Principal Issues: Whether source deductions are recoverable from a bankrupt limited partnership.
Position: Yes, with priority given to the deemed trust portion.
Reasons: On the bankruptcy of a general partner of a limited partnership, section 85 of the BIA provides that the property of the limited partnership vests in the trustee. Subsections 227(4) of the ITA creates a deemed trust in respect of source deductions, while subsection (4.1) extends the trust to operate notwithstanding the bankruptcy of the general partner, providing the Crown with a beneficial ownership in the property, and according the deemed trust priority to the proceeds of such property when liquidated.
March 23, 2010
2009-033643
| Barrie Tax Services Office Attention: Deanna Pontes, Manager High Risk Insolvency Unit |
HEADQUARTERS Income Tax Rulings Directorate Lindsay Frank (613) 948-2227 |
Source Deductions Liability of a Bankrupt Limited Partnership
This is in reply to an email from Sid Sveinson, who is seeking clarification on the recovery of source deductions from the estate of a bankrupt limited partnership.
A limited partnership is indebted for source deductions in the amount of $122,000.00, and its general partner has been adjudged bankrupt. The trustee in bankruptcy has realised on the assets of the limited partnership, and is contemplating remitting the proceeds from the liquidation to the secured creditor of the limited partnership.
As explained below, the combined effect of subsection 85(1) of the Bankruptcy and Insolvency Act ("BIA") and subsections 227(4), (4.1), and (15) of the Income Tax Act (the "Act") provides for the deemed trust portion of the source deductions amount to be paid ahead of the security of the secured creditor.
Subsection 85(1) of the BIA applies to limited partnerships in the same manner as it does to ordinary partnerships, see Re Kingsberry Properties Ltd. Partnership (1998), 3 C.B.R. (4th) 135 (Ont. C.A.). Accordingly, on the bankruptcy of the general partner, the property of the limited partnership, in addition to the separate property of the general partner, vests in the trustee.
On the other hand, paragraph 153(1)(a) of the Act requires a person (including a partnership, see subsection 227(15)) paying a wage, salary, or other remuneration to deduct or withhold and remit to the fisc an amount of tax from the payment. Subsection 227(4) deems such an amount to be held in trust until it is remitted to the fisc. Regulation 108 provides the timeframe for such remittance.
If the amounts are not remitted as required, subsection 227(4.1) of the Act extends the operation of the subsection 227(4). With limited exceptions, the deemed trust operates despite the BIA, and any security interest that a creditor may have in the person's property. In this respect, an amount, equal to the amount withheld, is deemed to be held in trust for the Crown out of the person's property. That amount forms no part of a bankrupt estate from the time the amount was deducted or withheld, that is, from the day the salaries and wages were paid. Furthermore, the property is beneficially owned by the Crown, despite any security interest in the property, and the proceeds of that property have to be paid in priority to any security interest.
In light of the foregoing, the trustee has to allocate any proceeds from the liquidation of the property of the limited partnership and that of the general partner, to satisfy the deemed trust portion of the source deductions debt, ahead of the interest of the secured creditor. To assert a claim for the deemed trust portion of the source deductions liability, it will be necessary to prove a property claim against the estate, pursuant to section 81 of the BIA.
Should you need clarification or require additional information, please do not hesitate to contact Lindsay Frank at the number provided above.
B.J. Skulski
Manager
Insolvency and Administrative Law Section
Ontario Corporate Tax Division
Income Tax Rulings Directorate
c.c. Sid Sveinson
Revenue Collections Section
Thunder Bay Tax Services Office