30 November 1997 Ministerial Letter 971988A - EXISTENCE OF A PARTNERSHIP?

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

PRlNCIPAL ISSUES:

1. Will XXXXXXXXXX be carrying on business in Canada as partners under the XXXXXXXXXX Agreement?

2.(a) Will the equalization payments made between XXXXXXXXXX be subject to tax pursuant to paragraph 212(1)(d) ofthe Act, as royalties or similar payments, and if so,

(b) Will those payments be excluded from taxation in Canada by virtue of XXXXXXXXXX Income Tax Convention?

3. Will any portion of the equalization payments made between XXXXXXXXXX be subject to tax pursuant to paragraph 212(1)(a) of Act, as management or administration fees?

4. Will the equalization payments received by XXXXXXXXXX be included in XXXXXXXXXX computation of its Canadian manufacturing and processing profits for the purposes of section 125.1 of the Act?

Position:

1. No.

2.(a) Questions of fact which can only be determined when all facts are available (e.g. Are the payments royalties? Does XXXXXXXXXX have a permanent establishment in Canada?). If the payments are royalties, then XXXXXXXXXX will be subject to tax pursuant to paragraph 212(1)(d) of the Act, unless XXXXXXXXXX has a permanent establishment in Canada. In this latter case, the royalties would receive business profit treatment pursuant to XXXXXXXXXX the Convention. Due to a lack of facts, we are not commenting on whether XXXXXXXXXX will have a permanent establishment in Canada.

(b) Yes. Only if XXXXXXXXXX does not have a permanent establishment in Canada and only after the amendments to the Convention are in force.

3. No.

4. Yes, to the extent that the amounts would have been so included had XXXXXXXXXX received the amounts directly from JV Company.

Reasons

1. XXXXXXXXXX

2.(a) Representations received from client that payments are not royalties were included in the facts of the ruling.

(b) XXXXXXXXXX

		If XXXXXXXXXX has a permanent establishment in Canada, then XXXXXXXXXX the Convention causes any such royalties to be treated as business profits pursuant to XXXXXXXXXX the Convention. 

3. Even if the fees were of the nature that could be considered to be a management fee (this involves a question of fact), they would not be subject to the provisions of 212(1)(a) because of our position outlined in paragraph 2 of IT468R For treaties that do not contain a specific article on management or administration fees (such as the XXXXXXXXXX Convention), 212(1)(a) will not apply to such fees and those fees will be considered to be covered by the treaty article dealing with business profits. Note that if XXXXXXXXXX has a permanent establishment in Canada, its business profits (including any management fees from XXXXXXXXXX) would be subject to Part I tax in Canada. If XXXXXXXXXX does not have a permanent establishment in Canada, any management fees from XXXXXXXXXX would not be subject to tax in Canada (Part I or Part XIII).

4. By adding the proviso to the ruling, we are not commenting on whether XXXXXXXXXX will have "Canadian manufacturing and processing profits". We are just saying that the Equalization Payments would be characterized as regular business.income to XXXXXXXXXX. If XXXXXXXXXX regular business income would qualify for M&PP, then the Equalization Payments would also qualify.

XXXXXXXXXX							971988
XXXXXXXXXX

Attention: XXXXXXXXXX

XXXXXXXXXX, 1998

Dear Sirs:

Re: XXXXXXXXXX
Partnership versus Joint Venture

This is in reply to your letter dated XXXXXXXXXX, wherein you requested advance income tax rulings on behalf of XXXXXXXXXX, in connection with the proposed transactions described below.

Our understanding of the facts, proposed transactions and purpose of the proposed transactions is as follows:

FACTS

1. XXXXXXXXXX is a taxable Canadian corporation and a private corporation within the meaning of those terms in subsection 89(1) of the Income Tax Act (Canada) (the "Act"). XXXXXXXXXX tax account number is XXXXXXXXXX and its return is filed at the XXXXXXXXXX Tax Services office and the XXXXXXXXXX Taxation Centre. XXXXXXXXXX is indirectly wholly-owned by XXXXXXXXXX.

2. XXXXXXXXXX.

3. XXXXXXXXXX (hereinafter referred to as the "Parties" when referring to both XXXXXXXXXX, and the "Party" when referring to only one of the Parties) operate at arm's length to each other, and are both involved in the same business (i.e., XXXXXXXXXX). The Parties have agreed to collaborate with respect to the XXXXXXXXXX (together referred to herein as the "Program") of a new

XXXXXXXXXX

4. The Parties executed a first, preliminary version of their XXXXXXXXXX Agreement on XXXXXXXXXX, (the "XXXXXXXXXX Agreement"), a copy of which was forwarded to us with your letter of XXXXXXXXXX.

5. The Parties executed Amendment 01 to the XXXXXXXXXX Agreement on XXXXXXXXXX, (Amendment 01 to the XXXXXXXXXX Agreement is noted as "Schedule 1" in the documents enclosed with your letter to us dated XXXXXXXXXX).

6. To the best of your knowledge and that of the taxpayers involved, none of the issues involved in this ruling

(i) is in an earlier return of the taxpayers or a related person,

(ii) is being considered by a tax services office or taxation centre in connection with a previously filed tax return of the taxpayers or a related person,

(iii) is under objection by the taxpayers or a related person,

(iv) is before the courts or, if a judgement has been issued, the time limit for appeal to a higher court has not expired,

(v) is the subject of a ruling previously issued by the Directorate.

PROPOSED TRANSACTIONS

7. The Parties will agree upon a further amendment to the XXXXXXXXXX Agreement. Such amendment will substantially detail the principles set forth in the XXXXXXXXXX Agreement, in part by incorporating thereto appendices XXXXXXXXXX of that agreement (these proposed amendments, including the draft appendices, are noted as "Schedule 2" in the documents enclosed with your letter to us dated XXXXXXXXXX). XXXXXXXXXX has not been included, since the Parties have yet to reach a common understanding on certain issues relating thereto. In addition to the description contained in this letter, attached, XXXXXXXXXX, is a summary of all other terms of the proposed amended XXXXXXXXXX Agreement which are relevant to this ruling request.

8. The Parties will jointly establish a joint venture company (the "JV Company") XXXXXXXXXX. The JV Company's business operations will be located in XXXXXXXXXX. It will have share capital and will be a legal entity under XXXXXXXXXX law, and will be a corporation for Canadian income tax purposes. XXXXXXXXXX will each own 50% of the issued and outstanding shares of the JV Company. The only business of JV Company will be as described under the XXXXXXXXXX Agreement, i.e., XXXXXXXXXX.

9. As noted in the XXXXXXXXXX Agreement, the JV Company will enter into agreements with the Parties in order for the Parties to provide to the JV Company many of the services that the JV Company is to provide. The Parties will charge the JV Company fair market value rates for such services. The Parties shall be responsible for and shall collaborate in the

XXXXXXXXXX

10. The Parties intend to share the efforts involved in carrying out the Program in a ratio equal to 50/50.

11. The Parties will determine their respective sharing of tasks in the Program by attributing a relative percentage to each task to be accomplished in the Program. These tasks are separated into the following three categories:

(1) XXXXXXXXXX - XXXXXXXXXX;

(2) XXXXXXXXXX - XXXXXXXXXX; and

(3) Other - all activities, other than XXXXXXXXXX and XXXXXXXXXX.

XXXXXXXXXX

The percentages attributed to the tasks of each category are therefore called XXXXXXXXXX Values ("DV's"), XXXXXXXXXX Values ("PV's") and Other Values ("OV's"). It is specified that the 50/50 sharing ratio, referred to above in paragraph 10, applies to each of the three categories of tasks.

12. The DV's, PV's and OV's will be established based on the estimates of the relative percentages of cost and effort for each task and negotiations between the Parties. Once they are established, these percentages are unaffected by any variation in the actual cost of accomplishing a XXXXXXXXXX, XXXXXXXXXX or other task incurred by either Party. Each Party must accomplish the tasks allocated to it under the XXXXXXXXXX Agreement regardless of whether it has overestimated or underestimated the cost associated with accomplishing such task.

13. To the extent the Parties meet their 50/50 ratio goal, as noted above in paragraph 10, the Parties will share equally the gross revenue deriving from the sale of XXXXXXXXXX.

14. The JV Company shall have the sole responsibility for the sale of XXXXXXXXXX, to the complete exclusion of the Parties.

15. The JV Company shall purchase from the Parties their respective shares of XXXXXXXXXX in order to be able to sell these to the customers. The prices for such sales will be determined pursuant to a methodology currently being discussed by the Parties. The basic principles of such methodology are described below in paragraphs 16 to 18.

16. With respect to the sale of XXXXXXXXXX, the price payable by the JV Company to the Parties (the "Joint Venture Purchase Price") for the XXXXXXXXXX necessary for the sale of a given XXXXXXXXXX, will be established as a percentage of the selling price of such XXXXXXXXXX charged by the JV Company to customers (the "Customer Price"). Such percentage will be established such that the JV Company will realize only a narrow profit (the "Joint Venture Margin"), commensurate with its level of activities. The Joint Venture Purchase Price will be apportioned between the Parties so that each Party is compensated for its share of the efforts carried out under the Program (DV's, PV's and OV's).

17. To assist in the calculations noted above in paragraph 16, the Parties will agree on fractions representing the proportion of the overall efforts to be done in the Program that is attributable to XXXXXXXXXX efforts (PV's), XXXXXXXXXX efforts (DV's) and other efforts (OV's). This information will be used to determine a standard for each XXXXXXXXXX (i.e., for each XXXXXXXXXX there will be a standard portion of the sales proceeds that is in respect of DV's, PV's and OV's, and of those amounts there will be agreement as to which Party is entitled to what percentage thereof).

This should result in each Party being entitled to receive approximately 50% of the Joint Venture Purchase Price, to the extent the sharing ratio of each category of efforts is 50/50, as contemplated above in paragraph 10.

18. For the sale of XXXXXXXXXX, the JV Company will purchase the necessary XXXXXXXXXX from the Party that is responsible for their XXXXXXXXXX. The purchase price paid by the JV Company for the XXXXXXXXXX will be an amount equal to the JV Company's selling price to customers minus the Joint Venture Margin. In order to ensure a proportionate sharing of the gross revenues received by the Parties from the sale of XXXXXXXXXX, over the life of the Program, a periodic adjustment will be made between the Parties with respect to the revenues. Under this adjustment methodology, each Party will be entitled to retain the portion of the sales proceeds equal to the standardized XXXXXXXXXX value of the particular XXXXXXXXXX it has XXXXXXXXXX and sold to the JV Company (the "XXXXXXXXXX PV Retained Amount"). The amount by which the sales proceeds for the XXXXXXXXXX sold by a particular Party to the JV Company exceeds the XXXXXXXXXX PV Retained Amount in respect of those parts (such amount is hereinafter referred to as the "Excess"), is to be shared between the Parties according to their respective DV's and OV's in the Program (which, as noted above in paragraph 10 will approximate 50/50). If one of the Parties receives more than the aggregate of (i) the XXXXXXXXXX PV Retained Amount in respect of the XXXXXXXXXX it has sold, and (ii) its 50% share of the Excess, it shall make a compensating payment to the other Party (an "Equalizing Payment") at the end of each adjustment period, which is contemplated to be quarterly, in an amount equal to that surplus. No part of any Equalizing Payment to be made by XXXXXXXXXX will be a royalty as that term is defined in XXXXXXXXXX the Convention between Canada and XXXXXXXXXX for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income and on capital, signed XXXXXXXXXX. For greater certainty, no part of the Equalizing Payments will be made as consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, any patent, trade-mark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience.

PURPOSE OF THE PROPOSED TRANSACTIONS

19. The purpose of the proposed transactions is to have XXXXXXXXXX collaborate to XXXXXXXXXX.

RULINGS

20. Provided the statements of facts, the proposed transactions and the purposes thereof, all as described herein, are accurate and constitute complete disclosure of all of the representations, relevant facts, proposed transactions and the purposes thereof, and provided further that all of the proposed transactions are carried out as described above, we confirm the following:

A. XXXXXXXXXX will not be carrying on business in Canada as partners as a result of the XXXXXXXXXX Agreement, as described herein, in and by itself.

B. The Equalizing Payments made by XXXXXXXXXX, as described above in paragraph 18, will be deductible by XXXXXXXXXX in the computation of its income or loss for a taxation year, for the purposes of section 9 of the Act, to the extent that (i) XXXXXXXXXX has included the amount, in respect of which the Equalizing Payments are made, in the computation of its income or loss for income tax purposes for a taxation year, (ii) XXXXXXXXXX has not deducted the amount of such Equalizing Payments in computing its income or loss for a prior taxation year and (iii) the amounts are reasonable.

C. The Equalizing Payments made by XXXXXXXXXX, described above in paragraph 18, will not be subject to tax under paragraph 212(1)(a) ofthe Act.

D. Given the representations noted above in paragraph 18 that the Equalizing Payments will not constitute royalties, as that term is defined in XXXXXXXXXX the Canada-XXXXXXXXXX Convention, the Equalizing Payments made by XXXXXXXXXX will not be subject to tax under paragraph 212(1)(d) of the Act.

E. The particular Equalizing Payments received by XXXXXXXXXX, as described above in paragraph 18, will be included in the computation of XXXXXXXXXX income or loss for a taxation year, for the purposes of section 9 of the Act, to the extent that (i) XXXXXXXXXX has not previously included such payments in computing its income or loss for a taxation year, and (ii) the amounts are reasonable. The Equalization Payments will also be included in the computation of XXXXXXXXXX Canadian manufacturing and processing profits under section 125.1 of the Act, to the extent that such amounts would have been so included had XXXXXXXXXX received the amounts directly from JV Company in respect of the sale of XXXXXXXXXX.

These rulings are given subject to the general limitations and qualifications set forth in Information Circular 70-6R3 issued by Revenue Canada December 30, 1996, and are binding provided the amendments to the XXXXXXXXXX Agreement, as described above in the proposed transactions, are entered into on or before XXXXXXXXXX. These rulings are based on the Act in its present form and do not take into account the effect of any proposed amendments. Except as expressly stated, our rulings do not imply acceptance, approval or confirmation of any income tax implications of the facts or proposed transactions. In particular we are not commenting on the reasonableness of the amount of the purchase price the Parties shall charge to the JV Company for the XXXXXXXXXX, as described above in paragraphs 15 to 18. Nor are we commenting on whether XXXXXXXXXX has or will have a permanent establishment in Canada. These issues involve questions of fact on which we presently do not have sufficient information to make such determinations.

As stated in paragraph 7 of Information Circular 70-6R3, rulings are not provided for transactions that are not seriously contemplated and are hypothetical in nature. Therefore, notwithstanding that the XXXXXXXXXX Agreement provides that the Parties may, at a later date, amend the revenue sharing arrangement described in this letter, no rulings have been provided in respect of any other revenue sharing arrangement, or any other adjustment methodology, that may be agreed to in the future, other than the sharing arrangement or adjustment methodology, as the case may be, described above in paragraphs 16 to 18.

Yours truly,

for Director
Resources, Partnerships and Trusts Division
Income Tax Rulings and Interpretations Directorate
Policy and Legislation Branch

XXXXXXXXXX