26 March 1998 External T.I. 9729115 - ACCOUNTS RECEIVABLE AS ACTIVE BUSINESS ASSETS

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.

PRINCIPAL ISSUE:

Whether account receivable relating to fees charged by a management company to a related professional corporation is an asset used principally in an active business.

Position:

Question of fact - not used in active business if not risked in the business (indications: held to offset non-current portion of long-term liabilities, and, potentially in non-arm’s length relationships, converted to inter-corporate advance or outstanding for an extended period of time).

Reasons:

Actual use of trade receivables must be determined.

972911
XXXXXXXXXX P. Spice

ATTENTION: XXXXXXXXXX

March 26, 1998

RE: Accounts Receivable As Active Business Assets

This is in reply to your fax of October 30, 1997, in which you ask whether an account receivable for fees charged for management and other services would be considered to be “used principally in an active business” for purposes of the definition of “small business corporation” in subsection 248(1) of the Income Tax Act (the “Act”). The fees are charged by a management corporation to a professional corporation, and the shareholders of the management corporation are basically the shareholders of the professional corporation, their spouses and other family members.

Generally speaking, the Department will consider that an asset is used in a business carried on by it if it is used principally in that business and is at risk with respect to that business. This implies that the risk must go beyond simply using it for business purposes. The threshold of the test is met when the withdrawal of the property would have a decidedly destabilizing effect on the corporate operations. The test is not whether the taxpayer was forced to use the property to do business; the test is whether the property was used to fulfil a requirement which had to be met in order to do business.

The fact that an asset is trade account receivable (in this context an account receivable for the fees for the services provided as part of the management corporation’s business) does not in and by itself indicate that it is an asset used principally in an active business. Trade account receivables which are held to meet current cash flow or current working capital requirements are generally considered to be used in the business. However, the Department recognizes that prudent financial management may in certain cases require businesses to maintain current assets (including cash, near cash, accounts receivable, etc.) in excess of the current cash flow or current working capital requirements, and would consider this requirement in assessing whether the trade receivables are used principally in the business. Where, however, the trade account receivables are held to offset the non-current portion of long-term liabilities, they will not be considered to be used in the business.

It is a question of fact to be determined after a review of all the circumstances whether certain assets are used in an active business. Note that the fact that the receivable is generated by the business is not determinative of this issue. What is relevant is the actual use to which the asset was put in the course of the business, the nature of the business involved, and the practice in the particular industry. In a non-arm’s length situation, two factors which could indicate that the assets are not used in the business would be where the receivables remain outstanding for an extended period of time or are converted into intercorporate advances on a regular basis.

Although the foregoing comments are not binding on the Department, we trust they are helpful.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings &
Interpretations Directorate