Foreign Partnerships
This is in response to your memorandum of March 20 concerning a Canadian Corporation, that became a member of a foreign (US) partnership.
24(1)
When the partnership encountered cash flow problems new partners were sought. We assume from the information provided that a new partnership was formed. The new partnership consists of new members investing cash and members of the former partnership contributing their share of the former partnership assets.
If a new a partnership is formed then, as a consequence, the Canadian Corporation disposed (note this is not a deemed disposition) of its partnership interest for proceeds of disposition equal to the fair market value of its share of the partnership assets. This disposition would be subject to tax either as a capital transaction or an income transaction depending on the nature of the partnership interest held by the Canadian Corporation. Most likely subsection 40(1) and possibly subsection 100(2) of the Act would apply to the disposition of the partnership interest by the partner and subsection 98(2) would be applicable to the disposal of the partnership assets by the partnership to the partners. The proceeds when, in turn, contributed to the new partnership become the cost of the Canadian Corporation's partnership interest in the new partnership.
While we have assumed a new partnership, whether or not a new partnership is formed or the existing partnership continues would be determined under the terms of the partnership agreement and the relevant law 24(1) law) Increasing the capital accounts of the original partners to recognize the fair market value of the existing assets is an indication that a new partnership was formed.
You also mention that the Canadian corporation files a 24(1) return for its partnership interest but adjusted the income reported in the 24(1) return, when an amended Canadian return was filed. Additional expense were claimed in the Canadian return. You ask if the taxpayer is allowed to vary the amounts reflected in its US return.
Since you have not identified the adjustments to income we can not provide specific comments. The following general comments may be of use. The taxpayer's interest in the partnership's income or loss first becomes subject to Canadian Tax law (subsection 96(1)) in the partnership year in which it is acquired. The Canadian partner must calculate its partnership income under the rules of the Canadian Income Tax Act. This usually results in adjustments to the foreign income statements. Expenses, reserves, capital cost allowances etc. specific to the foreign law are ignored for Canadian Tax purposes. Often the opening and ending inventories for the year of acquisition require adjustment under subsection 10(1) of the Act (subsection 10(2) is not considered to apply) and the Canadian taxpayer is allowed to calculate capital cost allowance based on the historical cost to the partnership of its depreciable assets.
There is concern that some acquisitions of foreign partnership interests appear to be solely tax motivated and the general anti-avoidance provision of the Act should be considered. Accordingly, you may wish to discuss your particular case with Tax Avoidance specialists.
We would be pleased to provide specific responses based on the facts if you wish to make a written submission with full particulars.
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cc W. Szyc Audit Applications Division