ludco and Symes. They followed the standard established in Ludco and Symes that “courts should objectively determine the nature of the purpose, guided by both subjective and objective manifestations of purpose” (see above).

Where a dispute under subsection 55(2) arises, the Crown and the CRA will ensure that all relevant facts and evidence are brought to the court to help it to establish the objective manifestations of purpose and the credibility of the testimony of the taxpayers.

Question 4: Timing of deemed gain under subsection 55(2)

Where subsection 55(2) applies to a dividend that is not received on a redemption, acquisition or cancellation of a share to which subsection 84(2) or (3) applies, the dividend recipient is deemed to have a gain under paragraph 55(2)(c), for the year in which the dividend was received from the disposition of a capital property.

Does the deemed gain occur at the time of the payment of the dividend?

Does the addition to the capital dividend account (“CDA”) occur at the time of the payment of the dividend?

In document 2011-0412131C6, the CRA indicated that the CDA addition that is caused by the application of former paragraph 55(2)(c) can only be available for distribution as a capital8 dividend in the taxation year following the year in which the gain was included in income by virtue of subsection 55(2).

CRA Response

In light of the amended wording in current paragraph 55(2)(c) and our understanding of the tax policy of current subsection 55(2), the CRA is of the view that the amount deemed to be a gain under paragraph 55(2)(c) is deemed to be realized on a disposition of a capital property at the time of the payment of the dividend for purposes of inclusion in income and the definition of “capital dividend account” in subsection 89(1).

Question 5: Interaction between 55(5)(f) and 55(2.3) with 55(2.1)

Opco pays a dividend of $1,000 on the shares held by Holdco in Opco. The shares have a fair market value of $1,500 prior to the dividend and the safe income that can reasonably be viewed as contributing to the gain on the shares of Opco held by Holdco is $900. Paragraph 55(5)(f) deems the portion of safe income of $900 to be a separate dividend and the portion of $100 that exceeds the safe income to be another separate dividend.

A) Are both dividends subject to a separate test under subsection 55(2.1) such that the portion of $900 of the dividend is exempt because it does not exceed safe income and the portion of $100 of dividend may be exempt if its purpose is not to significantly reduce the gain or the value of the shares on which it is paid?

B) Similarly, when a dividend is a stock dividend subject to the rule in subsection 55(2.4), does the application of the rule in subsection 55(2.3) to segregate the dividend into 2 dividends result in the application of the test under subsection 55(2.1) separately to each such dividends? Consider for example a stock dividend with a PUC of nil and a FMV of $1,000 and the safe income that contributes to the gain on the shares on which the stock dividend is paid is $900.

CRA Response (A)

Paragraph 55(5)(f) read as follows prior to its amendment introduced in Bill C-15:

where a corporation has received a dividend any portion of which is a taxable dividend,

(i) the corporation may designate in its return of income under this Part for the taxation year during which the dividend was received any portion of the taxable dividend to be a separate taxable dividend, and

(ii) the amount, if any, by which the portion of the dividend that is a taxable dividend exceeds the portion designated under subparagraph (i) shall be deemed to be a separate taxable dividend.

Subsection 55(2) read as follows prior to the amendment introduced in Bill C-15:

(2) Where a corporation resident in Canada has received a taxable dividend in respect of which it is entitled to a deduction under subsection 112(1) or (2) or 138(6) as part of a transaction or event or a series of transactions or events, one of the purposes of which … was to effect a significant reduction in the portion of the capital gain that, but for the dividend, would have been realized on a disposition at fair market value of any share of capital stock immediately before the dividend and that could reasonably be considered to be attributable to anything other than income earned or realized by any corporation after 1971 and before the safe-income determination time for the transaction, event or series, notwithstanding any other section of this Act, the amount of the dividend …

(a) shall be deemed not to be a dividend received by the corporation;

(b) …

(c) where a corporation has not disposed of the share, shall be deemed to be a gain of the corporation for the year in which the dividend was received from the disposition of a capital property.

It was well understood then that paragraph 55(5)(f) was a relieving provision and a designation under paragraph 55(5)(f) allowed the taxpayer to only report the portion of the dividend that exceeds safe income as a gain under subsection 55(2).

The “Robertson paper” gave the following explanation:

“A taxpayer is obligated by the law to report that portion of the gain attributable to something other than income earned or realized after 1971. Therefore, he must calculate his safe income and safe dividend as carefully as possible. Having done that, he must make the designation in accordance with the provisions of paragraph 55(5)(f). At this point, there should be no problem determining which separate taxable dividend is caught by subsection 55(2). The taxpayer will report the one supported by his calculation of safe income and of a safe dividend as a tax-free dividend and the other as additional proceeds or a gain, as the case may be.”

[2]

Interestingly, the question was never raised as to whether only the $100 portion of the dividend should be subject to the purpose test under subsection 55(2) since it was well understood that the purpose test in subsection 55(2) applied to the whole dividend (of $1,000 in the above example), such that a designation under paragraph 55(5)(f) would require the taxpayer to include only the portion of the dividend that exceeds the safe income (the portion of $100 of dividend in the above example) in its income under paragraphs 55(2)(a) and 55(2)(c).

The new rules introduced by Bill C-15 to paragraph 55(5)(f) and subsections 55(2) and 55(2.1) have not changed anything with respect to the above discussion, except that paragraph 55(5)(f) now operates automatically to segregate the dividends between “safe” dividends and “non-safe” dividends instead of requiring the taxpayer to make a designation for that purpose. Except for such automatic segregation, the scheme of the application of paragraph 55(5)(f) to subsection 55(2) remains the same.

Hence, there is no reason why the deemed separate dividend of $100 in the above example should be subject to a separate test under paragraph 55(2.1)(b) and the words of paragraph 55(5)(f) and its application to subsections 55(2) and 55(2.1) should not lend themselves to an interpretation that is contrary to its object and spirit. Since paragraph 55(5)(f) does not contain an ordering rule for the dividends, one may be tempted to argue that both deemed separate dividends under paragraph 55(5)(f) could be protected by the safe income that existed immediately prior to the payment of the whole dividend, as each separate dividend is subject to 55(2) under paragraph 55(2.1)(c) only if it exceeds the safe income immediately before the dividend.

Such interpretation results in a duplication of the safe income protection and is simply absurd since the purpose of paragraph 55(5)(f) is to bring into income the amount of the dividend that exceeds safe income.

An appropriate reading of the relevant provisions, in conformity with the purpose of the legislation, would be as follows, using the same numbers as in the above example:

• The “taxable dividend” referred to in the preamble of paragraph 55(2.1) is the whole $1,000 of dividend;
• The “dividend” referred to in paragraphs 55(2.1)(a) and (b) is the whole $1,000 of dividend;
• The “amount of the dividend” referred to in paragraph 55(2.1)(c) is the portion of the dividend that exceeds safe income and that is deemed to be a separate dividend under paragraph 55(5)(f), which is $100;
• The “taxable dividend” referred to in the preamble of subsection 55(2) is the whole $1,000 of dividend; and
• The “amount of the dividend” referred to in the preamble of subsection 55(2) that is deemed not to be a dividend and to be a gain is the amount referred to in paragraph 55(2.1)(c) as described above, being $100.11

CRA Response (B)

By virtue of subsection 55(2.2), the amount of a stock dividend, for purposes of the application of subsections 55(2), (2.1), (2.3) and (2.4), is deemed to be the greater of the PUC increase and the FMV of the shares issued as stock dividend.

The application of subsection 55(2.1) to a stock dividend is the same as for a cash dividend. Once the amount is determined under subsection 55(2.2), the whole dividend of $1,000 is first subject to the tests under paragraphs 55(2.1)(a) and 55(2.1)(b). Once it is determined that paragraphs 55(2.1)(a) and 55(2.1)(b) apply, then, by virtue of subsection 55(2.4), the stock dividend is segregated into 2 dividends under paragraph 55(2.3). The amount of the stock dividend that is in excess of safe income, the $100 portion, is the amount referred to in paragraph 55(2.1)(c). It is that amount that is subject to the application of subsection 55(2).

Question 6: Circular calculations with respect to Part IV tax

Holdco receives a dividend of $400,000 that is subject to Part IV tax because the connected payer corporation has received a dividend refund. The Part IV tax payable by Holdco is $153,333 (38.33% of $400,000).

Holdco pays a dividend to its shareholders which results in a refund of the Part IV tax. The dividend received by Holdco would therefore be subject to the application of subsection 55(2). If the dividend received by Holdco was originally taxed as a capital gain to Holdco, the refundable tax on the capital gain would be $61,333 ($400,000 x 50% x 30.66%).

Instead of having to pay the whole amount of $400,000 as a taxable dividend so that it can be established that the Part IV tax of $153,333 is fully refunded for subsection 55(2) to apply, Holdco would only need to pay an amount of $160,000 as a taxable dividend ($61,333 / 38.33%). Therefore, a capital dividend of $200,000 can be paid at the same time as the taxable dividend to the shareholders of Holdco.

This result can be achieved because of circular calculations where the dividend received is deemed to be reduced by the application of subsection 55(2) after each calculation, resulting in a reduced Part IV tax whereas the amount of tax refund remains the same at each calculation. Does the CRA agree with such circular calculation? Note that all numbers provided in this example are hypothetical.

CRA Response

The scheme of subsection 55(2) does not support such circular calculation.

This is quite different from situations where shares held between 2 corporations are crossredeemed. The circular calculation in such circumstances is strictly caused by the Part IV tax and dividend refund where Part IV tax payable by one corporation changes every time the tax refund obtained by the other corporation is changed.

It is proposed in the above example that the circular calculation causes the amount of dividend received to be reduced at each calculation by virtue of the application of subsection 55(2) and therefore reduces the amount of Part IV tax that is payable on the dividend on each calculation such that, at the last iteration, the amount of dividend received is reduced to nil and no Part IV tax is payable. On that basis, it is proposed in that example that there is only a capital gain of $400,000 to be included in the tax return and that the refundable tax on such capital gain is $61,333 which is fully refunded by a payment of a taxable dividend of $160,000.

That suggested circular calculation is flawed and does not reflect the reality.

As explained in document 2016-0671491C6, for a dividend to be subject to subsection 55(2), the Part IV tax payable has to be refunded. The Part IV tax in that situation is the real Part IV tax paid and the refund has to be a real refund. As per Ottawa Air Cargo v. The Queen, 2008 DTC 6177 (FCA) [3] (“Ottawa Air Cargo”) both amounts cannot be theoretical.

The Court also said the following in Ottawa Air Cargo, at paragraph 33:

This is also a reasonable conclusion in the context of a purposive analysis. The purpose of the provision is to address avoidance. The parenthetical clause sets out an exemption: the subsection does not apply where the taxpayer has not received a refund of Part IV tax. This is a reasonable exemption, because if the refund of Part IV tax is not received, then tax has been paid, not avoided; hence subsection 55(2) need not be applied.

The wording in subsection 55(2) indicates that it does not apply if the Part IV tax has been paid and it applies only where the Part IV tax paid has been refunded. Therefore, as confirmed by the Court, the Part IV tax has priority over subsection 55(2). The circular calculation that operates to eliminate the Part IV tax in order for subsection 55(2) to apply to the whole dividend is contrary to the scheme of subsection 55(2).

In the application of subsection 55(2), the question to be asked first is whether Part IV tax is payable on a dividend received. If no, subsection 55(2) applies. If yes, then subsection 55(2) does not apply unless there is a refund of Part IV tax. If there is a refund of Part IV tax, then subsection 55(2) applies to the portion on which the Part IV tax has been refunded. The application of subsection 55(2) does not eliminate the dividend that was originally subject to Part IV tax and has no effect on the Part IV tax that was paid on the dividend, otherwise it results in a circular calculation that is not in accordance with the scheme of subsection 55(2) as explained in the previous paragraph.

In the above situation and using the numbers that have been provided, if a Part IV tax of $153,333 is paid or payable as declared in the income tax return that reports the inclusion of the full $400,000 in income as a dividend, that Part IV tax is the Part IV tax paid or payable for the taxation year. In the second return mentioned in document 2016-0671491C6, the Part IV tax paid for the taxation year remains $153,333 even though the amount of dividend has been reduced to reflect the application of subsection 55(2).

Therefore, if a dividend of $400,000 has been received by Holdco that is subject to Part IV tax of $153,333 and it paid a dividend of $160,000 that results in a refund of Part IV tax of $61,333, the first return should include exactly those amounts, i.e.:

Taxable dividend received (before the application of s. 55(2)	$400,000
Part IV tax paid	$153,333
RDTOH	$153,333
Taxable dividend paid	$160,000
Dividend refund	Lesser of: RDTOH ($153.333) and 38.33% of $160,000 ($61,333) $61,333

Since only a portion of $160,000 of dividend has been subject to Part IV tax that has been refunded, an amount of $160,000 becomes a capital gain. The remaining amount of dividend received is $240,000.

In the second return, the following will have to be reported:

Taxable dividend received (before the application of s. 55(2)	$400,000
Part IV tax paid	$153,333
RDTOH	Total of: Part I refundable tax on capital gain; $24,533 = $160,000 • 50% • 30.66% Total RDTOH $177,866
Dividend paid	$160,000
Dividend refund	Lesser of: RDTOH ($177,866) and 38.33% of $160,000 ($61,333) $61,333

Note that 2 returns, not more, are needed to be filed to reflect the application of 55(2) and that there is no circular calculation involved.

Even though the second return indicates that the dividend received is only $240,000, a “manual” adjustment would have to be made to the return to indicate that the Part IV tax paid is $153,333 and not a lower amount.

Of course, in this situation, a CDA dividend of $80,000 ($160,000 x 50%) could be paid after the receipt of the dividend of $400,000 due to the application of subsection 55(2), but the RDTOH has not been fully refunded.

Question 7: CRA Update

Can the CRA provide an update on the Folios Project?

CRA Response

In 2013, the CRA introduced Income Tax Folios which are web-friendly technical publications that present the Agency’s interpretation of the law, and that summarize recent tax court decisions and technical positions adopted by the CRA up to the date of the folio’s publication. The CRA undertook the Income Tax Folios Project to gradually phase out and replace IT Bulletins and Income Tax Technical Newsletters (ITTNs). When the project began, 265 related IT Bulletins were identified as being in need of update. The initial folios workload was prioritized for action based on considerations that included:

• feedback received through internal and external consultations to identify the public need for guidance in each technical subject area; and
• the availability of resources to prepare the required updates.

Since 2013, 39 folios have been published and many more are under development. The process for preparing each folio is time consuming as it requires detailed technical preparations on many complex issues, along with consultations within the CRA and with other government departments before each folio is published.

Question 8: Principal Purpose Test

Background

On June 7, 2017, Canada signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting, commonly referred to as the Multilateral Instrument (“MLI”). The MLI arose from the Report on Action 15 of the Organisation for Economic Co-operation and Development (“OECD”) Base Erosion and Profit Shifting (“BEPS”) Project. The MLI is a mechanism by which jurisdictions can implement the treaty-related BEPS measures in a swift, co-ordinated and consistent manner. The MLI will enter into force on the first day following three calendar months after the day on which five jurisdictions have deposited notices of ratification with the MLI Depositary.

The minimum standard under the BEPS Report on Action 6, Preventing the Granting of Treaty Benefits in Inappropriate Circumstances, requires that countries adopt one of three alternative rules to address situations of treaty abuse:

a) A principal purpose test (“PPT”);

b) A PPT, along with a limitation on benefits provision (“LOB”); or

c) An LOB provision, along with anti-conduit measures.

Paragraph 1 of Article 7 [Prevention of Treaty Abuse] of the MLI adapts the PPT as developed under BEPS Action 6 for multilateral modification of tax treaties as follows:

1. Notwithstanding any provisions of a Covered Tax Agreement, a benefit under the Covered Tax Agreement shall not be granted in respect of an item of income or capital if it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit, unless it is established that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of the Covered Tax Agreement.

Under the provisions of the MLI, each jurisdiction is required to provide a preliminary list of reservations and notifications at the time of signature. Canada expressed a statement that while Canada accepts the application of Article 7(1) alone as an interim measure, it intends where possible to adopt a limitation on benefits provision, in addition to or in replacement of Article 7(1), through bilateral negotiation.

Under Article 34 of the MLI, the MLI will enter into force in Canada (assuming four other jurisdictions have already ratified the MLI) on the first day following three calendar months after the day on which the MLI Depositary receives a notice of ratification from Canada. However, the date on which the MLI will have effect with respect to a particular tax treaty depends on whether any of Canada’s treaty partners has also ratified the MLI, both Parties have listed the tax treaty as a Covered Tax Agreement as defined under Article 2 of the MLI, and whether one or both Parties have made one of the reservations available under Article 35.

Under Article 35 of the MLI, (and assuming that neither Party has made a reservation under paragraph 7 of Article 35) the MLI will have effect with respect to a Covered Tax Agreement for withholding taxes on the first day of the calendar year following the latest day on which the MLI enters into force for both Canada and the particular treaty partner. For all other taxes, the MLI will have effect for taxable periods beginning six calendar months (or sooner if both parties so notify the Depositary) after the latest day on which the MLI enters into force for both Canada and the particular treaty partner.

In the 2017 Budget, the Canadian government announced that it was pursuing signature of the MLI, and did so sign on June 7, 2017. In order to implement the MLI, the Department of Finance will prepare a bill to be introduced in Parliament. Assuming the bill receives Royal Assent, Canada will then deposit a notice of ratification with the MLI Depositary. If this notice is deposited after December 31, 2017, and on or before September 30, 2018, the MLI will have effect for withholding taxes (assuming the treaty partner has also deposited its notice of ratification on or before September 30, 2018) on January 1, 2019. If the notices of ratification are deposited after September 30, 2018, the MLI will have effect for withholding taxes no earlier than 2020.

For all other taxes, the MLI will have effect for taxable periods beginning six months (or sooner if the necessary notifications have been made by both Parties) on or after the latest day that the MLI comes into force for both treaty partners. For example, if the MLI enters into force on January 1, 2019, the MLI will have effect for all other taxes no earlier than taxation years beginning after June 30, 2019 (i.e. January 1, 2020 for calendar year-end taxpayers). On July 11, 2017, the OECD released the draft 2017 update to the OECD Model Tax Convention and Commentary. The 2017 update has not yet been approved, and does not necessarily reflect the final views of the OECD and its member countries.

The draft 2017 OECD Model contains new Article 29 [Entitlement to Benefits]. Paragraph 9 of new Article 29 contains the bilateral “principal purpose test”, which was developed under BEPS Action 6, and is virtually identical to the PPT in Article 7(1) of the MLI. Paragraph 182 of the Commentary to new Article 29 sets out examples that illustrate the application of paragraph 9 (i.e. the principal purpose test), with the caveat that the application of the principal purpose test must be determined on the basis of the facts and circumstances of each case. Paragraph 182 also states:

“The examples below are therefore purely illustrative and should not be interpreted as providing conditions or requirements that similar transactions must meet in order to avoid the application of the provisions of paragraph 9.”

Paragraph 187 of the Commentary to new Article 29 sets out examples of treaty-shopping strategies commonly referred to as “conduit arrangements”, as well as arrangements that should not be considered to be conduit arrangements.

Questions

A) Will the GAAR Committee review all situations where an auditor proposes to apply the PPT to ensure it is consistently applied and enforced?

B) Can CRA confirm how it intends to apply the PPT of the MLI relative to the GAAR?

C) Can CRA confirm whether the “object and purpose” clause in the PPT of the MLI will be interpreted consistently with the jurisprudence established under subsection 245(4) of the GAAR?

D) What weight will the CRA give to the examples set out in paragraphs 182 and 187 of the draft 2017 OECD Model Commentary in determining whether a particular structure or transaction satisfies the object and purpose clause within the PPT of the MLI?

CRA Response

A) The CRA expects that the MLI will not enter into force before 2019; however, the CRA is exploring methods of promoting consistency in the application of the PPT within the Agency. In this regard the GAAR Committee may offer a useful model. The Income Tax Rulings Directorate currently has no plans to stop considering applications for advance income tax rulings relating to anti-avoidance rules, and as long as that continues to be its practice, it would also entertain PPT rulings once the rules are in effect.

B) How the PPT may interact with Canadian domestic anti-avoidance legislation may depend on how the statute implementing the MLI is drafted. Currently, paragraph 4.1 of the Income Tax Conventions Interpretation Act states that section 245 of the Income Tax Act (the “Act”) applies to any benefit provided under a tax treaty. As we indicated at the 2015 International Fiscal Association conference, the CRA continues to contemplate the application of the GAAR to transactions undertaken primarily to secure a tax benefit afforded by a tax treaty and, in fact, the GAAR Committee has approved the application of the GAAR to certain treaty abuse arrangements. In appropriate circumstances, the PPT and the GAAR could apply as alternative assessing positions directed at a given transaction or arrangement.

C) Whether granting a treaty benefit to a particular transaction or arrangement is in accordance with the object and purpose of the relevant provisions of a particular treaty will be a question of fact to be examined on a case-by-case basis. Given the differences in wording between the PPT and the GAAR, it is yet to be seen how the case law established under subsection 245(4) will inform its application. However, we cannot exclude their potential informative use at this time. We note that the “object and purpose” test of the PPT must be read in conjunction with the new preamble inserted by Article 6 of the MLI.

D) Since the draft 2017 OECD Model and related commentary have not yet been approved, the CRA will refrain from commenting on the examples in paragraphs 182 and 187 at this time.

Question 9: Stock Option Deduction

In technical interpretation 2015-0572381E5, the CRA concludes that the stock option deduction in paragraph 110(1)(d) is not available where an employee is issued treasury shares of a corporation having a value equal to the in-the-money value of the options upon surrender of the options. This appears to be because no shares are acquired under the option agreement as required by subparagraph 110(1)(d)(i).

The technical interpretation did not comment on the potential application of subsection 110(1.1). In general, subsection 110(1.1) provides a mechanism for an employer to ensure the availability of the deduction for the employee when shares are not acquired under the option agreement if, among other requirements, the employer elects to forego its deduction for the stock option expense.

Question

Can the CRA confirm that where the employer files a valid election under subsection 110(1.1) the stock option deduction can still be available in a situation such as the one above, despite the fact that there is no deduction for the employer to “give up” as contemplated by subsection 110(1.1)?

CRA Response

The CRA has reviewed the application of subsection 110(1.1) to situations where the employer is already denied a deduction for the stock option expense either because of another provision of the Act (such as paragraph 7(3)(b) or 18(1)(b)) or because the employer is not subject to Canadian taxation. We have determined that there is nothing in subsection 110(1.1) that restricts its application to instances when the employer is otherwise entitled to a deduction. Therefore we can confirm that the mechanism in subsection 110(1.1) would be available to an employer in these situations to ensure the availability of the stock option deduction.

Question 10: Tax Shelters

Does the Canada Revenue Agency provide advance income tax rulings with respect to limited partnership financing arrangements involving the application of the at-risk rules in the context of a tax shelter?

CRA Response

The Canada Revenue Agency (CRA) will generally not issue an advance income tax ruling (“Ruling”) with respect to a limited partnership financing arrangement involving the application of the at-risk rules in the context of a tax shelter, as defined in subsection 237.1(1) of the Income Tax Act. Given the scope of the advance ruling program, the nature of such an arrangement is such that the provision of a binding commitment by the CRA with respect to the tax consequences of its implementation would not be appropriate. The nature of a Ruling is discussed in Information Circular IC 70-6R7, Advance Income Tax Rulings and Technical Interpretations, dated April 22, 2016.

A Ruling consists of representations of fact and future transactions by a taxpayer, and the CRA’s interpretation of how the Income Tax Act will apply to those representations. The purpose of a19 Ruling is to provide certainty to the taxpayer. The taxpayer is responsible for the completeness and accuracy of the representations, and the CRA caveats that we may assess in a way other than as described in the Ruling if the facts, viewed retrospectively, differ from the representations. (See Rulings document 2012-0440191R3)

The Directorate's position regarding ruling on questions of fact remains as stated in the Information Circular. The Directorate will continue to refuse to rule when a matter on which a determination is requested is primarily one of fact and the circumstances are such that all the pertinent facts cannot be established at the time of the ruling request. The Directorate does not consider it helpful to rule on questions of fact that cannot be determined at the time and making the Ruling subject to a caveat saying that the Ruling is inapplicable if the facts prove otherwise. This is not a new position.

Although the CRA does not verify the representations of fact at the time of the Ruling, they should be capable of verification at that time. The CRA is concerned that in these arrangements there are crucial aspects, such as arm's length issues, impact of future events, or other significant questions of fact, about which there is a level of uncertainty which does not lend itself to the provision, in advance, of a binding commitment by the CRA to view the tax consequences in a particular manner. It is more appropriate for these types of arrangements to be examined during the course of the audit process.

Question 11: Treatment of LLC in ULC structures under the Canada-U.S. tax treaty

The CRA previously indicated that Article IV(6) of the Canada-U.S. Tax Treaty (the “Treaty”) does not treat a particular amount as being derived by a U.S. resident member of a U.S. LLC where that amount is disregarded under U.S. taxation laws.

Consider a Canadian ULC (“ULC”) with two shareholders, both limited liability companies created under the laws of Delaware (“LLC1” and “LLC2”, respectively). LLC1 and LLC2 have their mind and management in the United States, are disregarded entities for U.S. tax purposes, and each owns 50% of the shares of ULC.

LLC1 is a wholly owned subsidiary of USCo1, and LLC2 is a wholly owned subsidiary of USCo2. Both USCo1 and USCo2 are U.S. residents for the purposes of the Treaty, qualifying persons for the purposes of Article XXIX-A and regarded entities for U.S. tax purposes. Can the CRA confirm whether dividends that ULC pays to LLC1 and LLC2 will be eligible for treaty benefits? Such dividends would not be disregarded payments for U.S. tax purposes, but would be treated as partnership distributions.

CRA Response

Article IV(6) of the Treaty provides that an amount of income, profit or gain shall be considered to be derived by a person who is a resident of the U.S. (e.g., the members of an LLC) where the person is considered under the taxation law of the U.S. to have derived the amount through an entity (e.g. an LLC) and by reason of the entity being treated as fiscally transparent under the laws of the U.S., the treatment of the amount under U.S. taxation law is the same as its treatment would be if that amount had been derived directly by that person (e.g., the members of the LLC).

We understand that, for U.S. federal income tax purposes, dividends paid by the ULC in the example provided above (which is treated as fiscally transparent under the laws of the U.S. but not as disregarded) should generally be considered as partnership distributions made by the ULC. As previously stated by the CRA at the Canadian Tax Foundation 2009 Round Table, with respect to an amount of income, profit or gain that is not “disregarded” under the taxation laws of the U.S. but is treated differently under those laws than under the taxation laws of Canada, the CRA is willing to consider, for the purposes of applying Article IV(6) of the Treaty, that the amount has been derived under the taxation laws of the U.S. Furthermore, pursuant to the Technical Explanation to the 2007 Protocol to the Treaty, where Article IV(6) applies to deem a U.S. resident to be considered to derive a Canadian-source dividend, such dividend is considered as being paid to that U.S. resident. As such, dividends paid by the ULC in the example provided above would be considered as being paid to USCo1 and USCo2.

Nevertheless, since the ULC is treated as fiscally transparent under the laws of the U.S., pursuant to Article IV(7)(b) of the Treaty, amounts of dividends paid by the ULC shall be considered not to be paid to or derived by a person who is a resident of the U.S. because, by reason of the ULC being treated as fiscally transparent under the laws of the U.S., the treatment of the amount under the taxation law of the U.S. (i.e. as a partnership distribution) is not the same as its treatment would be if the ULC were not treated as fiscally transparent under the laws of the U.S (i.e. as a dividend).

Therefore, pursuant to the application of Article IV(7)(b) of the Treaty, dividends paid by the ULC to LLC1 and LLC2 would be considered not to be paid to or derived by a U.S. resident. Therefore, the reduced treaty rate for dividends would not apply which results in the domestic Canadian withholding tax rate of 25% applying.

Question 12: Election not to be a public corporation

Under paragraph (c) of the definition of “public corporation” in subsection 89(1), a Canadian resident corporation that was considered to be a public corporation because its shares were previously listed on a designated stock exchange in Canada is considered to continue to be a “public corporation” unless, after the time it last became a public corporation, either it elects not to be a public corporation (under subparagraph (c)(i) of the public corporation definition) or the Minister designates it not to be a public corporation (under subparagraph (c)(ii) of the public corporation definition).

A corporation that intends to elect not to be a public corporation must meet the prescribed conditions in subsection 4800(2) of the Income Tax Regulations (“Regulations”). One of these conditions is that insiders of the corporation must hold more than 90% of the issued shares of each class of shares that were previously listed (under subparagraph 4800(2)(a)(i) of the Regulations) or designated (under subparagraph 4800(2)(a)(ii) of the Regulations) (“Insider Requirement”).

In a situation where a private corporation (“Acquisitionco”) acquires all of the shares of a publicly-listed target corporation (“Targetco”), the designated stock exchange often takes several days to formally delist the purchased shares.

Prior to the formal delisting of its shares, can Targetco make a valid election (“Election”) not to be a public corporation under subparagraph (c)(i) of the public corporation definition at a time when Acquisitionco owns 100% of Targetco so that when Acquisitionco and Targetco vertically amalgamate (“Amalgamation”) to form a new corporation (“Amalco”), Amalco would not be considered to be a public corporation?

CRA Response

If Targetco is still a public corporation immediately before the Amalgamation, by virtue of paragraph 87(2)(ii), Amalco will be deemed to be a public corporation.

Assuming that Targetco met the prescribed conditions in subparagraph (c)(i) of the public corporation definition by making an Election before the Amalgamation and, therefore, would be excluded from being a public corporation under subparagraph (c)(i) of the public corporation definition, Targetco would still be a public corporation, by virtue of paragraph (a) of the public corporation definition, as long as a class of Targetco shares were still listed on a designated stock exchange in Canada.

The reason for Targetco making an Election before the Amalgamation is to meet the Insider Requirement before its shares are cancelled.

However, the CRA has taken the position in the past in certain situations involving vertical amalgamations (see for example document nos. 2015-0577141R3 and 2008-0268961R3) that the fact that shares of a public corporation no longer exist at the time of making an Election would not preclude the Insider Requirement from being met. Accordingly, in those types of situations, where Amalco makes an election after the time that Targetco shares are delisted, Amalco will not be considered to be a public corporation.

The CRA will continue to rule, on a case by case basis, whether the prescribed conditions in subparagraph (c)(i) of the public corporation definition and in subsection 4800(2) of the Regulations will be met, in a situation where shares of a public corporation no longer exist, after a review of all the relevant facts and circumstances.

Question 13: Online Authorization Process

The CRA has implemented a new online authorization process that can be used to authorize representatives to access client accounts. When making a request through this new process, the CRA requires that certain information contained in the request matches information it already has on file (e.g., authorized signing officer).

However, representatives and clients are finding it difficult to verify the authorized individuals CRA already has on file, particularly for larger and non-resident corporations where employees regularly leave the company. These issues lead to delays, repossessing requests, and resubmissions of change documentation.

Question

Is the CRA aware of this issue and will it consider introducing a procedure to regularly verify or update authorized signing officers in the CRA’s files so that this information is kept current?

CRA Response

It is the responsibility of all businesses in Canada to ensure that all information that they are required to provide to the CRA (including Business Number signing authority information) is accurate, up-to-date, and complete.

That being said, when a representative is requesting an electronic authorization for a business client in Represent a Client, they will be asked to provide the business owner/Delegate Authority's (DA) name. The name will be automatically validated with what the CRA has on record as the signing authority. If the name matches, the representative will be able to continue with the electronic authorization request.

If the name does not match during the validation, the representative will be presented with a message stating that they can make a correction. If the name does not match after several attempts then the authorization will be denied and they will be presented with a message for the owner to contact the CRA. The owner can then update their information with the CRA records and the representative can start a new electronic authorization request with the correct business owner/DA's information.

As well, the representative will have the ability to submit owner documentation along with the signed certification page at the end of the electronic authorization process.

Question 14: Section 116 procedures for tax-deferred dispositions on foreign mergers

Background

The Department of Finance released draft legislation on September 16, 2016 (subsections 87(8.4) and (8.5)) to provide a mechanism for deferral of recognition of gains and losses from dispositions of shares of Canadian resident corporations caused by certain foreign mergers. This deferral would be available provided such shares are “taxable Canadian property” and do not constitute “treaty-protected property”.

Subsequently, on October 25, 2017 the Department of Finance released revised legislative proposals, followed on October 27 by Bill C-63 (“Bill C-63”), which expanded the scope of the tax-deferral mechanism of subsections 87(8.4) and (8.5) to also include joint elections made in connection with dispositions of certain taxable Canadian property (that is not treaty-protected property) that are interests in partnerships and interests in trusts. The revised wording in subsections 87(8.4) and (8.5) of Bill C-63 also contains details concerning the joint election mechanism, which had not been outlined in the original September 16, 2016 proposals. The draft proposals of subsections 87(8.4) and (8.5) in Bill C-63 apply to foreign mergers that occur after September 15, 2016.

The questions posed to the CRA for this Roundtable were based on the September 16, 2016 draft legislation. We have adapted our responses as appropriate to incorporate the amended proposals contained in Bill C-63.

Questions

A) One of the conditions in proposed subsection 87(8.4) is that the new corporation and disposing predecessor foreign corporation must make a joint election in accordance with prescribed rules. For foreign mergers occurring after September 15, 2016, will the CRA accept elections for the tax-deferred treatment of dispositions under proposed subsection 87(8.5) prior to enactment of the legislation?

B) Can the CRA provide guidance on the manner of, and form for, making the joint election in proposed paragraph 87(8.4)(e)?

C) Will the CRA extend its position to exempt dispositions of shares from section 116 notification procedures in paragraph 1.82 of Income Tax Folio S4-F7-C1, “Amalgamations of Canadian Corporations”, to dispositions of shares in respect of which an election is made under proposed paragraph 87(8.4)(e)?

D) If the CRA is not prepared to extend the position, can the CRA provide guidance on how it will review notifications for dispositions of shares submitted prior to the enactment of the proposed legislation? Specifically, would the CRA be prepared to issue clearance certificates in respect of a disposition of shares on the basis that the24 proceeds of disposition of the shares will be equal to their adjusted cost base to the disposing predecessor foreign corporation?

E) Given that the proceeds of disposition of the shares will be deemed to be equal to the adjusted cost base of the shares to the disposing predecessor foreign corporation, will the CRA require that the notification include the valuation of the shares in order to issue a section 116 clearance certificate?

CRA Response (A)

The revised wording in draft paragraph 87(8.4)(e) of Bill C-63 no longer states that the joint election is to be made in accordance with prescribed rules. Rather the revised wording indicates that the joint election is to be made in writing and filed within certain specified timeframes.

It has been the CRA’s longstanding practice to generally ask taxpayers to file on the basis of proposed legislation. Consequently, for foreign mergers occurring after September 15, 2016 but prior to the enactment of proposed subsections 87(8.4) and 87(8.5), the CRA would accept elections properly made pursuant to proposed paragraph 87(8.4)(e). However, we would also note that the coming into force provisions for subsections 87(8.4) and (8.5) in Bill C-63 state that a joint election made pursuant to paragraph 87(8.4)(e) will be deemed to have been filed on a timely basis if it is filed on or before the day that is six months after the day on which draft proposals of subsections 87(8.4) and (8.5) in Bill C-63 receive Royal Assent.

CRA Response (B)

Bill C-63 states that the joint election is to be made in writing. In the CRA’s view, it would be acceptable that this election in writing be made in the form of a letter.

As stated in Bill C-63, the joint election is to be filed on or before the filing-due date of the disposing predecessor foreign corporation (or the date that would be its filing-due date if subsection (8.5) did not apply to provide for a tax-deferred disposition) for the taxation year that includes the time of the disposition.

CRA Response (C)

The CRA is not prepared at this time to extend the narrow administrative concession to the new proposed legislative measures in subsections 87(8.4) and (8.5). Therefore, where a foreign merger results in a disposition of taxable Canadian property by a predecessor foreign corporation, the taxpayer should comply with the requirements in section 116.

CRA Response (D)

For foreign mergers occurring after September 15, 2016 but prior to the enactment of the proposed subsections 87(8.4) and (8.5), the CRA would generally be prepared to issue certificates of compliance on the basis that the proceeds of disposition for the shares disposed of on the merger are equal to their adjusted cost base to the disposing predecessor foreign corporation, provided an otherwise valid joint election under proposed paragraph 87(8.4)(e) is made in respect of the disposition.

Pursuant to the October 25, 2017 proposals and Bill C-63, this position would also apply to joint elections filed in respect of partnership and trust interests.

CRA Response (E)

For dispositions of shares in respect of which a valid joint election is made pursuant to proposed paragraph 87(8.4)(e) the CRA would generally not require that documentation be initially filed with the section 116 notification to support the fair market value of the shares on the date of the transaction in order to issue a certificate of compliance under section 116. The CRA would, however, require documentation to support the adjusted cost base of the shares to the disposing predecessor foreign corporation.

Pursuant to the October 25, 2017 draft proposals and Bill C-63, the above response would also apply for section 116 purposes in connection with valid joint elections that are filed in connection with partnership and trust interests.

Question 15: USLP conversion: ACB of inside/outside assets

CRA previously indicated that, upon the conversion of a U.S. limited partnership (“USLP”) into a U.S. limited liability company (“LLC”), the USLP is considered to have disposed of its assets at fair market value (“FMV”) and the holder of a partnership interest is also considered to have disposed of its interest at FMV. Thus such a conversion could trigger a gain or loss in respect of the partnership interests and the partnership's assets.

Question

Can the CRA comment on the adjusted cost base (“ACB”) of the membership interests in the converted entity (i.e. the LLC) to the members, as well as the LLC’s ACB in its assets immediately after the conversion?

CRA Response

It is our understanding that your question refers to CRA positions previously taken in respect of particular cases, after a complete review of all their relevant facts. Any definitive comments about the Canadian income tax implications of foreign entity conversions can only be made on a case-by-case basis after a complete analysis of all the relevant facts, including a review of the applicable foreign legislation, the governing agreements and other surrounding facts and circumstances.

However, we can offer the following general comments regarding your question. The conversion from a USLP to an LLC would generally be considered, from a Canadian tax perspective, to be from one form of legal entity to another (i.e. from a partnership to a corporation). Such a conversion would result in a change in the nature of the interest owned in the entity from a partnership interest to a membership interest in an LLC. Furthermore, such a conversion would result in a change in the person with respect to whom the underlying properties are considered to be sources of income for Canadian tax purposes (i.e. from the partners to the LLC).

In such circumstances, we are of the general view that a disposition of the partnership interests in the USLP and an acquisition of the membership interests in the LLC, as well as a disposition of the assets of the USLP and an acquisition of such assets by the LLC, would occur at FMV. Thus, the total ACB immediately after the conversion of all the membership interests in the LLC to the members would generally correspond to the total FMV at the time of the conversion of all the interests in the USLP. Furthermore, the LLC’s ACB in its assets immediately after the conversion would generally correspond to the FMV of these assets at the time of the conversion.

The above comments should be considered whenever there is a conversion, from a Canadian tax perspective, from a partnership to a corporation. Such conversions could include conversions to U.S. limited liability partnerships or U.S. limited liability limited partnerships, to the extent these types of entities are considered to be corporations for Canadian tax purposes.

These comments are general in nature, and other specific rules might have to be considered depending on the facts and circumstances of a particular case. The CRA remains open to considering the determination of the Canadian income tax implications of a foreign entity conversion in the context of an advance income tax ruling request submitted in accordance with the guidelines set out in Information Circular 70-6R7 dated April 22, 2016.

Question 16: Medical Expenses – Medical Assistance in Dying

The Supreme Court recently issued its ruling in Carter v. Canada (2015 SCC 5) which indicated that Canadians are entitled to obtain medical assistance to end their lives under appropriate circumstances. Does the CRA consider costs of medical assistance to end an individual’s life eligible medical expenses for purposes of the medical expense tax credit?

CRA Response

As a result of the Supreme Court of Canada decision in Carter v. Canada, 2015 SCC 5, the Criminal Code was amended to specify the parameters under which medical assistance in dying can be lawfully provided. In particular, sections 241.1 and 241.2 of the Criminal Code specify that medical assistance in dying:

• is available only to individuals who are eligible for health services funded by a government in Canada, or would be so eligible if it were not for any applicable minimum period of residence or waiting period;
• must be provided by either a medical doctor or a nurse practitioner who is authorized to practise his or her profession under the laws of a province;
• means the administration of a substance to a person, at their request, that causes their death;
• also means the prescription or provision of a substance to a person, at their request, for self-administration to cause their own death;
• requires the diagnosis of a grievous and irremediable condition (which is defined in the Criminal Code) by either a medical doctor or a nurse practitioner; and
• must be provided with reasonable knowledge, care and skill and in accordance with any applicable provincial laws, rules, policies and standards.

The Criminal Code also requires medical doctors and nurse practitioners providing medical assistance in dying to comply with the information filing requirements as regulated by the respective Ministry of Health in their jurisdiction, with similar filing requirements for pharmacists who dispense a substance in connection with the provision of medical assistance in dying. In addition, certain provinces and territories have created health-related laws, rules or policies, specific to medical assistance in dying.

The METC is described in section 118.2 of the Income Tax Act. Eligible medical expenses include amounts paid for medical services provided by a medical doctor or nurse practitioner, as well as medications, preparations or substances that meet specific requirements in the Act.

In our view, the provision of medical assistance in dying as outlined in the Criminal Code, in conjunction with the requirements of the respective provincial and territorial health-related laws, rules and policies, as applicable, would be considered a medical service for the purpose of the METC. Therefore, expenses paid for these services provided by a medical doctor or nurse practitioner or a public or licensed private hospital for medical assistance in dying would be eligible medical expenses for the purpose of the METC.

Similarly, the cost of medicaments or other preparations or substances used for medical assistance in dying, as outlined in the Criminal Code and the applicable provincial and territorial requirements, will be eligible for the METC provided the requirements of the Act are met. Specifically, the cost is an eligible medical expense if the medicaments or other preparations or substances meet the conditions in subparagraph 118.2(2)(n)(i) of the Act. Namely that the substance can only be lawfully obtained if prescribed, and its purchase is recorded by a pharmacist. Where a substance can be lawfully obtained without a prescription, subparagraph 118.2(2)(n)(ii) of the Act, in conjunction with section 5701 of the Income Tax Regulations, allow the cost of a substance if, among other things, it may be lawfully acquired only with the intervention of a medical practitioner.

In addition, paragraph 118.2(3)(b) of the Act does not generally permit an individual to include as an eligible medical expense, any expense to the extent that the individual or certain other persons are entitled to be reimbursed for the expense.