CRA Technical Interpretation Prescribed Rates and Undue Benefits

January 2020 Charity & NFP Law Update

Esther S.J. Oh

The CRA released its technical interpretation, Document 2017-0683831I7, on December 5, 2019, in which it considered subsection 189(1) regarding non-qualifying investments of a private foundation (“NQI”) and subsections 188.1(4) and (5) regarding undue benefit provisions under the ITA. The technical interpretation addressed the question of whether a loan advanced by a charity to a person at prescribed rates could result in an undue benefit. Although the technical interpretation is not particularly determinative, it does provide a helpful explanation of the process undertaken by the CRA in analyzing the questions at hand. 

In this case, a registered charity that is a private foundation had advanced a loan to individuals or businesses (i.e. a debtor) at a prescribed rate of interest “because of the debtor’s relationship with the private foundation or the foundation’s board of directors.” The foundation requested clarification from CRA concerning whether a private foundation could be subject to a penalty for undue benefits pursuant to the ITA where subsection 189(1) does not apply to such debt owing by the debtor.

The CRA stated that under subsection 189(1), where certain debts owing by a taxpayer to a private foundation and where, at that time, those debts are a NQI of the foundation, then “the taxpayer is required to pay a tax for the year equal to the amount that is the interest that would be payable on the debt based on rates prescribed from time to time during the taxation year less any interest paid on the debt by the taxpayer not later than 30 days after the end of the taxation year.” In providing its comments, the CRA also reviewed the definition of NQI under subsection 149.1(1) of the ITA, which generally defines a NQI of a private foundation as “a debt owing to the foundation, or a share held by a private foundation that is issued by certain persons who are in a position to control or influence the operations of the foundation, as well as a right held by the foundation to acquire such a share.” Specifically, in the context of debt, the NQI definition refers to a debt (which excludes a pledge or undertaking to make a gift) that can be owing to the foundation either by certain persons outlined in subparagraph (a)(i) of the definition of NQI under subsection 149.1(1) of the ITA, or by corporations controlled by certain entities outlined in paragraph (b) of subsection 149.1(1). Certain corporations are excluded from the NQI definition, as outlined in paragraphs (d)-(f), inclusive. The CRA’s summary of the above subsections in the technical interpretation is set out below for ease of reference:

Specifically, in the context of debt, the NQI definition refers to a debt (other than a pledge or undertaking to make a gift) owing to the foundation by a person (other than an excluded corporation) 
1) who is a member, shareholder, trustee, settlor, officer, official, or director of the foundation;
2) who has contributed, or is a member of a group of non-arm’s length persons who have contributed, more than 50% of the foundation’s capital; or
3) who does not deal at arm’s length with any person described in (1) or (2).
The NQI definition also refers to a debt owing to the foundation by a corporation (other than an excluded corporation) controlled by
a) the foundation,
b) any person or group of persons referred to in (1), (2) or (3) above,
c) the foundation and any other private foundation with which it does not deal with at arm’s length, or
d) any combination of (a), (b) and (c);
An excluded corporation for purposes of the NQI definition is (1) a limited-dividend housing company; (2) a corporation all of the property of which is used by a registered charity in its administration or in carrying on its charitable activities; or (3) a corporation all of the issued shares of which are held by the private foundation.

With respect to the meaning of “undue benefits”, the CRA referenced subsection 188.1(5), indicating that: an undue benefit conferred on a person (beneficiary) by a registered charity includes “a disbursement by way of a gift; and the amount of any part of the income, rights, property or resources of the registered charity that is paid, payable, assigned or otherwise made available for the personal benefit of” certain persons listed in that subsection. Further, the CRA stated that “an undue benefit also includes any benefit conferred on a beneficiary by another person, at the direction or with the consent of the charity that would, if it were not conferred on the beneficiary, be an amount in respect of which the charity would have a right.” Exclusions are also outlined in subsection 188.1(5). 

The CRA went on to explain that an undue benefit does not include a disbursement or a benefit to the extent that it is a gift made or a benefit conferred in the course of a charitable act in the ordinary course of the charitable activities of a charity. This exclusion would apply unless it could be reasonably considered that the eligibility of the beneficiary related solely to the relationship of that person to the charity. An undue benefit also does not include a gift to a qualified donee or reasonable consideration or remuneration for property acquired by or services rendered to the charity. 

In addition, the CRA advised that the determination of whether or not a charity has conferred an undue benefit can only be made on a case-by-case decision based on all the facts and circumstances surrounding that specific situation, and would include a review of the underlying documentation.

In this case, the CRA concluded that, “given that subsection 189(1) of the Act and subsection 188.1(4) of the Act apply to different parties, each of these provisions must be considered independently of each other.” In this regard, the CRA indicated that the fact that a taxpayer is not subject to the subsection 189(1) tax in respect of a loan received from a registered charity, in and of itself, does not preclude the charity from being assessed a subsection 188.1(4) penalty where the facts and circumstances establish that the loan is an undue benefit conferred on that taxpayer.

Read the January 2020 Issue

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Charities Legislation & Commentary, 2020 Edition Now Available