Niagara Corporation was incorporated in the State of New York on March 1, 1981. The head office of the corporation was established in Buffalo, New York, along with production and warehouse facilities. The directors of the company, the president, and the general manager were all U.S. citizens resident in Buffalo. Meetings necessary to maintain the corporate charter and major business meetings to discuss corporate strategy were held in Buffalo. The main corporation books and records were maintained at the company’s head office.

One of the main reasons for locating the company facilities in Buffalo was to exploit the Canadian market for the company’s product. As a result, immediately upon incorporation, a sales office was set up in rented premises in Toronto from which orders for its product could be solicited from Canadian customers. A head salesperson was hired to manage the sales effort conducted through the Toronto office by himself and two subordinate salespersons. In addition, an office secretary reporting to the head salesperson was hired. All of these personnel were Canadian citizens resident in Canada.

The Toronto office was identified by the company name on the door. The office telephone was listed in the company’s name. The salespersons solicited orders in the Canadian market, but they had to be approved by the head office in Buffalo. Once authorized by head office, the merchandise was shipped from the warehouses there. However, the Toronto office invoiced its Canadian customers, and payments were made to the Toronto office and deposited to a bank account in the company’s name in Toronto. The Toronto office operating expenses, including the salaries of all Toronto personnel and the commissions of the salespersons, were paid from the Toronto bank account by cheques signed by the head salesperson in Toronto. Records of these receipts and disbursements were kept in a set of books at the Toronto office. At the end of each month, the Toronto office would remit all but a nominal amount of the balance remaining in the bank account to head office.

By the end of the last year, the Canadian market for its product was such that the expense of maintaining an office in downtown Toronto was not warranted. Effective January 1 of the current year, the head salesperson was instructed to carry out all of his duties from a room built to accommodate the work in the basement of his home. The two subordinate salespersons reported to him there. The home telephone with a listing in the head salesperson’s name was used for the business. All salespersons carried business cards printed with the company name and the number of this residence’s phone. It was felt that the services of the secretary were unnecessary at this location since the head salesperson’s spouse could be paid to do the secretarial work on a part-time basis. A telephone answering service was hired to take messages when no one was home.

REQUIRED
Prepare a memo for the tax person in your firm who will advise Niagara Corporation on the income tax consequences of these facts for the current year. Evaluate in detail the residence issue alternatives related to this fact situation for the current year. Discuss each possible option of residence and its tax consequences. State your conclusions on the case after considering the relevant international tax agreement and weighing the significance of the facts in the case.