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A recent US Tax Court decision (Fuhrman, TC Memo 2011-236) – in determining the appropriateness of a mere $100,000 management fee charged to a US taxpayer – held that to prove that a management fee is appropriate, certain conditions must be met. The taxpayer was unsuccessful largely because there was little or no documentation retained.
Investing time and effort upfront to ensure your tax planning is effective can significantly reduce your tax-related costs. As the taxpayer in Fuhrman learned, the cost of ineffective tax planning includes not only the significant cash cost of interest, penalties and advisor fees, but also the opportunity cost of the organization’s people as they spend significant time trying to document what has long been forgotten.
Canadian companies frequently manage the earnings of their US subsidiaries by charging management fees and other inter-company charges. As a result, these management fees are often determined on an ad hoc basis, are inconsistent from year to year and may bear little relation to actual services performed by the Canadian parent for the US subsidiary.
The US courts have now given Canadian businesses a stark reminder as to what the expectations of the US tax authorities are around support for management fees charged to US companies. To ensure acceptability to the US tax authorities, a management fee charged by a Canadian company to its US subsidiary must:
The US tax authorities require this information to be compiled and contracts entered into in a timely manner so that, where possible, they “pre-date” the actual performance of services and charging of the management fees. Most importantly, contemporaneous time records and other time-sensitive evidence of what makes up the fees needs to be collected and retained.
To learn more about how MNP can help you navigate the US tax system, please contact me at 416.260.3509 or [email protected] or Tim Bloos at 416.515.3888 or [email protected]
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