CRA takes an accommodating approach to determining what is a prescribed amount under Reg. 5907(1.3)

Two LLCs in a US consolidated group beneath Canco made tax compensation payments indirectly to the top CFA in that group in respect of the share of the U.S. taxable income of the US consolidated group earned through those LLCs during their 2011 and 2012 taxation years.

In finding that those payments by the LLCs (which were disregarded for US tax purposes) qualified under Reg. 5907(1.3)(a) as amounts that could reasonably be regarded as being in respect of income tax that would otherwise have been payable by the CFA single members of those LLCs in respect of the FAPI earned by those CFAs had their US tax liabilities been determined for US purposes on an unconsolidated basis, CRA indicated that:

• although it was only the regarded CFAs and not LLC1 and LLC2, as disregarded entities, who severally bore the liability to pay the US consolidated group’s tax liability, the payments made by the LLCs were made on behalf of their respective sole members
• although the payments for the 2011 taxation years were not made pursuant to a written agreement, there was no requirement that tax sharing payments be made pursuant to a written agreement
• the fact that the tax sharing payments were paid in June 2014, i.e., well past the end of the 2011 and 2012 taxation years, did not prevent Reg. 5907(1.3)(a) from applying to these amounts for the purposes of Canco’s 2011 and 2012 taxation years
• in particular, the amounts constructively paid by the single-member CFAs (through their LLCs) were determined in a manner that supported that they could reasonably be regarded as being in respect of the income tax that these foreign affiliates would have paid in respect of FAPI earned by their disregarded (LLC) subsidiaries if those tax liabilities of had not been determined as members of the US consolidated group, but rather had been determined separately

However, given that the income from LLC1 and LLC2 was offset for US purposes by reported operating losses from the active businesses of other members of the US consolidated group, Reg. 5907(1.4) reduced the prescribed amounts recognized for Canco’s 2011 and 2012 taxation years to nil, resulting in no FAT being recognized regarding the above tax sharing payments until (and to the extent that) Regs. 5907(1.5) and (1.6) applied in respect of one or more of Canco’s five subsequent taxation years.

Neal Armstrong. Summaries of 3 March 2023 Internal T.I. 2016-0662221I7 under Reg. 5907(1.3)(a) and Reg. 5907(1.091).