CRA finds that stock option benefits are paid for US Treaty purposes by a US employer that reimburses its Canadian parent which issued the stock options

Under the post-2008 version of Article XV of the Canada-U.S. Income Tax Convention, remuneration (including stock option benefits) received by a U.S.-resident employee in respect of employment exercised by him or her in Canada and exceeding Cdn.$10,000 will only be exempt from Canadian tax if the individual was present in Canada for less than 183 days during various relevant 12-month periods and this remuneration was not "paid by, or on behalf of" a resident of Canada (and is not borne by a Canadian permanent establishment).

CRA considers that where the Canadian parent with the employee stock option plan is reimbursed by its U.S. subsidiary, as "the true and only" employer of the U.S. employee, for the amount of the stock option benefit arising on exercise, the U.S. subsidiary will qualify as the person who has paid the remuneration in question (the stock option benefit), so that such benefit will be exempt under the Convention.  However, as the payer of this remuneration, the U.S. subsidiary will "generally" be liable for penalties and interest under ss. 227(8) and (8.3) if it did not remit Canadian source deductions on the stock option benefit (computed per s. 153(1.01)(a) net of any s. 110(1)(d) deduction) without the employee first obtaining a source deduction waiver under s. 153(1.1).

CRA also notes that their method of computing the amount of the stock option benefit for domestic purposes (under s. 115(1)(a)(i)) is different from the methodology in Annex B  to the Fifth Protocol to the Convention - and that the domestic method should be used if this produces a lower computed benefit than the Treaty method.

Neal Armstrong.  Summaries of 6 July 2012 Memorandum 2012-0440741I7 under Treaties - Article 15, ITA - s. 153(1)(a) and ITA s. 115(1)(a)(i).