ARCHIVED - Partnerships - Partners not Dealing at Arm's Length

What the "Archived Content" notice means for interpretation bulletins

NO: IT-231R2

DATE: March 3, 1986

SUBJECT: INCOME TAX ACT
Partnerships - Partners not Dealing at Arm's Length

REFERENCE: Subsection 103(1.1)

IT231R2 Partnerships - Partners not dealing at arm's length

This bulletin replaces and cancels Interpretation Bulletin IT-231R dated November 21, 1977.

1. This bulletin discusses the sharing of income from partnerships by partners who do not deal with each other at arm's length including partnerships of spouses. It is applicable only to fiscal periods of partnerships ending after December 11, 1979. It should be noted that the comments in this bulletin are not relevant where, in fact, no partnership exists (see IT-90R).

2. Pursuant to subsection 103(1.1) where two or more partners not dealing with each other at arm's length (see IT-419) have agreed to share any income or loss from any activity of the partnership in unreasonable proportions, the Department will adjust each partner's share to an amount which is considered reasonable in the circumstances. In the determination of these amounts, each partner's capital contribution and work performed, together with any other relevant factor, will be taken into account by the Department.

3. In determining a commensurate value attributable to work performed by a partner in the activities of the partnership, both the time expended and the expertise provided are taken into consideration. Generally if the function performed by the partner does not require a specialized skill or training, it is expected that the partner's involvement will be on a regular basis and will require that a significant amount of time be spent in the enterprise. On the other hand, if a partner possesses special expertise relevant to the partnership's activities, such partner's involvement could be on an irregular basis with a lesser amount of time being spent.

4. If a capital contribution is made by one partner out of funds transferred by gift or loan directly or indirectly from another partner with whom the transferee does not deal at arm's length and the transfer was made to enable the transferee to make that contribution, for the purposes of determining the respective capital contributions of the partners for the purposes of subsection 103(1.1) the contribution is viewed as that of the transferor rather than the transferee. However, this view is not taken when the funds are transferred by means of a loan for a reasonable term that bears interest at a commercial rate.

5. Although the Department will challenge unreasonable allocations of profit as mentioned in 2 above, there may be situations where one partner is allocated a greater share of the profits on a specific transaction than would have been allocated under the normal profit sharing arrangement. For example, where inventory, having a fair market value of $25,000.00 is transferred by a partner to the partnership for $10,000.00 and an election has been made under subsection 97(2), if the property is subsequently disposed of for $25,000.00 the Department will not generally challenge an allocation of the entire $15,000.00 to the partner who had transferred the property to the partnership.