2009 Ruling 2008-0290061R3 - Partner's pro corp services to 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.

Principal Issues: Whether the active business income earned by a partner's professional corporation from providing professional services to a partnership of which the partner is a member would be restricted under the rules for specified partnership income or personal services business.

Position: No, as long as facts and proposed transactions carried out according to the ruling request.

Reasons: The facts and proposed transactions, as described, conform to our requirements as set out in other similar rulings.

XXXXXXXXXX ,							2008-029006

XXXXXXXXXX , 2009

Dear XXXXXXXXXX :

Re: Advance Income Tax Ruling
XXXXXXXXXX (the "Partnership")
XXXXXXXXXX (the "Partners")

We are writing in response to your letter of XXXXXXXXXX , in which you requested an advance income tax ruling on behalf of the Partnership and the Partners. We also acknowledge the information provided in your letter of XXXXXXXXXX , as well as in various emails and telephone conversations (XXXXXXXXXX ).

To the best of your knowledge and that of the Partnership and the Partners (collectively the "Taxpayers"), none of the issues involved in the ruling request is:

i. in an earlier return of one of the Taxpayers or a related person;
ii. being considered by a tax services office or a tax centre in connection with a tax return already filed by one of the Taxpayers or a related person;
iii. under objection by one of the Taxpayers or a related person;
iv. before the courts or, if a judgment has been issued, the time limit for appeal to a higher court has not expired; and
v. the subject of a ruling previously issued by the Directorate to one of the Taxpayers or a related person.

Unless otherwise stated, all references to a statute are to the Income Tax Act R.S.C. 1985 (5th Supp.), c.1, as amended (the "Act"), and all terms and conditions used herein that are defined in the Act have the meaning given in such definitions unless otherwise indicated.

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

Definitions

The following definitions have been used in this letter:

(a) "CCPC" means a "Canadian-controlled private corporation" as defined under subsection 125(7) of the Act;

(b) "Contract" refers to the sub-contracting agreement which will be used to set out the terms and conditions by which a ProCorp will provide Professional Services to the Partnership;

(c) "CRA" is the Canada Revenue Agency;

(d) "Electing Partner" refers to a Partner who elects to provide his or her Professional Services through a ProCorp;

(e) "Fees" refers to the fee to be charged under the Contract by a ProCorp to the Partnership;

(f) "Income" refers to the Partnership's income or loss for a particular Taxation Year as computed under subsection 96(1) of the Act;

(g) "Non-Electing Partner" refers to a Partner who does not elect to provide Professional Services using a ProCorp;

(h) "Non-Professional Services" means the administrative and managerial activities carried on by the Partners including business development, maintaining client relationships, promoting and contributing to the growth of the Practice, enhancing the profile of the Partnership, educating and managing staff, XXXXXXXXXX and generally conducting management functions.

(i) "Partnership Agreement" refers to the existing partnership agreement by which the Partners are currently bound;

(j) "Practice" means the XXXXXXXXXX practice currently carried on by the Partnership and encompasses both Professional Services and Non-Professional Services;

(k) "ProCorp" means each of the corporations to be formed by an Electing Partner and through which an Electing Partner will provide Professional Services as an employee of that corporation;

(l) "Professional Services" means the XXXXXXXXXX services provided by the Partnership;

(m) "Province" means the Province of XXXXXXXXXX ;

(n) "Related Persons" has the meaning assigned by subsection 251(2) of the Act;

(o) "TCC" refers to a "taxable Canadian corporation" as defined under subsection 89(1) of the Act; and

(p) "Taxation Year" means the Partnership's taxation year for income tax purposes which is defined in paragraph 96(1)(b) of the Act as the Partnership's fiscal period.

Facts

1. The Partnership is governed by the Partnership Agreement effective

XXXXXXXXXX . Its address is XXXXXXXXXX , and it has a fiscal period ending XXXXXXXXXX .

2. XXXXXXXXXX

3. The Partners are the only partners of the Partnership.

4. The Partners are resident in Canada for the purposes of the Act and are not Related Persons.

5. The Partnership carries on the Practice XXXXXXXXXX . The Partners provide Professional Services to the Partnership.

6. The key terms of the Partnership Agreement are as follows:

(a) Partners must devote substantially their full time and energy to the practice of the Partnership unless prevented by sickness or other reasonable cause or unless otherwise agreed by the Partners from time to time.

(b) All clients of the Practice are clients of the Partnership.

(c) All Partners must, at all times, maintain their status as members of XXXXXXXXXX in good standing.

(d) XXXXXXXXXX Partner may transfer, sell, assign or encumber XXXXXXXXXX Partnership interest or any of XXXXXXXXXX rights or obligations under the Partnership Agreement to anyone else without the written prior consent of XXXXXXXXXX .

(e) New Partners may be admitted to the Partnership only if agreed to by the Partners and the Partnership Agreement is amended or a new form of Partnership Agreement entered into.

(f) The level of capital contribution required of a new Partner and thus the amount of such new Partner's Partnership's interest will be determined at the time of the decision to admit him or her to the Partnership.

(g) Each Partner's interest in the Partnership is in the same proportion as that Partner's capital account is to the Partnership's total capital account.

(h) The Partnership's capital account is the total of all capital contributions made to the Partnership from the Partners, less any repayments of capital. A Partner's capital account reflects the total amount of capital contributions made by the Partner to the Partnership less any capital repayments to the Partner.

(i) Additional capital requirements will be satisfied from Partnership profits, borrowings from third parties or financial institutions, borrowings from Partners or additional contributions to the capital of the Partnership.

(j) Partner's draws are determined on the basis of the profits of the Partnership which are calculated on the basis of generally accepted accounting principles. Profits once determined, less a reserve, are allocated to each Partner's income account in proportion to each Partner's interest. A Partner may draw on XXXXXXXXXX income account but may not draw on XXXXXXXXXX capital account without the prior written consent of XXXXXXXXXX .

(k) Each Partner has responsibilities with respect to the Non-Professional Services that the Partner currently provides to the Partnership and will continue to provide to the Partnership. The Partnership may also engage others to provide management services to the Partnership.

(l) Each member of the Partnership has an equal say in the decisions of the Partnership and significant decisions, but none of the following may be done without the consent of XXXXXXXXXX Partners:

(i) any change in the Partnership Agreement;
(ii) any distributions other than as specifically provided in the Partnership Agreement;
(iii) any change in the Partnership name or its Practice;
(iv) the sale, lease, transfer or disposal of all or a material part of the assets or business of the Partnership;
(v) changing the Partnership's fiscal year;
(vi) the appointment, removal or replacement of the Partnership's accountant;
(vii) the mortgage, pledge, charge or other encumbrance of any of the Partnership's assets; and
(viii) the Partnership entering into any contract or commitment with any person who is not dealing at arm's length with any Partner.

(m) XXXXXXXXXX Partner may, at any time, give notice to XXXXXXXXXX , of an offer to purchase all of XXXXXXXXXX Partnership interest and alternatively an offer to sell XXXXXXXXXX Partnership interest at the stipulated price.

(n) A dissolution of the Partnership may occur upon the completion of a buy-sell provision, upon the Partners agreeing to dissolve the Partnership, or upon the death of a Partner.

Proposed Transactions

7. The Partnership Agreement will be amended as follows:

(a) A provision will be added to differentiate between Professional Services and Non-Professional Services.

(b) A provision will be added to allow a Partner to elect to provide his or her Professional Services through a ProCorp controlled by him or her, and where a Partner so elects, he or she will no longer be permitted to provide any Professional Services to the Partnership in his or her capacity as a Partner. A Partner must provide a written notice setting out his or her intention to provide Professional Services through a ProCorp.

(c) A provision will be added to prohibit the transfer, conveyance or issuance of an interest in the Partnership to a ProCorp.

(d) A provision will be added to prohibit the carrying out of Non-Professional Services by the ProCorps. All Partners will continue in their capacity as partners to carry out the Non-Professional Services for the Partnership.

(e) The formula for the allocation of Income for a Taxation Year will be amended to provide that an Electing Partner's allocation of Income for a Taxation Year will be dependent solely on factors connected to the Non-Professional Services carried out by the Electing Partner on behalf of the Partnership. For greater certainty, the Partnership Agreement will make it clear that the calculation of an Electing Partner's Income for a Taxation Year will not take into account any Professional Services provided by the Electing Partner's ProCorp, nor will it take into account any time spent by the Electing Partner performing Professional Services in his or her capacity as an employee of his or her ProCorp.

(f) A provision will be added to ensure that all Non-Electing Partners will continue to provide their Professional Services directly to the Partnership. Further, the Partnership Agreement will clarify that a Non-Electing Partner's allocation of Income for a particular year will be based on the Non-Electing Partner's capital contribution and factors connected to the Professional Services and Non-Professional Services carried out by the Non-Electing Partner on behalf of the Partnership.

(g) A provision will be added to provide that, as long as a ProCorp fully discharges its responsibilities under the Contract, ProCorp will not be restricted from providing Professional Services to other persons or otherwise prohibited from competing with the Partnership. The Partnership Agreement will also be amended to provide that Electing Partners are not restricted from competing with the Partnership with respect to Professional Services. For greater certainty, there will not be any terms in the Partnership Agreement, or any other agreement (oral or otherwise), that would prohibit ProCorps or the Electing Partners from competing with the Partnership in respect of the provision of Professional Services.

8. Each ProCorp will be required to comply with the following requirements:

(a) It will be incorporated pursuant to the laws of the Province.

(b) It will qualify as a TCC and a CCPC.

(c) It will be controlled by an Electing Partner, who will be the legal and beneficial owner of all of the shares of the particular ProCorp, whether voting or non-voting shares. All shareholders legally or beneficially owning voting and non-voting shares of the ProCorp will be residents of Canada.

(d) An Electing Partner will be the sole director of his or her ProCorp. He or she will also be an employee of ProCorp and will be paid a salary for his or her service.

(e) An Electing Partner cannot be an employee, officer, director or shareholder, legal or beneficial, of more than one ProCorp.

(f) No two ProCorps will be Related Persons.

9. Upon receipt of a written notice from an Electing Partner, the Partnership will enter into a written Contract with the particular Electing Partner's ProCorp containing the following terms:

(a) The Contract will be for an indefinite period but may be terminated by either party upon 30 days notice or any other event of termination as described therein.

(b) The ProCorp will provide Professional Services on behalf of the Partnership in return for Fees. The amount of the Fees will be tied to the level of work performed by ProCorp, and not to the success in XXXXXXXXXX . Further, it will be based on the fair market value of the Professional Services provided by the ProCorp to the Partnership and may take into account the experience and areas of specialty of the particular Electing Partner. The ProCorps will invoice the Partnership for such Fees.

(c) All payments received by the Partnership from third parties in respect of Professional Services provided by the ProCorp under the Contract will be for the benefit of the Partnership and if a ProCorp receives any such amounts, they will be remitted to the Partnership.

(d) Provided that ProCorp fully discharges its responsibilities under the Contract, ProCorp will not be restricted from providing Professional Services to other persons or otherwise be prohibited from competing with the Partnership.

(e) Each ProCorp will be responsible for the cost of any general office expenses incurred by the Partnership that may reasonably be attributed to the particular ProCorp and the fair market value of such expenses will be charged as an offset against the Fee.

10. Each ProCorp will be responsible for the following expenses:

(a) Professional membership fees in respect of the Partner;
(b) Professional liability insurance and or disability insurance for the particular Partner;
(c) Continuing education costs;
(d) Travel expenses, including car, accommodation and meal expenses;
(e) Communication expense;
(f) Office equipment and supplies; and
(g) Additional business expenditures relating to personal practice preference of the particular ProCorp.

11. Within six months of this Ruling, the Partners will establish ProCorps and will elect under the Partnership Agreement to provide Professional Services through such corporations. Immediately thereafter, each Partner's ProCorp will enter into a Contract with the Partnership for the purpose of providing such services.

Purpose of the Proposed Transactions

The purpose of the proposed transactions is to allow the Partners to take advantage of the legislative amendments by the Province of XXXXXXXXXX which permits XXXXXXXXXX to render professional services through professional corporations, which provides the following benefits:

(i) It provides the Partners with an increased level of control over their participation in the Practice through individual management of personal practice preferences;
(ii) It permits the Partners to have more control over expenditures where such expenditures may not be in the interest of all Partners; and
(ii) It permits the Partners to have more control over their estate and financial planning;

Rulings Provided

Provided that

(a) the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and the purposes of the proposed transactions,
(b) the proposed transactions are completed in the manner described above, and
(c) there are no other transactions which may be relevant to the rulings requested,

we rule as follows:

A. Provided that a Partner would not, if XXXXXXXXXX ProCorp did not exist, reasonably be regarded as an officer or employee of the Partnership in respect of the provision of Professional Services, the Partner's ProCorp will not be considered to be carrying on a personal services business as defined in subsection 125(7) of the Act.

B. Provided that a Partner's ProCorp was not a member of any partnership in the relevant year in respect of the provision of Professional Services to the Partnership, the Fees earned by the particular ProCorp will not be specified partnership income as defined in subsection 125(7) of the Act.

C. Subject to sections 18 and 67 of the Act, the Fees payable by the Partnership to a ProCorp will be deductible by the Partnership in the determination of Income pursuant to subsection 96(1) of the Act.

D. The undertaking of the proposed transactions in paragraphs 8 to 12, and in particular the payment of the Fees, will not in and of themselves cause subsections 56(2), 56(4) or 246(1) of the Act to apply so as to cause an amount received by a Partner's ProCorp under the Contract to be taxed as income in the hands of the particular Partner.

E. Provided that the amount of Income allocated to each Partner is reasonable, having regard to all the relevant circumstances, the sharing of the Income between the Partners will not be subject to adjustment pursuant to subsection 103(1) of the Act solely as a result of a Partner being allowed, pursuant to amendments to the Partnership Agreement, to incorporate a ProCorp and to provide all of his or her Professional Services to the Partnership through that ProCorp for Fees.

F. Implementation of the proposed transactions as described above will not, in and by themselves, result in the application of the provisions of subsection 245(2) of the Act to re-determine the tax consequences confirmed in the rulings given above.

G. The execution and implementation of the proposed transactions described above, in and of themselves, will not constitute a disposition of part or all of an interest in the Partnership by any of the Partners.

These rulings are given subject to the limitations and qualifications set out in Information Circular 70-6R5 issued by the CRA on May 17, 2002, and are binding on the CRA provided that the proposed transactions are implemented on or before XXXXXXXXXX . These rulings are based on the Act in its present form and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.

Nothing in this letter should be construed as implying that the CRA has agreed to or accepted any of the tax consequences relating to the facts and proposed transactions described above except as expressly stated in the rulings. In particular, nothing in this letter should be interpreted as confirming, either expressly or implicitly, that the CRA has agreed to or accepted the fair market value or reasonableness of any amounts, including the Fees, and whether the Partnership is a partnership at law.

Additional Comments

Whether or not a particular Partner would, if XXXXXXXXXX ProCorp did not exist, be an employee of the Partnership or an independent contractor who has entered into a contract of services with the Partnership is a question of fact that can only be determined after a review of the actual agreements entered into between the ProCorp and the Partnership and between the ProCorp and the Partners. This review and determination is the responsibility of the Partner's local tax services office.

The attribution rules in sections 74.1 to 74.4 of the Act apply in situations where property is transferred or lent, directly or indirectly, to a spouse or child. These rules may apply to any income received by a spouse or a child who has not attained the age of 18 years before the end of a particular taxation year. Whether or not these rules will apply in respect of the possible ownership of any shares of a Partner's ProCorp is a question of fact that can only be determined at the time that the shares are issued or property is lent or transferred to such a shareholder. Furthermore, subsection 56(2) of the Act may apply to any amounts paid by such ProCorp to a family member of the Partner. Also, section 120.4 of the Act may apply with respect to taxable dividends or trust income in respect of taxable dividends from a ProCorp received in a taxation year by a family member of the Partner who has not attained the age of 17 years before that year.

Opinion

The application of subsection 256(2.1) of the Act is determined on a year-to-year basis. We are therefore unable to rule that this provision will never apply to a ProCorp. In general, where a particular function of a professional partnership that was previously carried on by the partnership is subsequently carried on by a partner's professional corporation, and no longer in partnership, for bona fide reasons other than income tax, this fact, in and of itself, would generally not cause subsection 256(2.1) of the Act to be applicable. The reasons for the separate existence of two or more professional corporations or the reasons for a change in the functions performed directly by the partners of the professional partnership is a question of fact that can only be determined on a case-by-case basis. However, based on the facts and proposed transactions described herein, it is our view that the incorporation of ProCorps to provide the Professional Services to the Partnership will not, in and of itself, cause subsection 256(2.1) of the Act to be applicable to the ProCorps.

In accordance with paragraph 22 of Information Circular 70-6R5, the comments in the immediately preceding paragraph are only an expression of opinion, and as such should not be construed as an advance income tax ruling, nor are they binding on the CRA.

Yours truly,

XXXXXXXXXX
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch