Section 90

Subsection 90(1) - Dividend from non-resident corporation

See Also

Ahmad v. The Queen, 2013 DTC 1112 [at 601], 2013 TCC 127 (Informal Procedure)

dividend in kind on US spin-off

The taxpayer held 1000 shares in a Bermudan corporation ("Tyco"). In a corporate reorganization, Tyco distributed 250 shares to the taxpayer of its two wholly owned subsidiaries, and consolidated the taxpayer's 1000 shares into 250. The taxpayer was assessed for receiving a dividend in kind.

Rip CJ upheld that the shares distributions were a dividend in kind, as Tyco had failed to file a s. 86.1 election. He stated (at para. 13):

I agree with Mr. Ahmad and his representative that Mr. Ahmad incurred no economic benefit as a result of the Tyco reorganization. However, according to the Act, he did receive dividends in kind from Tyco and the dividends had a value.

Revenue and Customs Commissioners v. First Nationwide, [2012] BTC 99, [2012] EWCA Civ 278

capital v. income character of distributions/payment of dividend out of share premium account

The taxpayer, in cooperation with two banks, a Cayman Islands corporation and its parent, implemented the following series of transactions:

The subscription proceeds for preference shares of a Caymans company ("Blueborder") were substantially in excess of the nominal or par value of the shares, with the excess being credited to its share premium account (transaction 6). The deductibility of a manufactured dividend paid by the UK taxpayer (transaction 8) turned on whether a dividend paid to the taxpayer out of Blueborder's share premium account (transaction 7) was an income or capital payment. Before finding that it was an income payment because it was a dividend under Caymans law (i.e., a distribution of profits from the issuance of shares for more than their par value - see para. 15), Moses L.J. stated (at para. 10):

The jurisprudence is well-established. Payments made by a company in respect of shares are either income payments, or, if the company is not in liquidation, by way of an authorised reduction of capital. The courts have recognised no more than that dichotomy. The distinction has depended upon the mechanics of distribution. If the payments are made by deploying the mechanisms appropriate for reduction of capital, then they are payments of capital. Such mechanisms can be readily identified as designed to protect the capital of a company. If the payments are not made by such mechanisms but are made by way of dividend, they are income payments.

The fact that the payment of the dividend out of the share premium account reduced the capital that would have been distributable on a winding-up of Blueborder was not relevant as "it is the form by which the payments are made which determines their character" (para. 25).

Locations of other summaries Wordcount
Tax Topics - General Concepts - Substance 71

Marshall v. The Queen, 2011 DTC 1353 [at 1976], 2011 TCC 497

The taxpayer was a shareholder of a Bermudian corporation ("Tyco"), and received shares as part of the same spin-off described in Capancini, where it was concluded Tyco had never owned the shares received by the taxpayer and therefore that they were not dividends in the hands of the taxpayer under s. 12(1)(k) and s. 90(1). However, Capancini had been heard under informal procedure. In the present case the Minister introduced evidence establishing that the two spin-off corporations were incorporated in Bermuda in 2000 as wholly-owned subsidiaries of Tyco. Therefore, the conclusions in Capancini could not be relied on and V.A. Miller found that the shares of the two spin-off corporations were dividends in kind.

Capancini v. The Queen, 2010 DTC 1394 [at 4569], 2010 TCC 581 (Informal Procedure)

Under a reorganization, the Canadian-resident taxpayer received, in exchange for shares he previously held of Tyco International Ltd. (a non-resident corporation), one share of each of two new corporations and one new share of Tyco International Ltd. The Minister assessed on the basis that the receipt of the shares of the two new corporations represented a dividend to the taxpayer. In finding that the taxpayer had not received a dividend, Bowie, J. noted that the shares of the two new corporations were never owned by Tyco International Ltd. and, instead, were created in the course of a reorganization, and that the distribution of the new shares did not represent a "dividend" in the ordinary meaning of the word, namely, a distribution of a pro rata portion of a company's earnings or profits.

Morasse v. The Queen, 2004 DTC 2435, 2004 TCC 239 (Informal Procedure)

The taxpayer, who held American Depositary Receipts for a Mexican public company (Telmex) became the owner of an equal number of shares of another Mexican company (America Movil) pursuant to a spin-off transaction implemented by Telmex. The spin-off was implemented using a Mexican corporate law procedure called "escisión" or "split-up" under which an existing company is divided, creating a new company to which specified assets and liabilities are allocated.

In finding that the distribution received by the taxpayer was not taxable to her as a dividend or otherwise as income, Miller J. indicated (at p. 2440) that: "what occurred is more akin to a stock split than a stock dividend" and stated (at p. 2439):

"As part of the reorganization, Telmex arranged that its shareholders receive the America Movil shares, not as part of any distribution of profits, but as recognition of a shift of capital from Telmex to America Movil."

Cangro Resources Ltd. v. MNR, 67 DTC 582 (TAB)

distributions out of share premium based on number of shares held were dividends

A payment received by the taxpayer that was stated to be made out of "paid-in capital and paid-in surplus" pursuant to the provisions of the Wisconsin Business Corporations Act was found to be a dividend for purposes of the Act. Mr. Davis stated (at p. 585) that:

As the funds distributed by Marine Capital Corporation admittedly represented nothing more than premiums paid into the treasury on the purchase of shares at prices in excess of their par value of $1 per share, the share capital was neither disturbed nor impaired by the distribution of these funds.

And (at p. 586) that:

There is no question but that the appellant received its proportionate share of the fund, it having been distributed on the basis of the number of shares of Marine Capital Corporation held by each shareholder. ...[T]herefore...the payment...was a dividend received by the appellant... . The accepted ordinary meaning is to be given to the word as it is used in the Income Tax Act. The Shorter Oxford Dictionary states that the word 'dividend' is derived from the Latin word dividendum and defines it as 'a sum of money to be divided among a number of persons; a portion or share of anything divided, especially the share that falls to each distributee'."

Words and Phrases
dividend
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 15 - Subsection 15(1) 110
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Dividend distributions out of share premium based on number of shares held were dividends 211

Robwaral Ltd. v. MNR, 60 DTC 1025, [1960] CTC 16 (Ex Ct), briefly aff'd 64 DTC 5266 (SCC)

A private Ontario company declared a dividend on December 21, 1953 payable to common shareholders of record on December 31, 1953, and then drew the cheque for the dividend on January 22, 1954. The dividend was not "received" until 1954. "When the section says 'received', I do not believe that it means 'receivable'. I would say that a right to a dividend in an amount of money is not income until received."

Words and Phrases
received
Locations of other summaries Wordcount
Tax Topics - General Concepts - Payment & Receipt dividend not received until cheque received 39

Administrative Policy

25 August 2014 External T.I. 2014-0528361E5 - premium on redemption of foreign affiliate shares

redemption premium is proceeds

After noting that in 2012-0439741I7 "we indicate that upon redemption of MRPS [mandatory redeemable preference shares], the redemption premium would be characterized as a dividend," CRA stated:

This statement does not reflect the views of the CRA. In the absence of an election under subsection 93(1) of the Act, redemption proceeds are treated as proceeds of disposition. Accordingly, Rulings document 2012-0439741I7 will be removed from our database.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Dividend redemption premium is proceeds 70

30 April 2013 Internal T.I. 2012-0439741I7 -

treatment of MRPS as equity

withdrawn by CRA on 25 August 2014

Mandatory Redeemable Preferred Shares ("MRPS"): are voting; have a mandatory redemption date approximately 10 years from the allotment date, with the redemption proceeds (equal to the issue price, plus the Premium accrued to the redemption payment date) to be paid in cash on the mandatory redemption date; and have a Premium equal to the per share equivalent of (a) a fixed premium of 7.1% per annum of the issue price, compounded quarterly, plus (b) a variable premium of 5.5% of the aggregate net profit after tax less, minus any amount paid by way of dividend. The TSO position was that the MRPS were debt, consistent with their accounting treatment and their treatment for tax purposes "in other jurisdictions."

In indicating that the MRPS would be considered equity, CRA stated that "generally speaking, we will respect the form of the investment regardless of how it is accounted for or how it is treated for tax purposes in other jurisdictions," and that "payments of interest or dividends will derive their income tax consequences from the legal nature of the payment." Respecting the redemption Premium, "as it is paid on a share investment, we consider it to be a dividend."

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Dividend treatment of MRPS as equity 194
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Share treatment of MRPS as equity 180

12 July 2011 External T.I. 2010-0391621E5 - Capital Gains Distributions

capital gains distributions by U.S. companies were dividends

Capital gains distributions made to Canadian-resident shareholders by U.S. non-diversified closed-ended management investment companies, comprised of "long-term capital gains" and "short-term capital gains," were dividends rather than capital gains for Canadian purposes.

21 October 2004 Internal T.I. 2004-006013 -

distribution out of share premium account

The distribution of amounts out of a share premium account of a foreign corporation that could have been declared and paid as a dividend under the foreign corporate law, but was not, should be characterized as a distribution of paid-in capital and not as a dividend.

31 August 1999 APFF Roundtable Q. 3, 5-992092 -

LLC return of subscription

Publico, a Canadian public corporation, invested $1 million in its wholly-owned US affiliate which is an LLC under the American corporate law. What is the fiscal treatment of a repatriation of the initial subscription? The Department stated (TaxInterpretations translation):

In a given situation, whether an amount is paid as a reimbursement of an initial subscription in a LLC is a question of fact. However, in a case where an amount paid to Publico by the LLC could be considered a reimbursement of its initial subscription under its relevant constituting documents, the amount paid would be considered a reduction in the paid-up capital rather than a dividend for purposes of the Act.

28 October 1997 T.I. 971196 [distribution treatment turns on US corporate law]

distribution treatment turns on US corporate law

Whether a capital distribution made to a Canadian shareholder of a U.S. corporation would be a dividend or a return of capital for Canadian tax purposes would be a question of U.S. corporate law.

Income Tax Technical News, No. 11, September 30, 1997, "U.S. Spin-Offs (Divestitures) - Dividends in Kind"

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 52 - Subsection 52(1) 21

8 January 1996 T.I. 942802 [all distributions from Delaware corps are dividends]

all distributions from Delaware corps are dividends

It is the Department's view that a dividend can include any distribution of property by a corporation to its shareholders that is not a return of the paid-up capital of a corporation." Because under the Delaware corporate law, "it is not possible for a corporation to make any asset distribution by reducing its capital" and "cash distributions must be made from the surplus account and constitute dividends" under such law, such a distribution from a Delaware corporation's surplus account will be a dividend for purposes of s. 90(1) of the Act.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(3) all distributions from Delaware corps are dividends 90

7 June 1994 T.I. 9415515 [capital distribution by Delaware corp]

capital distribution by Delaware corp

FA1, a Delaware corporation, wishes to make a cash distribution to Canco by reducing its capital. However, as under Delaware corporate law a cash distribution can only be made from a "surplus" account, FA1 must first transfer the amount from its capital account to its surplus account. CRA stated:

[T]hese payments are not distributions of corporate profits. This does not appear to have any bearing on the matter as such distributions are still regarded as dividends in Delaware. … [A] distribution as described above would be regarded as a dividend and not as a return of capital, regardless of whether the initial contribution was made to capital or to surplus, and… this tax result is attributable to the fact that Delaware corporate law does not permit any return of capital except from a surplus account.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(3) capital distribution by Delaware corp 135

24 March 1994 T.I. 940285

Dividends received from a non-resident corporation, including a mutual fund, are generally included in income as dividend income for the Canadian resident (subject to the provisions of s. 95(1) for dividends received from a foreign affiliate) irrespective of the source of such distribution (as business income, property income or capital gains).

Subsection 90(2) - Dividend from foreign affiliate

Administrative Policy

2016 Ruling 2015-0617351R3 - payments under a German profit transfer agrmt “PTA"

double PTA transferring profits from German grandchild to German parent CFA

Current structure

XX2, an indirect controlled foreign affiliate of a Canadian public corporation, is the sole limited partner of a German KG, and its indirect wholly-owned German subsidiary (FA2), is the sole general partner of KG with a 0% partnership interest. KG, FA2, and two direct wholly-owned German subsidiary of FA2 (FA3 and FA4), constitute all the shares (being of a single class) of a German corporation carrying on an active business (FA5).

Current PTAs

Each of the Transferring Entities below has entered into a profit and loss transfer agreement (“PTA”) with the Dominating Entity below for the Transferring Entity to transfer its statutory profit to the Dominating Entity and for the Dominating Entity to cover any statutory losses of the Transferring Entity:

PTA label Transferring Entity Dominating Entity
PTA1 FA5 FA3
PTA2 FA3 FA2
PTA3 FA4 FA2
Background on PTAs

17. …[F]or German tax purposes, in order for tax consolidation to be possible, the parties to a PTA must be a parent and a subsidiary (direct or indirect) to meet the requirement of financial integration.

18. PTAs are generally concluded in order to implement an Organschaft for German tax purposes. Once an Organschaft is implemented, the taxable income/loss (after adjustment for matters such as book to tax differences and non-deductible items, etc.) of the subsidiary is transferred to the parent.

19. The [German Stock Corporation Act] requires a PTA to provide for adequate compensation of outside shareholders with annual payments established in proportion with their shares in the share capital of the Transferring Entity. The annual amount to be provided as compensation payment must not be less than the amount which could be expected to be distributed as the average dividend for each share based on the past profitability of the corporation and on its prospective profits.

Proposed transactions
  1. FA4 will be merged into FA3 with FA3 (“New FA3") as the survivor. Consequently, PTA3 will be extinguished.
  2. FA2 will transfer all of its shares of FA5 to New FA3 in consideration for shares of New FA3.
  3. The (ordinary) shares held by KG in FA5 will be converted into voting cumulative preferred shares.
Rulings

The payments made by FA5 to New FA3 and KG under PTA1 and by New FA3 to FA2 under PTA2 will be deemed by s. 90(3) to be dividends including for various surplus calculation purposes. Each payment made by New FA3 to FA5 under PTA1 and by FA2 to New FA3 will be treated as a contribution of capital for purposes of s. 53(1)(c) and will not be treated as earnings or loss under Reg. 5907(1).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 87 - Subsection 87(8.1) survivor merger of two German CFAs 42

11 April 2017 Internal T.I. 2016-0670541I7 - Foreign affiliate share redemption

portion of proceeds paid on a redemption might be respected as a dividend (subject to s. 95(6)) if this is clearly indicated in accordance with Barbados law

Canco owned 100% of the preferred shares of a Barbados International Business Company (“FA”), all of whose common shares are held by a non-resident corporation that is not a foreign affiliate of Canco. FA was a controlled foreign affiliate of Canco., Prior to 19 August 2011, FA redeemed all the preferred shares (with particulars of the redemption resolution redacted). Canco made no s. 93(1) election.

Barbados law is silent about the characterization of an amount received upon the redemption of shares of a Barbadian company, but…does not prevent a corporation from treating such amount, or a part thereof, as a dividend.

CRA responded:

[Although] subsection 90(2)…may apply earlier [than August 19, 2011] if a certain election has been filed…whether… subsection 90(2) applies is likely to not matter as, if there is in fact a distribution that is separate from the redemption…[as] the determination of the treatment of the proceeds… will…depend on whether legally there is, in part, a distribution of certain funds in the form of a dividend and, in another part, proceeds from a redemption of shares. If there is only, as a matter of law, a redemption and cancellation of shares, or if there is no conclusive evidence as to whether there is, in part, a dividend, we would generally view all such amounts as having been received as proceeds from the disposition of the… Shares, and no amount as having been received as a dividend. In this event, you may want to consider whether the taxpayer may be eligible to make a late [93(1)] election… .

If there is, in part, a dividend… to the extent the purpose… is to skew exempt surplus to the Canadian shareholder…consideration [should] be given as to the potential application of subsection 95(6) and/or subsection 245(2).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Dividend redemption proceeds might in part be a dividend under Barbados law 131
Tax Topics - Income Tax Act - Section 95 - Subsection 95(6) - Paragraph 95(6)(b) skewing exempt surplus to Canco could engage s. 95(6) 126

2015 Ruling 2014-0541951R3 - Foreign Affiliate Debt Dumping

proportionate LLP distribution to three direct or indirect general or limited partners treated as dividend on single class of shares

A limited liability partnership (FA1) will pay a distribution proportionately to its partners who directly comprise (i) a limited partner corporation (Canco9), and (ii) a general partner which is a general partnership - whose partners on a s. 212.3(25) look-through basis are two other Canadian corporations in the same group (Canco7 and Canco8). The CRA ruling letter described the proportionate distribution as being deemed by s. 90(2) to be a dividend and ruled that the distribution will be considered to be received as a dividend in respect of a single class of shares of capital stock of FA1 by Canco7, 8 and 9 for the purposes of s. 212.3(9)(b)(ii) – A(B).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 212.3 - Subsection 212.3(9) - Paragraph 212.3(9)(b) - Subparagraph 212.3(9)(b)(ii) s. 212.3(9)(b)(ii) PUC restoration for upper-tier QSCs on the payment by a U.S. LLP of a proportionate “dividend” to lower tier CRIC partners 306
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Corporation proportionate distribution by LLP treated as dividend 126
Tax Topics - Income Tax Act - Section 212.3 - Subsection 212.3(3) two Canadian corporate partners immediately beneath the U.S. border are QSCs respecting investments made by lower-tier CRICs in a U.S. LLP 230

26 May 2016 IFA Roundtable Q. 6, 2016-0642081C6 - German Organschafts

profit transfer payments by German sub to its German parent deemed to be dividends under s. 90(2)

Under an “Organschaft,” a German corporation (“Parentco”) and another corporation resident in Germany (“Subco”) enter into a Profit Transfer Agreement (“PTA”) under which Subco agrees to annually transfer its entire profit determined in accordance with German (statutory) GAAP to Parentco, and Parentco agrees to compensate Subco for any loss incurred under German GAAP.

A profit transfer payment made by Subco to Parentco could be re-characterized as income from an active business of Parentco under s. 95(2)(a) to the extent that Subco had earnings from an active business before taking into account the profit transfer payment (see, e.g., 2001-0093903). However, where the statutory accounting profits of Subco included income such as dividends from underlying affiliates or capital gains from dispositions of excluded property, all or a portion of a profit transfer payment could be included in the computation of the foreign accrual property income of Parentco notwithstanding that Subco had no FAPI prior to the payment.

Would CRA consider a profit transfer payment made by Subco to Parentco under a PTA to be a dividend under that s. 90(2)?

CRA agreed that the payment from Subco to Parentco under the PTA could be a deemed dividend under s. 90(2). In the base case scenario, there is one class of shares wholly-owned by the parent. Any profit transfer payment made after August 19th , 2011 under the base case scenario (where there is one class of shares wholly-owned by Parentco would be a dividend under s. 90(2) - whose effect on the surplus accounts of Subco and Parentco would be in accordance with the rules of Part LIX of the Regulations.

As most taxpayers would be able to rely on CRA’s new view, CRA proposes to restrict the ability of taxpayers to treat these payments in accordance with the previous CRA view, to profit transfer payments made before 2017.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 95 - Subsection 95(2) - Paragraph 95(2)(a) - Subparagraph 95(2)(a)(ii) - Clause 95(2)(a)(ii)(B) profit transfer payments made by a German sub to German parent are s. 90(2) dividends not within s. 95(2)(a)(ii)(B) after 2016 147
Tax Topics - Income Tax Act - Section 53 - Subsection 53(1) - Paragraph 53(1)(c) German profit transfer payment to loss subsidiary is contribution of capital 154
Tax Topics - Income Tax Act - Section 12 - Subsection 12(1) - Paragraph 12(1)(x) loss compensation payment under Organschaft 121

8 January 2016 Internal T.I. 2015-0604491I7 - mandatory redeemable preferred shares

distributions on MRPS were equity distributions

CRA applied the two-step approach to entity classification to find that MRPS (Luxembourg hybrid instruments which were “very similar to traditional shares under Canadian business corporations statutes”) were equity. They were governed by articles of incorporation, ranked after debt in a bankruptcy, could only be redeemed from funds available for distribution under Luxembourg law or from the proceeds of a new share issuances and voted on corporate matters such as the election of directors (although being non-voting would not have established that they were not shares). CRA also stated:

The fact that the MRPS must be redeemed on or before a stipulated date does not detract from their character as shares.

Words and Phrases
equity
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Share MRPS (Luxembourg hybrid instruments which were “very similar to traditional shares under Canadian business corporations statutes”) were equity 705

2015 Ruling 2014-0527961R3 - Deemed dividend under subsection 90(2)

€ and US$-denominated shares viewed as separate classes

underline;">: €/US$ share structure. The constating documents of FA (which is a wholly-owned subsidiary of Canco that was incorporated and is resident in Country X, and whose functional currency is the U.S. dollar) state that "the capital of the Company is €€XX and US$XX divided into XX shares of €€XX each and XX shares of US$XX each," and that "[all] dividends shall be declared and paid according to the amounts paid or credited as paid on the shares in respect whereof the dividend is paid" and "[all] dividends shall be apportioned and paid proportionately to the amounts paid or credited as paid on the shares. FA issued US$ denominated shares and maintains the corresponding US$ capital account in order to match the currency of its investments and its functional currency.

Proposed Transactions

FA will declare and pay an amount that constitutes a dividend as a matter of FA's governing corporate law on all of its issued and outstanding shares (the "FA dividend"), based on the amount paid or credited as paid on the respective shares. Given the current relative currency values, the paid in capital of the €€ shares on a per share basis is greater than the paid in capital of the US$ shares and, as a result, the €€ shares will be entitled on a per share basis to a larger proportion of the dividend. Country X corporate law counsel opined that it considers that the two groups of shares of FA form two separate classes of shares under Country X's corporate law.

Rulings

The share capital of FA will be considered to consist of two classes of shares. The distribution on FA shares will be considered to be in respect of two classes of shares of FA and will be deemed to be a dividend paid by FA and received by Canco pursuant to ss. 90(2) and (5) for the purposes of ss. 15(1), 90 and 113.

17 June 2014 External T.I. 2013-0506731E5 - Immigration

dividend not recognized until paid

An individual shareholder immigrates to Canada, thereby becoming a Canadian resident, and then receives $1,000 from a wholly-owned non-resident corporation ("NRCo") in satisfaction of a $1,000 dividend declared before her immigration. Scenario 2 is the same except NRCo issues a $1,000 promissory note to her in satisfaction of the dividend declared before the immigration (with the note being paid after the immigration).

In Scenario 1, the dividend received by her after immigration would be a dividend to her at common law and under s. 90(2) only at that time. Since in Scenario 2, the dividend would be considered received at the time when the shareholder was still a non-resident of Canada on the presumption (applying Banner Pharmacaps) that the note was issued and delivered to the shareholder in satisfaction of the obligation to pay the dividend, ss. 114 and s 90(1) would not apply to include such dividend in her income after immigration.

CRA would be prepared to consider the application of GAAR respecting any avoidance under Scenario 2 in the context of a ruling request.

Locations of other summaries Wordcount
Tax Topics - General Concepts - Payment & Receipt note satisfied dividend 77
Tax Topics - Income Tax Act - Section 128.1 - Subsection 128.1(1) dividend receivable acquired on immigration 137

2013 Ruling 2012-0463611R3 - Foreign Divisive Reorganization

Structure

Canco, a Canadian public company, directly owns a portion of the shares of FA1. FA1 is a controlled foreign affiliate of Canco resident in "Foreign Country" and holding X% of the shares of FA2, which also is a CFA of Canco and resident in Foreign Country. The balance of the shares of FA1 are owned by Forsub2 (resident in Foreign Country2), which is a subsidiary of Forsub (also resident in Foreign Country2) which, in turn, has X% of its voting shares owned by Canco.

Proposed transactions

In order to establish Newco as a "Finco" for the group:

1) FA2 will pay a dividend of FC$X to FA1, with FA1 lending such amount under the "FA Loans" to other foreign affiliates of Canco (with interest income thereon to be included in FA1's exempt surplus).

2) FA1 will undergo a divisive reorganization (the "Division") for the division of FA1 into two legal entities (FA1 and Newco) under which:

a) Newco will be formed as limited liability corporation under the laws of Foreign Country;

b) Under the deed of formation of Newco, the shares of FA2 (and other property) and liabilities of FA1 will be retained by FA1, while the FA Loans will be assigned by FA1; the legal paid-up capital of the FA1 shares will be reduced, and that of the Newco shares will be increased, on a proportionate basis; and

c) By operation of the corporate laws of the Foreign Country, Canco and Forsub2's approval of the Division will result in Canco and Forsub2 becoming the shareholders of Newco and FA1, respectively (and with liability limited to their respective capital contributions);.

Opinions

In addition to rulings on current law (including the reduction under s. 53(2)(b)(ii) of the ACB of the shares of FA1 held by Canco and Forsub2), the following opinions were provided:

  • the assignment of the FA Loans by FA1 will be a pro rata distribution in respect of the shares of FA1 and the amount of the FMV of the FA Loans will be deemed to be a dividend pursuant to proposed s. 90(2);
  • the Division will not result in a reduction to the ACB of the shares of FA1, held by each of Canco and Forsub2, under proposed s. 53(2)(b); and
  • the Division will not result in a shareholder benefit under proposed s. 15(1.4)(e) by virtue of the exception in that provision for dividends.

23 May 2013 IFA Round Table, Q. 2

Canco owns 100% of the shares of FA1 and FA1 owns 100% of the shares of FA2. FA3 is either formed with nominal assets by FA1 or comes into existence as part of the legal division of FA2 into two legal entities pursuant to the corporate laws of the foreign country where FA2 and FA3 are resident. As a result of the reorganization, FA2 transfers some of its assets for no consideration to FA3 and FA3 issues shares to the shareholders of FA2 pro rata based on the number of shares they hold in FA2. As FA1 is FA2's sole shareholder, FA1 becomes the sole shareholder of FA3. The legal paid up capital of the shares of FA2 is reduced by the book value of the transferred assets, and the legal paid up capital of the shares of FA3 is equal to such book value.

CRA agreed that there is a pro rata distribution for purposes of draft s. 90(2) in this situation so that the exception under s. 15(1)(b) for dividends would apply. CRA further indicated that it would come to the same conclusion if a Canadian corporation were the holding company rather than a non-resident company (FA1).

Articles

Melanie Huynh, Paul Barnicke, "German Organschafts", Canadian Tax Highlights, Vol. 24, No. 6, June 2016, p. 5

Unclear whether CRA view on application of s. 90(2) to Organschaft profit transfers applies where s. 90(2) applies retroactively (p. 6)

Referring to a base case, the CRA said at [2016 IFA Roundtable, Q. 6] that if a subsidiary has only one issued class of shares and is wholly owned by a parent, the CRA would treat a profit transfer payment after August 19, 2011 as a dividend from the subsidiary to the parent (subsection 90(2)); a payment to the subsidiary would be treated as a capital contribution from the parent under paragraph 53(l)(c). It is not clear whether this new view applies to a taxpayer that elected to have regulation 5901(2)(b) – and thus subsection 90(2) – apply retroactively for a distribution after December 20, 2002.

New view does not engage s. 95(2)(a)(ii)(B) but may engage s. 95(2)(a)(ii)(D) (p. 6)

[T]axpayers should review their German structures and, if necessary, consider either reorganizing any non-base-case structures or seeking a ruling. For structures that are funded with a loan from a financing FA to the German parent, the financing FA's interest income, under the CRA's new position, is now subject to the recharacterization requirements in clause 95(2)(a)(ii)(D) instead of those in clause 95(2)(a)(ii)(B). Clause D requires that the German subsidiary's shares be excluded property; thus, the subsidiary's excluded property status must be regularly reviewed and monitored.

Michael Gemmiti, "FA Dividends Must be Pro Rata", Vol. 3, No. 3, August 2013, p. 7

The new pro rata rule can present problems. For example, a US LLC (which qualifies as an FA of a taxpayer) may have only one class of units but maintain a separate "capital account" for unitholders. Distributions from the US LLC to its unitholders may be made in relation to that particular unitholder's capital account and not in relation to its units. Accordingly, distributions to unitholders on the units in this manner cannot be made on a pro rata basis, will not be considered to be dividends for Canadian tax purposes, and will not receive the section 113 deduction.

Patrick W. Marley, Kim Brown, "Foreign Mergers and 'Demergers' Under Recent Canadian Proposals", Tax Management International Journal, 10 February 2012, Vol 41, No. 2, p. 86

A demerger, which under the foreign corporate law, might be viewed as one stream splitting into two, might not qualify under draft s. 90(2) as a pro rata distribution on a class of shares of the foreign affiliate, with the result that s. 15(1) could apply.

Geoffrey S. Turner, "Upending the Surplus Ordering Rules: Implications of the New Regulation 5901(2)(b) Election", CCH Tax Topics, No. 2079, p. 1, 12 January 2012

Elaine Buzzell, "Distributions of Share Premium by Foreign Affiliates", Corporate Finance, Vol. XVII, No. 2, 2011, p. 1962

Includes discussion of the treatment under the previous version of s. 90 of payments out of a share premium account as a dividend or shareholder benefit.

Subsection 90(3) - Qualifying return of capital

Commentary

S. 90(3) override of s. 90(2)

S. 90(2) deems most distributions to a taxpayer by a foreign affiliate (made pro rata to its shareholding), other than on a liquidation of the foreign affiliate or a redemption of its shares, to be dividends. However, s. 90(3) deems such a distribution to instead be a qualifying return of capital (QROC) if a valid election is so made and it is "a reduction of the paid-up capital of the affiliate" in respect of which the distribution was made.

A QROC election may be beneficial to a taxpayer, such as a trust, which is not able to access the corporate deductions under s. 113 for dividends paid out of surplus (including pre-acquisition surplus).

Approach to determining foreign PUC

Given that the foreign corporate law often will differ from Canadian concepts, how is it determined whether a distribution received by a taxpayer represents a reduction of the paid-up capital of the payer foreign affiliate in respect of the taxpayer's shares of the foreign affiliate?

In determining the status of a foreign entity for Canadian tax purposes, CRA (consistently with Memec) examines the characteristics of the foreign business association under foreign commercial law and governing commercial documents, and then compares these characteristics with those of recognized categories of business associations under Canadian commercial law in order to classify the foreign business association under one of those categories. (See, for example, 2014-0523041C6.) Similarly, in determining the character of a distribution from a foreign corporation to a shareholder for Canadian tax purposes, CRA first determines the characteristics of the distribution under foreign corporate law (not tax law), and then compare these characteristics with those of recognized categories of distributions under Canadian common law and corporate law in order to classify the distribution under one of those categories. However, it has stated that "as a practical matter…[w]here the distribution is a dividend or a return of legal capital under the foreign corporate law, that characterization will generally not be challenged by the CRA." See 2011-0427001C6 (below). This two-step approach suggests an examination of the concept of paid-up capital under Canadian corporate law.

Corporate stated capital

In fact, modern business corporations statutes in Canada do not use the phrase "paid-up capital," and instead refer to the concept of stated capital. In the context of domestic transactions, it is well accepted (for reasons discussed below) that a corporation's paid-up capital for tax purposes is based on its stated capital for corporate purposes.

Under present Canadian corporate law, the concept of stated capital is used to track a corporation's share capital for purposes of solvency tests that are used to protect creditors of the corporation from potential prejudice by transactions between the corporation and its shareholders (and, in some cases, to protect the interests of shareholders holding other classes of shares as well). The concept of stated capital was thus described in Proposals for New Alberta Business Corporations Act (Edmonton: Institute of Law Research and Reform, 1980) Vol. 1, at pp. 76-77:

The [CBCA] introduced to Canada the term 'stated capital'. The essence of the provisions with regard to stated capital is that there must be a stated capital account for each class and series of shares … and that the appropriate stated capital account must include the full amount of any consideration which the corporation receives for any shares it issues … .

The ability of the corporation to pay dividends is tied to its stated capital accounts: … The corporation must not declare or pay a dividend if the realizable value of [the] corporation's assets would thereby be less than the aggregate of its liabilities and stated capital of all classes. The retention of the amount of the consideration received from the sale of shares is, on the face of it, an additional protection for creditors. The value of that protection however is limited by the fact that the corporation is not obliged to obtain any substantial amount of capital from the sale of its shares, and by the fact that the CBCA allows the corporation to reduce the stated capital account. …

The principal provision[s] in the CBCA for reduction of stated capital … carry out the CBCA policy of leaving a corporation's affairs in its own hands; the requirement of confirmation by the court … has no counterpart in the CBCA. On the other hand, the CBCA does establish liquidity and solvency tests which must be satisfied, and it allows creditors to apply for orders compelling shareholders to make restitution.

Other transactions involving a return of capital to shareholders, such as the redemption or purchase by a corporation of its own shares, similarly require that solvency tests be passed, which take into account the relevant stated capital accounts of the corporation.

Pre-CBCA PUC concept

The Act utilized the concept of paid-up capital well before the statutory concept of stated capital was first introduced by the CBCA in 1975 and then adopted in other modern Canadian business corporation statutes, including the OBCA in 1982. S. 81(8) of the pre-1972 Act provided for the deemed payment of a dividend "where a corporation has at any time increased its paid-up capital otherwise than by [specified transactions]". The term paid-up capital was customarily used in corporate law to refer to the amounts that shareholders had paid in respect of the shares issued to them, at least since the time (approximately 150 years ago) of the first statutes permitting the general incorporation of business corporations with shareholder limited liability.

The significance of paid-up capital in Canadian corporate law, prior to the modern era, derives from a theory developed by the courts, by inference from the corporate statutes, that the capital of a corporation, in the sense of the amounts contributed by shareholders in exchange for their shares, represented a fund that, in order to protect creditors of the corporation, could only be returned to shareholders, directly or indirectly, under tight constraints. In effect, the courts decided that the intent of the statutes was that the quid pro quo for shareholder limited liability was that shareholders must pay the entire amounts which they had agreed to contribute to the corporation in exchange for their shares and must leave those amounts in the corporation. Although shares could be issued partly-paid, which is not possible under present-day Canadian business corporation statutes (that is, upon the allotment of shares the subscriber paid only a portion of the share's par value, the nominal capital ascribed to the share), the shareholder remained fully liable to the corporation, or its liquidator, for any amount remaining unpaid on the share, until the share had been fully "paid up". The role of paid-up capital in this legal theory, and the way in which the courts elaborated rules for the maintenance of capital by inference from the corporate statutes, is shown clearly in the following passage from one of the most influential English judicial decisions in this area, which decided that a corporation could not repurchase its own shares, Trevor v. Whitworth (1887), 12 App. Cas. 409 (H.L.) at pp. 423-24:

In the case of a company limited by shares, the Act of 1862 requires that the amount of its capital, and the shares into which it is divided, shall be set forth in the memorandum of association; and sect. 12, which prescribes the extent to which the conditions contained in the memorandum may be modified, empowers the company to increase but not to diminish its capital. That limitation has been so far relaxed by the Act of 1867 as to permit a company to reduce its capital, with the sanction of the Court, after due notice to creditors, upon such terms as the Court may think fit to impose. The Act of 1877, upon the preamble that doubts had been entertained whether the power of reduction given by the preceding Act extended to paid-up capital, enacts (sect. 3) that the word 'capital,' as used in that Act, shall include paid-up capital. That declaration clearly expresses the will of the legislature that neither the paid-up nor the nominal capital of the company shall be reduced otherwise than in the manner permitted by the statutes.

One of the main objects contemplated by the legislature, in restricting the power of limited companies to reduce the amount of their capital as set forth in the memorandum, is to protect the interests of the outside public who may become their creditors. In my opinion the effect of these statutory restrictions is to prohibit every transaction between a company and a shareholder, by means of which the money already paid to the company in respect of his shares is returned to him, unless the Court has sanctioned the transaction. Paid-up capital may be diminished or lost in the course of the company's trading; that is a result which no legislation can prevent; but persons who deal with, and give credit to a limited company, naturally rely upon the fact that the company is trading with a certain amount of capital already paid, as well as upon the responsibility of its members for the capital remaining at call; and they are entitled to assume that no part of the capital which has been paid into the coffers of the company has been subsequently paid out, except in the legitimate course of its business.

The manner in which the courts elaborated rules by inference from the corporate statutes, to ensure that paid-up capital was maintained by a corporation, and the consistent application of these rules in Canada as well as England, is summarized as follows in F.W. Wegenast, The Law of Canadian Companies (Toronto: Burroughs, 1931) at p. 144:

"It seems clear also that a transaction may be ultra vires because of an implied, instead of an express, prohibition in the statute. The outstanding instance is the rule against a company's trafficking in its own stock. There is no express provision, either in England or in Canada, forbidding the issue of shares at a discount. The rule against such transactions rests on an inference arising out of the provisions of the statute. In Ooregum Gold Mining Co. of India v. Roper [[1892] A.C. 125 at p. 133] Lord Halsbury said: 'The Act of 1862 makes one of the conditions of the limitation of liability that the memorandum of association shall contain the amount of capital with which the company proposes to be registered, divided into shares of a certain fixed amount. It seems to me that the system thus created by which the shareholder's liability is to be limited by the amount unpaid upon his shares, renders it impossible for the company to depart from that requirement, and by any expedient to arrange with their shareholders that they shall not be liable for the amount unpaid on the shares.' In other words, because the statute requires applicants for incorporation to state the amount of capital and the number of shares into which it is to be divided, it is implied that except as expressly authorized by statute, the company is not competent to tamper with the amount of that capital. On the same reasoning it has been held that a company is not competent to purchase its own stock, or to supply money or security for the purchase of it, or to accept a surrender of any of it, or to 'cancel' it. Under the Canadian Companies Act the implied prohibition against trafficking in shares rests on statutory provisions in different terms, but is fully established."

The concepts of corporate capital applied in Trevor v. Whitworth continued to be applied in Canadian corporate law until the present generation of Canadian business corporation statutes, such as the OBCA. For example, the Canada Corporations Act, which was the Canadian federal statute of general application providing for the incorporation of business corporations until its replacement in 1975 by the CBCA, contained provisions permitting a reduction of capital, subject to certain constraints, that were recognizably based upon the same theory as that set out in Trevor v. Whitworth:

52(1) Subject to confirmation by supplementary letters patent, a company may by by-law reduce its capital in any way, and in particular without prejudice to the generality of the foregoing power, may

(a) extinguish or reduce the liability on any of its shares in respect of capital not paid-up;

(b) either with or without extinguishing or reducing liability on any of its shares, cancel any paid-up capital which is lost or unrepresented by available assets; and

(c) either with or without extinguishing or reducing liability on any of its shares and either with or without reducing the number of such shares pay off any paid-up capital that is in excess of the wants of the company. …

53(1) Where the proposed reduction of capital involves either diminution of liability in respect of unpaid capital or the payment to any shareholder of any paid-up capital, and in any other case if the Minister so directs, every creditor of the company who at the date of the petition for supplementary letters patent is entitled to any debt or claim that, if that date were the commencement of the winding-up of the company, would be admissible in proof against the company, is entitled to object to the reduction. …

As can be seen from the above discussion, under Canadian corporate law prior to the OBCA and CBCA, detailed rules were developed by the courts, and later often reflected in whole or in part in corporate statutes, to ensure the preservation of the corporation's paid-up capital for the protection of its creditors. Although these rules lacked the precision of the present-day statutory rules relating to stated capital, their purpose was essentially the same. These rules, both statutory and drawn by inference from corporate statutes, were replaced by the present-day stated capital rules under the OBCA and the CBCA, and therefore no longer form part of Canadian corporate law.

Is a distribution of PUC?

Once it is determined that shares of a foreign affiliate have paid-up capital, the determination as to whether a distribution received by the taxpayer on its shares of the foreign affiliate is a mechanical one, based on whether the procedure in the foreign jurisdiction for distributing capital has been followed. As stated in First Nationwide:

The jurisprudence is well-established. Payments made by a company in respect of shares are either income payments, or, if the company is not in liquidation, by way of an authorised reduction of capital. The courts have recognised no more than that dichotomy. The distinction has depended upon the mechanics of distribution. If the payments are made by deploying the mechanisms appropriate for reduction of capital, then they are payments of capital. Such mechanisms can be readily identified as designed to protect the capital of a company. If the payments are not made by such mechanisms but are made by way of dividend, they are income payments.

PUC of C-Corps

S. 154 of the Delaware General Corporate Law does not distinguish between earned surplus (i.e., retained earnings) and capital surplus (similar to the Canadian concept of contributed surplus) and instead simply provides that "the excess, if any, at any given time, of the net assets of the corporation over the amount so determined to be capital shall be surplus." The stated capital of shares without par value (subject to subsequent adjustment) is the amount of the consideration for the issuance of the shares determined by the board to be their capital. S. 170 of the DGCL provides for the payment of dividends out of surplus. There is no provision for the making of distributions of shares' stated capital. Given this labeling, the position of CRA (e.g., in 9415515) is that where an amount is transferred from capital to surplus and then distributed, it will be treated as a dividend rather than a distribution of capital, as that is the character of the distribution under the Delaware corporate law.

Somewhat similar issues may arise under other U.S. corporate statutes. For example, s. 510(b) of the New York Business Corporation Law provides that dividends and "other distributions" may be paid out of surplus (which is effectively defined as the excess of net assets over stated capital). Although this contemplates that a distribution can be paid otherwise than as a dividend, it also contemplates that the distribution is paid out of surplus rather than stated capital – and the type of surplus (capital or earned) is not specified.

In Ohio, s. 1701.33 of the Ohio Revised Code provides that the directors may declare dividends or other "distributions" on outstanding shares, and specifies that "when any portion of a dividend or distribution is paid out of capital surplus, the corporation, at the time of paying the dividend or distribution, shall notify the shareholders receiving the dividend or distribution as to the kind of surplus out of which the dividend or distribution is paid." Accordingly, it appears to be possible to specify that a shareholder is receiving a non-dividend distribution out of capital surplus. However, given that the U.S. concept of capital surplus appears to be similar to the Canadian concept of contributed surplus (which in Canada cannot be directly distributed as a stated capital distribution), it is not clear that such a distribution would qualify as a distribution of paid-up capital under ITA s. 90(3).

PUC of LLCs

The statutory provisions governing Delaware limited liability companies (and most or all other LLCs) are intended to accord a broad flexibility in the establishing of the governing of their affairs, and do not have provisions specifying how their paid-up capital is determined. Thus the determination of the paid-up capital attributable to the membership interests (which are deemed under draft s. 93.3 to be shares) is effectively delegated by statute to those drafting the relevant LLC Agreement or Articles. Provided that such drafting employs similar concepts to Canadian corporate law so that, for example, capital can be returned by redemption or purchase by the LLC of its own shares provided that solvency tests are passed, it would be appropriate for paid-up capital determined in accordance with such internal documents to be respected as paid-up capital for purposes of s. 90(3).

In a number of rulings given respecting the conversion of regular Delaware or California corporations to LLCs (for example 2004-0065921R3 respecting the conversion of "USco 2" to "LLC2"), the description of the "shares" of the new LLC included a description of its capital:

"Capital" of Shares is the aggregate of all amounts paid to LLC 2 and the monetary value at the time of contribution of property contributed to LLC 2 (in each case including amounts paid or contributed prior to USco 2's conversion to LLC 2) in consideration for the issuance of Shares together with any amounts added thereto by the Board of Managers or the Stockholders in accordance with the provisions of the LLC 2 Agreement, less the aggregate of all amounts by which such capital has been reduced by the Stockholders or the Board of Managers in accordance with the LLC 2 Agreement.

However, no rulings were given in respect of any future distributions of such capital.

Germany

Under the capital maintenance rule in section 30 of the Limited Liability Companies Act, a limited liability company (GmbH) is prohibited from distributing an asset to its shareholders to the extent that this would result in net assets not being equal to the stated capital of the GmbH. Conversely, equity in excess of the stated capital (typically retained earnings plus surplus capital) can be distributed to the shareholders. Accordingly, similar considerations as for U.S. C-Corps in stated capital states may apply.

Mexico

Mexican corporate law has concepts of fixed capital shares and variable capital shares. Typically, most of the capital of a Mexican subsidiary will be the variable portion. Although the fixed capital rules are more complicated, those for variable capital are generally similar to the Canadian corporate law. The variable capital of shares which are no-par-value shares will initially be the amount subscribed therefor. By an extraordinary resolution of the shareholders, the Mexican corporation can resolve to distribute a portion of the variable capital to the variable shareholders. A balance sheet is required to be filed with the public Registry of Commerce evidencing the capital account. However, if all the capital of variable capital shares is distributed, the shares are required to be cancelled.

Administrative Policy

20 March 2015 External T.I. 2014-0535971E5 - Meaning of "paid-up capital" in subsection 90(3)

LLC with partner capital-account style LLC Agreement does not have PUC

How is the paid-up capital of a US LLC computed for purposes of s. 90(3)? Would the paid-up capital be computed differently if the US LLC were previously not a foreign affiliate?

After stating that the paid-up capital of the US LLC in respect of its shares (as determined under s. 93.2(2)) is to be computed pursuant to the definition of "paid-up capital" in subsection 89(1), and noting that IT-463R2, para. 2 states "that paid-up capital is ‘based on the relevant corporate law rather than tax law. The amount calculated under corporate law is usually referred to as the ‘stated capital'...," CRA stated:

[T]he relevant jurisdiction's laws under which the US LLC was created and the US LLC's constating documents would be the starting point for determining the paid-up capital of the US LLC… .

To the extent [such] laws and constating documents do not provide for stated capital akin to that which is provided for under Canadian domestic corporate law but, rather, provide for an attribute that is akin to a partner's capital account, the US LLC would not…have stated capital for the purposes of subsection 89(1). As such, it would not have paid-up capital for the purposes of subsection 90(3) or paragraph 53(2)(b).

As the paid-up capital of the US LLC is computed pursuant to s. 89(1), regardless of whether it is a foreign affiliate of the unit holder, it does not matter for PUC purposes when it became a foreign affiliate.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 89 - Subsection 89(1) - Paid-Up Capital LLC with partner capital-account style LLC Agreement does not have PUC 68

6 December 2011 TEI Roundtable Q. 5, 2011-0427001C6 - 2011 TEI Q#5 - Distributions from Foreign Corp.

2-step approach

Under what circumstances will CRA apply subsection 15(1) to distributions of share premium? CRA stated:

[T]he proper approach for determining the character of a distribution from a foreign corporation to a shareholder for Canadian tax purposes is the same two-step approach that is used for the classification of foreign entities for Canadian tax purposes as set out in ITTN #38. That is, the first step is to determine the characteristics of the distribution under foreign corporate law (not tax law), and then compare these characteristics with those of recognized categories of distributions under Canadian common law and corporate law in order to classify the distribution under one of those categories. … [A]s a practical matter…[w]here the distribution is a dividend or a return of legal capital under the foreign corporate law, that characterization will generally not be challenged by the CRA.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 15 - Subsection 15(1) share premium 26

2004 Miscellaneous 2004-0065921R3 - Conversion of corporations into LLCs

2008-0272141R3 is similar

Conversions of corporations incorporated under the laws of Delaware and California into limited liability corporations would not result in dispositions at the shareholder or the entity level, given that the conversions would be similar to corporate continuances in Canada. Although no rulings were given on the paid-up capital of the LLCs, the description of the "Shares" of the Delaware LLC ("LLC2") to be contained in the LLC Agreement - and similarly for California - stated:

"Capital" of Shares is the aggregate of all amounts paid to LLC 2 and the monetary value at the time of contribution of property contributed to LLC 2 (in each case including amounts paid or contributed prior to USco 2's conversion to LLC 2) in consideration for the issuance of Shares together with any amounts added thereto by the Board of Managers or the Stockholders in accordance with the provisions of the LLC 2 Agreement, less the aggregate of all amounts by which such capital has been reduced by the Stockholders or the Board of Managers in accordance with the LLC 2 Agreement.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Disposition conversion into California or Delaware LLC 102

9 May 2002 Internal T.I. 2002-0135307 F - Application du paragraphe 39(2)

paid-in capital returned as dividend out of Delaware surplus

USco1, a subsidiary of Canco (held directly and through a Canadian subsidiary), will declare and make a distribution which will qualify as a dividend under the local (likely Delaware - see 2002-0135307 F) corporate law. The dividend will be paid out of USco1's "surplus" account as defined under such corporate law. Ruling that the distribution is a dividend and s. 15(1) will not apply.

Summary states that the corporate law "provides for the issuance of par value shares. It is our understanding that paid-in capital can only be returned as a dividend payment from the corporate surplus account."

8 January 1996 T.I. 942802 [all distributions from Delaware corps are dividends]

all distributions from Delaware corps are dividends

It is the Department's view that a dividend can include any distribution of property by a corporation to its shareholders that is not a return of the paid-up capital of a corporation." Because under the Delaware corporate law, "it is not possible for a corporation to make any asset distribution by reducing its capital" and "cash distributions must be made from the surplus account and constitute dividends" under such law, such a distribution from a Delaware corporation's surplus account will be a dividend for purposes of s. 90(1) of the Act.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(1) all distributions from Delaware corps are dividends 90

7 June 1994 T.I. 9415515 [capital distribution by Delaware corp]

capital distribution by Delaware corp

FA1, a Delaware corporation, wishes to make a cash distribution to Canco by reducing its capital. However, as under Delaware corporate law a cash distribution can only be made from a "surplus" account, FA1 must first transfer the amount from its capital account to its surplus account. CRA stated:

[T]hese payments are not distributions of corporate profits. This does not appear to have any bearing on the matter as such distributions are still regarded as dividends in Delaware. … [A] distribution as described above would be regarded as a dividend and not as a return of capital, regardless of whether the initial contribution was made to capital or to surplus, and… this tax result is attributable to the fact that Delaware corporate law does not permit any return of capital except from a surplus account.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(1) capital distribution by Delaware corp 135

Subsection 90(4) - Connected person or partnership

Articles

David Bunn, Sandra Slaats, "A Critique of Proposed Subsections 90(4) to (10)", International Tax Planning, Vol XVII, no. 1, 2011

Technical deficiencies discussed include that there is a double income inclusion where a a foreign subsidiary of a partnership makes a loan the the Canco limited partner of the partnership; multiple income inclusions can arise where a loan from a foreign affiliate to a specified debtor is assigned to another specified debtor or transferred to another foreign affiliate (because the indebtedness has not been repaid) - or if the loan is assigned to a Canadian corporation there can be a double inclusion under ss. 90(4) and 15(2); the rule continues to apply even if the creditor cease to be a foreign affiliate of the taxpayer; and the money-lending business exception in s. 90(5) does not apply where the foreign affiliate acquires existing receivables, e.g., in a factoring operation.

Drew Morier, "Canadian Proposals Mark a Decade of Changes to the Foreign Affiliate Rules", Journal of International Taxation, January 2012, p.26

Discusses application of rule where cash is not redeployed within a Canadian controlled group.

Jason D. Durkin, "Upstream Loan Rules - Why Now?", CCH Tax Topics, No. 2073, 1 December 2011, p. 1

Includes references to technical deficiencies.

Sandra Slats, David Burns, "Canada Considers New Rules on Repatriation", Tax Notes International, Vol 63, No. 9, 29 August 2011, p. 641

General discussion.

Subsection 90(6) - Loan from foreign affiliate

Administrative Policy

4 August 2016 Internal T.I. 2016-0645521I7 - 90(6) & sale of creditor affiliate

inclusion not dependent of maintenance of creditor affiliate status

Where a non-resident subsidiary (FA) of Canco has made a loan to a non-resident subsidiary (SisterCo) of Canco’s non-resident parent (Foreign Parent), CRA considers that it is irrelevant that FA has ceased to be a creditor affiliate of SisterCo two years later, as a result of the sale by Canco of FA to Foreign Parent, so that s. 90(6) could still apply to include the loan’s amount in Canco’ income.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(14) deduction not dependent on FA being creditor affiliate at repayment time 209

30 October 2014 External T.I. 2013-0488881E5 - Upstream Loan

no double inclusion following FA creditor wind-up or for 2nd loan in series

As a result of a wind-up of a 2nd tier FA following a s. 90(6) loan to Canco, there technically would be a double income inclusion to Canco under ss. 90(6) and (12). By virtue of s. 248(28)(a), only one of the two amounts would be included in Canco's income.

Where FA lent to Canco, the loan was repaid (with no s. 90(14) deduction available because this occurred as part of a series) and the money was readvanced to Canco (technically giving rise to a 2nd s. 90(6) inclusion), CRA's policy is that s. 90(6) will not be applied to the 2nd loan. See detailed summaries of Scenarios 6 and 7 under s. 90(9).

14 November 2013 External T.I. 2013-0499121E5 - upstream loan

application of s. 248(24) where otherwise double inclusion from wind-up/repayment of loan by Amalco also is repayment received by predecessor

Canco wholly owns FA 1 which wholly-owns FA 2. Each has a calendar taxation year. On December 31, 2012, FA 2 has US$1,000 of exempt and net surplus, and FA 1 has nil net surplus. After lending the "FA2 Loan" (of US$1,000) to Canco on June 15, 2013, FA 2 liquidates into FA 1 in February 2014, so that the FA 1 now holds the FA2 Loan (renamed the "FA1 Loan") and its exempt surplus increases to US$1,000.

For its 2013 year, the Loan amount of US$1,000 is included in Canco's income under s. 90(6) and it deducts US$1,000 under s. 90(9) respecting FA 1's exempt surplus.

CRA stated:

[A]s a result of the liquidation of FA2 into FA1, Canco "becomes indebted to" FA1… . Therefore, subsection 90(6) will apply to include a "specified amount" in Canco's income in its taxation year ending on December 31, 2014 in respect of the FA1 Loan… .

…[B]y virtue of the restrictions in paragraph 90(9)(b)…[the] US$1000 exempt surplus balance can be used by Canco to claim a deduction under subsection 90(9) only in respect of either the FA1 Loan or the FA2 Loan.

...[S]ubsection 90(6) provides for duplicate inclusions in Canco's income in respect of what is essentially the same loan. … Therefore…paragraph 248(28)(a)… applies to remedy the situation and avoid double taxation of the same amount. The amount to be included in Canco's income in its taxation year ending on December 31, 2014, would be either the amount under subsection 90(6) in respect of the FA1 Loan or the amount under 90(12) of the Act in respect of the FA2 Loan, but by virtue of paragraph 248(28)(a) of the Act not both. In either case, a full deduction would be available under subsection 90(9)… .

Under a second scenario in the same Canco/FA 1/FA 2 structure described above, FA 1 lent the FA1 Loan to Canco before August 19, 2011 and then merged with FA 2 on September 1, 2013 to form Amalco, which was not a continuation of either FA 1 or FA 2. On October 3, 2013, Amalco incurred a US$1,000 payable owing to Canco (the "Canco Payable"), and this was set-off against what now was labelled as the "Amalco Loan" on December 31, 2013.

CRA stated:

[A]ll pre-August 19, 2011 loans and indebtedness are entitled to a five year repayment window, such that they are not subject to the provisions of subsection 90(6), if they are repaid before August 20, 2016. However, all post August 19, 2011 loans and indebtedness must be repaid within two years of the day the loan was made or the indebtedness incurred… .

[T]he legal set-off will constitute repayment of the Amalco Loan for purposes of paragraph 90(8)(a) of the Act.

There is no provision in the Act that provides…the FA1 Loan was repaid or settled. …[However], it is reasonable to consider that…both the FA1 Loan and the Amalco Loan are repaid on December 31, 2013. Since the FA1 Loan is repaid before the August 19, 2014 deadline set out in the coming into force provisions of the Explanatory Notes, it is not deemed to be a separate loan received by Canco on August 20, 2014. Accordingly, subsection 90(6) of the Act does not apply to require Canco to include an amount in respect of the FA1 Loan in its income… . in any taxation year. Similarly… the Amalco Loan is fully repaid within two years… .

22 May 2014 May IFA Roundtable, 2014-0526731C6 - IFA 2014 Q. 3bb - Upstream Loan

application to accruing interest

When is the interest on a loan made by a creditor affiliate to a specified debtor treated as indebtedness for purposes of s. 90(6), for example, a loan where the interest is payable together with principal on maturity of the loan after three years? CRA stated:

[W]e would consider subsection 90(6) to apply to the full amount of the principal portion of the loan, as well as to any interest that accrued in year one. Provided the loan and accrued interest are paid in full immediately upon the maturity of the loan, the interest that accrues in years two and three would be excepted from subsection 90(6) by paragraph 90(8)(a). In any event, a deduction under subsection 90(14) would be available when the loan, including accrued interest, is finally repaid.

22 May 2014 IFA Roundtable, 2014-0526751C6 - Adjusted cost base of foreign affiliate shares

s. 90(6) relationship tested at time of loan
  • On September 1, 2011 a foreign affiliate (FA) of a corporation resident in Canada (Canco) made a loan to a "specified debtor" in respect of Canco. If Canco sells the shares of the FA such that FA ceases to be a foreign affiliate of Canco, before September 1, 2013, and the loan is outstanding on September 1, 2013, will Canco be deemed to have an income inclusion pursuant to proposed s. 90(6) on September 1, 2011?
  • Alternatively, if prior to August 19, 2011 FA) made a loan to a "specified debtor" in respect of Canco, and Canco sells the shares of the FA before August 19, 2014, will Canco have an income inclusion per s. 90(6) on August 20, 2014, if the loan remains outstanding on August 20, 2016?
  • Alternatively, if Canco sells the shares of FA after August 20, 2014 but the loan remains outstanding on August 20, 2016, will s. 90(6) apply?
Response

: Respecting the first case, proposed s. 90(6) provides that the relationships between Canco, FA and the debtor are to be tested at the time the loan is received or the debt incurred (in this case, September 1, 2011) - so that, if the loan is not repaid by September 1, 2013 (even if FA is then no longer a FA of Canco), the exception in proposed s. 90(8)(a) will not be available so that Canco will have an income inclusion on September 1, 2011. In the other case, proposed ss. 90(6) to (15) are to be applied as if the loan was received or indebtedness was incurred on August 20, 2014. If FA is not a FA of Canco at that time (e.g., the FA shares were sold before then), proposed s. 90(6) will not apply to Canco. However, if the sale of the shares of FA takes place on or after August 20, 2014 and the loan remains outstanding on August 20, 2016, since proposed s. 90(6) provides that the relationships between Canco, FA and the debtor are to be tested at the time the loan is received or the debt incurred (in this case, August 20, 2014), it will apply, so that Canco will have an income inclusion on August 20, 2014, notwithstanding that those relationships are no longer in place on August 20, 2016. Note that Canco will get a deduction pursuant to proposed s. 90(14) when the indebtedness is repaid.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(6) no relief from interest and penalties 109
Tax Topics - Income Tax Act - Section 92 - Subsection 92(5) no administrative relief even where rollover at partnership level 172

22 May 2014 IFA Roundtable, 2014-0526751C6 - Adjusted cost base of foreign affiliate shares

no relief from interest and penalties

Will CRA apply IT-119R4 to give administrative relief from interest and penalties relating to the requirement to withhold tax on deemed dividends to non-residents arising from s. 90(6)?

Response

: CRA generally looks to its practices on s. 15(2) to deal with practical issues involving the application of proposed ss. 90(6) to 90(15). However, as proposed s. 90(6) only applies to include a "specified amount" in the income of a taxpayer resident in Canada, consistently with its practice respecting the application of subsection 15(2) to Canadian resident debtors, CRA will not provide administrative relief from interest and penalties in the context of the application of proposed s. 90(6). Instead, it will exercise its right of enforcement.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(6) s. 90(6) relationship tested at time of loan 353
Tax Topics - Income Tax Act - Section 92 - Subsection 92(5) no administrative relief even where rollover at partnership level 172

Articles

Clara Pham, "An Unpaid Amount Could Be an Upstream Loan", Canadian Tax Focus, Vol. 5, No. 3, August 2015, p.5.

Potential double inclusion for unpaid fee owing by Canco to FA (p.5)

Assume that Canco owns a foreign affiliate (FA). Both Canco and FA have calendar taxation years. On January 1, 2015, FA provides services to Canco in consideration for a fee. Canco accrues an expense in respect of the fee and deducts the amount from its taxable income in 2015. If the expense remains unpaid for years, both subsection 78(1) and subsection 90(6} could potentially apply, subjecting the fee to Canadian tax twice.

Inclusion under s. 90(6) and s. 78(1) (p. 6)

On January 2, 2017, if Canco has not settled its account payable, the upstream loan rules could apply to include the amount of the accrued fee in Canco's 2015 income (unless the indebtedness is considered to have arisen in the ordinary course of the lender's business). In 2018, if no paragraph 78(1)(b) agreement is filed and the payable is still outstanding, Canco may also be required to ad t se back into income under subsection 78(1)….The fee could then be subject to tax under both subsections 90(6) and 78(1), albeit at different times.

Applying presumption against double taxation (p. 6)

It may be possible to prevent such a double inclusion of the fee - for example, pursuant to subsection 248(28). Relief under that provision is permitted "unless a contrary intention is evident." The fact that subsections 78(1) and 90(6) have different objectives (namely, preventing the deductibility of accrued expenses that are not paid within a reasonable time, and preventing tax-free distributions in excess of tax attributes) might be evidence of such a contrary intention… . However… Holder … (2004 FCA 188) seems to stand for the opposite conclusion: the starting point, prima facie, is no double taxation… .

Effect on s. 90(6) of s. 78(1)(b) agreement (p.6)

Another way to avoid the double inclusion is to file a paragraph 78(1)(b) agreement. However, it is not clear whether and how subsection 90(6) will apply to the loan that is then deemed to be made to the taxpayer (Canco) by the creditor (FA) on the first day of the taxpayer's third taxation year.

Paul Barnicke, Melanie Huynh, "Upstream Loans: CRA Update", Canadian Tax Highlights, Vol. 21, No. 12, December 2013, p. 3

Their discussion includes a summary of an as-yet unpublished CRA technical interpretation [2013-0499121E5, now summarized above], which dealt with two scenarios:

FA-to-FA liquidation (p. 3)

Canco wholly owns FA 1 which wholly-owns FA 2. Each has a calendar taxation year. On December 31, 2012, FA 2 has US$1,000 of exempt and net surplus, and FA 1 has nil net surplus. After lending the Loan (of US$1,000) to Canco on June 15, 2013, FA 2 liquidates into FA 1 in February 2014, so that the FA 1 now holds the Loan and its exempt surplus increases to US$1,000.

For its 2013 year, the Loan amount of US$1,000 is included in Canco's income under s. 90(6) and it deducts US$1,000 under s. 90(9) respecting FA 1's exempt surplus. For its 2014 year, the 2013 deduction under s. 90(9) is included in its income under s. 90(12) and it has a further inclusion of US$1,000 respecting the Loan now owing by it to FA 1.

CRA indicated that Canco cannot claim a deduction under s. 90(14) on the liquidation of FA 2 as such liquidation did not result in a repayment of the Loan. Furthermore the US$1,000 of exempt surplus can only be used by Canco once in 2014 to claim a deduction under s. 90(9) notwithstanding that there was a double-inclusion in respect of the of the Loan. However, CRA will apply s. 248(28)(a) to avoid such double inclusion.

Merger following grandfathered loan (pp. 3-4)

Under the same Canco/FA 1/FA 2 structure described above, FA 1 lent US$1,000 to Canco before August 19, 2011 (the Loan) and then merged with FA 2 on September 1, 2013 to form Aamalco, which was not a continuation of either FA 1 or FA 2. On October 3, 2013, Amalco incurred a US$1,000 payable owing to Canco (the Canco payable), and this was set-off against the Loan on December 31, 2013.

CRA indicated that the Loan was not repaid or settled as a result of the merger. As the Loan was repaid on December 31, 2013 by set-off against the Canco payable (so that it was not outstanding on August 19, 2014), s. 90(6) did not apply.

Variations on scenarios (p. 4)

Barnicke and Huynh state:

If the first situation described above does not involve a liquidation, but instead FA 1 and FA 2 merge, and if in the second situation the FA 1 loan is made after August 18, 2011, we expect the CRA to take positions that preclude multiple income inclusions. One hopes that the CRA will broaden its policy to cover a variety of other situations in which an upstream loan or debt either is assigned between creditor FAs or is assumed between Canco debtors when the original Canco debtor is amalgamated or liquidated.

Ken J. Buttenham, "Are you Ready for the Upstream Loan Rules?", Canadian Tax Journal, (2013) 61:3, 747-68

Relationships tested when upstream loan arose (pp. 761-2)

The application of subsection 90(6) and other upstream loan rules is based on the relationships and tax attributes that exist at the time an upstream loan arises, with no reference to, or relief provided for, any subsequent changes in relationships. This becomes an issue if, for example, foreign affiliates of a Canadian taxpayer are disposed of to a foreign parent company during the first two years after an upstream loan arises (and before its repayment), or if a specified debtor ceases to be a specified debtor (in situations where the specified debtor is not the Canadian taxpayer or a non-arms' length Canadian entity) prior to a repayment. [fn 48: The latter situation may be less likely to arise, because upstream loans are likely to be repaid prior to a third-party sale of the specified debtor or the upstream loan may be purchased by the acquirer. The sale of an upstream loan to a third party does not seem to meet the repayment requirement under the upstream loan rules.]

Subsection 90(6.1)

Articles

Joint Committee, "Technical Amendments Package of September 16, 2016", Submission letter of 15 November 2016

No relief where upstream lender ceases to be an FA

The proposed continuity rules in ss. 90(6.1) and (6.11) do not provide relief from an income inclusion under the upstream loan rules where a lender ceases to be a foreign affiliate of Canco within the two-year period.

Subsection 90(7) - Back-to-back loans

Administrative Policy

26 May 2016 IFA Roundtable, Q. 5

no application of s. 90(7) to a back-to-back loan made to avoid an anomalous application of the s. 90(9) surplus deduction rule

FA2 lends excess liquidity $10M to its wholly-owning parent, FA1, which on-lends the $10M to its wholly-owning Canadian parent, Canco. At the lending time, FA1 has an exempt deficit of $20M and FA2 has exempt surplus of $100M. The loans are not repaid within two years. In a variant of this scenario (Part B), FA2’s source of funds is a borrowing of $10M from an arm’s length financial institution. How would CRA apply the back-to-back loan rule in s. 90(7)?

CRA noted that based on the apparent policy intent in s. 90(11) as it relates to the s. 90(9) dedction, if FA2 had lent directly to Canco, Canco would not be able to access enough of FA2's surplus to eliminate the deficit in FA1 because the dividend is only $10 million and the deficit is $20 million. Thus, Canco would not be entitled to the s. 90(9) deduction.

However, as FA1 had lent to Canco, s. 90(11) would apply to elevate all of FA2's surplus to create a sufficiently large exempt surplus balance to fully cover the upstream loan.

This planning raises the potential application of s. 90(7). However, given the overall context and purpose of the upstream loan rules, as informed by the more specific intent of ss. 90(7) and (11), CRA generally would not apply the s. 90(7) back-to-back loan rule in such a scenario. Instead, s. 90(6) would be applied only to the loan made by FA1 to Canco, with the result that s. 90(11) would apply, and the entire exempt surplus balance of FA2 would be included in the "reserve deduction" under s. 90(9).

It instead would be appropriate to apply the back-to-back loan rules in the Part B scenario, so that the bank would be deemed to have made a $10 million loan directly to Canco, such that, assuming the bank was not a foreign affiliate of Canco, there would be no upstream loan (s. 90(6)) application.

Paragraph 90(7)(a)

Administrative Policy

John Lorito and Trevor O'Brien, "International Finance – Cash Pooling Arrangements," draft version of paper for CTF 2014 Conference Report.

In the case of notional pooling, loans to and from the third party bank may be subject to the upstream loan rules through the application of the back-to-back loan rule in subsection 90(7)….

Subsection 90(8) - Exceptions to subsection (6)

Paragraph 90(8)(a)

Administrative Policy

2017 Ruling 2016-0670971R3 - Repayments of upstream loans and series test

subsequent intercorporate loans and discharges were not part of “series of loans or other transactions and repayments”

Background

Canco3, which was a CRIC (corporation resident in Canada) and an indirect wholly-owned subsidiary of a non-resident corporation (Pubco), wholly-owned an LLC (FinanceCo1), that lent money under the “Forco2-FinanceCo1 Note” to a branch of a non-resident sister (Forco2), which was held by a chain of non-resident subsidiaries of Pubco. The Forco2-FinanceCo1 Note was interest-bearing and its maturity date was automatically extended for consecutive one-year terms unless terminated by either party.

Transactions
  1. Forco2’s Branch used cash proceeds borrowed from an arm’s length bank to repay the total (USD) amount owing on the Forco2-FinanceCo1 Note to FinanceCo1.
  2. FinanceCo1 used such proceeds to purchase intercompany notes receivables owing between subsidiaries in the chain of non-resident entities beneath the non-resident parent of Forco2 (Forco1) and some of such subsidiaries for their nominal fair market value, and to pay a dividend to Canco3.
  3. Canco3 lent USD under the “Canco3-Forco2 Note” to Forco2’s branch, which made a partial repayment of its bank loan.
  4. Canco3 repaid obligations owing to Canadian affiliates and to Pubco, and repaid loans owing to Canadian affiliates in a separate chain (held by Pubco through Forco5) by delivering portions of the Canco3-Forco2 Note.
Additional Information

The automatic extension of the maturity date of the Forco2-FinanceCo1 Note does not result in a new loan being made for the purposes of s. 90(6).

Rulings

Include that the repayments on the Forco2-FinanceCo1 Note will not be considered repayments made as part of a series of loans or other transactions and repayments for the purpose of s. 90(8)(a) or 90(14).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(14) loan repayment not part of a prohibited series 139
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Disposition automatic loan renewals did not entail the making of new loans 56

3 March 2017 Internal T.I. 2016-0673661I7 - Upstream loans – allocation of repayments

ordering of upstream loan repayments determined on FIFO basis

Prior to August 19, 2011, Canco borrowed $50M (“Advance A”) from its wholly-owned non-resident subsidiary (“FA”), and borrowed a further $50M (“Advance B”) from FA under the same revolving credit facility in October 2012. The only other relevant advance or repayment is that Canco repaid $50M (the “Repayment”) in September 2014, with neither Canco nor FA making any specific designation respecting the Repayment. Should the Repayment be applied using the “first in, first out” (“FIFO”) method?

After noting that Advance B was required to be repaid before Advance A because Advance A was deemed to have been received on August 20, 2014, Headquarters stated:

Where a particular form of indebtedness is accounted for as a single balance representing various advances and repayments...the FIFO method should apply to repayments, unless a specific designation is made to the contrary. However, in the context of the transitional Upstream Loan Rule, such methodology would apply based on the dates of the actual loan advances and without regard to the fact that certain portions of pre-August 19, 2011 loans might be deemed to be made on August 20, 2014.

…[B]ecause no specific designation has been made in respect of the Repayment…the Repayment should be applied to Advance A even though, for purposes of the Upstream Loan Rules, that loan is deemed to occur after Advance B.

26 May 2016 IFA Roundtable Q. 4, 2016-0642151C6 - Upstream loan converted to PLOI

the replacement of an “2nd-tier” upstream loan to a non-resident parent by a PLOI will not occur as part of the same series

Canco indirectly distributed $10M of excess cash to its non-resident parent (NRco) in 2010 through a capital contribution by it to a new foreign subsidiary (FA) and a loan of the $10M by FA to Nrco (at an arm’s length interest rate). In order to unwind this upstream loan structure by the August 19, 2016 deadline for doing so, NRco will repay the $10M loan owing to FA, FA will use such cash repayment proceeds to pay a $10M dividend to Canco out of pre-acquisition surplus and Canco will make a fresh (direct) loan to NRco, and make a valid PLOI election under s. 15(2.11) in respect of that loan.

CRA confirmed that the new PLOI loan will not cause the old loan to be considered to have been “repaid…otherwise than as part of a series of loans or other transactions and repayments” as per s. 90(8)(a), so that a $10M income inclusion to Canco under the upstream loan rules will be avoided.

Words and Phrases
series

24 November 2015 CTF Roundtable Q. 8, 2015-0610621C6 - FA Liquidation and upstream loans

Canadian parent realizes income if an upstream loan owing by it is extinguished on winding up a CFA

A loan from a foreign affiliate to its Canadian parent (Canco) generally must be repaid within two years lest the amount of the loan be included in Canco's income under s. 90(6). CRA was asked whether this payment requirement would be considered to be satisfied if the foreign affiliate is wound up (perhaps on the basis that there is an implicit set-off between the amount owing by Canco and the winding-up distribution payable by the foreign affiliate - see e.g., 2013 Ruling 2013-0498551R3). CRA responded:

We would not consider the loan to have been repaid for purposes of the upstream rules as a result of the liquidation in the described situation. Therefore, Canco would not be entitled to a deduction under subsection 90(14).

This and other issues with the upstream loan rules were brought to the attention of the Department of Finance by the CPA-CBA Joint Committee in their submission dated August 7, 2013. We anticipate that this issue will likely be resolved eventually through legislative amendment.

24 November 2013 CTF Roundtable, 2013-0508151C6 - Upstream Loans

repayment by set-off

A loan or indebtedness will be considered to have been repaid by a debtor by way of set-off against a receivable of the debtor "if the set-off represents a legal discharge of the loan or indebtedness." This generally will be accepted to have occurred "if the intention to do so is evidenced in the relevant books and records including any contracts or agreements between the parties and the accounting records of the parties."

Locations of other summaries Wordcount
Tax Topics - General Concepts - Payment & Receipt repayment by set-off 73

2013 Ruling 2013-0491061R3 - Upstream Loans

yo-yo transaction: US Salesco is repaid upstream loan by Can Opco 1, and then relends to Can Opco 1 when no longer a parent

Non-resident subsidiaries (perhaps resident in the US) of a non-resident public company ("Parent") hold stacked non-resident companies (FA 1 to 4 in a mystery jurisdiction, which in turn hold stacked US companies, namely, US Holdco 1 to 3) through a structure of stacked Canadian companies (Can Holdco and Can Opco 1 to 3). A US marketing subsidiary of US Holdco 1 ("US Salesco") is owed amounts by Can Opco 3 under a cash-pooling arrangement. Under a largely-unwound "tower" structure, a ULC, held by Can Opco 2 through a resident partnership ("Partnership" - which is a corporation for Code purposes), holds preference shares of US Holdco 3.

In connection with unwinding this "sandwich" structure:

  1. Can Opco 1 repays the payable owing by it to US Salesco;
  2. Can Opco 3 transfers its shares of US Holdco 1 under s. 85.1(3) to FA 3 for common shares of FA 3
  3. Can Opco 3 transfers its shares of FA 2 and FA 3 to FA1 under s. 85.1(3) for common shares of FA 1;
  4. ULC transfers its pref shares of US Holdco 3 to a new US subsidiary for shares of US Newco (under s. 85.1(3));
  5. The general partner of Partnership is wound-up so that Partnership, in turn, is wound-up;
  6. ULC is wound-up into Can Opco 2;
  7. Can Opco 3, Can Opco 2 and Can Holdco sell their shares of FA 1, US Newco and US Holdco 1 to Parent for cash;
  8. US Salesco (which now is a "sister" rather than indirect sub of Can Opco 1) relends the amount received by it in 1 to Can Opco 1.

Rulings:

  • the exemption in s. 212.3(18)(b)(ii) applies to steps 2 and 3
  • respecting the acquisition of the general partner's partnership interest in step 4, the exemption in s. 212.3(18)(c)(i) applies to deemed indirect acquisition by Can Opco 2 of US Newco resulting from the application of s. 212.3(25)(c) to such acquisition by Can Opco 2 of the general partner's interest
  • upon the dissolution of Partnership in step 5, such indirect acquisition by Can Opco 2 of the shares of US Newco will be exempted
  • the exemption in s. 212.3(18)(a)(i) applies to step 6
  • by virtue of its coming into force provisions and s. 90(8)(a), s. 90(6) will not include any amount in respect of the loan by US Salesco in the income of Can Opco 3 (and similarly re "Treasuryco Debts" not described above)
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 212.3 - Subsection 212.3(25) - Paragraph 212.3(25)(b) s. 212.3(25)(b) avoids acquisition on partnership winding-up 365

Articles

Geoffrey S. Turner, "Transitional Tax Treatment of Grandfathered Upstream Loans – Repayment Deadline Approaching", International Tax (Wolters Kluwer CCH), No. 88, June 2016, p. 7

August 19, 2016 repayment deadline for pre-August 20, 2011 loans (p.7)

The paragraph 90(8)(a) carve-out from the upstream loan rules provides taxpayers with an effective and clear strategy to deal with grandfathered upstream loans. In particular, where a Canadian corporation has received a pre-August 20, 2011 upstream loan which under the transitional rule is deemed made on August 20, 2014, the loan can be repaid by August 19, 2016, with the effect that subsection 90(6) will not apply to such grandfathered loans.. This avoids the need to tie up the lending-time surplus and basis attributes with a subsection 90(9) deduction, and the ongoing administrative issues that would entail.

Subsection 90(9) - Corporations: deduction for amounts included under subsection (6) or (12)

Administrative Policy

20 March 2017 External T.I. 2014-0545591E5 - Upstream Loan and Debt Forgiveness Rules

potential indefinite application of surplus where upstream loan forgiven after FA sale

FA makes a loan to Canco, its wholly-owning parent. Canco then sells its interest in FA to a third party, but due to foreign tax and other regulatory concerns, Canco does not repay the loan. The loan then is forgiven. Would the forgiveness satisfy the repayment condition in ss. 90(8) and 90(14)? CRA responded:

Consistent with…2015-0610621C6 and 2016-0645521I7…there has to be an actual repayment of the loan. Therefore, a settlement or extinguishment of the loan as a result of forgiveness [is] not…a repayment… for the purposes of the upstream loan rules….

However, if relevant tax attributes described in subsection 90(9) exist at the time when the loan is made, Canco will be entitled to a deduction from income under subsection 90(9) to offset all or a portion of the original income inclusion under subsection 90(6) and subsequent income inclusions under subsection 90(12), provided that the tax attributes continue to be available at the relevant times for the purposes of subsection 90(9). Given that the loan in the situation described will never be repaid, it is possible for such inclusions and deductions in computing Canco’s income to continue indefinitely. …

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 80 - Subsection 80(1) - Excluded Obligation - Paragraph (a) s. 80 non-application where s. 90(6) applies to forgiven loan even if offsetting surplus deduction 148
Tax Topics - Income Tax Act - Section 90 - Subsection 90(14) debt forgiveness not a repayment 54

28 May 2015 IFA Roundtable Q. 4, 2015-0581501C6 - Upstream loans: ss. 90(9) deduction

Part A: LIFO ordering/s. 113(1)(a) deduction for actual dividends

In 2013 FA, which had exempt surplus ("ES") and net surplus ("NS") of US$100, made a US$100 loan (Loan 1) to Canco (its wholly-owning parent). In 2014 FA paid a dividend (Dividend) of US$50 at a time when it had ES and NS of US$150 (no Reg. 5901(2)(b) election is made). Loan 1 is not repaid within two years and Canco has nil adjusted cost base ("ACB") in the FA shares.

In 2014 Canco will have an income inclusion of C$63, the equivalent of the US$50 dividend. Is Canco able to claim a deduction in each of 2013 and 2014 under s. 90(9)(a)(i)(A) for the Canadian dollar equivalent (C$125) at the "lending time" of Loan 1? Will Canco be entitled to a deduction in computing its 2014 taxable income of C$63 under s. 113(1)(a)?

CRA responded:

…[I]f one were to assume that exempt surplus were reduced on a first-in, first-out basis, it may be possible to argue that the dividend paid in 2014 would "spend" some of the exempt surplus that is relied upon for purposes of the 90(9) deduction such that, in 2014, paragraph 90(9)(b) would be breached.

However…we would consider a last-in, first-out ordering approach to give an appropriate result… .

…Canco would…be entitled to a subsection 90(9) deduction in both 2013 and 2014 in respect of Loan 1. As for the second question, we would note that there is nothing in section 90 that impacts in any way the availability of a deduction under subsection 113(1) in respect of dividends from a foreign affiliate. As such, Canco would be entitled to a deduction of C$63 under that subsection for the dividend received in 2014.

Part B: Subsequent exempt loss/subsequent Reg 5901(2)(b) election

The same facts as in Part A except that FA's exempt surplus balance went down to US$60 as a result of a loss in 2013 and at the time of the Dividend in 2014 Canco's ACB in the FA shares was equal to C$63 as a result of a share subscription, in 2014 but before the dividend, by Canco for FA shares. Canco elects Reg. 5901(2)(b) so that the 2014 C$63 dividend is deemed to be paid out of pre-acquisition surplus. May Canco claim a deduction in 2013 and 2014 under s. 90(9)(a)(i)(A) of C$125? Can it claim a deduction in computing its 2014 taxable income of C$63 under s. 113(1)(d)? CRA responded:

…[A]bsent tax avoidance activity, a subsection 90(9) deduction of C$125 would be available in both 2013 and 2014, given that the reduction of surplus resulting from a loss is not an event contemplated in either paragraph 90(9)(b) or (c) and that the relevant time at which to measure surplus is the dividend time and not any time in a subsequent year in which a subsection 90(9) deduction is claimed to offset a subsection 90(12) inclusion.

…[T]he conditions for making a paragraph 5901(2)(b) election would be met…given that, again, the provisions of section 90 in no way affect the surplus balances of a foreign affiliate. In other words, the condition in the pre-amble of paragraph 5901(2)(b) that requires that "in the absence of [that] paragraph" subsection 5901(1) would deem an amount to be paid out of exempt, hybrid or taxable surplus would be met. …[A] subsection 113(1) deduction would be available by virtue of paragraph 113(1)(d).

Part C: Subsequent upstream loan utilizing Reg. 5901(2)(b) election

: The same facts as in Part A except that at the lending time in 2013 Canco's ACB in the FA shares was C$63, no new ES is generated after Loan 1 is made and, instead of FA paying the US$50 dividend in 2014, FA made a second loan (Loan 2) to Canco of US$50 (which loan is not repaid within two years) in 2014. May Canco claim a deduction in 2013 and 2014 under s. 90(9)(a)(i)(A) of C$125? Can it claim an additional deduction in 2014 of C$63 under s. 90(9)(a)(i)(D) on the basis that it could have made a Reg. 5901(2)(b) election respecting Loan 2? CRA responded:

[In] 2013-048379…we took the position that a taxpayer would be entitled to rely on clause 90(9)(a)(i)(D) if the taxpayer would have been in a position to make a paragraph 5901(2)(b) election if the notional dividend had been a real dividend.

…Thus, if the taxpayer would have been in a position to make a paragraph 5901(2)(b) election had the notional dividend relating to Loan 2 been a real dividend, it is our view that Canco would, in this example, be entitled to a deduction of C$63 under subsection 90(9) by virtue of clause 90(9)(a)(i)(D). Furthermore, the taxpayer may continue to rely on clause 90(9)(a)(i)(A) in respect of Loan 1.

30 October 2014 External T.I. 2013-0488881E5 - Upstream Loan

notional election and double taxation issues
Scenario 1 [90-day rule unavailable]

On December 31, 2012, FA has a nil "net surplus" balance and no relevant deficits. In its 2013 (calendar) taxation year, it earns $1500 of "exempt earnings" and on June 30, 2013, it makes a loan of $1500 to Canco (which wholly-owns it). This "Loan" will not be repaid by June 30, 2015. In determining the amount deductible by Canco pursuant to s. 90(9), does the "90-day" rule in Reg. 5901(2)(a) apply to the s. 90(9)(a) notional dividend so that Canco can deduct $1,500 for 2013? In responding negatively, CRA stated:

Although Canco would have been in a position to have paragraph 5901(2)(a)… apply to deem an actual dividend to be paid out of FA's current year exempt surplus… it would be contrary to the words "exempt surplus at the lending time in respect of the corporation" in clause 90(9)(a)(i)(A) to consider the application of paragraph 5901(2)(a)… in determining the amount deductible under subsection 90(9).

Scenario 2 [notional UFT disproportionate election]

The facts are similar except that on 31 December 31 2012, FA has taxable surplus ("TS") and underlying foreign tax ("UFT") balances of $3000 and $500, respectively. In determining the amount deductible by Canco under s. 90(9), can Canco be considered to have filed a disproportionate election under s. (b) of the UFT definition in Reg. 5907(1) so that Canco can deduct $1500 for 2013? In responding affirmatively, CRA noted that absent a disproportionate election, the notional s. 90(9)(a) dividend would have been characterized as having been paid from FA's TS, thereby allowing Canco a $750 deduction under s. 113(1)(b), and stated:

However…Canco could be considered, hypothetically, to have taken all the necessary steps to make the Disproportionate Election, such that…a $1500 deduction would be available to Canco under subsection 90(9) by virtue of clause 90(9)(a)(i)(C).

Scenario 3 [notional Reg. 5901(2)(b) election]

Canco1 and Canco2, which are related, own 60% and 40% of the shares of FA1 having ACBs of $900 and $600, respectively. FA has hybrid surplus ("HS") and net surplus balances of $1,500 and nil hybrid underlying tax ("HUT") respecting both Cancos. On 30 June 2013 FA lent $1,500 to Canco1, and this loan was not repaid by 30 June 2015. Accordingly, $900 and $600 is included in their respective incomes for their years ending 31 December 2013, based on their respective surplus entitlement percentages. Can Canco1 and Canco2 be treated as having made the election under Reg. 5901(2)(b) so that the notional dividend under s. 90(9)(a) would deemed to be paid from FA's pre-acquisition surplus? CRA stated:

Since…Canco1 and Canco2 have an ACB of $900 and $600, respectively, in the shares of FA, and Canco1 and Canco2 would each have been in a position to jointly make an election under paragraph 5901(2)(b)… to deem an actual dividend paid by FA to be out of FA's pre-acquisition surplus, …[therefore] for the purposes of subsection 90(9) Canco 1 and Canco 2 would be in position to demonstrate that $900 and $600 may "reasonably be considered to have been deductible" by them… .

Scenario 4 [notional Reg. 5901(1.1) election]

Similar facts to Scenario 1, except that FA has HS and HUT balances of $1500 and nil, and TS and UFT balances of $1500 and $500. Can Canco be treated as if it had made the Reg. 5901(1.1) election to have the s. 90(9)(a) notional dividend deemed to be paid from FA's TS? CRA responded:

Since Canco would have been in a position to make an election under subsection 5901(1.1)… to deem the full amount of an actual $1500 dividend paid by FA to be paid out of FA's TS …[therefore] an amount may "reasonably be considered to have been deductible" in respect of the dividend under paragraph 113(1)(b)…[so that] Canco would be in a position to deduct $1500 from its income pursuant to clause 90(9)(a)(i)(C).

Scenario 5 [notional s. 40(3) gain does not generate surplus]

Canco owns nil ACB shares of FA1, which had HS and ES balances of $750 each, and nil HUT and ES. FA1 held all the shares of FA2 which had nil ACB and were excluded property. FA2 had nil net surplus. On 30 June 2013 FA1 lent $1,500 to Canco, and this loan was not repaid by 30 June 2015. An actual $1500 dividend paid by FA2 to FA1 would have given rise to a s. 40(3) capital gain to FA1. Would a notional $1,500 s. 90(9) dividend from FA2 to FA1 increase the HS of FA1 for purposes of computing the s. 90(9) deduction to Canco? CRA responded:

[O]nly the actual ES, HS, HUT, TS, UFT and ACB amounts at the lending time..[are] relevant in the determination of the deduction …under [s. 90(9)]. Therefore…. the deemed gain to FA1 that would arise…if, as contemplated by paragraph 90(9)(a), FA2 were to pay a $1500 dividend to FA1 (and FA1 were to pay a $1500 dividend to Canco) would not be included when computing the HS balance of FA1 and the deduction available to Canco under subsection 90(9) in the above scenario.

Scenario 6 [no double inclusion following FA creditor wind-up]

Canco owns all the shares of FA1, which had nil net surplus and net earnings. FA1 held FA2, which had ES and net surplus of $1,500, and nil net earnings. On 20 June 2013 FA2 made the $1,500 "FA2 Loan" to Canco for 10 years – but FA2 was wound-up into FA1 on 20 February 2014. As a result of the liquidation, Canco becomes indebted to FA1 ("FA1 Loan"), resulting in a s. 90(6) income inclusion for 2014. Furthermore, as Canco deducted $1,500 under s. 90(9) in computing its 2013 income to offset the 90(6) income inclusion in respect of the FA2 Loan, that amount will fall into its 2014 income pursuant to s. 90(12). Is any relief available respecting this double income inclusion? CRA responded:

[B]y virtue of paragraph 248(28)(a), either the amount determined under subsection 90(6) in respect of the FA1 Loan or the amount determined under subsection 90(12) in respect of the FA2 Loan, not both, is required to be included in the income of Canco for its taxation year ending on December 31, 2014.

Scenario 7 [no s. 90(6) inclusion for 2nd loan in series]

Canco owns nil ACB shares of FA, which had no relevant surplus or net earnings amounts. On 20 June 2013 FA made a loan of $1,500 to Canco with a term of one year, and this loan was repaid and readvanced on 6 February 2014. $1,500 would be included in Canco's income for 2013 under s. 90(6), with no deduction under s. 90(9), and with no s. 90(14) deduction on repayment because the repayment would be considered to be part of a series of loans or other transactions and repayments. Would the amount of the new loan also be included in its income under s. 90(6)? CRA responded:

[W]here subsection 90(6) has applied to a loan or indebtedness that is a part of a series of loans or other transactions and repayments, it will not apply again to the same amount of another loan or indebtedness in that series. Therefore…subsection 90(6) would not apply to include the amount of the New Loan in Canco's income.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 248 - Subsection 248(28) no double inclusion following FA creditor wind-up 54
Tax Topics - Income Tax Act - Section 40 - Subsection 40(3) notional s. 40(3) gain does not generate surplus 59
Tax Topics - Income Tax Act - Section 90 - Subsection 90(6) no double inclusion following FA creditor wind-up or for 2nd loan in series 105
Tax Topics - Income Tax Regulations - Regulation 5901 - Subsection 5901(1.1) notional Reg. 5901(1.1) election 24
Tax Topics - Income Tax Regulations - Regulation 5901 - Subsection 5901(2) - Paragraph 5901(2)(a) 90-day rule unavailable 22
Tax Topics - Income Tax Regulations - Regulation 5901 - Subsection 5901(2) - Paragraph 5901(2)(b) notional Reg. 5901(2)(b) election 25
Tax Topics - Income Tax Regulations - Regulation 5907 - Subsection 5907(1) - Underlying Foreign Tax notional UFT disproportionate election 31

22 May 2014 May IFA Roundtable Q. 3a, 2014-0526721C6 - IFA 2014 Q. 3a(a) - Upstream Loan

90-day rule unavailable

An indirectly-owned foreign affiliate ("FA1") generates substantial exempt surplus during a taxation year and uses the resulting cash flow to make upstream loans to (Canadian) "Parent." Neither FA1 nor any other intervening FA has a surplus account balance at its last taxation year end. Does the 90-day rule in Reg. 5901(2)(a) apply in calculating exempt surplus for purposes of s. 90(9)(a)(i)(A)? CRA stated:

The exempt earnings of a foreign affiliate of a corporation are computed on an annual basis and are added to the affiliate's exempt surplus in respect of the corporation only at the conclusion of each of the affiliate's respective taxation years. As a result, we would not consider exempt earnings of a foreign affiliate in respect of a corporation arising in the taxation year of the affiliate in which a particular loan is made to…the corporation, to form part of the exempt surplus, at the lending time, of the foreign affiliate… .

[W]ere paragraph 5901(2)(a) applicable to a real series of dividends paid up the chain of affiliates at that time such that a deduction would be available to Parent under paragraph 113(1)(a) in respect of the real dividend received by it, we would not consider that deduction to be in respect of the exempt surplus of any foreign affiliate of Parent at the lending time.

22 May 2013 IFA Roundtable, 2013-0483791C6 - Upstream Loans

no reserve re previously taxed FAPI for upstream loan to Canco

Assume that Canco owns all the shares of FA. FA has $100 of taxable surplus ("TS"), no exempt surplus and no underlying foreign tax (UFT) balances. The TS is attributable to foreign accrual property income ("FAPI") of FA and has been fully included in the income of Canco and the ACB of FA's shares. Assume that FA makes a $100 loan to Canco and the "specified amount" in respect of the loan is included in Canco's income pursuant to proposed s. 90(6). Will a reserve be available to Canco pursuant to the provisions of proposed s. 90(9)?

Response

In this scenario, no amount is included in the reserve under proposed s. 90(9)(a)(ii) in respect of previously taxed FAPI, because the specified debtor is Canco (which is not a person described in proposed s. 90(9)(a)(i)(D)(I) or (II)). Furthermore, no deduction could be made under s. 90(9)(a)(i)(C) because FA has no UFT, and no deduction could be made under s. 90(9)(a)(i)(D) because no portion of the notional dividend was out of FA's pre-acquisition surplus. However, the ACB of Canco's shares of FA is increased as a result of the inclusion in respect of the FAPI of FA; and the suppression election in proposed Reg. 5901(2)(b) allows a taxpayer to have the whole dividend deemed to be paid out of pre-acquisition surplus. Since Canco would have been in a position to make the suppression election to deem the dividend to be paid out of pre-acquisition surplus, it is CRA's view that:

for the purposes of proposed subsection 90(9) an amount may "reasonably be considered to have been deductible" in respect of the dividend under paragraph 113(1)(d). Therefore an amount would be included in the subsection 90(9) reserve under proposed clause 90(9)(a)(i)(D).

Articles

Michael N. Kandev, Sandra Slaats, "Recent Developments in the Foreign Affiliate Area", 2015 Annual CTF Conference paper

Inappropriate reduction of reserve by blocking deficit of intermediate FA Holdco (pp. 31:31-31:34)

One of the fundamental issues with the reserve mechanism, an issue that the CRA has apparently not discussed, is the role played by blocking deficits.

In the example depicted in figure 14, FA Opco makes a $200 loan to Canco at a time when FA Opca has exempt surplus of $300 and FA Holdco has an exempt deficit of $100. The shares of FA Holdco have a nil ACB. On a consolidated basis, the amount of the loan does not exceed the surplus of the relevant entities in the group. However, the test is not applied on a consolidated basis.

One calculates the reserve by assuming that FA Opco paid a notional dividend of $200 to FA Holdco, which paid a notional dividend of $200 to Canco. Because of the deficit of $100 at the FA Holdco level, the $200 dividend deemed paid to Canco would be considered to have been paid $100 out of exempt surplus and $100 out of pre-acquisition surplus. Because the FA Holdco shares have no ACB, only $100 would be considered to have been received tax-free in Canada. Canco could claim a subsection 90(9) reserve only in respect of a $100 notional deduction under paragraph 113(1)(a).

The result would be even worse if FA Opco made two successive loans of $100 to Canco, because in each case, the notional dividend would not exceed the FA Holdco deficit. In that case, no reserve would be available in respect of either loan. Although the rules provide that surplus cannot be counted more than once in a determination of the available reserve in respect of subsequent loans, there is nothing to deem the deficit to have been "used up" by a prior loan.

Geoffrey S. Turner, "Transitional Tax Treatment of Grandfathered Upstream Loans – Repayment Deadline Approaching", International Tax (Wolters Kluwer CCH), No. 88, June 2016, p. 7

Perennial reserve and inclusion mechanism (p. 6)

When the Canadian taxpayer (or the "specified debtor") finally repays the upstream loan or indebtedness (but not as part of a series of loans and repayments), the repayment amount may be deducted from income under subsection 90(14). As a result, each year while the upstream loan or indebtedness is outstanding, the prior year subsection 90(9) reserve is added back to the Canadian corporation's income, and a new subsection 90(9) reserve may be claimed only if and to the extent that the lending-time surplus and basis attributes remain available. The Canadian corporation can ultimately terminate this perennial reserve and inclusion mechanism by causing the upstream loan or indebtedness to be repaid, and claiming the subsection 90(14) deduction.

Consequences of not repaying grandfathered upstream loan by August 19, 2016

If grandfathered upstream loans are not repaid within two years of August 20, 2014,. i.e., August 19, 2016, subsection 90(6) will apply to any such grandfathered upstream loans. The Canadian taxpayer will be required to include the upstream loan amount in income on August 20, 2014, the deemed lending time for grandfathered loans. This may require adjustments to prior tax returns already filed for the relevant taxation year that includes August 20, 2014, depending on the filing position originally taken with respect to the upstream loans. Importantly, the deemed lending time of August 20, 2014, for grandfathered loans should also apply for the purposes of computing any offsetting deduction under subsection 90(9). This means that the Canadian corporation will be required to ascertain its surplus and basis attributes as at August 20, 2014, for purposes of the subsection 90(9) reserve, to demonstrate its hypothetical deductions under subsections 113(1) or 91(5) if a grandfathered upstream loan had instead been paid up the chain as a dividend. It is these August 20, 2014 surplus and basis attributes that must remain earmarked under paragraphs 90(9)(b) and (c) to shelter the grandfathered upstream loan. If these attributes as at August 20, 2014 are ultimately used to shelter any actual foreign affiliate dividend or other distribution, or are subsequently earmarked to shelter any other upstream loan, the Canadian corporation will lose its continued entitlement to the subsection 90(9) deduction and may find it necessary to actually repay the grandfathered upstream loan so as to instead claim a terminal deduction under subsection 90(14).

Geoffrey S. Turner, "Upstream Loans and Dispositions of Foreign Affiliate Shares", International Tax (Wolters Kluwer CCH), No. 85, December 2015, p.1

Upstream loan must be repaid to escape rule (p.1)

[U]nder the current rules, anomalous results can be avoided with certainty only by causing the parent Canadian company to actually repay its outstanding upstream loans borrowed from any creditor foreign affiliates….

Base assumptions for examples (p. 3)

[A]ssume that a Canadian corporation ("Canco") directly owns 100% of the shares of its foreign affiliate ("FA1") with an adjusted cost base of $100, that FA1 has nil surplus balances in respect of Canco, and that in year 1 FA1 makes an upstream loan of $100 to Canco that is not repaid within two years.

Continuing s. 90(9) deduction even after FA sale (p.3)

Example 1: Canco sells the FA1 shares to an arm's length person

Suppose in year 2, Canco sells its FA1 shares to a third party so that it no longer owns the FA1 shares at the end of year 2 but still owes FA1 the $100 previously borrowed. Canco has a subsection 90(12) income inclusion of its year 1 reserve,…

Subsection 90(9) is clear that a year 2 deduction is still available in this case….That $100 adjusted cost base has not been used by Canco to shelter any other upstream loan or distribution, and consequently the anti-double-counting rules in paragraphs 90(9)(b) and (c) do not preclude a continued subsection 90(9) deduction….

This is so even if loss realized on sale (p. 3)

[S]uppose Canco realized a loss from its sale of FA1….

[C]anco still owes $100 to FA1, which is now owned by the arm's length purchaser. FA1 has its $100 receivable from Canco, contributing to the value of the FA1 shares, so presumably the loss hypothetically realized on the FA1 shares was attributable to factors other than the synthetic dividend distribution to Canco (i.e., it is a "real" loss unaffected by the upstream loan). At some point, if and when Canco's debt is repaid to FA1, Canco will claim a terminal subsection 90(14) deduction… .

S. 90(14) should be amended to provide a deduction for Canco’s s. 88(3)(d) proceeds on a QLAD (p.4)

Example 2: Canco liquidates FA1 to extinguish the upstream loan

[S]uppose in year 2, FA1 is liquidated, and the $100 receivable is effectively distributed up to Canco and extinguished by operation of law (since Canco becomes both creditor and debtor). …

[A]s administered by CRA, an upstream loan must actually be repaid in order for Canco to claim a terminal subsection 90(14) deduction. This can include repayment effected by legal set-off, [fn 14: For example…2013-0499121E5.] but will not include a cancellation of the upstream loan by operation of law upon the liquidation of FA1 into Canco…. [T]he correct result should arguably be governed by the paragraph 88(3)(d) determination of Canco's proceeds of disposition of the FA1 shares based in turn on the net distribution amount in respect of the liquidation….

S. 90(9) deduction available after upstream loan of FA1 is distributed on its wind-up into FA2 (p. 4)

Example 3: Canco sells the FA1 shares to another foreign affiliate and liquidates FA1

[S]uppose in year 2 Canco sells the FA1 shares to FA2, another wholly owned foreign affiliate of Canco, for cash consideration, and then in year 3 FA1 liquidates into FA2. The $100 loan receivable of FA1 would be distributed to FA2 on the year 3 liquidation. …

[W]hile Canco has sold the FA1 shares and no longer has the $100 adjusted cost base attribute available, the subsection 90(9) deduction is based on the attributes available to Canco at the "lending time" in year 1. Moreover, that $100 adjusted cost base has not been used by Canco to shelter any other upstream loan or distribution to Canco. That $100 adjusted cost base has been relevant in determining Canco's capital gain or loss from its disposition of the FA1 shares, but that is appropriately not offside paragraph 90(9)(c). …

Avoidance of double taxation (p. 5)

[C]anco would be required by subsection 90(12) to include in income in year 3 its prior year 2 reserve claimed under subsection 90(9). However, in addition, subsection 90(6) could potentially apply again to Canco, because as a result of FA2 acquiring FA1's $100 receivable owing by Canco, Canco has become "indebted to" FA2 and meets the conditions of subsection 90(6). Fortunately, CRA has recognized this double income inclusion would be inappropriate and unintended, and has adopted a favourable administrative position consistent with paragraph 248(28)(a) to apply only a single income inclusion in this situation. [fn 16: See…2013-048881E5]

Consequently, in year 3 Canco will have a single $100 income inclusion in respect of the upstream loan….

Upstream loan may be preferred to dividend (p.5)

[A] (temporary) distribution from a foreign affiliate by means of an upstream loan may still be preferred to a (permanent) distribution from a foreign affiliate by means of an actual dividend, because the upstream loan may avoid foreign withholding and other taxes that would be incurred with an actual dividend.

Ian Bradley, Marianne Thompson, Ken J. Buttenham, "Recommended Amendments to the Upstream Loan Rules", Canadian Tax Journal, (2015) 63:1, 245-67.

Narrowness of s. 90(11) (p. 261)

Subsection 90(11) incorporates only the surplus of the downstream foreign affiliates that are directly or indirectly owned by the creditor affiliate. Where the lowest-tier foreign affiliate makes an upstream loan, subsection 90(11) does not apply, and the taxpayer must apply the notional distribution analysis in subsection 90(9) based on the surplus balances of each relevant foreign affiliate in the chain to determine whether, and to what extent., there is a Canadian tax benefit associated with the upstream loan….

Blocking deficit in top-tier FA (pp. 261-3)

[i]n figure 4. A Canadian-resident corporation (Canco) owns all of the shares of a non-resident corporation (FA 1). Canco's ACB in respect of the FA 1 shares is nil. FA 1 has an exempt deficit of $100 in respect of Canco and owns all of the shares of a non-resident corporation (FA 2), which has $1,000 of exempt surplus in respect of Canco. FA 2 makes a $100 loan to Canco, which is not repaid within two years.

If, rather than making an upstream loan, FA 2 paid a dividend of $100, FA 1's exempt deficit would be reduced to nil (computed as the initial exempt deficit of $100 less the $100 exempt surplus dividend from FA 2). If FA 1 then paid a dividendof $100 to Canco, Canco would have an income inclusion equal to $100 pursuant to subsection 90(1) and could claim an offsetting deduction of $100 pursuant to paragraph 113(l)(d) for the portion of the dividend deemed paid out of FA 1's pre-acquisition surplus. There would also be a $100 reduction in the ACB of the FA 1 shares held by Canco. In this case, the ACB of the shares would become negative, and Canco would be deemed to have realized a $100 capital gain from a disposition of the FA 1 shares pursuant to subsection 40(3). However, Canco could then file an election pursuant to subsection 93(1) in the amount of $100 to reduce the subsection 49(3) gain to nil….

[A]t the time that FA 2 makes its upstream loan of $100, FA 1 has a deficit oF$100 and the FA 1 shares have no ACB to Canco. After the notional distribution of FA 2's surplus to FA 1, FA 1's net surplus is still less than the amount of the upstream loan; therefore, the taxpayer must rely on clause 90(9)(a)(i)(D) to claim a full subsection 90(9) deduction. [fn 37: This clause refers to the deduction that would be available under paragraph 113(l)(d) for the portion of the notional distribution paid from preacquisition surplus. Subsection 90(11) does not apply since FA 2 made the loan, rather tiian FA 1. If, instead, FA 2 paid a dividend to FA 1 and FA 1 then made the loan to Canco, subsection 90(11) would apply, resulting in an available reserve of $100.] However, in contrast to the case of an actual dividend payment, the amount of the notional paragraph 113(l)(d) deduction under clause 90(9)(a)(i)(D) is limited to the amount of the ACB of the FA 1 shares to Canco at the time. In thi.q case, there is no ACB and therefore no ability to claim a subsection 90(9) deduction in respect of the upstream loan from FA 2.

This example illustrates that, no matter the quantum of surplus pools in a foreign affiliate group, a "blocking deficit" in a top-tier foreign affiliate may result in an income inclusion under the upstream loan rules, even in situations where a series of dividends could have h&ea-pa&d-iree of Canadian tax….

Multiple application of same blocking deficit (p. 263)

…FA 2 makes three $100 loans to Canco, one on each of day 1, day 2, and day 3, and none of these I loans is repaid within two years. This example (illustrated in figure 5) demonstrates What the problem with blocking deficits described above can be multiplied when applying the reserve mechanism….

[W]hen calculating the amount of any reserve available pursuant to subsection 90(9), each upstream loan must be analyzed as a separate notional distribution at the time that FA 2 advanced the loan. It does not appear to be possible, when applying paragraph 90(9)(a) to a new upstream loan amount, to consider the movement of surplus on prior notional distributions. In the situation depicted in figure 5, this means that FA 1 will continue to have a $100 deficit for the purposes of each notional distribution made by FA2. As a result, Canco will not be able to claim any subsection 90(9) deduction….

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(14) 678

Ken J. Buttenham, "Are you Ready for the Upstream Loan Rules?", Canadian Tax Journal, (2013) 61:3, 747-68

Uncertainties under s. 90(9) (p. 763)

The operation of subsection 90(9) raises a host of unanswered questions and is probably what will create the most uncertainty as taxpayers apply the rules. This uncertainty stems from a lack of clarity concerning the relationship between the rules applicable to a notional dividend and the basic distribution rules that apply to actual dividends.

The two sets of rules will often give different results. For example, subsection 90(11) considers the net surplus of the creditor affiliate for the purposes of the notional dividend to include the net surplus of all lower-tier affiliates. That is not the case for actual dividends. On the other hand, a deduction is available under paragraph 113(1)(a.1) in respect of the hybrid surplus component of an actual dividend whether there is any associated hybrid UFT or not. With respect to the notional dividend, a deduction is permitted only if there is sufficient hybrid UFT to result in the hybrid surplus dividend being fully sheltered. [fn 51: See clause 90(9)(a)(i)(B).] Yet another difference relates to the deduction under subsection 91(5) for previously taxed FAPI. This is available in respect of a notional dividend only if the specified debtor is a non-resident. [fn 52: See subparagraph 90(9)(a)(ii). At the 2013 IFA seminar, the CRA was asked to comment on whether a reserve would be available under subsection 90(9) in respect of previously taxed FAPI if Canco were the specified debtor; the CRA said that it may be prepared to develop an administrative position that an election can be made to change the ordering so that the notional dividend is considered to be a distribution coming out of preacquisition surplus.]

There are many other situations that the upstream loan rules do not address. The question for taxpayers in these cases is whether the normal distribution provisions can be relied on or not. The following paragraphs touch briefly on four of the more pressing questions.

Is 90-day rule available under s. 90(9)? (p. 764)

Assume that a foreign affiliate (FA) makes an upstream loan of $1,000 when it has no net surplus. Further assume that the loan was advanced more than 90 days from the beginning of FA's taxation year and that FA earns net exempt earnings of $1,000 in that taxation year. The 90-day rule in regulation 5901(2) will apply to characterize an actual dividend as being paid from FA's exempt surplus, making a full deduction available under paragraph 113(1)(a). However, it is not clear that a similar result arises under subsection 90(9). Clause 90(9)(a)(i)(A) refers to the exempt surplus of the affiliate in respect of the taxpayer at the lending time. [fn 53: Comparable language in respect of hybrid, taxable, and preacquisition surpluses is contained in clauses 90(9)(a)(i)(B), (C) and (D), respectively.] At the lending time, there is no exempt surplus balance, unless the provision is read expansively to incorporate the operation of the 90-day rule.

Are notional dividend elections available under s. 90(9)? (p. 764)

The Act includes a number of elections that provide taxpayers with considerable flexibility in managing the consequences of actual dividends, including the following:

  • the election in regulation 5900(2) that deems a dividend to be paid from taxable surplus ahead of exempt surplus;
  • the election in regulation 5901(1.1) that deems a dividend to be paid from taxable surplus ahead of hybrid surplus;
  • the preacquisition surplus election in regulation 5901(2)(b) that deems a dividend to be paid from preacquisition surplus; and
  • the disproportionate election in respect of UFT under paragraph (b) of the definition of "underlying foreign tax applicable" in regulation 5907(1).

The question for taxpayers is whether these elections are available to them as notional elections when assessing the deductions available under subsection 90(9) in respect of notional dividends. Subsection 90(9) does not address this question. However, the October 2012 explanatory notes make it clear that the Department of Finance intended that the disproportionate election be taken into consideration when determining the hypothetical deduction under paragraph 113(1)(b).

Is upstream surplus available to lending affiliate under s. 90(9) and are s. 40(3) gains beneath the taxpayer relevant? (pp. 765-766)

Assume that Canco owns 100 percent of the shares of FA 1, and FA 1 owns 100 percent of the shares of FA 2. FA 2 makes a loan to Canco of $1,000 when FA 1 has a net exempt surplus balance of $750 and FA 2 has nil net surplus. Also assume that the ACB of FA 1 in the shares of FA 2 is nil.

If FA 2 were to pay an actual dividend of $1,000 up the chain to Canco, FA 1 would experience a gain of the same amount pursuant to subsection 40(3). This gain would have surplus consequences for FA 1 that would depend on whether the shares of FA 2 were excluded property or not. Those surplus consequences could also affect the character of future dividends received by Canco.

This example raises two questions:

  1. Is surplus upstream of the lending affiliate available for the purposes of subsection 90(9)?
  2. Are downstream subsection 49(3) gains ignored for the purposes of subsection 90(9)?

On the basis of the examples in the October 2012 explanatory notes, the answer to both questions appears to be yes.

…In example 1 in the explanatory notes, FA 2 does not have sufficient surplus to support a hypothetical dividend of $800. A portion of the dividend hypothetically paid to FA 1 in that example would be from preacquisition surplus. The example also states that there is no ACB in the shares of FA 2. Consequently, an application of the entire foreign affiliate regime when assessing the implications of this hypothetical dividend would result in subsection 40(3) gain to FA 1. The example does not address that possibility, but concerns itself only with the movement of surplus from affiliate to affiliate. On the basis of this example, ACB appears to be relevant only when the notional dividend is paid from a top-tier affiliate to a taxpayer, at which point a notional deduction under paragraph 113(1)(d) becomes a consideration.

Finance

26 April 2017 IFA Finance Roundtable, Q.11

[approbation of CRA workaround for dealing with an upper-tier blocking deficit respecting upstream loans]

Forco 2, which is held by Canco through Forco 1, makes three successive loans of $100 to Canco at a time when the relevant surplus balances are exempt surplus of $1,000 for Forco 2 and an exempt deficit of $100 (and no-preacquisition surplus) for Forco 1. In policy terms, Canco should be entitled to a full s. 90(9) reserve but, under the current wording, the exempt deficit effectively blocks each successive loan. Is this being addressed?

Finance noted that the general policy is that Canco should be permitted to receive the loans without a deemed dividend, if an actual distribution would give the same result. This particular situation was amenable to the work-around described at 2016 Roundtable Q.5 (i.e., Forco 2 lends to Canco via Forco 1). However, if this is a live issue for taxpayers, Finance is interested in hearing from them.

Subsection 90(10)

Articles

Michael Spinelli, Karthika Ariyakumaran, "Upstream Loans Disadvantage Corporate Members of a Partnership", Canadian Tax Focus, Volume 8, Number 4, November 2018, p.5

Loan by CFA of partnership to one of two arm’s length Cdn partners (p.5)

Assume that Canco 1 and Canco 2 are Canadian-resident corporations acting at arm's length, and that each holds an equal interest in a partnership. The partnership holds all of the outstanding shares of a foreign corporation (Forco). Forco makes a $1,000 loan to Canco 1, which is not repaid within two years. Forco has exempt surplus of $500, and the ACB of the shares of Forco held by the partnership is $200.

Partnership s. 90(6) income inclusion and s. 90(9) deduction allocated to 2 partners (p. 5)

The relevant taxpayer appears to be the partnership because (1) under subsection 96(1), a partnership is deemed to be a taxpayer for computing taxable income, and (2) the definition of “specified debtor” is subsection 90(15) refers to situations where “the taxpayer is a partnership.” Assuming that the partnership agreement states that income is to be allocated on the basis of each partner's respective interest in the partnership, both Canco 1 and Canco 2 are deemed to have an income inclusion of $500… .

[S]ubsection 90(10) requires that the subsection 90(9) deductions be allocated to the corporate partners in a manner consistent with the determination of their share of partnership income under subsection 96(1)—here, one-half to each partner. Applying the one-half to Forco's exempt surplus of $500, Canco 1 and Canco 2 can each deduct $250. (Pursuant to paragraph 90(10)(b), the pre-acquisition surplus deduction that is otherwise available to corporations under subsection 90(9) is not available to corporate partners.)…

Comparison re partnership not interposed (p. 5)

Note that if Forco were held directly by Canco 1 and Canco 2 rather than through a partnership, the upstream loan inclusion of $1,000 under subsection 90(6) would all go to Canco 1. Canco 1 would then be able to deduct its $250 share of Forco's exempt surplus, and $100 of pre-acquisition surplus, for a net income inclusion of $650….

Subsection 90(14) - Repayment of loan

Administrative Policy

2017 Ruling 2016-0670971R3 - Repayments of upstream loans and series test

loan repayment not part of a prohibited series

An LLC subsidiary of a Canadian subsidiary (Canco3 - that was lower down in a corporate group controlled by a U.S. Pubco) received the repayment of a loan that it had made to a non-resident affiliated corporation (Forco2, which was not a foreign affiliate of Canco3), and used the repayment proceeds to purchase note receivables from group companies within the Forco2 silo and also to pay a dividend to Canco3 – which then lent some of this money “back” to Forco2 and also repaid loans owing to Canadian affiliates held in a separate silo from the Canco3 or Forco 2 silos.

CRA ruled that the repayment by Forco2 of its loan from the LLC would not be considered to be made “as part of a series of loans or other transactions and repayments” for the purpose of s. 90(8)(a) or 90(14).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(8) - Paragraph 90(8)(a) subsequent intercorporate loans and discharges were not part of “series of loans or other transactions and repayments” 262
Tax Topics - Income Tax Act - Section 248 - Subsection 248(1) - Disposition automatic loan renewals did not entail the making of new loans 56

20 March 2017 External T.I. 2014-0545591E5 - Upstream Loan and Debt Forgiveness Rules

debt forgiveness not a repayment

When an upstream loan to Canco from its wholly owned CFA is forgiven following a sale of the CFA, this will not qualify as a repayment of the loan for purposes of the upstream loan rules so that, at best, reserves will need to be claimed under s. 90(9) throughout the indefinite lifetime of Canco.

Words and Phrases
repayment
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(9) potential indefinite application of surplus where upstream loan forgiven after FA sale 187
Tax Topics - Income Tax Act - Section 80 - Subsection 80(1) - Excluded Obligation - Paragraph (a) s. 80 non-application where s. 90(6) applies to forgiven loan even if offsetting surplus deduction 148

4 August 2016 Internal T.I. 2016-0645521I7 - 90(6) & sale of creditor affiliate

deduction not dependent on FA being creditor affiliate at repayment time

In 2013, FA, which is wholly-owned by Canco, makes a loan to SisterCo., which is wholly-owned by the non-resident parent of Canco (“Foreign Parent”). Before the expiration of the two-year s. 90(8)(a) limit, Canco sells its shares of FA to Foreign Parent for cash consideration. The loan remains outstanding for more than two years. Would there be a s. 90(6) income inclusion to Canco? CRA responded:

[T]he sale of FA by Canco in this fact pattern would not give rise to a repayment of the loan it made to SisterCo and, since the loan remains outstanding for more than two years, subsection 90(6) would apply. The fact that FA is no longer a “creditor affiliate” of Canco at the two year time limit is not relevant as the legislation tests the status of the lender as a “creditor affiliate” only at the time the loan is made. On the other hand, the deduction available under subsection 90(14) is not dependent on FA being a “creditor affiliate” at the time of repayment. Thus, in our view, when the loan is finally repaid a deduction will be available to Canco in the taxation year of repayment, provided the repayment is not made as part of a series of loans or other transactions and repayments.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(6) inclusion not dependent of maintenance of creditor affiliate status 71

22 May 2014 May IFA Roundtable, 2014-0526741C6 - Foreign affiliates - upstream loans

cash pooling arrangements

CRA has not yet developed any specific positions on the application of the upstream loan rules to cash pooling arrangements and would welcome a detailed submission from industry.

2013 Ruling 2013-0477871R3 - 5900(1)(a) and dividends from foreign affiliate

repayment by set-off against dividend

A non-resident subsidiary (ForeignHoldco) of a taxable Canadian corporation (Parent) will eliminate a non-interest-bearing loan previously made by it to Parent by declaring a dividend, paying the dividend by issuing a demand promissory note and then receiving the note from Parent in payment of the loan. CRA was only asked to rule to the effect that dividends (including a liquidating dividend) previously received by ForeignHoldco from a Malaysian-resident subsidiary qualified as an addition to ForeignHoldco's exempt surplus in respect of that subsidiary.

See detailed summary under Reg. 5907(11.2).

Locations of other summaries Wordcount
Tax Topics - Income Tax Regulations - Regulation 5907 - Subsection 5907(11.2) dividends from Malaysian offshore company 308

Finance

1 May 2018 Finance Comfort letter respecting repayment of back-to-back loans under the upstream loan rules

provision of a deemed repayment rule for B2B loans under s. 90(7)

A Bermuda-resident foreign affiliate (“FA 1") of Canco made loans (the "FA 1 Loans") to Forco 1 which, in turn, has made loans (the "Forco 1 Loans") to Forco 2. Forco 1 and Forco 2 are specified debtors, as defined in s. 90(15), but not foreign affiliates, respecting Canco. The FA 1 Loans and Forco 1 Loans are back-to-back loans described in s. 90(7), so that there instead is deemed to be direct loans by FA 1 to Forco 2 (the "Deemed Loans")., and paragraph 90(7)(b) has deemed each actual FA 1 Loan and Forco 1 Loan not to have been made.

For each year, s. 90(6) included a specified amount in Canco's income and claimed an offsetting deduction under s. 90(9) respecting FA 1's exempt surplus (resulting in a corresponding s. 90(12) inclusion in the following year and a further s. 90(90 deduction.) Forco I will repay the FA 1 Loans and FA 1 will use such proceeds to lend to another specified debtor respecting Canco (the "FA 1-New Specified Debtor Loans").

This repayment of the FA 1 Loans may not be considered to result in the repayment of the Deemed Loans, in which case, there could be a double income inclusion to Canco for the year: s. 90(12) applies to bring into income the amount claimed in the previous year as a s. 90(9) deduction respecting the Deemed Loan; ands. 90(6) includes each FA 1-New Specified Debtor Loan in Canco's income.

Finance responded:

We agree that … the transactions described above ought not to give rise to two concurrent upstream loans, and two related income inclusions under the upstream loan rules. We are therefore prepared to recommend … rules - similar to the deemed repayment rules in subsections 15(2.18) and (2.19) (which apply for the purposes of the back-to-back shareholder loan rules in subsections 15(2.16) and (2.17), but with such modifications as are required by the context of the upstream loan rules - that would deem all or a portion of a loan that is deemed to be made under subsection 90(7) to be repaid for the purposes of paragraph 90(8)(a) and subsection 90(14) if certain conditions are met.

These conditions would be similar to those in subsection 15(2.18). In general terms, a loan deemed to have been made under subsection 90(7) would be deemed to be repaid, in whole or in part, as a result of certain repayments, in whole or in part, of one or both of the loans between the "initial lender" and the "intermediate lender", and the "intermediate lender" and the "intended borrower" (as those terms are defined in subsection 90(7)).

16 May 2018 IFA Finance Roundtable, Q.10

comfort letter re deemed repayment

The upstream loan regime in s. 90 provides for income inclusions under s. 90(6) for certain loans and indebtedness owing to foreign affiliates, and offsetting deductions on repayment under s. 90(14). The rules contain back-to-back loan provisions in s. 90(7). More recently, the shareholder loan rules in s. 15 were amended to add s. 15(2.17) dealing with back-to-back loans, together with deemed repayment rules in ss. 15(2.18) and (2.19). Is Finance considering similar repayment rules in s. 90?

Finance indicated that it had recently issued a comfort letter recommending the introduction of repayment rules similar to those in s. 15, effective for repayments after April 10th, 2018.

Articles

Ian Bradley, Marianne Thompson, Ken J. Buttenham, "Recommended Amendments to the Upstream Loan Rules", Canadian Tax Journal, (2015) 63:1, 245-67.

Narrowness of repayment rule (p. 251)

There are situations in which an upstream loan may cease to represent a synthetic distribution from a foreign affiliate without the loan being repaid. However, because there is no repayment, the, appropriate relief is not available…

Non-exclusion where FA is sold to Canco's NR parent (p.252)

[I]n Figure 1…[a] non-resident corporation (Parent) owns all of the shares of a Canadian-resident corporation (Canco). Canco in turn owns all of the shares of another non-resident corporation (Subco). Subco makes a loan to Parent, which is not repaid within two years. At the time of the loan, Subco is a foreign affiliate of Canco, and Parent is a specified debtor in respect of Canco. Subsection 90(6) will therefore apply to Canco in respect of the loan.

Canco subsequently sells the shares of Subco to Parent for fair market value consideration. In this example, since Subco ceases to be a foreign affiliate of Canco, the loan should no longer represent a synthetic distribution of funds from a foreign affiliate….[T]he loan proceeds have been effectively repatriated to Canco, with full tax consequences for Canco….However, because the loan has not been repaid, no deduction is available under subsection 90(14).

Whether repayment and new loan following FA's sale to NR parent is a series (p. 255)

In some situations, it may not be possible to repay the upstream loan until after the creditor affiliate has ceased to be a foreign affiliate of the taxpayer….In a variation of the example in figure 1, if Parent repaid the existing loan after Subco ceased to be a foreign affiliate, and Subco made a new loan shortly thereafter, would the repayment of the existing loan be a part of a series?...Since loans by non-residents that are not foreign affiliates are outside the intended scope of the upstream loan rules, the new 1oan made by Subco should not be relevant when applying the series test in this context.

Non-exclusion following loan assignment by FA to Canco 2 (pp. 255-6)

Consider figure 2, in which a Canadian-resident company (Canco 1) has received a loan from a foreign affiliate (FA). This loan is subject to the upstream loan rules, although the subsection 90(6) income inclusion is partially offset by an annual subsection 90(9) deduction (by virtue of the surplus balances of FA). FA then assigns the loan to Canco 2, another Canadian-resident corporation, which is related to Canco 1, for fair market value consideration (without any novation of the loan). [fn 28: The CRA has stated that an assignment of a debt receivable to a new creditor without novation of the debt would not be considered a repayment of the debt for the purposes of subsection 15(2.6): see CRA document no. 2013-0482991E5, September 8, 2014.] The loan should now fall outside the intended scope of the upstream loan rules, since it is a loan between two Canadian corporations…However, since the loan is not repaid, it appears that from a technical perspective no deduction is available under subsection 90(14).

Non-exclusion where Canco acquires the NR affiliated debtor (pp. 256-7)

The next two scenarios involve a Canadian-resident corporation (Canco) that is a wholly owned subsidiary of a non-resident corporation (Parent). A foreign affiliate of Canco (FA) has made a loan to a non-resident subsidiary of Parent (Debtor) (see figure 3). Since Debtor does not deal at arm's length with Canco and is not a controlled foreign affiliate of Canco within the meaning of section 17, the upstream loan rules will apply to this loan.

In the first scenario, Canco acquires all of the shares of Debtor, so that Debtor becomes a controlled foreign affiliate of Canco. Since the loan is now between two controlled foreign affiliates of Canco, it should no longer represent a synthetic distribution from a foreign affiliate….

Non-exclusion where arm's length purchase of NR affiliated debtor (pp. 256-7)

In the second scenario, the shares of Debtor are sold to an unrelated third party, so that Debtor now deals at arm's length with Canco. In this scenario, it is less clear whether the loan continues to fall within the intended scope of the upstream loan rules….v

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(9) 702

Ken J. Buttenham, "Are you Ready for the Upstream Loan Rules?", Canadian Tax Journal, (2013) 61:3, 747-68

Application to cash-pooling arrangements (p. 755)

…In practice, it may be challenging for taxpayers and the CRA to determine the correct application of the upstream loan rules when cash-positive foreign affiliates are members of a cash pool that also includes specified debtors. [fn 23: There may not be any ultimate income inclusion under these rules if one of the exceptions in subsection 90(8) applies or if a full deduction can be claimed under subsection 90(9); however, where an upstream loan exists, the potential application of these relieving provisions will have to be considered.] Owing to the nature of cash pool arrangements, not only is it difficult to determine whether an upstream loan exists, but it can also be difficult to track repayments (and maintain that they are not part of a series of loans or other transactions and repayments), as well as to determine when a "new" upstream loan is made.

Series of loans and repayments (pp. 759-760)

…[After discussing Meeuse v. The Queen, 94 DTC 1397 (TCC)] …On balance, the case law suggests that for transactions to constitute a series, they require a common purpose.

Thus, the CRA seems to agree that a repayment of a loan made for a specific identifiable purpose followed shortly by another loan made for a different specific identifiable purpose should not be considered to be part of a series. Conversely, the CRA seems to be of the view that repayments made in the course of a series of upstream loans for on-specific reasons and repayments that are clearly of a temporary nature should be treated as being part of a series. [fn 42: CRA document no. 9219115, October 5, 1992… .]

…In Attis v. MNR [fn 43: 92 DTC 1128 (TCC)] and Hill v. MNR, [fn 44: 93 DTC 148 (TCC)] the Tax Court of Canada dealt with the situation where shareholders received loans from their respective corporations during a year, which were later repaid in whole or in part by the declaration of dividends or bonuses….

In Income Tax Technical News (ITTN) no. 3, the CRA confirmed that, consistent with these cases, bona fide repayments of shareholder loans that are the result of the declaration of dividends, salaries, or bonuses should not be considered to be part of a series of loans or other transactions and repayments. […see [also] 2010-0382431E5, January 20, 2011, and 2008-0267271E5, April 16, 2009.]

Finance

26 April 2017 IFA Finance Roundtable, Q.10

[relief for where upstream loans no longer are synthetic distributions]

A foreign affiliate (Forco1) of a Canadian parent (Canco) had made a loan to Canco. Forco1 is subsequently sold, thereby ceasing to be a foreign affiliate of Canco. The upstream loan would not be considered to be repaid for the purpose of s. 90(14). Is Finance contemplating relief?

Finance responded that the general policy intent of the upstream loan rules is to ensure that a synthetic distribution by way of an upstream loan from a foreign affiliate should produce comparable tax results to an actual distribution, and that the repayment rule in s. 90(14) supports the policy that the rules apply only for so long as the synthetic distribution persists – and it recognizes that there are certain transactions where the loan is not repaid, but functionally result in there no longer being a synthetic distribution. As a result, Finance is continuing to consider whether triggering events should be included in the rules and, if so, their scope.

An obvious “poster child” triggering event is the cash sale in the example. However, Finance would prefer not to deal with introducing relieving triggering events on a piecemeal basis and, instead, would prefer to do a complete analysis of to what extent relief should extend to more complex situations.

In the meantime, taxpayers have available work-arounds to use in situations such as the poster child rather than requesting ad hoc relief. In this regard, Finance referred with approval to 2013-0491061R3, which it described as a temporary repayment of a loan, in the course of transactions in which the creditor foreign affiliate ceases to be an FA of the taxpayer, being treated as a permanent repayment and not part of a series of loans and repayments.

Subsection 90(15) - Definitions

Articles

John Lorito, Trevor O'Brien, "International Finance – Cash Pooling Arrangements", 2014 Conference Report, (Canadian Tax Foundation), 20:1-33

Exclusion for loans to NR subs of related Canadian corporations (pp. 11-12)

Consider…the structure…in which BVCo 1 [a NR sub of the immediate U.S. parent of Canco 1] is the head account holder. … Since BVCo 1 does not deal at arm's length with Canco 1 and is not a controlled foreign affiliate of Canco 1, BVCo 1 is a specified debtor in respect of Canco 1. As a result, any loans from a foreign affiliate…[subsidiary to Canco 1] will engage the application of the upstream loan rules in respect of Canco 1. By contrast, if BVCo 2 [a NR sub of a Cdn. sub of the ultimate NR parent of Canco 1] is the head account holder, loans from these foreign affiliates to BVCo 2 will not result in the application of the upstream loan rules. BVCo 2 is a controlled foreign affiliate of Canco 1 for purposes of section 17 by reason of the deeming rule in subsection 17(3) [f.n 36 This rule provides that a non-resident corporation that is a controlled foreign affiliate of a corporation resident in Canada is also a controlled foreign affiliate of any other corporation resident in Canada that is related to that corporation.] and, therefore, BVCo 2 is not a specified debtor in respect of Canco 1.

See description of cash pooling under s. 15(2.3).

specified debtor

(b)

Administrative Policy

2014 Ruling 2013-0510551R3 - Upstream Loans - Specified Debtor

foreign JV company is not specified debtor

Current structure

Canco1, a Canadian public corporation, wholly-owns Canco2 and Forco1, which is solely a holding company for the Canco1 equity interest in Forco3. Forco1 owns X% (perhaps 50% - see reference to "equivalent" [i.e., "equal"?] amount" in 5 below – or otherwise, likely under 50%) of the shares of Forco3 and (100-X)% of Forco3's shares are owned by an unrelated Luxembourg company (Forco2). Forco3, Forco2 and Forco1 are parties to a "Current Accounts Agreement," which provides that all necessary funding will be provided to Forco3 in the form of interest bearing advances made on a pro rata basis. The governance of Forco3 is required to be be undertaken by a President and/or Executive Vice President (each of whom is appointed by unanimous consent of the shareholders and Executive Committee and who are required to manage Forco3), Executive Committee (whose decisions must be made unanimously by representatives of each shareholder and which is required to approve essentially all major decisions including approval of the annual budget and any change in financial policy) and the shareholders (who are required to unanimously approve certain major reorganization etc. decisions and who specify the dividend policy and buy-sell rights in a shareholders' agreement).

Proposed transactions
  1. Canco1 will transfer all of the outstanding Forco1 shares, and the "Forco1 Receivable" owing to it, to Finco (a newly-incorporated Luxembourg public limited company subsidiary) in consideration for mandatorily redeemable preferred shares (MRPS) of Finco.
  2. Canco1 will transfer all of the outstanding (ordinary and MRPS) Finco shares and the Forco1 Receivable to Canco2 in consideration for Canco2 shares.
  3. Forco1 will repay a portion of the Forco1 Receivable by delivering to Finco the "Forco3 Receivable" owing to it by Forco3, so that Finco will now hold the Forco3 Receivable and the balance of the Forco1 Receivable – which then will be converted into Forco1 shares having an equivalent value.
  4. Forco1 will liquidate and dissolve.
  5. Canco2 will subscribe for MRPS of Finco.
  6. Finco will lend the proceeds to Forco3 and Forco2 will lend "equivalent amounts" to Forco3, on an interest-bearing basis having regard to transfer pricing principles in Luxembourg and XX.
Ruling

Provided that "Forco3, in fact, deals at Arm's Length with Canco2…Forco3 will not be a specified debtor, as defined in subsection 90(15), in respect of Canco2, and as such, subsection 90(6) will not apply to require Canco2 to include any amount in income as a result of Loans made by Finco to Forco3, as described in [6]."