Principal Issues: [TaxInterpretations translation] Can a loan made by a corporation to a partnership whose members are also shareholders of the corporation come within subsection 15(2)?
Position: Yes
Reasons: Despite Gillette v. The Queen, 2003 DTC 5888, 2003 FCA 22, we have repeatedly stated that the term "person connected with a shareholder of a particular corporation" in subsection 15(2.1) can include a partnership.
FINANCIAL SERVICES ROUND TABLE
2004 APFF CONFERENCE
Question 4
Loan to a partnership by a corporation
Mr. A and Mr. B carry on a business through a corporation in which they each own 50% of the shares.
They also work as professionals through a partnership in which they each have a 50% interest.
The corporation has acquired life insurance policies on the lives of Mr. A and Mr. B in accordance with the shareholders’ agreement. The corporation used that opportunity to make additional contributions to each of the life insurance policies. The corporation subsequently received a commercial loan from a financial institution secured by the life insurance policies. The corporation wishes to use the money from the loan to in turn lend it to the partnership. The corporation will charge the partnership an interest rate on the loan that is slightly higher than the rate the corporation must pay on its own loan from the financial institution.
The partnership will use the lent money in its operations instead of using a current line of credit.
Could subsection 15(2) apply to the loan received by the partnership from the corporation? Would the position be the same if the rate of interest charged to the partnership by the corporation were the same as the rate of interest paid by the corporation to the financial institution?
Could subsection 15(1) apply to the loan received by the partnership from the corporation?
CRA Response
In the situation you presented to us, we are of the view that subsection 15(2) could apply to the partnership to include the amount of the loan in its income, unless the loan falls within one of the exceptions set out in subsections 15(2.3) to (2.6). More specifically, subsection 15(2.3) regarding loans made by a corporation in the ordinary course of its business of lending money or subsection 15(2.6) regarding the time limit for repayment of the loan could be relevant to the current situation. However, these exceptions do not seem to apply to the current situation according to the information provided.
Although the partnership is not itself a shareholder of the corporation, subsection 15(2) also applies to loans received by a person or partnership connected with a shareholder of the corporation. Subsection 15(2.1) defines a person connected with a shareholder of a corporation as, inter alia, a person who does not deal at arm's length with the shareholder. We have stated on various occasions that the term "person … connected with a shareholder of a particular corporation" as provided in subsection 15(2.1) may include a partnership. Whether a partnership does not deal at arm's length with a shareholder of the corporation is a question of fact. Interpretation Bulletin IT-419R, Meaning of Arm's Length, August 24, 1994, outlines the criteria used to determine whether or not persons are dealing with each other at arm's length. Since, in your example, the partnership and the corporation are owned by the same two individuals, we are led to believe that these individuals act in concert and control the partnership together, so that they are not dealing at arm's length with the partnership.
The rate of interest charged by the corporation to the partnership on the loan does not change our view on the application of subsection 15(2).
In a situation where the loan received by the partnership meets one of the exceptions in subsections 15(2.3) to (2.6), the amount of the loan would not be included in computing the partnership's income under subsection 15(2). However, subsections 80.4(2), 15(9) and 15(1) could apply to include a benefit in the partnership's income unless the interest rate paid by the partnership on the loan was greater than or equal to the prescribed rate.
Finally, where the amount advanced by the corporation to the partnership is a loan or debt, as in this situation, subsection 15(1) does not apply to that amount since the partnership has a legal obligation to repay the amount. However, in a situation where this amount instead was a distribution of corporate funds, subsections 56(2) and 15(1) could apply to include this amount in computing the income of the shareholders of the corporation.
Mario Gingras
827-9314
October 8, 2004
2004-008841