PARTNERSHIPS Robin MacKnight
June 21, 2010 2008 Tax Law for Lawyers 2
Topics for Discussion
• What is a Partnership?
• Tax Fictions of Partnerships
• Income, Loss and Gains
• Basis Calculations
• Partnership Reorganizations
• Limited Partnerships
• Tax Shelters
• Tax Shelter Opinions
• Partnerships in Estate Planning
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Predictions
• CCRA will continue to challenge taxpayers who use partnerships as a business vehicle
• CCRA will focus on whether a “business” exists and whether the partners carry it on “in common”
• More taxpayers will realize the advantages of the partnership structure and will increasingly use them
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What is a Partnership?
• Common law test
• Two or more persons
• Carrying on business
• In common
• With a view to profit
• Codified in provincial Partnership Act
• Artificial statutory creatures – limited
partnership, limited liability partnership
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The Concept of Business
• “Adventure in the nature of trade” is a
business for tax purposes
• Does mere common ownership suffice?
• What commercial activity is required to
meet the business threshold?
• McKeown 2001 DTC 511
• Banner Pharmacaps NRO Ltd. 2003 FCA
367; 2003 DTC 5642
• Hudon 2001 FCA 320; [2002] 1 CTC 25
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Common Law Tests
• “in common” – requires intention of the
parties to create a partnership
• Critical difference between partnership
and other vehicles
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Common Law Tests
• Note that tax motivation is not a
common law test – but query whether it
could demonstrate intention?
• Tax motivation does not expressly
disqualify a partnership under either
partnership or tax rules
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Common Law Tests
• No requirement that partnership agreement
be in writing or be registered
• Consequently, many unwritten commercial
arrangements may constitute a partnership
under common law
• Note that a limited partnership does not
exist until notice is registered
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Common Law Tests
• Conflict of law issue – is
a partnership recognized
under the law of one
jurisdiction automatically
recognized if it carries
on business in another?
• Classification issue
presents problems and
opportunities
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Trends in the Cases
• CCRA initially challenged existence of
partnership on basis no business existed
• Recent cases demonstrate low threshold for
“business”
• New CCRA challenge – is business carried
on “in common”?
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Trends in the Cases
• Low threshold for demonstrating a business
• Continental Bank Leasing
• Gagnon
• Quaidoo
• But still distinct from hobbies or personal use
• Dahl
• Johnson
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Trends in the Cases
• Is the business carried on “in common”?
• More an issue for tax shelters structured as
general partnerships, where the presumption
is that all partners participate in the business
• May be less of a problem for limited
partnerships, where LPs are precluded from
participating in management
June 21, 2010 2008 Tax Law for Lawyers 14
What is Not a Partnership?
• Co-ownership
• Syndicate
• Joint Venture
• Agency
• Tenancy in common
• Joint tenancy
• Participating debt
instruments
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Why do we care?
• Tax consequences:
• Who recognizes income/gain/loss?
• Who is entitled to what deductions?
• Who is restricted in ability to claim
deductions?
• What deductions/expenses are pooled?
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Co-Ownership
• May not have the intention to carry on business – eg. Succession on death
• Interest transferable
• No agency between co-owners
• Ability to force partition of ownership
• No lien on property for liabilities incurred on behalf of the venture
• Differences in liquidation/partition
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Syndicates and Joint Ventures
• No clear legal distinction from partnerships
• No definitions for tax purposes
• General commercial difference is scope of
activity – single purpose/transaction or
business?
• Governing agreement may disclaim
intention to create a partnership – but how
do the parties really act?
June 21, 2010 2008 Tax Law for Lawyers 18
Joint Tenancy and Tenancy-in-
Common• Clearly defined legal relationships
• Legal consequences different from
partnership, including:
• Ability to dispose of property
• Ability to demand partition
• Succession to ownership
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Participating Debt Instruments
• Lender may be entitled to participate in the
cash flow of borrower’s project or in the
appreciation in value of the assets
• If participation payments are not interest,
are they a distribution of partnership
revenues/profits?
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Differences between tax and
commercial law
• Allocation of profit and loss
• Status of partners
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Tax Fictions of a Partnership
• Paragraph 96(1)(a) – partnership a separate
person
• (b) – separate fiscal year
• (c ) - each partnership activity is a separate
source carried on by a separate person
• (d) – deductions claimable by partnership
• (f) – nature of the source of income flows
through to partners
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More Tax Fictions
• Ss. 96(1.1) – deemed continuing partners
• Ss. 102(1) – definition of “Canadian
partnership”
• Ss. 212(13.1) – withholding tax obligations
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Computation and Allocation of Income
• Income computed as if partnership were a
separate person from partners
• Income/gain/loss computed by source
• Income allocation generally set out in
partnership agreement
• Partners recognize income for their tax year
in which partnership tax year ends
• Note 249.1 for partnership fiscal year
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Calculation of ACB
• Bumps and grinds –
paragraphs 53(1)(e)
and 53(2)(c)
• ITAR 26 for pre-72
partnership interests
• Timing of calculation
is critical
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Timing Issues
• Amounts added to ACB during the fiscal
period:
• Capital dividends received by
partnership
• insurance proceeds received
• additional capital contributions
• rights or things income – 70(2)
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Timing Issues
• Amounts added after the year end:
• Income allocated for the year
• Partner’s share of the non-taxable
portion of any capital gains realized in
the year
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Timing Issues
• Deductions during the fiscal year:
• Partnership drawings and capital
distributions
• Non-recourse debt used to acquire
the partnership interest
• ITC’s claimed by partner during the
year
June 21, 2010 2008 Tax Law for Lawyers 29
Timing Issues
• Deductions after the fiscal year:
• Allocated losses (but “limited partnership losses” only reduce ACB when they are claimed by the partner)
• Allocated share of the non-deductible portion of capital losses
• Allocated resource expenditures
• Allocated charitable and political tax credits
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Consequences of Timing
• Ss. 40(3) – deemed gain on negative ACB
not applicable to general partnership
interest
• Ss. 40(3.1) – (3.14) – negative basis of
limited partnership interest included in
income in year in which it arises
June 21, 2010 2008 Tax Law for Lawyers 31
Dispositions of Partnership
Interests Mid-Year
• Proposed ss. 96(1.01) addresses mid-year
dispositions
• Fiscal period deemed to end immediately
before taxpayer ceased to be a member –
96(1.01)(b)(ii)
• Result is that income or loss for stub period is
included in ACB calculation