Parentco, a corporation resident in the U.S. for Treaty purposes, is the only member of Parentco LLC, which is the only member of Sisterco LLC, and also wholly-owns Canco. Canco resides in Canada for purposes of the Canada-US Income Tax Treaty (the “Treaty”). Parentco LLC and Sisterco LLC have their central management and control in the U.S., and are disregarded entities for U.S. purposes - so that all income earned by the two LLCs is derived by Parentco for U.S. tax purposes.
CRA proposed an inclusion in Canco’s income under s. 247(2) of the difference between an arm’s length price for goods sold by Canco to Sisterco LLC and the consideration paid, and also proposed a secondary adjustment under s. 247(12) on the basis that a resulting benefit conferred on Sisterco LLC was deemed to be a dividend that was paid by Canco and that was subject to a Pt. XIII remittance obligation.
In finding that the deemed dividend arising under s. 247(12) would be eligible for a Treaty-reduced rate in accordance with Art. IV(6) of the Canada - U.S. Treaty having regard to the requirement thereunder that the deemed dividend amount be considered under U.S. tax law to have derived been derived through Sisterco LLC and Parentco LLC and that by reason of those LLCs being fiscally transparent, the U.S. treatment of such amount was the same as its treatment would be had it been derived directly by Parentco, the Directorate first referred to it position in 2009-0345351C6 (subsequently confirmed in 2017) that “any Canadian-source deemed dividend which arises on the redemption of the shares [is] derived by the US-resident member of the LLC even though the amount paid by the corporation to redeem the shares may be treated, under the taxation laws of the US, as proceeds of disposition or a return of capital,” and then stated:
If a corresponding adjustment is made in the U.S. to consider that Canco has paid a dividend that is derived by Parentco through Parentco LLC, the conditions of paragraph IV(6) should be met since Parentco would be considered to have derived a dividend through Parentco LLC.
Before [any] corresponding adjustment is made … the conditions of paragraph IV(6) should still be met since Parentco is considered to have derived an amount (that is not disregarded) through US Sisterco LLC. More specifically … from a US tax perspective, Parentco, will have a reduced cost of inventory that is derived through the purchases of Sisterco LLC from Canco. The application of paragraph IV(6) would result in the amount deemed to be a dividend under subsection 247(12) to be derived by Parentco for purposes of paragraphs X(1) and (2) and the presumption of ownership of the shares of Canco by Parentco in subparagraph X(2)(a) would apply to determine the applicable rate of withholding.
Either way … that amount [is not] “disregarded” for US tax purposes … .