2021-0919231E5 Foreign tax allocation to a partner

Principal Issues: Is the allocation of foreign tax by a partnership to a partner regarded as a capital withdrawal by the particular partner, which would reduce the adjusted cost base (ACB) of its partnership interest?

Position: Yes, see reasons.

Reasons: Paragraph 53(2)(c) does not explicitly provide for a deduction in computing the ACB of a partner’s interest in a partnership for the amount of any non-business income tax paid by the partner, or for any amount deducted under either subsection 20(12), 20(11) or 126(1). However, if the partnership pays the foreign tax on behalf of the partner under an agreement or the foreign tax is withheld on behalf of the partner from foreign income paid to the partnership, such amount may be considered to be received by the partner on account or in lieu of payment of, or in satisfaction of, a distribution of the partner’s share of the partnership profits or partnership capital, such that subparagraph 53(2)(c)(v) would reduce the ACB of the partner’s interest in the partnership for the amount of any non-business income tax paid by the partnership on behalf of the partner (to the extent not deducted by the partnership in computing its income). The reduction in ACB for foreign taxes paid on behalf of a partner generally occurs prior to the addition to the ACB for the allocation of foreign income to the partner which is made on the first day of the following fiscal period. Where the deductions under section 53(2) (including for foreign taxes paid by the partnership) exceed the additions under section 53(1), any negative ACB would be taxed as capital gain for a limited partner or specified member under paragraph 40(3.1)(a).

Author: Serdyukova, Yaroslavna
Section: 20(11), 20(12), 40(3), 40(3.1)(a), 53(1)(a), 53(1)(e), 53(2)(c), 54, 96, 98(1)(c), 98.1(1)(c), 126

XXXXXXXXXX                                                                 2021-091923
                                                                                         Yaroslavna Serdyukova

April 10, 2024

Dear XXXXXXXXXX:

Re: Allocation of Foreign Tax by a Partnership to a Partner

This is in reply to your correspondence of November 28, 2021, in which you asked for our views on whether the allocation of foreign tax by a partnership to a partner would be regarded as a capital withdrawal by the particular partner, which would reduce the adjusted cost base (ACB) of its partnership interest. You have indicated that this issue was not addressed in CRA Document Number 2004-0075931E5, which stated that:

“[…] paragraph 53(2)(c) does not provide for a deduction in computing the adjusted cost base of a taxpayer's interest in a partnership for the amount of any non-business income tax paid to a foreign country through the accounts of the partnership that was allocated to the particular partner, or for any amount deducted under either subsection 20(12) in computing the taxpayer's income or subsection 126(1) in computing the taxpayer's taxes otherwise payable in respect of such amount.”

Our comments

This technical interpretation provides general comments about the provisions of the Income Tax Act (the “Act”). 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 the Directorate in the context of an advanced income tax ruling request submitted in the manner set out in Information Circular IC 70-6R12, Advance Income Tax Rulings and Technical Interpretations.

Partners are required to include in income their share of partnership income in accordance with section 96 of the Act. The partner's share of partnership income is added to the ACB of the partnership interest pursuant to subparagraph 53(1)(e)(i) of the Act. The amounts to be deducted in determining the ACB of a taxpayer’s interest in a partnership are found in paragraph 53(2)(c) of the Act and generally include the partner’s share of any partnership losses, investment tax credits and resource deductions from any previous fiscal period after the later of 1971 and the time that the partner acquired the partnership interest.

The Canadian resident partners of a partnership operating outside Canada are eligible for foreign tax credits under section 126 of the Act or deduction under subsection 20(11) or 20(12) of the Act in respect of their share of foreign taxes on the partnership’s foreign source income, provided all requirements of these provisions are otherwise met.

Generally, unlike some other specific tax credits that are explicitly covered in paragraph 53(2)(c) of the Act, such as the investment tax credit in subparagraph 53(2)(c)(vi), paragraph 53(2)(c) does not provide for a specific deduction in computing the ACB of a taxpayer’s interest in a partnership for the amount of any non-business income tax paid to a foreign country through the accounts of the partnership that was allocated to the partner, or for any amount deducted under either subsection 20(12) or 20(11) of the Act in computing the taxpayer’s income or subsection 126(1) of the Act in computing the taxpayer’s taxes otherwise payable in respect of such amount.

However, subparagraph 53(2)(c)(v) of the Act provides that, in computing the ACB to a taxpayer of a partnership interest at any time, there shall be deducted any amount received as, on account or in lieu of payment of, or in satisfaction of, a distribution of the taxpayer’s share (other than a share under an agreement referred to in subsection 96(1.1) of the Act) of the partnership profits or partnership capital.

If the partnership pays the foreign tax on behalf of the partner or the foreign tax is withheld on behalf of the partner in accordance with foreign law from the foreign income paid to the partnership, such amount would be considered to be received by the partner on account or in lieu of payment of, or in satisfaction of, a distribution of the partner’s share of the partnership profits or partnership capital. Consequently, subparagraph 53(2)(c)(v) of the Act would reduce the ACB of the partner’s interest in the partnership for the amount of any non-business income tax paid by the partnership on behalf of the partner. To the extent it is incompatible with that conclusion, the position in Document 2004-0075931E5 no longer represents the CRA’s view.

The reduction in ACB for foreign taxes paid on behalf of a partner may occur prior to the addition to the ACB for the allocation of foreign income to the partner which is made on the first day of the following fiscal period. Where the deductions under subsection 53(2) of the Act exceed the additions under subsection 53(1) of the Act, any negative ACB will be taxed as capital gain for a limited partner or specified member under paragraph 40(3.1)(a) of the Act, subject to the rules in subsections 40(3.11) to (3.2).

We trust our comments will be of assistance.

Yours truly,

T. Witteveen
for Director
Partnerships and Corporate Financing Section
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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