Principal Issues: [TaxInterpretations translation]
Which taxpayer should be taxed on interest income arising from an assessment that is cancelled if there was subrogation?
Position: The person who pays the tax in place of the taxpayer.
Reasons: effect of subrogation
November 8, 2000
Montreal Tax Services Office Headquarters Audit Division Income Tax Rulings Directorate Section 452 Michel Lambert Attention: Ms. Linda Paré (613) 957-8953
2000-002516
XXXXXXXXXX
Recognition of interest income
This is further to your memo of May 3, 2000 requesting our opinion on the taxation of an amount of interest paid to a taxpayer by the Canada Customs and Revenue Agency.
More specifically, a taxpayer was issued a notice of assessment regarding tax under Part XIII of the Income Tax Act (the Act). The taxpayer claimed that his accountant had made an error and held him responsible. The accountant then turned to his insurer, XXXXXXXXXX, which had issued liability insurance to the accountant.
On XXXXXXXXXX, the parties agreed on the following:
- the insurer acknowledged that the taxpayer could claim the amounts assessed from the accountant and possibly from the insurer;
- it was in the parties' interest that the insurer pay the assessment;
- if the Agency cancelled or reduced the assessment, the amounts paid, including interest, would be the property of the insurer;
- the taxpayer subrogated the insurer and the accountant to the taxpayer’s rights against the Agency.
On XXXXXXXXXX, the Agency issued a new notice of assessment to cancel the previous assessment. As a result, the Agency paid the taxpayer $XXXXXXXXXX in interest. That amount was subsequently paid to the insurer in accordance with the agreement between the parties.
The insurer's representatives are of the view that the insurer should be taxed on this amount of XXXXXXXXXX and ask you to confirm their opinion. On October 18, 2000, they sent us a letter in support of their opinion.
OUR OPINION
During our telephone conversation on October 26, 2000 (Paré/Lambert), you told us that the question you were asking came from the insurer's representatives and that it was not a file under audit. We agreed that a generally applicable answer would be satisfactory.
The first question is who owns the interest income. This is a question of civil law that must be resolved by the taxpayer. In this regard, we draw your attention to the concept of subrogation in articles 1651 et seq. of the Civil Code of Québec. Subrogation is the legal operation by which a third party who has paid in place of the debtor receives the creditor's claim with all its accessories, either legally or by agreement. The person who pays the debt in place of the debtor is subrogated by law to the rights of the creditor.
Since the insurer is subrogated to the creditor's rights, we are of the view that the interest income to which it is entitled must be added in computing its income for the purposes of the Act. Consequently, the taxpayer does not have to include that interest in income.
We hope you find these comments useful.
ACCESS TO INFORMATION
For your information, a copy of this memorandum will be severed using the Access to Information Act and will be available in the Legislative Access Database (LAD) located on the mainframe of the Canada Customs and Revenue Agency. 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 Legislative Access Bank 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 that has been severed in accordance with the Privacy Act will be sent to you for delivery to the client.
Acting Manager
Financing and Plans Section
Financial Industries Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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