Daily Tax Update - December 7, 2009

TAX COURT OF CANADA DECIDES GE CASE ON AFFILIATE GUARANTEE FEE PRICING: On December 4, 2009, the Tax Court of Canada issued its decision in General Electric Capital Canada Inc. v. the Queen, 2009 TCC 563, holding that the 1% guarantee fee paid by GE Capital Canada Inc. (“GE Capital Canada”) to its indirect parent, General Electric Capital Corporation (“GE Capital US”), was equal to or below an “arm’s length” price, and thus deductible by GE Capital Canada. The amount of deductions at issue exceeded CAN $136 million.

  • The Canadian Minister of National Revenue argued that GE Capital Canada would have the same credit rating as its indirect parent GE Capital US without a guarantee, because GE Capital US had a strong incentive to provide financial support to GE Capital Canada, even if not contractually obligated to do so. The Minister argued that, as a result, GE Capital Canada could have borrowed the same amount of money at the same interest rate without an explicit guarantee. Because GE Capital Canada did not receive an economic benefit from the guarantee, the correct arm’s length price was zero.
  • Alternatively, the Minister argued that, even if the two companies’ credit ratings would not be equalized due to their affiliation, the correct arm’s length price should be determined by identifying the difference in interest rates that could be obtained by entities with the respective credit ratings of GE Capital Canada and GE Capital US, then making adjustments to that spread to take into account the benefits that would flow to GE Capital US under the guarantee arrangement.
  • GE Capital Canada argued that any “affiliation benefit” can not be considered under the Canadian transfer pricing law because the law requires “that one situate the parties opposite each other to determine how they would have arranged their transaction if they had been dealing at arm’s length. All distortions that arise from the parties’ relationship must be eliminated to arrive at an arm’s length result.”
  • Further, GE Capital Canada argued that, even under the Minister’s approach to calculating an arms’ length interest rate, the economic benefit enjoyed by GE Capital Canada due to the guarantee exceeded the 1% fee paid to GE Capital US
  • The Tax Court of Canada, taking into account several expert opinions on the value of the guarantee, determined that GE Capital Canada would have a lower credit rating (BBB-/BB+) without explicit support from GE Capital US. The court determined that the interest cost savings based on the rating differential between BBB-1/BB+ (GE Capital Canada’s credit rating without explicit support) and AAA (GE Capital Canada’s credit rating with explicit support) was approximately 1.83%. As a result, the court concluded that the 1% guarantee fee was equal to or below an arm’s length price because GE Capital Canada “received a significant net economic benefit from the transaction.”
  • For additional information, contact Philip R. West - pwest@steptoe.com or Amanda Varma - avarma@steptoe.com.

US SENATE GIVES ADVICE AND CONSENT TO RATIFICATION OF US-FRANCE TAX TREATY PROTOCOL: On December 3, 2009, the United States Senate voted to give advice and consent to the ratification of a protocol to the tax treaty between the United States and France. The protocol will enter into force when the countries exchange instruments of ratification, which is expected to occur this year. Key provisions in the protocol include:

  • A zero percent withholding rate for direct dividends paid by a US or French company if its beneficial owner is a resident of the other country, if:
  • The beneficial owner has owned, directly or indirectly through one or more residents of either the United States or France, shares representing 80% of the voting power of the payor company (for US purposes) or 80% of the capital of the payor company (for French purposes) for a 12-month period ending on the date on which entitlement to the dividends is determined; and
  • The beneficial owner satisfies certain requirements under the limitation on benefits article
  • Elimination of withholding on royalty payments
  • Mandatory binding arbitration for cases in which the competent authorities are unable to reach agreement. The US-France tax treaty is the fourth US tax treaty to contain a mandatory binding arbitration provision.
  • Amendments to the limitation on benefits article, including an updated derivative benefits test
  • A rule for determining whether an item of income derived through a fiscally transparent entity will be treated as derived by a resident of France or the United States
  • A rule providing that neither country may refuse to supply information because the information is held by a financial institution, is held by a nominee or agent, or because it relates to ownership interests in a person
  • Elimination of a rule allowing collection assistance with respect to citizens in certain circumstances
  • For taxes withheld at source, the provisions of the protocol will be effective retroactively to January 1, 2009. For all other taxes, the provisions of the protocol will apply January 1, 2010. Mandatory arbitration will apply to cases under consideration by the competent authorities as of the date the protocol officially enters into force and all cases that come under consideration after that time.
  • For additional information, contact Philip R. West - pwest@steptoe.com or Amanda Varma - avarma@steptoe.com.

WAYS & MEANS INTRODUCES EXTENDERS BILL: Today, House Ways & Means Committee Chairman Charles Rangel formally introduced the Tax Extenders Act of 2009 (H.R. 4213) to extend 49 expiring tax incentives scheduled to expire at the end of this year. The extenders include one-year renewals of the research and development credit, the active financing income exception to subpart F, look-through rules for related controlled foreign corporations, 15-year straight-line cost recovery for qualified leasehold and restaurant improvements, and the deduction of state and local taxes. The $31 billion cost of the bill would be offset by provisions designed to halt offshore tax havens (H.R. 3933), which is expected to raise $7.67 billion, and a proposal to tax carried interest as ordinary income rather than capital gains, which is expected to raise $24.6 billion. The full House is expected to take up the bill on December 9.

SENATE REJECTS $400,000 LIMIT ON DEDUCTIBILITY OF HEALTH INSURANCE EXECUTIVES' PAY: On December 6, the Senate rejected an amendment offered earlier in the week by Sen. Blanche Lincoln to reduce the cap on deductibility of compensation for health insurance executives from $1 million under current law to $400,000. The money raised by the reduction would have been redirected to the Medicare Trust Fund. The amendment faced opposition from Republicans as dictating to companies how to structure compensation and as an attempt to punish the health insurance industry executives for not supporting the Democratic health overhaul bills. The vote on the amendment was 56-42, falling short of the 60 votes required for passage.

IRS NAMES NEW CHIEF OF CRIMINAL INVESTIGATION: Today, the IRS announced that Victor Song has been named the new chief of Internal Revenue Service Criminal Investigation (IR-2009-113). Song, who is currently the CI deputy chief, will replace Eileen Mayer who is retiring in January, and Rick Raven will become CI deputy chief. IRS Commissioner Doug Shulman said that Song and Raven "bring a wealth of experience, integrity and dedication to their jobs. They will continue the great leadership tradition in CI as the agency faces new challenges." Shulman also congratulated Mayer "for her tireless dedication to public service for 35 years."

Notice 2009-96 sets forth the corporate bond weighted average interest rate used to calculate current plan liability and required contributions for December at 6.42 percent, and the 90-100 percent permissible range of interest rates at 5.78-6.42 percent. The notice also includes the 30-year Treasury securities interest rate, the monthly corporate bond yield curve, the 24-month average corporate bond segment rates, the funding transitional segment rates, and the minimum present-value segment rates.

As provided for in Treasury regulations, advice (if any) relating to federal taxes that is contained in this communication (including attachments) is not intended or written to be used, and cannot be used, for the purpose of (1) avoiding penalties under the Internal Revenue Code or (2) promoting, marketing or recommending to another party any plan or arrangement addressed herein.

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