The taxpayer, a corporation resident in Canada, wholly owns a “C” corporation resident in the U.S. (“Holdco”), which earns foreign accrual property income (“FAPI”) and is the sole member of two fiscally-transparent LLCs. In each relevant taxation year (the “FAPI Year”), Holdco both uses losses incurred by the LLCs to fully offset its taxable income for the U.S. tax purposes and makes compensatory payments under a group tax sharing agreement to the LLCs (“Loss LLC 1” and “Loss LLC 2”) for the utilization of their losses (the “Compensatory Payments”).
The loss of Loss LLC 1 is a “foreign accrual property loss” (“FAPL”); and the loss of Loss LLC 2 is neither a FAPL, nor a “foreign accrual capital loss” (“FACL”).
Do the Compensatory Payments made by Holdco to the LLCs qualify as foreign accrual tax (FAT) pursuant to Reg. 5907(1.3)?
CRA noted that 2014 amendments made Reg. 5907(1.3) expressly applicable to fiscally transparent entities, so that the related position in 2003-0037291I7 was superseded.
In finding that Reg. 5907(1.3)(b) would be satisfied, CRA noted that the two loss LLCs were corporations resident in the U.S. and would not be viewed otherwise pursuant to Reg. 5907(11.2)(b) and, as a result of their being treated as fiscally transparent for purposes of the U.S. income tax laws, in computing its income or profits subject to tax in the U.S. for the FAPI Year, Holdco deducts the losses incurred by the LLCs, which are losses of other corporations.
Holdco, as the particular affiliate, pays the Compensatory Payments to the loss transferors and such payments may reasonably be regarded as being in respect of income or profit tax that would otherwise have been payable by Holdco. Thus, Reg. 5907(1.3)(b) would deem the Compensatory Payments made to Loss LLC 1 and Loss LLC 2 to be FAT, subject to the application of Reg. 5907(1.4).