CANADA REVENUE AGENCY 
 
INTERPRETATION BULLETIN NUMBER: IT-335R2 
 
DATE: July 12, 2004 
 
SUBJECT: INCOME TAX ACT 
Indirect Payments 
 
REFERENCE: Subsection 56(2) (also subsection 15(1); paragraphs 69(1)(b) and 
214(3)(a) of the Income Tax Act (the "Act")) 
 
At the Canada Revenue Agency (CRA), we issue income tax interpretation 
bulletins (ITs) in order to provide technical interpretations and positions 
regarding certain provisions contained in income tax law. Due to their 
technical nature, ITs are used primarily by our staff, tax specialists, and 
other individuals who have an interest in tax matters. For those readers who 
prefer a less technical explanation of the law, we offer other publications, 
such as tax guides and pamphlets. 
 
While the comments in a particular paragraph in an IT may relate to provisions 
of the law in force at the time they were made, such comments are not a 
substitute for the law. The reader should, therefore, consider such comments 
in light of the relevant provisions of the law in force for the particular 
taxation year being considered, taking into account the effect of any relevant 
amendments to those provisions or relevant court decisions occurring after the 
date on which the comments were made. 
 
Subject to the above, an interpretation or position contained in an IT 
generally applies as of the date on which it was published, unless otherwise 
specified. If there is a subsequent change in that interpretation or position 
and the change is beneficial to taxpayers, it is usually effective for future 
assessments and reassessments. If, on the other hand, the change is not 
favourable to taxpayers, it will normally be effective for the current and 
subsequent taxation years or for transactions entered into after the date on 
which the change is published. 
 
Most of our publications are available on our Web site at: www.cra.gc.ca 
 
If you have any comments regarding matters discussed in an IT, please send 
them to: 
 
Income Tax Rulings Directorate 
Policy and Planning Branch 
Canada Revenue Agency 
Ottawa ONTARIO K1A 0L5 
 
or by email at the following address: bulletins@cra.gc.ca 
 
This version is only available electronically. 
 
Contents 
 
Application 
Summary 
Discussion and Interpretation 
Conditions for the application of subsection 56(2) (paragraphs 1-4) 
Exemption - Pension Benefits (paragraph 5) 
Exception - Split Income (paragraph 6) 
Examples of the application of subsection 56(2) 
Gifts to Shareholders' Relatives (paragraph 7) 
Property Sold to Shareholder's Child below Fair Market Value (paragraph 8) 
Dividends (paragraph 9) 
Other comments 
Income or capital treatment (paragraph 10) 
Application to arm's length or non-arm's length transactions (paragraph 11) 
Deemed payment for the purposes of Part XIII of the Act (paragraph 12) 
Inclusion of an amount in the income of a taxpayer and in the income of the 
recipient of the property (paragraph 13) 
Explanation of Changes 
 
Application 
 
This bulletin cancels and replaces IT-335R dated September 11, 1989. Unless 
otherwise stated, all statutory references throughout the bulletin are to the 
Act. 
 
Summary 
 
This bulletin discusses a rule directed against tax avoidance which might 
result when amounts which would constitute income when received by a 
particular taxpayer are paid to another person. 
 
Discussion and Interpretation 
 
Conditions for the application of subsection 56(2) 
 
Paragraph 1. Subsection 56(2) will cause an amount not received by a taxpayer 
to be added to the taxpayer's income if the following conditions are met: 
 
(a) there is a payment or transfer of property to a person other than the 
taxpayer; 
(b) the payment or transfer is pursuant to the direction of, or with the 
concurrence of, the taxpayer (this may be implicit - see paragraph 3); 
(c) there is a benefit to the taxpayer or a benefit the taxpayer wishes to 
confer on the other person; 
(d) the taxpayer would have been taxable on the amount under some other 
section of the Act if the payment or transfer had been made directly to the 
taxpayer. 
 
Paragraph 2. Subsection 56(2) will not generally be applicable in a situation 
involving a bona fide loan between persons because such a loan does not 
constitute a "payment or transfer of property" within the meaning of that 
subsection. Whether a bona fide loan has been made in a particular situation 
is a mixed question of law and fact that will normally require, among other 
things, a review of the terms and conditions of the loan agreement. Factors to 
be considered would include whether the loan bears interest, the repayment 
terms, whether security is provided to the creditor, etc. However, if a loan 
is forgiven in a particular situation, the advance of funds may become a 
"payment or transfer" of property subject to subsection 56(2) at the time of 
the forgiveness of the said loan. 
 
Paragraph 3. The concurrence or participation of the taxpayer in the 
conferring of the benefit need not be active. It may be passive or implicit 
and can be inferred from all the circumstances of a particular situation (for 
example, the degree of control which the taxpayer is entitled to exercise over 
the corporation conferring the benefit). 
 
Paragraph 4. Except as indicated in paragraph 9 with respect to dividend 
income, a taxpayer to whom subsection 56(2) applies need not be legally 
entitled to the property paid or transferred but must have some degree of 
control over its payment or transfer. Thus a shareholder who does not 
specifically direct a payment that falls under subsection 56(2) to be made but 
acquiesces in its payment will be taxable on the portion of the payment equal 
to the proportion of the number of shares owned by the shareholder to the 
total number of shares. Whether or not a shareholder will be viewed as having 
acquiesced in the payment will depend on the facts of the particular case. 
 
Exemption - Pension Benefits 
 
Paragraph 5. Subsection 56(2) does not apply to any portion of a retirement 
pension that the taxpayer assigns under section 65.1 of the Canada Pension 
Plan or under a comparable provision of a provincial pension plan as defined 
in section 3 of the Canada Pension Plan or of a prescribed provincial pension 
plan. The Quebec Pension Plan is a provincial pension plan that has a 
comparable provision. The Saskatchewan Pension Plan is the only provincial 
pension plan prescribed to date. 
 
Exception - Split Income 
 
Paragraph 6. Pursuant to subsection 56(5), subsection 56(2) does not apply to 
any amount that is included in computing a specified individual's split income 
for a taxation year under section 120.4. Subsection 56(5) ensures that amounts 
taxed as split income in the hands of a minor child are not also attributed to 
another person. 
 
Examples of the application of subsection 56(2) 
 
Gifts to Shareholders' Relatives 
 
Paragraph 7. Pursuant to the direction of, or with the concurrence of, its 
shareholders, a particular corporation makes gifts to relatives of the 
shareholders. These relatives are not shareholders or employees of the 
particular corporation. In such a situation, subsection 56(2) would apply to 
include in the shareholders' income the fair market value of the gifts made by 
the particular corporation. These gifts would constitute payments or transfers 
of property pursuant to the direction of, or with the concurrence of, the 
shareholders to some other persons (meaning their relatives) as a benefit that 
the shareholders desired to have conferred on their relatives. Furthermore, an 
amount corresponding to the fair market value of the gifts would have been 
included in the shareholders' income under subsection 15(1) if the payments or 
transfers had been made by the particular corporation to the said 
shareholders. In this situation, each shareholder that directed or acquiesced 
in the payments or transfers would be taxable under subsection 56(2) on a 
portion of the payments or transfers made by the particular corporation that 
is equal to the proportion of the number of issued and outstanding shares of 
the corporation owned by the shareholder to the total number of shares that 
are in fact issued and outstanding. 
 
Property Sold to Shareholder's Child below Fair Market Value 
 
Paragraph 8. X owns all of the issued and outstanding shares of Xco. At the 
direction of X, Xco sells a piece of land for consideration that is less than 
fair market value in favour of Y, the child of X. These transactions would 
have the following tax consequences. First, subsection 56(2) would apply to 
include in X's income an amount corresponding to the difference between the 
fair market value of the property transferred and the consideration paid by Y. 
The transfer of the piece of land by Xco to some other person (i.e. Y) is made 
pursuant to the direction of X as a benefit that X desired to have conferred 
on Y and an amount corresponding to the difference between the fair market 
value of the property transferred and the consideration paid by X would have 
been included in X's income under subsection 15(1) if the transfer had been 
made by Xco to X. Furthermore, under paragraph 69(1)(b), Xco would be deemed 
to have received proceeds of disposition equal to the fair market value of the 
piece of land at the time of the transfer. Finally, the adjusted cost base of 
the piece of land to Y would, technically, be equal to the consideration he or 
she paid to Xco. See the current version of IT-405, Inadequate Considerations 
- Acquisitions and Dispositions, for additional discussions on the application 
of subsection 69(1). 
 
Dividends 
 
Paragraph 9. Absent a sham, subterfuge or an artificial transaction and 
provided that proper consideration was given for the shares when issued, 
subsection 56(2) does not generally apply to dividend income since, until a 
dividend is declared, the profits belong to the corporation as retained 
earnings. However, subsection 56(2) may be applicable where dividends are paid 
to shareholders of a corporation who, having regard to the dividend 
entitlements of their shares as set out in the articles of incorporation, 
receive dividends to which they are not entitled and/or where another taxpayer 
has a pre-existing entitlement to the dividend income paid to shareholders of 
a corporation. 
 
Other comments 
 
Income or capital treatment 
 
Paragraph 10. The amount to be included in the taxpayer's income is the amount 
that would have been included in the taxpayer's income if the payment or 
transfer had been made directly to the taxpayer. The amount is considered to 
be income or capital to the taxpayer in the same way it would have been if the 
taxpayer had received the amount directly. 
 
Application to arm's length or non-arm's length transactions 
 
Paragraph 11. Subsection 56(2) applies to both arm's-length and non-arm's 
length transactions if the conditions listed in paragraph 1 are met. 
 
Deemed payment for the purposes of Part XIII of the Act 
 
Paragraph 12. Under paragraph 214(3)(a), where a taxpayer is not a resident of 
Canada, any amount that would have been included in the taxpayer's income 
under subsection 56(2), if Part I of the Act applied, is to be treated as a 
dividend for the purposes of Part XIII of the Act. Non-resident withholding 
tax would therefore be exigible on that amount. 
 
Inclusion of an amount in the income of a taxpayer and in the income of the 
recipient of the property 
 
Paragraph 13. An amount to which subsection 56(2) applies could be included in 
the income of both the taxpayer and the person who receives the payment or the 
property. However, it is normally the Canada Revenue Agency's (CRA) practice 
not to assess the same income twice. Accordingly, where the taxpayer agrees to 
the reallocation, the recipient's income will be reduced. Where the taxpayer 
does not agree, the CRA will also reduce the recipient's income, without 
requiring a waiver, provided that at the time of the assessing action, the 
recipient's return was not about to become statute-barred; in those cases, the 
CRA will seek a waiver. 
 
Explanation of Changes Introduction 
 
The purpose of the Explanation of Changes is to give the reasons for the 
revisions to an interpretation bulletin. It outlines revisions that we have 
made as a result of changes to the law, as well as changes reflecting new or 
revised interpretations of the CRA. 
 
Reasons for the Revision 
 
This bulletin updates the former IT-335R, which discussed the provisions of 
subsection 56(2). Subsection 56(2) is a rule directed against tax avoidance 
which might result when amounts which would constitute income when received by 
a particular person are paid to another person. This bulletin has been revised 
mainly to add interpretative comments. 
 
Legislative and Other Changes 
 
New paragraph 2 has been added to provide comments with respect to the first 
condition for the application of subsection 56(2). 
 
New paragraph 3 has been added to provide comments with respect to the second 
condition for the application of subsection 56(2). 
 
Paragraph 4 is the same as former paragraph 3. It provides comments with 
respect to the third and fourth conditions for the application of subsection 
56(2) and is based on the decision of the Exchequer Court of Canada in M.N.R. 
v. Allan Bronfman, [1965] CTC 378, 65 DTC 5235. 
 
Paragraph 5 contains, in essence, the deleted comments from the last sentence 
of former paragraph 1. It has been revised to refer to section 65.1 of the 
Canada Pension Plan (instead of section 64.1), to indicate that the Quebec 
Pension Plan has now a comparable provision and to indicate that the 
Saskatchewan Pension Plan is the only provincial pension plan prescribed to 
date. 
 
The addition of new paragraph 6 is consequential on the introduction of the 
tax on split income (see section 120.4 of the Act). 
 
New paragraphs 7 and 8 provide examples of the application of subsection 
56(2). 
 
New paragraph 9 has been added to reflect the decisions of the Supreme Court 
of Canada in Neuman v. M.N.R., [1998] 3 CTC 177, 98 DTC 6297, and in The Queen 
v. McClurg, [1991] 1 CTC 169, 91 DTC 5001. 
 
Paragraph 10 is the same as former paragraph 2. 
 
Paragraph 11 is the same as former paragraph 4. 
 
New paragraph 12 has been added to refer to the deeming provision contained in 
subsection 214(3). 
 
New paragraph 13 has been added to include an administrative position with 
respect to the application of subsection 56(2).