Holdco, a subsidiary of a U.S. entity (“Parent”), provided long-term debt financing to its Canadian operating entities (“Opcos”) in the form of debentures/subordinated income instruments (“SIIs”). In the early 1980s, Holdco received a ruling as to the deductibility (subject to s. 18(4)) of its interest expense on a 40-year U.S. $15 million debenture (“Debenture”) issued by it to Parent, which bore interest for each year of the lesser of 11% per annum and Holdco’s profits in that year. Holdco’s obligation to pay the principal on the demand of Parent was subject to a net worth test.
Holdco currently has 14 SIIs outstanding in an aggregate amount of C$1.6 B to a related non-resident entity, and holds SIIs issued by Opcos totalling the same amount.
The Directorate indicated that CRA would continue to be bound by the ruling notwithstanding the replacement of s. 69(2) by s. 247(2). The ruling did not apply to the other SIIs. Regarding whether the terms of those SIIs complied with s. 247(2), it summarized statements in Chapter X of the current OECD Transfer Pricing Guidelines, and then stated:
In the case of any particular SII, the economically relevant characteristics include those that were in existence at the time the instrument was executed. Thus, for transfer pricing purposes, the expected yield to maturity of a particular SII is a relevant factor in determining whether the interest rate of the SII is consistent with the arm’s length principle.