2005 Ruling 2005-0126841R3 - Withholding Tax Exemption

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

Principal Issues: 1. Are the interest payments made by Finco (who will on-loan to an LP structure) to a non-resident lender exempt from 212(1)(b)(vii)? 2. Should a partner dispose of his interest in the LP or a new partner be admitted in the LP cause the 212(1)(b)(vii) exemption to cease or result in a new obligation

Position: 1. Yes 2. No

Reasons: Finco has a long-term obligation with acceptable events of default with the non-resident lenders who deal at arm's length with Finco and the LP and the continuing partners in LP structure do not affect that loan. See also 2004-0093591 and 2004-0039243.

XXXXXXXXXX 								2005-012684

XXXXXXXXXX, 2005

Dear XXXXXXXXXX:

Re: XXXXXXXXXX
XXXXXXXXXX
XXXXXXXXXX
Advance Income Tax Ruling

We are writing in response to your letter of XXXXXXXXXX, various e-mails and numerous telephone conversations wherein you requested an advance income tax ruling in respect of the above named taxpayers.

To the best of your knowledge and that of the taxpayers involved, none of the issues contained in this ruling request are:

(i) dealt with in an earlier return of the taxpayers or related persons;

(ii) being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayers or related persons;

(iii) under objection by the taxpayers or related persons;

(iv) subject to a ruling previously issued by the Income Tax Rulings Directorate; or

(v) before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has expired.

DEFINITIONS

In this letter, the following terms have the meanings specified below:

(a) "Act" means the Income Tax Act, R.S.C. 1985 (5th Suppl.) c.1, as amended to the date hereof. All statutory references in this letter are to the Act, unless stated otherwise;

(b) "arm's length" has the meaning assigned by section 251 of the Act;

(c) "Capital Contribution Obligations" has the meaning described in Paragraph 12;

(d) "Company A" means XXXXXXXXXX. The business number of Company A is XXXXXXXXXX and its TSO is in XXXXXXXXXX;

(e) "Company A Work" means the construction of the Project;

(f) "Company B" means XXXXXXXXXX. Its business number is XXXXXXXXXX and its TSO is in XXXXXXXXXX;

(g) "Company C" means XXXXXXXXXX. Its business number is XXXXXXXXXX and its TSO is in XXXXXXXXXX;

(h) "Contract A" referred to in Paragraph 6, means an engineering, procurement and construction contract;

(i) "CRA" means the Canada Revenue Agency;

(j) "Entity A" means Her Majesty in right of Canada;

(k) "Entity B" means Her Majesty in right of XXXXXXXXXX;

(l) "Entity C" means the XXXXXXXXXX;

(m) "Entity C Subco" means XXXXXXXXXX;

(n) "Entity D" means the XXXXXXXXXX;

(o) "Entity E" means the XXXXXXXXXX;

(p) "Finco" means XXXXXXXXXX, a taxable Canadian corporation, all the shares of which are owned by GP. Finco is the Borrower. Finco's business number is XXXXXXXXXX and its TSO is in XXXXXXXXXX;

(q) "GP" means XXXXXXXXXX., the general partner of the Limited Partnership. Its business number is XXXXXXXXXX and its TSO is in XXXXXXXXXX;

(r) "Lenders" mean XXXXXXXXXX and includes any other lenders that subsequently acquire and/or make a loan under the Loan Agreement;

(s) "Limited Partners" of the Limited Partnership at the date of this advance tax ruling will be Company A, Company B, Company C, and Finco;

(t) "Limited Partnership" means XXXXXXXXXX, a partnership that was formed under the laws of the Province between the Limited Partners and GP;

(u) "Loan Agreement" means the facility agreement, to be entered into between Finco, the Limited Partnership, and the Lenders;

(v) "Main Agreement" means the Concession Agreement referred to in Paragraph 6;

(w) "Main Agreement Work A" means the construction of the fixed assets for the Project;

(x) "Main Agreement Work B" means the operation and maintenance of the Project;

(y) "Non-Resident Lender" means a Lender who is not resident in Canada;

(z) "Obligor" means each of Finco, the Limited Partnership and GP;

(aa) "Opco" means XXXXXXXXXX% of the shares of Opco will be owned by Company A;

(bb) "Opco Agreement" means the agreement between the Limited Partnership and Opco, whereby Opco will agree to operate and maintain the Project;

(cc) "Paragraph" means a numbered paragraph in this advance income tax ruling;

(dd) "Partners" means the Limited Partners and the GP of the Limited Partnership;

(ee) "Period #1" means the construction period of approximately XXXXXXXXXX years of the Project;

(ff) "Period #2" means the XXXXXXXXXX year loan period for the Primary Loan described in Paragraph 9;

(gg) "Period #3" means the XXXXXXXXXX year period during which the Limited Partnership will construct and operate the Project;

(hh) "Primary Loan" means an advance of approximately $XXXXXXXXXX made pursuant to the terms of the Loan Agreement and described in Paragraph 9;

(ii) "Principal Amount" has the meaning assigned by subsection 248(1) of the Act;

(jj) "Project" means the XXXXXXXXXX;

(kk) "Proposed Transactions" means the transactions described in Paragraphs 5 to 18;

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

(mm) "Regulations" means Regulations to the Pension Benefits Standards Act, 1985;

(nn) "Secondary Loan" means an advance made pursuant to the terms of a credit agreement between Finco and the Limited Partnership;

(oo) "taxable Canadian corporation" has the meaning assigned by subsection 89(1) of the Act; and

(pp) "TSO" means Tax Services Office.

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

FACTS

1. The Project will be constructed and operated in the Province. The Project will cost, in aggregate, approximately $XXXXXXXXXX, of which approximately $XXXXXXXXXX will be contributed by Entity A, Entity B, Entity C, Entity D, and Entity E.

2. All of the Partners of the Limited Partnership are corporations resident in Canada for the purpose of subparagraph 212(1)(b)(vii) of the Act.

3. At the date of this advance tax ruling, Company A will have a XXXXXXXXXX% (less XXXXXXXXXX% interest) in the income and capital of the Limited Partnership, and Company B, and Company C together will have a XXXXXXXXXX% (less XXXXXXXXXX%) interest in the income and capital of the Limited Partnership. Finco will have a XXXXXXXXXX% interest in the income and capital of the Limited Partnership and GP will have a XXXXXXXXXX% interest in the income and capital of the Limited Partnership.

4. The shares of Company B have been at all times since the date it was incorporated, and will be at all relevant times owned by persons described under subparagraph 149(1)(o.2)(iv) of the Act. Company B will constitute an "investment corporation" within the meaning of that term in Section 1 of Schedule III of the Regulations. Pursuant to the definition of the term "investment corporation" in the Regulations, Company B will be limited in its investments to those that are authorized for the relevant plans under the Regulations ("such investments").

Company B will comply with the obligations of an investment corporation under the Regulations and it has filed or will file an undertaking contemplated by subsection 14(1) of Schedule III of the Regulations. At least 98% of the assets of Company B will be such investments and cash.

PROPOSED TRANSACTIONS

5. Entity C owns or has rights to the real property interests on which the Project will be constructed. Entity C will grant rights over such real property interests to Entity C Subco, its wholly owned subsidiary. Entity C Subco will license the use of the real property interests to the Limited Partnership for the purpose of Main Agreement Work A and Main Agreement Work B. Entity C Subco will acquire and own any fixed assets and improvements.

6. The Limited Partnership will be responsible for Main Agreement Work A and Main Agreement Work B throughout Period #3. The Limited Partnership will subcontract the Main Agreement Work A to Company A and will make payments to Company A under Contract A.

7. Entity C Subco will pay the Limited Partnership performance based payments, which will be based on a formula contained in the Main Agreement amongst Entity C Subco, Entity C and the Limited Partnership. The Limited Partnership expects to earn sufficient income from the Project to meet its obligations and earn a profit.

8. Once the Project is built (within the time in Period #1), the Limited Partnership will perform Main Agreement Work B under a licence for the remainder of Period #3. The Limited Partnership will subcontract the Main Agreement Work B to Opco for the remainder of Period #3. The Limited Partnership will make payments to Opco under the Opco Agreement.

9. The Lenders will loan the Primary Loan to Finco pursuant to the Loan Agreement. The Primary Loan will be for Period #2, but the loan will be drawn down during Period #1.

10. Finco will loan all the proceeds of the Primary Loan to the Limited Partnership on substantially the same financial terms as those under the Primary Loan, except that the interest rate charged by Finco on the Secondary Loan will be XXXXXXXXXX% higher than the interest rate charged by the Lenders and payable by Finco on the Primary Loan.

11. The Limited Partnership will pay the interest payments on the Secondary Loan to Finco and Finco will pay the Lenders the interest payments on the Primary Loan.

12. Pursuant to the Partnership Agreement, the Limited Partners have Capital Contribution Obligations. The Limited Partners are required to contribute a maximum amount of capital to the Limited Partnership as follows:
Company A: $XXXXXXXXXX
Company B and Company C: $XXXXXXXXXX

13. Each of the Limited Partners will arrange for a letter of credit/guarantee (the "Letters of Credit") from a third party to support its Capital Contribution Obligations to the Limited Partnership. Although the Capital Contribution Obligations of the Limited Partners are obligations to the Limited Partnership, as part of the security to the Lenders (see Paragraph 14) the Limited Partnership will grant a security interest in its rights to such Capital Contribution Obligations and the Limited Partners will enter into a direct agreement for the benefit of the Lenders, among other things, the Capital Contribution Obligations and enforcement thereof. As a consequence, the Letters of Credit will either be issued to the Limited Partnership and transferred to a trustee for the Lenders or will be issued, in the first instance, to a trustee for the Lenders. The trustee for the Lenders will be entitled to require payment under the terms of the Letters of Credit to a bank account of the Limited Partnership.

14. The security given to the Lenders for the Primary Loan will be as follows:

(a) Finco will give a security interest by way of a general security agreement in all of Finco's present and after-acquired personal property. It is expected that the sole asset of Finco will be the Secondary Loan and the security for the Secondary Loan (which will include a bond issued under a trust indenture, which bond will be pledged to the Lenders);

(b) The Limited Partnership will provide a guarantee secured by a security interest created under a trust indenture in all of the Limited Partnership's present and after-acquired personal property, including the Limited Partnership's rights to the Capital Contribution Obligations (this security will grant trustee for the Lenders a right to require payment under the Capital Contribution Obligations to a bank account of the Limited Partnership and to require payment under the Letters of Credit if such Capital Contribution Obligation are not paid when due, in accordance with Paragraph 13);

(c) the Limited Partners and the GP will pledge their units or interest in the Limited Partnership directly to the Lenders. There will be no ancillary guarantee from the Limited Partners;

(d) the shareholders of the GP will pledge their shares of the GP directly to the Lenders. There will be no ancillary guarantee from such shareholders;

(e) GP will pledge its shares of Finco; and

(f) for greater certainty, Finco will pledge its partnership interest in the Limited Partnership.

15. The Secondary Loan will be secured by a security interest created under a trust indenture in all of the Limited Partnership's present and after-acquired personal property, including its rights to the Capital Contribution Obligations.

16. Under the terms of the Loan Agreement, Finco may not, under any circumstances, be obligated to pay more than 25% of the principal amount (within the meaning of that term in subsection 248(1) of the Act) of the Primary Loan within five years from the end of the availability period of the Primary Loan during which amounts may he drawn under the Primary Loan, except in the event of a failure or default under the terms of the Loan Agreement (or if the terms of the Loan Agreement or any agreement relating thereto become unlawful or are changed by virtue of legislation or by a court, statutory board or commission).

17. The Loan Agreement provides for certain representations and warranties, covenants and events of default considered appropriate in the context of the Loan Agreement and the Project. These events of default are briefly summarized below.

(a) a default by Finco or the Limited Partnership in the payment of any amount payable under the Loan Agreement and related agreements;

(b) an Obligor defaults in observing or performing any other covenant or undertaking and, in the case of certain covenants or undertakings, the default continues for a specified period;

(c) any Partner defaults in observing or performing any covenant or undertaking given to the Lenders in an agreement between the Lenders and the Partners and, in certain cases, the default continues for a specified period;

(d) any representation or warranty given by an Obligor or a Partner is untrue or incorrect in any material respect, subject to an ability to remedy;

(e) an Obligor defaults on any other obligation with respect to indebtedness for borrowed money;

(f) any security interest given by any Obligor becomes unenforceable and steps are taken to enforce it;

(g) any Obligor becomes insolvent or makes a general assignment for the benefit of creditors or insolvency proceedings are instituted in respect any other Obligor or Entity C, subject to an ability to remedy;

(h) it becomes unlawful or impossible for a party to perform its obligations under any of the principal documents relating to the Project or any such document becomes unenforceable or ceases to be a legal obligation of a party;

(i) the security given for the Primary Loan under the Loan Agreement ceases to be continuing or in full force or effect, its validity is challenged or it fails to create the intended priority;

(j) an Obligor ceases or threatens to cease to carry on business or breaches rights or authorizations necessary for the conduct of its business or breaches any legislation relating to its business;

(k) a material adverse change occurs (i) in the ability of Finco or the Limited Partnership to carry out its obligations under the financing documents or the project documents, (ii) in the business, assets or financial condition of Finco and the Limited Partnership, (iii) in the Project or (iv) in the exercise or in the enforceability of any Lenders rights under the financing documents;

(l) any unauthorized change in the Partners or the direct or indirect ownership by the sponsors in the members of the Limited Partnership or any unauthorized amendment of the Partnership Agreement;

(m) any seizure or appropriation by a governmental authority of all or a substantial part of the assets of an Obligor or a governmental authority assumes custody or control of an Obligor:

(n) the Project is wholly or substantially abandoned, cancelled or suspended;

(o) any of the principal documents relating to the Project are terminated or repudiated, certain defaults occur under the Main Agreement, notices of significant deficiencies in the Project are given or any government funding agency or any Partner defaults in making payments or fails to perform a material obligation, or certain events of default occur under Contract A or the Opco Agreement, subject to an ability to remedy;

(p) the Project is wholly or substantially damaged and insurance proceeds are insufficient to make good such damage, subject to an ability to remedy;

(q) certain financial ratios are not met;

(r) forecasts demonstrate that Finco will be unable to finance its obligations in respect of the Project, subject to an ability to remedy; or

(s) the Project is not completed or it is reasonably likely not to be completed on a timely basis.

Other Information

18. It is anticipated that in the future one or more Partners will sell or otherwise dispose of all or a portion of their interest in the Limited Partnership to a new limited partner and/or one or more new limited partners will be admitted to the Limited Partnership. Such new limited partners might be a Canadian resident or non-resident corporation, trust, partnership, fund or other entity.

PURPOSE OF THE PROPOSED TRANSACTIONS

The Primary Loan is being obtained from the Lenders, including the Non-Resident Lenders, to secure the best financing terms and interest rate for the purpose of (partially) funding the construction and operation of the Project.

Finco is being used in the structure to:

(a) facilitate, from a commercial perspective, the entry or exit of limited partners of the Limited Partnership;

(b) avoid any uncertainty with respect to the application of subparagraph 2l2(l)(b)(vii) of the Act as it applies to a limited partnership; and

(c) avoid any uncertainty that might arise should a Partner dispose of its interest in the Limited Partnership in the future or should a new partner be admitted to the Limited Partnership, specifically with respect to whether a new debt obligation might be created as a result of such a disposition.

The security granted by the Limited Partnership, Finco and the Partners, including the assignment of the Capital Contribution Obligations, are required by the Lenders in order to provide the Primary Loan under the Loan Agreement to Finco upon the financing terms and interest rate provided thereunder.

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, the Proposed Transactions and purpose of the Proposed Transactions, and that the final agreements referred to in this letter are substantially the same as the documents provided to us, and provided further that the Proposed Transactions are completed in the manner described above, our rulings are as set forth below:

A. Interest payments made by Finco to a Non-Resident Lender pursuant to the Loan Agreement will be exempt from withholding taxes under Part XIII pursuant to subparagraph 212(1)(b)(vii) of the Act, provided that at the time of the payment the Non-Resident Lender deals at arm's length with Finco.

B. Neither the disposition by a Limited Partner of its interest in the Limited Partnership nor the admission of a new partner to the Limited Partnership will, in and of itself, preclude the application of subparagraph 212(1)(b)(vii) of the Act to interest payments made by Finco to a Lender pursuant to the Loan Agreement, notwithstanding that a new Limited Partner not be a corporation.

C. For purposes of the five year period within which not more than 25% of the principal amount of an obligation can be payable for purposes of subparagraph 212(1)(b)(vii) of the Act, a disposition of an interest by a Partner in the Limited Partnership or the acquisition by a person of an interest as a Partner in the Limited Partnership will not, in and of itself, result in the issuance of a new debt obligation.

D. Provided that Company B meets the requirements of an "investment corporation" as described in Paragraph 4, Company B will be considered to have made no investments other than investments that a pension fund or plan is permitted to make for the purposes of subparagraph 149(1)(o.2)(iii) of the Act in respect of the Proposed Transactions.

E. Provided that the units of the Limited Partnership are investments that a pension plan is permitted to make under the Pension Benefits Standards Act, 1985 or a similar law of a province, none of the Proposed Transactions, including:

(a) the acquisition and holding of the interest in the Limited Partnership by Company B;

(b) the issuance by the Limited Partnership of debt obligations pursuant to the Secondary Loan;

(c) the entering into of the Capital Contribution Obligation by Company B and the obtaining of the Letters of Credit in support thereof; or

(d) the realization by the Lenders on the security granted to them relating to the Loan Agreement or the exercise of any rights of the Non-Resident Lenders relating to the Loan Agreement will result in Company B being disqualified from satisfying the conditions in subparagraph 149(1)(o.2)(iii) of the Act.

F. As a result of the Proposed Transactions, in and by themselves, subsection 245(2) of the Act will not be applied to redetermine the tax consequences confirmed in the rulings above.

CAVEAT

The above rulings are given subject to the general limitations and qualifications set out in Information Circular 70-6R5 (the "Circular") issued by the CRA on May 17, 2002, and are binding provided that the Loan Agreement is entered into on or before XXXXXXXXXX.

These rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments to the Act.

Nothing in this letter should be construed as implying that the CRA has agreed to or accepted:

(i) the GST implications of any of the Proposed Transactions;

(ii) any other tax consequences of the Proposed Transactions or of related transactions or events that are not described herein.

Yours truly,

XXXXXXXXXX
for Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Policy and Planning Branch

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