2024-1007541C6 IFA 2024 Q2 - Foreign Entity Classification

Principal Issues: 1. Has the CRA considered the entity classification of Luxembourg limited partnerships or special limited partnerships? 2. What is the CRA’s view on whether such limited partnerships would be classified as corporations or partnerships for Canadian income tax purposes?

Position: 1. No 2. General comments and update on new entities or arrangements that were considered by the CRA provided.

Reasons: The CRA would consider the classification of a foreign entity in the context of an advance income tax ruling.

Author: Grégoire, Sylvain
Section: 248(1) "corporation"

2024 IFA Annual Conference
CRA Roundtable

Question 2 – Foreign Entity Classification

The common limited partnership (société en commandite simple (SCS)) and the special limited partnership (société en commandite spéciale (SCSp)) are common types of entities used for investment funds in Luxembourg. The tax treatment depends on how the jurisdiction of the investors treat the Luxembourg partnership for tax purposes. Luxembourg’s “reverse hybrid” rules apply to Luxembourg limited partnerships if, among other things, it has investors that are located in a jurisdiction that treats the entity as opaque. Has the CRA considered the entity classification for Luxembourg limited partnerships or special limited partnerships? What is CRA’s view about whether such limited partnerships would be classified as partnerships for Canadian income tax purposes or corporations?

CRA Response

In order to determine the status of an entity or arrangement for Canadian income tax purposes, the CRA generally follows a two-step approach. The first step is determining the characteristics of the foreign entity or arrangement under applicable foreign law, relevant constating documents, indentures, partnership agreement, contracts and other relevant terms or documentation (the “applicable foreign law and relevant documentation”). The second step is comparing these characteristics with those of recognized categories of entity or arrangement under relevant Canadian law in order to classify the foreign entity or arrangement under one of the categories around which the provisions of the Income Tax Act (“the Act”) and the Income Tax Regulations are drafted.

The information provided with this question indicates that the main difference between a Luxembourg SCSp and SCS is that the SCS has legal personality under Luxembourg commercial law whereas a SCSp does not. The information provided with this question also provides that both are generally flow-through and not taxable under the income tax laws of Luxembourg, subject to the possible application of rules which could treat them as being subject to taxation for Luxembourg income tax purposes if they are viewed by the other country as being subject to taxation in Luxembourg (the “Luxembourg Reverse Hybrid Rules”).

As discussed in response to Question 8 of the roundtable presented by the CRA on May 17, 2022 at the International Fiscal Association Conference, the CRA will determine how it views the characterization of a particular foreign entity or arrangement for purposes of applying the provisions of the Act in the context of an advance income tax ruling request in light of all of the relevant information and documentation in respect of the particular foreign entity or arrangement or as part of an audit. On that basis, only general comments can be provided and no definitive conclusions on the classification of actual Luxembourg SCSps and SCSs.

The fact that the SCS has separate legal personality under Luxembourg commercial law is not considered as determinative in and of itself. Also, as previously indicated in CRA Document 2005-0148311E5, the classification of an entity or arrangement for foreign tax purposes will not generally be relevant to the analysis of the classification of the entity or arrangement in Canada under the two-step approach. It would seem that the Canadian classification of the entity for purposes of applying the provisions of the Act would only inform the application of the Luxembourg Reverse Hybrid Rules to the extent that Canada views the SCSp and SCS as being taxable in Luxembourg for Canadian income tax purposes. The extent of that condition is not entirely clear but that is not relevant to the question being asked; although the classification for Canadian income tax purposes might inform the application of the Luxembourg Reverse Hybrid Rules under Luxembourg’s income tax laws, the existence and potential application of the Luxembourg Reverse Hybrid Rules would generally not determine the characterization of the entity or arrangement for purposes of the Act under the two-step approach.

Although no rulings were issued by the CRA on the characterization for purposes of the Act of a SCSp and SCS formed in Luxembourg, it is worth noting the opinion that was provided to CRA audit in CRA Document 2021-0892121I7 which comments on “sociétés en commandite simples” (SCS) that were formed in the Ivory Coast and Gabon. In light of the applicable foreign law and relevant documentation, it was concluded that, although both entities had legal personality under the commercial laws of these two countries, the unlimited liability of the general partners of an SCS and certain other characteristics resembled more Canadian partnerships than any other type of entity or arrangement. That interpretation points out that generally the legal system (e.g., civil law, common law) governing a foreign entity or arrangement is more likely to inform the two-step comparative analysis to be performed for purposes of entity classification. Given that the Ivory Coast and Gabon are civil law systems and that Quebec has a civil law system, it was viewed as being appropriate to primarily compare the terms of the Gabon and Ivory Coast SCS in question to the partnerships rules under the Civil Code of Quebec.

Sylvain Grégoire
2024-100754
May 15, 2024

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.

© His Majesty the King in Right of Canada, 2024

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 le Roi du Chef du Canada, 2024