Principal Issues: [TaxInterpretations translation] Aco lends money to Bco, its wholly owned subsidiary, which uses the money borrowed from Aco to make a loan to Cco, its wholly owned subsidiary. Cco uses the amount of the loan in the course of carrying on an active business. Does the amount of interest paid by Bco to Aco constitute income to Aco from an active business carried on by it in Canada for purposes of subsection 129(6) of the Act?
Position:
Yes.
Reasons:
The conditions of subsection 129(6) are satisfied with respect to the payment of interest between Cco and Bco. Since both of the deeming rules in subparagraphs 129(6)(b)(i) and (ii) apply for the purposes of subsection 129(6), the amount of interest paid by Bco to Aco is a deductible expense in computing its income from an active business carried on by it in Canada and the amount paid or payable by Bco as interest is deemed to be income of Aco from an active business carried on by it in Canada.
XXXXXXXXXX Danielle Bouffard
2004-006594
June 29, 2004
Dear Sir,
Subject: Request for a technical interpretation of subsection 129(6) of the Income Tax Act
This is in response to your letter of March 3, 2004 concerning the above subject in the context of interest payments on loans between associated corporations.
Aco lent money to Bco, its wholly owned subsidiary, which used this money to make a loan to Cco, its wholly-owned subsidiary. All three corporations are associated corporations pursuant to subsection 256(1) of the Income Tax Act (the "Act").
Cco used the loan amount in an active business in Canada. Bco does not carry on any business and has as its only income the interest income from the loan to Cco.
Because of the application of paragraph 129(6)(b), Bco's interest income is deemed to be income from an active business carried on by it in Canada.
Question
Does the amount of interest paid by Bco to Aco constitute income to Aco from an active business carried on by it in Canada for the purposes of subsection 129(6)?
Our Comments
As stated in paragraph 22 of Information Circular 70-6R5 dated May 17, 2002, it is the practice of the Canada Revenue Agency (the "CRA") not to issue a written opinion regarding proposed transactions otherwise than by advance rulings. Furthermore, when it comes to determining whether a completed transaction has received appropriate tax treatment, that determination is made first by our Tax Services Offices as a result of their review of all facts and documents, which is usually performed as part of an audit engagement. However, we can offer the following general comments that we hope may be helpful to you. These comments may not, however, apply to your particular situation in certain circumstances.
As discussed in paragraph 17 of Interpretation Bulletin IT-243R4, Dividend Refund to Private Corporations, to the extent that an amount received or receivable by a corporation (the recipient corporation) from an associated corporation was deductible by the recipient corporation in computing its income from an active business carried on by it in Canada, subsection 129(6) deems the amount to be income from an active business carried on by the recipient in Canada, and not income from a source in Canada that is property. In addition, for the purposes of subsection 129(6) and section 125, any outlay or expense made or incurred by the recipient corporation, to the extent that the outlay or expense is made or incurred for the purpose of gaining or producing that income from property, is deemed by subparagraph 129(6)(b)(ii) to have been made or incurred for the purpose of gaining or producing income from an active business carried on by it in Canada. As noted in the 1972 Budget Speech, the introduction of this measure was intended to prevent business income within a corporate group from being converted to investment income in order to benefit from the dividend refund.
In your hypothetical situation, since Aco, Bco and Cco are associated and since Cco has deducted the interest paid to Bco in computing its income from an active business carried on by it in Canada, paragraph 129(6)(b) establishes two presumptions for the purposes of subsection 129(6) and section 125. First, the interest income earned by Bco constitutes income from an active business carried on by it in Canada. Second, the interest expense paid by Bco to Aco, to the extent that it can reasonably be considered to be incurred or made by Bco for the purpose of earning its interest income, is deemed to have been incurred or made by Bco for the purpose of earning that income. Given that the two deeming rules in subparagraphs 129(6)(b)(i) and (ii) apply for the purposes of subsection 129(6), we are of the view that the interest expense paid by Bco to Aco is or may be deductible in computing its income from an active business carried on by it in Canada. Consequently, the amount paid or payable by Bco as interest is deemed to be income of Aco from an active business carried on by it in Canada.
These comments are not advance income tax rulings and do not bind the CRA with respect to any particular factual situation.
Best regards,
Ghislaine Landry, CGA
for the Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch