Principal Issues: [TaxInterpretations translation] How should the amounts paid by Canco to its subsidiary Imageco qualify in respect of a Canadian film and video production (CFVP)?
Position: Question of fact. In the Particular Situation, the amounts paid in respect of CFVPs by Canco could constitute expenditures of a capital nature for the acquisition of depreciable property in Class 10x of Schedule II to the Income Tax Regulations. The cost to Canco of acquiring CFVPs is not limited to the production costs of Imageco, the corporation eligible for the film tax credit.
Reasons: CFVPs could be depreciable property for Canco because, based on the facts presented, among other things, the CFVPs create an enduring benefit to Canco by earning business income from their use.
February 17, 2010
Montreal Tax Services Office Income Tax Rulings Directorate Business and Partnerships Division Attention: Julie Racette Lucie Allaire, Advocate, CGA. D. Fisc.
2010-034846
Tax Treatment of Amounts Paid in Respect of a Canadian Film and Video Production
This is in response to your request for a technical interpretation dated November 18, 2009, in which you described a situation where a parent company acquires a Canadian film or video production ("CFVP") from its subsidiary, following various email exchanges (Racette/Allaire).
Unless otherwise indicated, all legislative references herein are to the provisions of the Income Tax Act (the "Act").
Specifically, you described a situation where Canco and its subsidiary Imageco are both Canadian-controlled private corporations and where Canco's business activities relate to the creation and production of XXXXXXXXXX. Canco has retained Imageco to produce audio-visual materials, namely a XXXXXXXXXX film and DVD (the "CFVPs"). Imageco received the film and video production tax credit ("FVPTC") in respect of these CFVPs.
Subsequently, Imageco transferred the CFVPs to Canco. Canco deducted all costs related to the acquisition of the CFVPs in the year of acquisition and earned business income from the use of the CFVPs. Imageco was subsequently wound up under subsection 88(1). You stated that, for Canco, the CFVPs are assets with an indefinite life and you added, without providing further details, that the CFVPs could be used to earn business income for a period of between three and five years.
You wish to know if the consideration paid by Canco is a capital expenditure on depreciable property. To the extent that it is a capital expenditure, you are asking in what class the CFVPs would fall. In your view, Class 10(x) of Schedule II to the Income Tax Regulations (the "Regulations") includes only an expenditure on production costs for CFVPs.
For the purposes of our analysis, we have made the following assumptions:
- Imageco is a qualified corporation within the meaning of 125.4(1) in respect of CFVPs;
- Canco is not an investor as defined in current subsection 125.4(1);
- Canco is a prescribed taxable Canadian corporation under subsection 1106(2) of the Regulations;
- Canco and Imageco are two related corporations within the meaning of section 251 throughout the period that began when Imageco incurred the first qualified labour expenditure (as defined in subsection 125.4(1)) in respect of the CFVP and ended when Imageco disposed of the CFVP to Canco;
- The CFVPs were not capital property to Imageco;
- Imageco transferred completed CFVPs to Canco.
For the purposes of the FVPTC, the definition of "labour expenditure" in subsection 125.4(1) specifies, inter alia, for the qualified corporation the amounts that are included in the cost of the property or, in the case of depreciable property, in its capital cost in respect of property owned by it that is a CFVP.
Our Comments
Paragraph 18(1)(a) provides that expenses are not deductible in a year except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property.
Paragraph 18(1)(b) provides that capital expenditures are not deductible in computing income except as specifically permitted by Part I. The principles, established by case law to determine whether an expenditure is a current or a capital expenditure, are reviewed in paragraph 4 of IT-128 Capital Cost Allowance - Depreciable Property.
Generally, a depreciable property is a capital property for which a deduction under paragraph 20(1)(a) may be taken for a taxation year. The classes of property referred to in Part XI and Schedule II of the Regulations do not include property that was not actually acquired by the taxpayer or property listed in subsection 1102(1) of the Regulations, including property that was not acquired for the purpose of gaining or producing income.
Specifically, paragraph 10(x) of Schedule II to the Regulations refers to property that is a CFVP. In this regard, subsection 1101(5k.1) of the Regulations, which refers to CFVPs that have given rise to a FVPTC by virtue of subsection 125.4(3), provides for a separate depreciable class for CFVPs.
Whether the amounts paid by Canco in respect of the CFVPs constitute a current or a capital expenditure is a question of fact.
Some relevant general criteria relating to the deductibility of current expenses are that a property should be used only for a short period of time or produce little long-term benefit. In contrast, one of the criteria demonstrating that an expenditure is on capital account is that it creates a property or benefit for the enduring benefit of a business.
Consequently, based on the limited facts submitted, we are of the view that the CFVPs could be treated as capital in nature and qualify as capital assets to Canco. Specifically, for Canco, the CFVPs could be depreciable property in Class 10(x) of Schedule II of the Regulations. Similarly, amounts paid by Canco in respect of CFVPs would not qualify as eligible capital property.
In the event that the CFVPs are depreciable property to Canco, Canco would therefore be able to claim capital cost allowance at a rate of 30% on the residual balance in Class 10(x) by virtue of paragraph 20(1)(a), subject to, inter alia, the half-year rule and the short taxation year rule in subsections 1100(2) and (3) of the Regulations, respectively. Finally, paragraph 1100(1)(m) of the Regulations provides that an additional deduction may be available.
Finally, since the transfer of the CFVPs from Imageco to Canco is a non-arm's length transaction, we simply wish to bring to your attention the potential application of section 69.
Access to Information
For your information, unless exempted, a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, the electronic library version can be provided. Alternatively, the client may request a severed copy using the Privacy Act criteria, which does not remove client identity. Requests for this latter version should be made by you to Ms. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.
We hope that these comments are of assistance.
François Bordeleau, Advocate
Manager
Business and Partnerships Section
Income Tax Rulings Directorate.