2019-0833181E5 TOSI - Excluded Shares

Principal Issues: (a) Is the business carried on by a corporation considered to be engaged in the provision of services? (b) Will the shares of the corporation qualify as excluded shares?

Position: General comments. (a) Determination will depend on the facts and circumstances of the business. Insufficient facts provided. Payment for the right to download a digital product that traditionally would have been sold to the customer as a tangible property, will generally be treated as a sale of intangible property and not a provision of a service unless the facts and circumstances dictate otherwise. For instance, the portion of the business income of a corporation for a taxation year generated by the following activities will generally be from the provision of services rather than provision of intangible property for the purposes of the TOSI rules: payments obtained as consideration for after-sales service; payments for services rendered by a supplier under a guarantee, and payments for pure technical assistance (b) Remains a question of fact.

Reasons: Legislation and previous positions.

Author: Estabrooks, Karri Lea
Section: 120.4

XXXXXXXXXX                                                                           2019-083318
                                                                                                   Karri Lea Estabrooks
March 13, 2020

Dear XXXXXXXXXX:

Subject: Request for Technical Interpretation - TOSI – Excluded Shares

This is in response to your letter of November 29, 2019, concerning the application of subparagraph (a)(i) of the definition of “excluded shares” in subsection 120.4(1) of the Income Tax Act (Canada) (the Act) in the context of the following situation.

A corporation carries on a business of producing and “selling” training videos on a variety of topics as digital downloads from its website.  You would like to know if the income from this business is considered to be income from the provision of services for the purposes of the “excluded share” definition.

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 70-6R9, Advance Income Tax Rulings and Technical Interpretations, April 23, 2019.

The term “provision of services” is not defined in the Act.  Whether a business will be considered to be engaged in the provision of services will depend on the facts and circumstances of the particular business.  In most cases, the distinction between whether income is from the provision of services or from the sale of property or goods should be clear.  However, in situations involving purchasing or licensing of digital products for a customer’s own use or enjoyment, such a determination would require a complete understanding of the nature of the legal relationship between the payer and the provider, including the terms of use of the digital product being provided.

Your request contains insufficient details to allow us to determine whether the corporation’s income would be from the provision of services or whether all the requirements set out in the definition of “excluded shares” in subsection 120.4(1) would be met; however, the following general comments should be of some assistance.

Electronic commerce allows suppliers to deliver certain products to their customers that have traditionally been regarded as tangible property, in an electronic or “digitized” form.  Where intangible property (“digital product”) is delivered to a customer’s computer, the characterization of the payment for income tax purposes, as noted above, would require a complete understanding of the agreement between the supplier and the customer, and whether the legal substance of that arrangement is for work, or work and materials (i.e., a service), or for intangible property (including a right or interest of any kind).

Notwithstanding the above, for the purposes of applying the “excluded share” definition in subsection 120.4(1), we are prepared to accept that payment for the right to download a digital product that traditionally would have been sold to the customer as a tangible property, will generally be treated as a sale of intangible property and not a provision of a service unless the facts and circumstances dictate otherwise.  For instance, the portion of the business income of a corporation for a taxation year generated by the following activities will generally be from the provision of services rather than provision of intangible property for the purposes of the TOSI rules:

-    payments obtained as consideration for after-sales service,
-    payments for services rendered by a supplier under a guarantee, and
-    payments for pure technical assistance.

In cases where the “excluded share” safe harbour exclusion does not apply, whether the TOSI should apply would generally be determined on the basis of whether the amount received meets another exclusion set out in the definition of “excluded amount” in subsection 120.4(1).

We trust that these comments will be of assistance.

Michael Cooke, CPA, CA
Manager
Corporate Reorganizations Section II
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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