2003 Ruling 2003-0033363 - PARTNERSHIP WIND-UP

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CCRA.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ADRC.

Principal Issues: 1)Whether a professional corporation, which provides XXXXXXXXXX services to another corporation, will be carrying on a personal services business.

2) Can assets be partitioned following dissolution of the partnership?

Position: 1)No - specified shareholder of the professional corporation would not, but for the existence of the company, be considered to be an employee.

2) Yes- subsections 98(3) and 248(21) apply provided partition is legally effective-see 2000-0058523

Reasons: Same as - 2002-016997; 2002-0133063; 2001-0102663; see also 2002-0152593, 2001-0080983, 2000-0058523, E9915403, E9608083

XXXXXXXXXX 2003-003336

XXXXXXXXXX, 2003

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling
XXXXXXXXXX

We are writing in reply to your letter dated XXXXXXXXXX requesting an advance income tax ruling on behalf of the above taxpayers. We also acknowledge the receipt of additional information sent by you on XXXXXXXXXX.

To the best of your knowledge, and that of the taxpayers involved, none of the issues contained herein is:

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

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

(iii) under objection by the taxpayers or a related person; or

(iv) before the courts or, if a judgement has been issued, the time limit for appeal to a higher court has not expired.

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

(a) "Act" means the Income Tax Act, R.S.C. 1985, c.1 (5th Supp.), as amended to the date hereof, and, unless otherwise stated, every statutory reference herein to a section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act;

(b) "Aco" means XXXXXXXXXX and "Dr. A" means XXXXXXXXXX;

(c) "Bco" means XXXXXXXXXX and "Dr. B" means XXXXXXXXXX;

(d) "B Family Trust" means the XXXXXXXXXX, an inter-vivos trust as that term is defined in subsection 108(1) of the Act. The beneficiaries of the B Family Trust are the family members of Dr. B;

(e) "Cco" means XXXXXXXXXX and "Dr. C" means XXXXXXXXXX;

(f) "Dco" means XXXXXXXXXX and "Dr. D" means XXXXXXXXXX;

(g) "Eco" means XXXXXXXXXX and "Dr. E" means XXXXXXXXXX;

(h) "E Family Trust" means the XXXXXXXXXX, an inter-vivos trust as that term is defined in subsection 108(1) of the Act. The beneficiaries of the E Family Trust are the family members of Dr. E;

(i) "Holdings" means XXXXXXXXXX, a corporation incorporated under the laws of XXXXXXXXXX;

(j) "Partners" means Aco, Bco, Cco, Dco, and Eco;

(k) "Partnership" means the XXXXXXXXXX, a general XXXXXXXXXX partnership under the laws of XXXXXXXXXX consisting of the Partners; and

(l) "Partnership Agreement" means the written agreement that governs the operation of the Partnership.

FACTS

1. Dr. A is a resident of Canada and the Province of XXXXXXXXXX for income tax purposes. Dr. A is not a citizen of the United States or any other foreign country.

2. Aco was incorporated under the laws of the Province of XXXXXXXXXX on XXXXXXXXXX and is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act. The fiscal period of Aco ends on XXXXXXXXXX.

3. The authorized share capital of Aco consists of an unlimited number of the following classes of shares:

Class 'A' common voting

Class 'B' common voting

Class 'C' common voting

Class 'D' common voting.

4. The issued share capital of Aco consists of one Class 'A' share, which is legally and beneficially owned by Dr. A.

5. The adjusted cost base ("ACB") and paid-up capital ("PUC") of the issued share of Aco is $XXXXXXXXXX.

6. Dr. B is a resident of Canada and the Province of XXXXXXXXXX for income tax purposes. Dr. B is not a citizen of the United States or any other foreign country.

7. Bco was incorporated under the laws of the Province of XXXXXXXXXX on XXXXXXXXXX and is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act. The fiscal period of Bco ends on XXXXXXXXXX.

8. The authorized share capital of Bco consists of an unlimited number of the following classes of shares:

Class 'A' common voting

Class 'B' common voting

Class 'C' common non-voting

Class 'D' redeemable voting preferred

Class 'E' redeemable non-voting preferred.

9. The issued share capital of Bco consists of XXXXXXXXXX Class 'A' shares which are legally and beneficially owned by Dr. B.

10. The ACB and PUC of the issued XXXXXXXXXX Class 'A' shares of the Bco does not exceed $XXXXXXXXXX in the aggregate.

11. Dr. C is a resident of Canada and the Province of XXXXXXXXXX for income tax purposes. Dr. C is not a citizen of the United States or any other foreign country.

12. Cco was incorporated under the laws of the Province of XXXXXXXXXX on XXXXXXXXXX and is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act. The fiscal period of Cco ends on XXXXXXXXXX .

13. The authorized share capital of Cco consists of an unlimited number of the following classes of shares:

Class 'A' common voting

Class 'B' common voting

Class 'C' common non-voting

Class 'A' redeemable preferred

Class 'B' redeemable preferred

Class 'C' redeemable preferred.

14. The issued share capital of Cco consists of XXXXXXXXXX Class 'A' common shares, which are legally and beneficially owned by Dr. C.

15. The ACB and PUC of the issued shares of Cco does not exceed $XXXXXXXXXX in the aggregate.

16. Dr. D is a resident of Canada and the Province of XXXXXXXXXX for income tax purposes. Dr. D is not a citizen of the United States or any other foreign country.

17. Dco was incorporated under the laws of the Province of XXXXXXXXXX on XXXXXXXXXX and is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act. The fiscal period of Dco ends on XXXXXXXXXX.

18. The authorized share capital of Dco consists of an unlimited number of the following classes of shares:

Class 'A' common voting

Class 'B' common voting

Class 'C' common non-voting

Class 'A' redeemable voting preferred

Class 'B' redeemable voting preferred

Class 'C' redeemable non-voting preferred.

19. The issued share capital of Dco consists of XXXXXXXXXX Class 'A' common voting shares which are legally and beneficially owned by Dr. D.

20. The ACB and PUC of the issued shares of Dco does not exceed $XXXXXXXXXX in the aggregate.

21. Dr. E is a resident of Canada and the Province of XXXXXXXXXX for income tax purposes. Dr. E is not a citizen of the United States or any other foreign country.

22. Eco was incorporated under the laws of the Province of XXXXXXXXXX on XXXXXXXXXX and is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act. The fiscal period of Eco ends on XXXXXXXXXX.

23. The authorized share capital of Eco consists of an unlimited number of the following classes of shares:

Class 'A' common voting

Class 'B' common non-voting

Class 'C' redeemable, retractable preferred

24. The issued share capital of Eco consists of one Class 'B' and one Class 'C' share which are legally and beneficially owned by Dr. E.

25. The ACB to Dr.E of the Class 'C' share of Eco is $XXXXXXXXXX and $XXXXXXXXXX for the Class 'B' share. The PUC of each of the Class 'B' and Class 'C' share is $XXXXXXXXXX per share.

26. The Partnership was formed pursuant to the laws of the Province of XXXXXXXXXX.

27. The most recent version of the Partnership Agreement was entered into on XXXXXXXXXX. Many of the originating partners are no longer with the Partnership but, further to the terms of the Partnership Agreement, the Partnership has continued by adding partners over the years.

28. The Partnership Agreement does not deal with the sharing of profits or losses, however, there is an understanding amongst the Partners that each Partner is entitled to share in the profits of the Partnership based on a formula which takes into account that Partners' contributions to the Partnership.

29. The Partnership also engages XXXXXXXXXX as independent contractors. These independent contractors are not members of the Partnership, but are charged a fee equal to XXXXXXXXXX% of their billings for administration costs associated with their practices.

The independent contractors do not receive any benefits that are otherwise available to partners and partnership staff such as:

i) compensation for vacation;

ii) compensation for sick days;

iii) retirement pension plan benefits; and

iv) group health benefits.

However, an independent contractor is entitled to purchase some of the group health benefits that the Partnership has access to. If an independent contractor chooses to do so, such costs are charged to the independent contractor by the Partnership.

30. The Partnership derives its revenue from providing XXXXXXXXXX services to the public. The patients pay for such services utilizing their own funds or through their various insurance carriers (or a combination thereof).

31. The Partnership's assets consist solely of cash, accounts receivable, work-in-progress ("wip") and goodwill.

32. Holdings is a "taxable Canadian corporation" as that term is defined in subsection 89(1) of the Act.

33. The issued shares of Holdings are owned by:

a) Aco;

b) Bco;

c) Cco;

d) Dco;

e) Eco;

f) The B Family Trust; and

g) The E Family Trust.

34. The Partnership provides XXXXXXXXXX services at a privately owned clinic located in XXXXXXXXXX. The land and the building in which the clinic is located are owned by Holdings. Pursuant to an agreement entered into between the Partnership and Holdings, the Partnership pays annual rental amounts to Holdings for use of the building.

35. Holdings also owns certain XXXXXXXXXX and laboratory equipment. Pursuant to an agreement between Holdings and the Partnership, the Partnership pays certain amounts to Holdings for the use of such equipment and for certain laboratory services provided by Holdings.

PROPOSED TRANSACTIONS

36. The Partnership will wind-up its operations and cease to exist by distributing its property to each of the partners. On the winding-up each of the Partners will receive an undivided interest in the Partnership's property such that each Partner's undivided interest in a particular property will be equal to that Partner's undivided interest in every other property. The percentage interest in each property will be equal to the percentage of capital that the former partner had as a percentage of total capital of the former partnership immediately before the dissolution. In addition, each of the Partners will jointly elect in prescribed form within the time limits as set out in subsection 96(4) of the Act such that each Partner's proceeds of disposition of the interest in the Partnership and the cost to each Partner of the property received on the winding-up will be determined in accordance with the rules in subsection 98(3).

37. Each of the former partners of the Partnership will then enter into a contract to acquire a divided interest in the former Partnership's goodwill. In order for the division to be legally enforceable between the parties, each former partner will sign a non-solicitation agreement with respect to the patients that may follow a particular former partner after the wind-up of the Partnership. The goodwill received by each former partner will be equal in value to the percentage of capital that the former partner had as a percentage of total capital of the former partnership immediately before the dissolution. The contractual division of goodwill will be governed by general commercial common law principles and will constitute a partition under the laws of XXXXXXXXXX.

38. Each former partner's divided interest in goodwill will have a fair market value which immediately after the partition, expressed as a percentage of the fair market value of all the divided interests in goodwill immediately after the partition, will be equal to the fair market value of such former partner's undivided interest in goodwill immediately before the partition, expressed as a percentage of the fair market value of all the undivided interests in goodwill immediately before the partition.

39. A XXXXXXXXXX corporation ("Opco") will be incorporated under the laws of the Province of XXXXXXXXXX being authorized to issue an unlimited number of common shares without nominal or par value. Each of Dr.A, Dr.B, Dr.C, Dr.D and Dr.E will subscribe for common shares of Opco for nominal subscription amounts (i.e. $XXXXXXXXXX per share) and will subscribe for shares in the proportion that reflects their former indirect Partnership interest holdings equal to the percentage of capital that the former partner had as a percentage of total capital of the former partnership immediately before the dissolution. Opco will be a Canadian-controlled private corporation ("CCPC") as defined in subsection 125(7) of the Act.

40. Opco will apply for a permit to practice XXXXXXXXXX in the Province of XXXXXXXXXX from the XXXXXXXXXX. The XXXXXXXXXX authorizes a corporation to engage in the practice of XXXXXXXXXX upon having obtained a permit from the College. Opco expects to be eligible to register with the College given the direct ownership of the issued shares of Opco directly by the XXXXXXXXXX.

41. Each of Aco, Bco, Cco, Dco and Eco will enter into a contractual arrangement (the "licensing arrangement") with Opco whereby Opco will be able to utilize the goodwill and related assets of each corporation. The fee that will be received by each party under the licensing agreement will be a negotiated fee.

42. Upon entering into the licensing arrangement, Opco will carry on the Practice by providing the professional services through:

a) individuals who are licensed to practice XXXXXXXXXX in XXXXXXXXXX and are engaged by Opco as independent contractors to perform such services on behalf of Opco (i.e. "Contracting Professionals"), and/or

b) companies engaged by Opco as independent contractors to provide the services of individuals, who are licensed to practice XXXXXXXXXX in the Province, to perform such services on behalf of Opco (i.e. "Contracting Companies").

43. Opco and each of its shareholders (being the former indirect partners of the Partnership) will enter into a "Shareholder's Agreement", which will provide, among other things:

a) the business of Opco will be the practice of XXXXXXXXXX (the "Practice");

b) Opco will conduct the Practice by contracting with independent contractors to provide the required services;

c) each individual shareholder of Opco will be entitled to be a member of the board of directors, should he or she so desire;

d) the net profits of Opco available for distribution (in the discretion of the directors) will be distributed annually by way of dividends on the outstanding shares from time to time; and

e) the alienation or transfer of issued shares of Opco will be restricted to the following circumstances:

i) a shareholder may demand that Opco purchase its shares for fair market value; or

ii) Opco may, upon approval of the majority of the vote of the shareholders, purchase any shares held by any shareholder, and such shareholder will be obligated to sell such shares, for fair market value at that particular time.

44. Each of the former partners of the Partnership will enter into a contract for services with Opco.

45. Other professionals who were not former partners of the Partnership may provide services to Opco as Contracting Professionals, upon such terms as the respective professional and Opco may agree, much as they do currently with the Partnership.

46. Contracting Professionals or Contracting Companies may enter into a contractual relationship with Opco, whereby the Contracting Professional, as an independent contractor, agrees to provide certain professional services required in the Practice on a per diem basis. The amount of the per diem fee will be negotiated on a case-by-case basis and will vary with the level and type of professional services to be provided. This arrangement will be evidenced by a written contract, which will provide, among other things, that:

(1) the Contracting Professional or Contracting Company, as an independent contractor, shall provide certain professional XXXXXXXXXX services required by Opco in the Practice;

(2) the contract shall be for a fixed period ending on XXXXXXXXXX each year. The contract may be renewed each year and it may also be terminated by either party upon XXXXXXXXXX days notice;

(3) the obligation of the Contracting Professional or Contracting Company shall be set out in a negotiated practice profile, expressed as the number of work days per year the Contracting Professional or Contracting Company agrees to provide each of the following professional services, with a per diem rate for each type of service:

a) clinical practice, including "on call" responsibility;

b) clinical practice, not including "on call" responsibility;

c) administration;

d) marketing; and

e) other;

(4) the per diem rates will be established for each type of service, and will take into account such factors as difficulty, risk to the practitioner, and the requirement to work outside of normal hours;

(5) the Contracting Professional or Contracting Company shall be compensated for each type of service based upon the established per diem rate, to be paid by Opco to the Contracting Professional or Contracting Company on the XXXXXXXXXX day of the month following the month of service, provided that the Contracting Professional or Contracting Company's level of services is substantially complete (as defined by the agreement) in keeping with the set practice profile;

(6) all payments from third parties in respect of services provided by a Contracting Professional or Contracting Company for the benefit of Opco in the Practice shall be made directly to Opco;

(7) Opco shall supply certain supplies, instruments, facilities and equipment required in the provision of professional services by the Contracting Professional or Contracting Company, but the Contracting Professional or Contracting Company shall be responsible for all expenses incurred in respect of the following:

a) professional membership fees and insurance;

b) continuing professional education;

c) transportation;

d) communication;

e) maintaining the professional standards set by the College from time to time; and

f) expenditures on personal practice preferences of the Contracting Professional or Contracting Company.

47. The particulars of the Contracting Professional or Contracting Company's practice profile, the per diem compensation rate for services and the definition of "substantial completion" will be negotiated with Opco on an individual basis each year of the term of the arrangement. Generally, it is expected that "substantial completion" will be defined to have taken place when XXXXXXXXXX% of the services to be provided in a particular period are completed.

48. As long as the Contracting Professional or Contracting Company fully discharges the obligations set out in the services contract with Opco, the Contracting Professional or Contracting Company will not be restricted from providing professional services to other persons or otherwise prohibited from competing with Opco, except that during the term of the services contract and for a period of XXXXXXXXXX years following the termination of that contract with Opco, the Contracting Professional or Contracting Company will be prohibited from providing competing services to any patients to which services are/were provided by the Contracting Professional on behalf of Opco.

49. Each year Opco will estimate its annual revenues and expenses for the year. It will also endeavour to contract with the Contracting Professionals and the Contracting Companies in such a manner that will result in an annual net profit to Opco. To the extent that Opco's taxable income for any particular taxation year would otherwise exceed the small business limit, the excess will likely be distributed (in absolute discretion of the directors) as fees, bonuses or similar payments to the directors of Opco or to the individual shareholders.

50. Opco and Holdings will enter into a contractual arrangement (under similar terms that presently exist between the Partnership and Holdings) whereby Holdings will provide use of certain real estate property, equipment and provide laboratory services to operate the clinic.

PURPOSE OF THE PROPOSED TRANSACTIONS

51. The purpose of the proposed transactions is to restructure the professional practices of the Partners, without adverse tax consequences, so that they meet their professional obligations in respect of the Practice while:

(i) Eliminating joint and several liability inherent in providing professional services through a partnership;

(ii) Providing each Partner with the opportunity to become an independent contractor and, as such, having increased control over its level of participation in the Practice;

(iii) Providing each Partner with a better congruence between effort put into the Practice and the financial return received from its respective professional practice;

(iv) Providing a vehicle through which a Partner or the sole shareholder of a Partner may provide professional services external to the Practice;

(v) Providing increased business efficiency for each Partner through individual management of personal practice preferences and expenses;

(vi) Permitting each Partner to control expenditures reflecting personal practice preferences, where such expenditures may not be in the interest of all participants in the Practice;

(vii) Providing more flexibility for estate planning on the part of each Partner and its shareholder; and

(viii) Facilitating ease of entry to the Practice by other professionals and exit from the Practice by the Partners.

RULINGS GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, proposed transactions and purposes thereof and provided the proposed transactions are completed in the manner described above, our rulings are as follows:

A. Provided the Partnership is a Canadian partnership, as defined in subsection 102(1) of the Act, at the time it ceases to exist, the provisions of subsection 98(3) of the Act will apply to the dissolution (as described in 36 above) to determine the proceeds of disposition of each Partner's interest in the Partnership and the cost of each Partner's undivided interest in each property of the Partnership.

B. Provided the transactions as described in 37 above constitute a "partition" within the laws of XXXXXXXXXX, subsection 248(21) of the Act will apply such that subsection 248(20) of the Act will not apply with respect thereto and each Partner's divided interest in goodwill will be deemed to be a continuation of each such Partner's undivided interest in such partnership goodwill immediately before its partition.

C. Where, in a taxation year of Opco, a Contracting Company or a Contracting Professional as described in paragraph 41, is hired as an independent contractor, the amount of compensation paid by Opco to the Contracting Company or Contracting Professional will be deductible under section 9 of the Act in computing the income of Opco subject to any limitations imposed by sections 18 and 67 of the Act.

D. Provided that a XXXXXXXXXX providing XXXXXXXXXX services through a Contracting Company does not provide such services to Opco in his or her capacity as an employee or officer of Opco, a Contracting Company will not be considered to be carrying on a "personal services business" as defined in subsection 125(7) of the Act, in relation to the XXXXXXXXXX services it provides to Opco in that taxation year.

E. Provided that a partnership does not exist between Opco and any Contracting Company, the income of Opco and any Contracting Company will not be considered "specified partnership income" within the meaning of subsection 125(7) of the Act.

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

CAVEAT

A direction in accordance with subsection 256(2.1) is based on the facts on a year-to-year basis, and therefore we are not able to rule that this provision will not be applied.

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

a) the reasonableness of any expenditure referred to in this letter;

b) the determination of cost, fair market value, adjusted cost base, cumulative eligible capital or undepreciated capital cost of any property referred to in this letter;

c) whether or not any persons referred to in these rulings deal at arm's length;

d) that the contractual agreement by which each Partner's undivided interest in the Partnership's goodwill is divided, as described in 37, constitutes a partition for the purpose of XXXXXXXXXX law and subsection 248(21) of the Act;

e) the tax consequences of any transactions involving goodwill other than those described in paragraph 37;

f) the GST implications of any of the proposed transactions; and

g) any other tax consequences of the proposed transactions or of related transactions or events that are not described herein.

The above rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 dated May 17, 2002 and are binding on the Canada Revenue Agency provided that the proposed transactions are completed by XXXXXXXXXX. These rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments thereto.

Yours truly,

XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate

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