Principal Issues: Whether Opco can use the special rules provided under paragraphs 125.7(4)(c) or (d) of the Act to determine its qualifying revenue for a particular qualifying period in a given situation.
Position: Question of fact. If all the conditions are met, yes.
Reasons: Opco would have to ensure, among other things, that all or substantially all of its qualifying revenue is in respect of the joint venture to be eligible for the special rules under paragraph 125.7(4)(c). If all the participants of the joint venture are not dealing at arm’s length with Opco, Opco may be able to use the election under paragraph 125.7(4)(d).
Mr. David Gagné-Therrien Dedicated Telephone Service Amanda Couvrette, Canada Revenue Agency CPA, CA David.Gagne-Therrien@cra-arc.gc.ca 2020-087073
February 15, 2022
Dear Mr. Gagné-Therrien:
Re: CEWS – Qualifying revenue in respect of a joint venture
We are writing in response to your questions related to determining qualifying revenue of an eligible entity where its revenue is in respect of a joint venture for purposes of the Canada Emergency Wage Subsidy (“CEWS”), as provided in section 125.7 of the Income Tax Act (“the Act”).
Our understanding of the situation is as follows:
- Mr. X owns 100% of the capital stock of Holdco 1.
- Mr. Y owns 100% of the capital stock of Holdco 2.
- Mr. X and Mr. Y are brothers.
- Holdco 1 and Holdco 2 own equally all of the shares of Opco.
- Holdco 1 and Holdco 2 are equal participants in a joint venture.
- The revenues and expenses of the joint venture are allocated equally to Holdco 1 and Holdco 2.
- Opco earns all its revenues from providing services to the joint venture.
- Holdco 1, Holdco 2 and Opco each have their own payroll accounts used to pay their respective employees. The joint venture does not have a payroll account.
- Holdco 1 and Holdco 2 have both experienced a revenue decline. Neither Holdco 1 nor Holdco 2 have applied for the CEWS.
- Opco, Holdco 1 and Holdco 2 are all related persons within the meaning of subsection 251(2) of the Act and, therefore, are deemed not to deal with each other at arm’s length pursuant to paragraph 251(1)(a) of the Act.
You would like to know whether Opco can use either of the rules provided under paragraphs 125.7(4)(c) or (d) of the Act to determine its qualifying revenue for a particular qualifying period.
Our comments
The CEWS, which is calculated under subsection 125.7(2) of the Act, is calculated with reference to the reduction in “qualifying revenue” experienced by a “qualifying entity.” A qualifying entity is an “eligible entity” that meets certain conditions. In determining the revenue reduction for a “qualifying period,” an eligible entity compares its qualifying revenue for the “current reference period” with that of the “prior reference period.” All of these terms are defined in subsection 125.7(1) of the Act.
Qualifying revenue of an eligible entity for a prior reference period or a current reference period, is defined in subsection 125.7(1) of the Act to mean the inflow of cash, receivables or other consideration arising in the course of the ordinary activities of the eligible entity in Canada in the particular period, subject to certain inclusions or exclusions. By virtue of paragraph (d) of the definition, qualifying revenue excludes amounts derived from persons or partnerships not dealing at arm’s length with the eligible entity. It is a question of fact whether a person or partnership is dealing at arm’s length with a particular eligible entity.
Subsection 125.7(4) of the Act requires that, for the purposes of the definition of qualifying revenue in subsection 125.7(1) of the Act, the qualifying revenue of an eligible entity is to be determined in accordance with its normal accounting practices, subject to certain special rules described in paragraphs 125.7(4)(a) to (e) of the Act.
Paragraph 125.7(4)(c) of the Act is available where all of the interests in an eligible entity are owned by participants in a joint venture and all or substantially all (which generally means at least 90%) of the qualifying revenue of the eligible entity for a qualifying period is in respect of the joint venture (“ASA test”). Where these conditions are met, the eligible entity may use the qualifying revenues of the joint venture (determined as if the joint venture were an eligible entity) as its qualifying revenues for the qualifying period.
Paragraph 125.7(4)(d) of the Act is available where all or substantially all of an eligible entity’s qualifying revenue, determined without reference to paragraph (d) of the definition qualifying revenue in subsection 125.7(1) of the Act, for a qualifying period, is from one or more particular persons or partnerships with which it does not deal at arm’s length (“NAL entities”) and each of the NAL entities jointly elect with the eligible entity. Where these conditions are met, the eligible entity may use the approach provided in subparagraphs 125.7(4)(d)(i) and (ii) of the Act to determine its qualifying revenue for the prior reference period and current reference period of the qualifying period.
Whether a joint venture exists is a mixed question of fact and law which must be determined by reference to the law of the particular province or territory. For more information on joint ventures, please refer to paragraphs 1.19 to 1.22 of the Income Tax Folio S4-F16-C1, “What is a Partnership?”
A joint venture is not a person or partnership for tax purposes and is not recognized separately for the purposes of the Act. As such, participants in a joint venture are each considered to carry on their proportionate share of all transactions carried out by the joint venture.
Therefore, when an eligible entity derives its revenue from services provided to a joint venture, the revenue is considered to be derived from the participants of the joint venture, based on the participants’ proportionate share. In the current hypothetical situation and assuming that a joint venture exists, since Opco does not deal at arm’s length with Holdco 1 and Holdco 2 (the participants of the joint venture), Opco would exclude from its qualifying revenue all amounts derived from the joint venture, pursuant to paragraph (d) of the definition of “qualifying revenue” in subsection 125.7(1) of the Act. As a result, Opco would not have any qualifying revenue and the ASA test in paragraph 125.7(4)(c) of the Act would not be met. Therefore, Opco would not be able to use paragraph 125.7(4)(c) to determine its qualifying revenue. If however, Opco were dealing at arm’s length with Holdco 1 and Holdco 2 (the participants of the joint venture), and all or substantially all of its qualifying revenue for a qualifying period is in respect of the joint venture, Opco would be able to use paragraph 125.7(4)(c) to determine its qualifying revenue.
In situations where an eligible entity cannot use paragraph 125.7(4)(c) of the Act to determine its qualifying revenue because of its non-arm’s length relationship with participants of a joint venture from which it receives its revenue, an election under paragraph 125.7(4)(d) of the Act may be available depending on the facts of the situation. In the current hypothetical situation, it appears that the requirements to use the rule in paragraph 125.7(4)(d) could be met since all of Opco’s revenue would be considered to be derived from persons with which Opco does not deal at arm’s length (the participants of the joint venture, Holdco 1 and Holdco 2). Question 8 of the CEWS FAQs (footnote 1) provides more details about this rule.
We trust our comments will be of assistance.
Yours truly,
Amanda Couvrette, CPA, CA
Manager
Business Income and Capital Transactions
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
FOOTNOTES
Note to reader: Because of our system requirements, the footnotes contained
in the original document are shown below instead:
1 https://www.canada.ca/en/revenue-agency/services/subsidy/emergency-wage-subsidy/cews-frequently-asked-questions.html