2014-0545591E5 Upstream Loan and Debt Forgiveness Rules

Principal Issues: 1) Whether the upstream loan from a foreign affiliate to its Canadian parent company can be considered to have been repaid in the described situation. (2) Whether both the upstream loan rules and the debt forgiveness rules apply in the described situation to result in tax consequences to the Canadian company.

Position: (1) No. (2) No.

Reasons: (1) Our interpretation of “repayment” in subsection 90(14). (2) The application of the upstream loan rules will depend on the relevant tax attributes. The debt forgiveness rules will not apply if the loan is considered an “excluded obligation”.

Author: Tu, Grace
Section: 78(1), 80(1), 90(6), 90(9), 90(12), 90(14)

XXXXXXXXXX                                                                                                                     2014-054559
                                                                                                                                             Grace Tu, CPA CA
                                                                                                                                             (604) 362-2718
March 20, 2017

Dear XXXXXXXXXX

Re: Upstream Loan and Debt Forgiveness Rules

We are writing in response to your email wherein you requested our comments regarding the tax consequences in the hypothetical situation described below. We apologize for the delay in responding.

Unless specified otherwise, all statutory references herein are to the Income Tax Act (Canada), R.S.C. 1985 (5th Supp.) c. 1, as amended to the date hereof (the “Act”).

In your correspondence, you describe the following hypothetical situation:

-     A Canadian resident corporation (“Canco”) owns a 100 percent interest in a non-resident corporation (“FA”), which is a controlled foreign affiliate of Canco, as defined in subsection 95(1).
-     FA makes a loan to Canco.
-     Canco sells all of its interest in FA to a third party for fair market value consideration. Due to foreign tax and other regulatory concerns, Canco does not repay the loan prior to the sale.
-     After the sale of FA, the loan between FA and Canco is forgiven.

You were asking whether the forgiveness of the loan will satisfy the repayment condition of subsections 90(8) and 90(14), and also whether the applications of the rules in subsections 90(6) to 90(15) (the “upstream loan rules”) and the rules in section 80 (the “debt forgiveness rules”) will both apply in the situation described.

Our comments

This technical interpretation provides general comments about the provisions of the Act.  It does not confirm the income tax treatment of a particular situation but is intended to assist you in making that determination. The income tax treatment of transactions will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R7, Advance Income Tax Rulings and Technical Interpretations.

Consistent with our previously stated views (see, for example, documents 2015-0610621C6 and 2016-0645521I7), in order for the conditions under subsections 90(8) or 90(14) to be met, there has to be an actual repayment of the loan. Therefore, a settlement or extinguishment of the loan as a result of forgiveness thereof should not be construed as a repayment of the loan for the purposes of the upstream loan rules. We remain of this view notwithstanding the comments in our document 2002-0170145 regarding the operation of subsection 78(1) of the Act to which you have drawn our attention.

Therefore, in the situation described, if the obligation in respect of the loan to Canco is forgiven, there will never be a repayment of the loan for the purposes of subsections 90(8) and 90(14). As such, despite the fact that the loan no longer exists after it is forgiven, the upstream loan rules will continue to apply in respect of such loan. However, if relevant tax attributes described in subsection 90(9) exist at the time when the loan is made, Canco will be entitled to a deduction from income under subsection 90(9) to offset all or a portion of the original income inclusion under subsection 90(6) and subsequent income inclusions under subsection 90(12), provided that the tax attributes continue to be available at the relevant times for the purposes of subsection 90(9). Given that the loan in the situation described will never be repaid, it is possible for such inclusions and deductions in computing Canco’s income to continue indefinitely.

With respect to the application of the debt forgiveness rules in section 80, since Canco will have to include the “specified amount” in respect of the loan in computing its income under subsection 90(6), Canco’s obligation in respect of the loan from FA will be considered an “excluded obligation”, as defined in subsection 80(1). The fact that Canco may be able to claim a deduction under subsection 90(9) will not affect the amount of excluded obligation, as the ”specified amount” would be included in computing the income of Canco under subsection 90(6), regardless of whether the deduction under subsection 90(9) is available.

Since the obligation in respect of the loan between FA and Canco is an excluded obligation, the “forgiven amount”, as defined in subsection 80(1), will be reduced by the amount of such excluded obligation, so that the debt forgiveness rules will not result in tax implications to Canco.

We trust our comments will be of assistance.

Yours truly,

Vitaliy Anissimov
Section Manager
For Division Director
International Division
Income Tax Rulings Directorate

All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without the prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5.

© Her Majesty the Queen in Right of Canada, 2017

Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistribuer de l'information, sous quelque forme ou par quelque moyen que ce soit, de façon électronique, mécanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.

© Sa Majesté la Reine du Chef du Canada, 2017