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In Canada Revenue Agency
("CRA") Technical Interpretation
2016-0647621E5, June 3, 2016, "Part IV Income Tax - Dividend
Paid to a Corporate Trust Beneficiary", the CRA held that Part
IV tax would apply on an allocation of dividends received by a
family trust ("Trust"), from an
operating company ("Opco"), to a
corporate beneficiary ("Holdco") of the
Trust, where the Trust sold all of its shares of Opco in the
year.
Facts
The CRA considered the following facts:
Opco and Holdco are both
Canadian-controlled private corporations.
Opco is wholly-owned by the
Trust.
Holdco is a beneficiary of the
Trust.
Opco has a May 31 year-end.
Holdco and the Trust have a December
31 year-end.
On May 31, Opco paid a $10,000
dividend to the Trust.
On May 31, the Trust distributed the
$10,000 to Holdco pursuant to subsection 104(19) of the Income
Tax Act (Canada) (the "ITA").
Opco did not receive any refund of
RDTOH for its taxation year.
On May 31, Opco and Holdco are
"connected" pursuant to paragraph 186(4)(a) of the
ITA.
On June 1, the Trust sold all of its
shares of Opco to a third party.
Issues
The CRA was asked whether Holdco would be subject to Part IV tax
on the facts at issue, and whether the CRA's answer would be
different if the Trust distributed the $10,000 on June 30 (instead
of May 31).
Conclusion
The CRA confirmed that Part IV tax would apply whether the Trust
distributed the $10,000 on May 31 or June 30.
Analysis
For subsection 104(19) of the ITA to apply, a trust must be
resident in Canada "throughout" the year. The CRA stated
that an amount received by a beneficiary of a trust pursuant to
subsection 104(19) cannot be deemed a dividend received by the
beneficiary until the trust's year-end – that is, on
December 31. The CRA's view is based on the rationale that the
determination of a trust's residency throughout the year, as
well as the attribution of a dividend, cannot be made prior to the
trust's year-end. The CRA further stated that the relevant time
for determining whether a dividend was received by a corporate
beneficiary from a "connected" corporation is not at the
time the dividend is paid, but rather, at the time the dividend is
deemed to be received by the corporate beneficiary, which
necessarily occurs at December 31 (the trust's year-end).
Therefore, the CRA concluded that Holdco would be deemed to receive
the dividend as of December 31, at a time that Opco and Holdco
would no longer be "connected" corporations as a result
of the sale by the Trust of its shares of Opco to a third-party.
Accordingly, the CRA held that Holdco would be liable to pay Part
IV tax on the dividend attributed to it pursuant to subsection
104(19) of the ITA.
Lesson to be learned
It is not uncommon for safe income dividends to be paid as part
of a pre-sale tax reorganization to purify an operating company for
capital gains exemption purposes. Careful consideration must be
given by tax advisors and counsel to structure such planning to
ensure no unexpected taxes arise.
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guide to the subject matter. Specialist advice should be sought
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