2016-0666481E5 Debt forgiveness in a tiered partnership

Principal Issues: Will subsection 80(15) apply in a tiered partnership structure?

Position: Yes.

Reasons: Since section 80 must be applied to determine net income of a partnership, subsections 96(1) and 102(2) would apply to treat the partnerships as separate persons for purposes of section 80.

Author: Gibbons, Jim
Section: 80(15); 102(2); 99(1)

XXXXXXXXXX                                                                                                                                   J. Gibbons
                                                                                                                                                           2016-066648
March 22, 2017

Dear XXXXXXXXXX:

We are writing in response to your email dated September 19, 2016, wherein you asked for our views concerning the application of section 80 of the Income Tax Act (the “Act”) in the context of tiered partnerships, i.e., where a member of a partnership is itself a partnership.

In a telephone conversation on March 13, 2017 (Gibbons/XXXXXXXXXX), it was clarified that your enquiry may be restricted to the issue of the interaction of subsections 80(9) and (15) of the Act in the situation where a bottom partnership (the “BP”) in a tiered partnership structure has a forgiven amount in the same year that the BP is wound up.

Our Comments

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer 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.”

Subsection 80(15) provides as follows:

Where a commercial debt obligation issued by a partnership (in this subsection referred to as the “partnership obligation”) is settled at any time in a fiscal period of the partnership that ends in a taxation year of a member of the partnership, (a) the member may deduct, in computing the member's income for the year, such amount as the member claims not exceeding the relevant limit in respect of the partnership obligation;

(b) for the purpose of paragraph (a), the relevant limit in respect of the partnership obligation is the amount that would be included in computing the member's income for the year as a consequence of the application of subsection (13) and section 96 to the settlement of the partnership obligation if the partnership had designated amounts under subsections (5), (7), (8), (9) and (10) to the maximum extent permitted in respect of each obligation settled in that fiscal period and if income arising from the application of subsection (13) were from a source of income separate from any other sources of partnership income; and

(c) for the purposes of this section and section 80.04,

(i) the member shall be deemed to have issued a commercial debt obligation that was settled at the end of that fiscal period,

(ii) the amount deducted under paragraph (a) in respect of the partnership obligation in computing the member's income shall be treated as if it were the forgiven amount at the end of that fiscal period in respect of the obligation referred to in subparagraph (i),

(iii) subject to subparagraph (iv), the obligation referred to in subparagraph (i) shall be deemed to have been issued at the same time at which, and in the same circumstances in which, the partnership obligation was issued,

(iv) if the member is a taxpayer that was subject to a loss restriction event at a particular time that is before the end of that fiscal period and before the taxpayer became a member of the partnership, and the partnership obligation was issued before the particular time,

(A) subject to the application of this subparagraph to the taxpayer after the particular time and before the end of that fiscal period, the obligation referred to in subparagraph (i) is deemed to have been issued by the member after the particular time, and

(B) subparagraph (b)(ii) of the definition “relevant loss balance” in subsection (1), paragraph (f) of the definition “successor pool” in that subsection and paragraph (b) of the definition “unrecognized loss” in that subsection do not apply in respect of the loss restriction event, and

(v) the source in connection with which the obligation referred to in subparagraph (i) was issued shall be deemed to be the source in connection with which the partnership obligation was issued.

The debt forgiveness rules in section 80 of the Act may apply to a partnership where a forgiven amount results from a settlement of a commercial debt obligation issued by a partnership. Where subsection 80(13) requires an income inclusion at the partnership level (which is then included in the income of the partner as a consequence of section 96), paragraph 80(15)(a) allows a partner to deduct an amount in the calculation of the partner’s income not exceeding the “relevant limit” (as set out in paragraph 80(15)(b)) in respect of the partnership obligation. Paragraph 20(1)(uu) allows the deduction in computing income from business or property.

Paragraph 80(15)(c) deems the partner to have issued a commercial debt obligation that was settled at the end of the partnership’s fiscal period and the amount deducted pursuant to paragraph 80(15)(a) is treated as if it were a forgiven amount at the end of that fiscal period in respect of such commercial debt obligation. Also, the commercial debt obligation is deemed to have been issued at the same time and in the same circumstances in which the partnership’s commercial debt obligation was issued. The rules in section 80 will then apply to the partner in respect of that forgiven amount to reduce certain tax attributes of the partner. Any unapplied balance will result in income to the partner pursuant to subsection 80(13).

You have asked specifically about subsection 80(9), which provides as follows:

Where a commercial obligation issued by a debtor is settled at any time and amounts have been designated under subsections (5), (7) and (8) to the maximum extent permitted in respect of the settlement, subject to subsection (18)

(a) the remaining unapplied portion of the forgiven amount at that time in respect of the obligation shall be applied (to the extent designated in a prescribed form filed with the debtor's return of income under this Part for the taxation year that includes that time) to reduce immediately after that time the adjusted cost bases to the debtor of capital properties (other than shares of the capital stock of corporations of which the debtor is a specified shareholder at that time, debts issued by corporations of which the debtor is a specified shareholder at that time, interests in partnerships that are related to the debtor at that time, depreciable property that is not of a prescribed class, personal-use properties and excluded properties) that are owned by the debtor immediately after that time;”

[Our emphasis.]

Based on the foregoing, generally, where a commercial obligation issued by a debtor is settled at any time and amounts have been designated under subsections 80(5), (7) and (8) to the maximum extent permitted in respect of the settlement, the remaining unapplied portion of the forgiven amount may be applied to reduce the adjusted cost base (“ACB”) of capital property immediately after the particular commercial obligation is settled.  Accordingly, since paragraph 80(15)(c) deems the debt to be settled at the end of the partnership’s fiscal period, the application of the forgiven amount under subsection 80(9) occurs at the same time as any adjustment to the ACB of a partner’s interest in a partnership to reflect an allocation of partnership income for the year in which the debt was forgiven (including any partnership income that is included under subsection 80(13)).  In this regard, the adjustment to the ACB of a partnership interest to account for partnership income is set out in subparagraph 53(1)(e)(i) of the Act, which provides as follows:

[In computing the adjusted cost base to a taxpayer of property at any time, there shall be added to the cost to the taxpayer of the property such of the following amounts in respect of the property as are applicable: …]

(i) an amount in respect of each fiscal period of the partnership ending after 1971 and before that time, equal to the total of all amounts each of which is the taxpayer's share (other than a share under an agreement referred to in subsection 96(1.1)) of the income of the partnership from any source for that fiscal period …

[Our emphasis.]

For purposes of applying subsection 80(9) of the Act, the ACB of a member’s interest in a partnership already includes the member’s share of income, including income under subsection 80(13), for the year in which the debt is settled. This is reflected in the example provided with the 1995 Technical Notes that accompanied the introduction of subsection 80(15). 

The 1995 Technical Notes also note that “[i]f A were related to the partnership for the purposes of section 80, the adjusted cost base of the partnership interest could only be reduced in accordance with subsections 80(11) and (13)”.  This follows from subsection 80(9) which excludes interests in partnerships that are related to the debtor at the time that the commercial obligation is forgiven, where the meaning of “related” is determined under the rules in paragraph 80(2)(j).

With regard to the scenario described in your letter, subsection 102(2) provides that a reference to a person or a taxpayer who is a member of a partnership includes a partnership that is a member of another partnership. This ensures that section 80 applies to a partnership that is a member of a partnership as if it were a separate person.  In such a situation, where a forgiven amount is included in the income of the BP in the same year that the BP is wound up, reference must also be made to subsection 99(1) of the Act, which provides as follows:

Subject to subsection (2), if, at any particular time in a fiscal period of a partnership, the partnership would, if this Act were read without reference to subsection 98(1), have ceased to exist, the fiscal period is deemed to have ended immediately before the time that is immediately before that particular time.

Based on the foregoing, the BP would have a fiscal period that was deemed to end immediately before the time that is immediately before the time that the BP ceases to exist (the “deemed fiscal period”).  Thus, the BP’s income inclusion under subsection 80(13) would be included in the deemed fiscal period, and, as a partner of the BP, the top partnership (the “TP”) could deduct an amount in respect of the relevant limit which would then be deemed to be a commercial debt obligation that was issued by the TP and settled at the end of the BP’s deemed fiscal period.  The TP could then apply this forgiven amount against its own tax attributes under subsections 80(5) to 80(10), as applicable.

With regard to subsection 80(9), the forgiven amount may only be applied against the ACB of the TP’s interest in the BP if the BP is not related to the TP.  If the BP is not related to the TP, the forgiven amount could be applied to the ACB of the TP’s interest in the BP determined immediately after the BP’s deemed fiscal period, which would include the TP’s share of any income inclusion for that deemed fiscal period, including any income included under subsection 80(13).

The balance of any forgiven amount that remains after the application of subsections 80(5) to (10) by the TP would be included in the TP’s income under subsection 80(13) and allocated to its members.  In our view, since the TP would be deemed by subparagraph 80(15)(c)(i) to have issued a commercial debt obligation that was settled at the end of the BP’s deemed fiscal period, subsection 80(15) would apply to the partners of the TP.  Thus, such partners may be entitled under subparagraph 80(15)(a) to deduct an amount in respect of the relevant limit which could then be treated as a forgiven amount and applied against the partners’ own tax attributes.

We trust our comments will be of assistance.

Yours truly,

G. Moore
For Director
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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