5 May 2021 IFA Roundtable
Please note that the following questions and answers are not official and are subject to change until they are published by CRA.
Q.1 – COVID 19 and CRA Guidance Post September 2020
In January 2021, the Organisation for Economic Co-Operation and Development (“OECD”) came out with detailed guidance on interpreting tax treaties in light of COVID-19, (particularly with respect to determining “residency” and “permanent establishment” under tax treaties). Will the Canada Revenue Agency (“CRA”) confirm that they agree with the OECD’s guidance? While the CRA has indicated that they will be providing new guidance focused on individuals, will the CRA also extend its guidance for corporations that expired in September 2020 – given that the pandemic has not yet been resolved and the global travel restrictions remain in place?
On April 1, 2021, the CRA published Supplemental Guidance on International Tax Issues resulting from the pandemic. This update provides guidance and relief with respect to permanent establishment determinations, cross-border employees and individual residency.
The administrative relief provided for the initial relief period (March 16, 2020, to September 30, 2020) is no longer applicable to permanent establishment determinations of non-resident employers. However, the CRA expects that the application of the relevant treaty provisions to their situation will generally not result in the finding of a permanent establishment in Canada in situations where their employees work remotely from their home or short term residence in Canada solely because of COVID-19 travel restrictions. This type of situation will generally not be sufficient to meet the thresholds of a permanent establishment. For more details, see https://www.canada.ca/en/revenueagency/campaigns/covid-19-update/guidance-international-incometax-issues.html#h_vii).
Furthermore, the CRA did not extend the administrative relief for corporate residency beyond September 30, 2020. Residency determinations and questions surrounding central management and control must be addressed on a factual case-by-case basis.
Should residency and permanent establishment issues arise in future audits, the CRA will give due consideration to the impact of COVID-19 travel restrictions in its overall evaluation of facts.
Q.2 - Multilateral Instrument (“MLI”)
Has the CRA issued any assessments based on the principal purpose test (“PPT”), as introduced by The Multilateral Convention To Implement Tax Treaty Related Measures To Prevent Base Erosion and Profit Shifting (“MLI”)? If so, did the CRA also apply the general anti-avoidance rule (“GAAR”), and can the CRA describe the underlying fact pattern(s)?
Has the CRA received any advance income tax ruling requests related to the PPT? If so, can the CRA describe the underlying fact pattern(s)?
At the round table presented at the 2019 Canadian Tax Foundation Conference, the CRA announced that the Income Tax Rulings Directorate (“ITRD”) will provide advance income tax rulings on tax-avoidance issues in the context of tax treaties, including the PPT. The Treaty Abuse Prevention Committee (“TAP Committee”) will make recommendations to the ITRD on the application of the PPT in the context of an advance income tax ruling process and to the International and Large Business Directorate in the context of an audit. In addition, where a tax benefit, as defined under subsection 245(1) emanates from a bilateral tax treaty, the responsibility to provide a recommendation on the application of the GAAR under that provision in respect of such benefit was transferred from the GAAR Committee to the TAP Committee.
The proceedings of the TAP Committee mirror the proceedings of the GAAR Committee.
As with the GAAR, where a Tax Services Office is considering the application of the PPT as a primary or alternative assessing position, no assessment will be issued prior to seeking advice from the Tax Avoidance Division in Headquarters (“TAD”) through a referral process. If TAD is of the view that the PPT might apply to deny a benefit under a tax treaty, they will refer the matter to the TAP Committee for its recommendation. Even if TAD considers that there are no grounds to consider the application of the PPT, they may still submit the matter to the TAP Committee to obtain its views. Any submissions received from the taxpayer are forwarded in their entirety to the TAD and, where applicable, to the TAP Committee.
The MLI entered into force for Canada on December 1, 2019 and entered into effect for a number of Canada’s tax treaties as early as January 1, 2020 (for taxes withheld at source on amounts paid or credited to non-residents) and as early as taxation years beginning on or after June 1, 2020 (for all other taxes). In light of the entry into effect dates, the first deadline for NR4 filings with respect to payments for which the PPT may be applicable was March 31, 2021. Since the earliest taxation year to which the MLI applies is a taxation year beginning on or after June 1, 2020 (assuming a 12-month taxation year), the earliest corporate taxation year end and filing due date are respectively May 31, 2021 and November 30, 2021.
Since the entry into effect of the MLI, the CRA has not to date issued assessments on the basis of the PPT. Considering the international efforts which led to the MLI and its considerable importance to both tax administrations and taxpayers, the CRA intends to begin monitoring compliance with the MLI on a priority basis in advance of the normal audit cycles for Multinational Enterprises.
As for requests for an advance income tax ruling, the ITRD has received one pre-ruling consultation request with respect to the application of the PPT. The underlying fact pattern of the request involved the payment of a dividend by a Canadian corporation (“Canco”) to a corporation residing in another jurisdiction (“NRCo”) with which Canada has a tax treaty (“Convention”). NRCo was not engaged in commercial activities, other than holding all of the issued and outstanding shares of Canco and managing assets, and was wholly-owned by a resident of another jurisdiction with which Canada does not have a tax treaty. Canco requested confirmation that the Convention would apply to reduce the Canadian withholding tax rate of 25%, as provided in subsection 212(2), to a 5% withholding tax rate under the Convention, notwithstanding the MLI.
The pre-ruling consultation request on the application of the PPT was received shortly before the Supreme Court of Canada (“SCC”) heard the appeal in The Queen v. Alta Energy Luxembourg S.A.R.L (“Alta”). That decision involved the potential application of the GAAR to a benefit claimed by the taxpayer under the Canada-Luxembourg Tax Convention.
As indicated at the 2017 Canadian Tax Foundation Conference, the CRA will continue to contemplate the application of the GAAR to transactions undertaken primarily to secure a tax benefit afforded by a tax treaty. In appropriate circumstances, the PPT and the GAAR could apply as alternative assessing positions directed at a given transaction or arrangement.
The ITRD concluded on the pre-ruling consultation that it will wait until the SCC renders its decision on the application of the GAAR in Alta before entertaining a formal advance income tax ruling request.
Q.3 – Application of subsection 261(5) to the $5M threshold of subsection 247(3)
Assume that a Canadian corporation (“Canco”) with an “elected functional currency”, within the meaning of subsection 261(1), is subject to “transfer pricing income adjustments”, as defined in subsection 247(1), in respect of a “functional currency year”, as per the meaning of that expression under subsection 261(1).
In these circumstances, what would be the “relevant spot rate”, within the meaning of subsection 261(1), to be used in order to convert the C$ 5,000,000 threshold amount stated in subparagraph 247(3)(b)(ii) into the elected functional currency?
In this respect, we note that paragraph 261(5)(b) states the following:
(b) unless the context otherwise requires, each reference in this Act or the Regulations to an amount (other than in respect of a penalty or fine) that is described as a particular number of Canadian dollars is to be read, in respect of the taxpayer and the particular taxation year, as a reference to that amount expressed in the taxpayer's elected functional currency using the relevant spot rate for the first day of the particular taxation year;
In our view, the C$5,000,000 threshold amount in subparagraph 247(3)(b)(ii) is to be converted using the “relevant spot rate” for the first day of Canco’s particular taxation year in respect of which “transfer pricing income adjustments” are made, in accordance with paragraph 261(5)(b).
We reach that conclusion in the context of the situation submitted on a textual, contextual and purposive analysis of both the English and French versions of paragraph 261(5)(b), including in particular its parenthetical exclusion, which provides that it does not apply to an amount “in respect of a penalty or fine”.
The interpretative issue is whether the C$5,000,000 threshold in subparagraph 247(3)(b) is “in respect of a penalty”. Those words are very broad and one might argue that since subsection 247(3) provides for the liability to pay a penalty and also determines the amount of such penalty, paragraph 261(5)(b) is not applicable to its conversion in the elected functional currency.
The C$5,000,000 threshold amount in subparagraph 247(3)(b)(ii) is one of the two components that delineate the threshold above which a penalty might be assessed. It is only if the amount determined under paragraph 247(3)(a) exceeds the amount determined under paragraph 247(3)(b) that the taxpayer is subject to pay a penalty. The amount of the penalty itself is equal to 10% of the amount determined under paragraph 247(3)(a) and does not take into account paragraph 247(3)(b).
That conclusion is in line with the French version of paragraph 261(5)(b): “sauf s’il s’agit d’une pénalité ou d’une amende”. Also, predictability should prevail in applying subsection 247(3), and the application of paragraph 261(5)(b) to identify the “relevant spot rate” as the relevant spot rate for the first day of the particular taxation year when converting the C$ 5,000,000 threshold under subparagraph 247(3)(b)(ii) is consistent with that goal.
Q.4 – Section 247 Post Cameco FCA decision
Can the CRA advise on how it intends to amend its administrative policies in interpreting and applying section 247 following the Supreme Court of Canada’s decision not to hear the Crown’s appeal in The Queen v. Cameco Corporation, 2020 FCA 112 upholding the Tax Court of Canada’s decision (“Cameco”)?
That said, the CRA also recognizes that these decisions may limit situations where the re-characterization provision in paragraphs 247(2)(b) and (d) could be applied.
As such, the CRA is currently reviewing its ongoing cases in light of the Cameco decision. However, the CRA will continue to consider the application of the re-characterization provision where appropriate.
The CRA will continue to administer and enforce paragraphs 247(2)(a) and (c) in a manner consistent with the guidance provided by the Federal Court of Appeal in Canada v. General Electric Capital Canada Inc. (2010 FCA 344). At paragraph 54 of the latter decision, the Court states, with respect to paragraphs 247(2)(a) and (c):
“…The task in any given case is to ascertain the price that would have been paid in the same circumstances if the parties had been dealing at arm’s length. This involves taking into account all the circumstances which bear on the price whether they arise from the relationship or otherwise.”
Additionally, as recently announced in Budget 2021 , the government intends to consult on Canada’s transfer pricing rules with a view to protecting the integrity of the tax system while preserving Canada’s attractiveness as a destination for new investment and business activity. The Department of Finance indicated it will release a consultation paper to provide stakeholders with an opportunity to comment on possible measures to improve Canada’s transfer pricing rules.
Q.5 – Applicability of subsection 247(7)
Consider a situation where two corporations (ACo and BCo), each of which is resident in Canada, are related within the meaning of subsection 251(2). Assume that ACo owns 100% of the outstanding shares of a non-resident corporation (“FA”), and that ACo and BCo are the only members of a limited partnership (“LP”). LP has made a non-interest bearing loan to FA, the proceeds of which are used, at all times while the loan is outstanding, for the purpose of earning income from an active business. By virtue of subsections 17(4), (8), and (13), subsection 17(1) does not apply to include an imputed amount of interest in the income of ACo or BCo.
Subsection 247(7) provides that, where certain conditions are met, subsection 247(2) does not apply to adjust the amount of interest paid, payable or accruing in the year on certain amounts owing that are described in subsection 17(8). In the situation described, all of the conditions in subsection 247(7) should be met, with the exception that the loan in question is not an amount owing to a corporation resident in Canada for purposes of section 247, notwithstanding that it is deemed to be an amount owing to the members of LP for purposes of section 17. Would the CRA be prepared, on an administrative basis, to consider that subsection 247(7) is applicable to amounts owing by a foreign affiliate to a partnership, every member of which is a corporation resident in Canada, where all of the other conditions in subsection 247(7) are otherwise met?
The CRA is not prepared to take an administrative position to consider that subsection 247(7) would apply in respect of the loan between the FA and LP described in the question.
The responsibility for the introduction and amendment of Canadian income tax legislation rests with the Parliament of Canada. The CRA's mandate is to interpret and administer the legislation that Parliament enacts. These separate roles must be respected and the CRA exercises caution when considering whether it is appropriate to take an administrative position. As a baseline for adopting an administrative position, the CRA must be satisfied that doing so would align with the policy underlying the particular provision. It is not clear that this is the case in respect of this request.
As indicated in the 2017 International Fiscal Association Conference CRA roundtable (2017-0691071C6), the CRA is of the view that sections 17 and 247 each have a distinct and separate role within the Act and the exception from application of one of these sections in respect of a transaction should not, in the absence of a specific rule, be assumed to reflect an intention to preclude the application of the other section. Accordingly, it would not be appropriate to take a position that disregards Parliament’s decision to limit the application of subsection 247(7) to indebtedness owed to a corporation. In this regard, we note that the partnership look through rule in subsection 17(4) was enacted (in 1999) concurrent with the introduction of subsection 17(8) and the amendment to subsection 247(7) to refer to subsection 17(8).
Finally, in our view, adopting the requested administrative position could potentially facilitate the use of structures using hybrid entities to achieve a tax benefit. The Canadian government’s concern with such structures, both on its own account and through its participation as a member of the OECD, is well documented. As a general rule, taxpayers should expect that administrative relief requests that appear to potentially facilitate such planning will be denied by the CRA.
Q.6 – Arbitration
Can the CRA give any statistics on the number of cases that have been brought to arbitration under each of our tax treaties that include arbitration provisions? If so, is it also possible to describe the underlying issues that have been taken to arbitration?
No. Pursuant to international agreements, disclosure of such information is not permitted.
Q.7 - Section 247, FAPI and Subsection 80.4(2)
Assume the following fact pattern: Foreign Parent (“FP”) owns 100% of the shares of a Canadian Corporation (“CanCo”) which in turn owns 100% of the shares of Foreign Sub (“FS”), which is a foreign affiliate of CanCo. FP owns 100% of the shares of another foreign corporation called Foreign BorrowerCo (“FB”). FB is not a foreign affiliate of CanCo. FS uses its own funds generated from its operations to make a non-interest bearing loan to FB which is repaid within 2 years such that the upstream loan rules in subsection 90(6) do not apply.
A similar fact pattern was considered in CRA document 2015-0622751I7 (August 16, 2017). That file involved a “sandwich structure” where a foreign parent holds Canadian companies (“Cancos”) which in turn hold foreign affiliates. A foreign affiliate made a non-interest bearing loan to another foreign subsidiary of the foreign parent that was not a foreign affiliate of the Cancos (essentially an upstream loan). The upstream loan rules in subsection 90(6) would have applied except that the loan was repaid within 2 years. The CRA opined that subsection 80.4(2) would apply to deem a benefit to arise, and Part XIII withholding tax would be levied on the deemed dividend. The CRA also opined that the tax owing was the foreign borrower's and that the obligation to withhold and remit the tax was that of the foreign lender. Transfer pricing was not discussed in this particular CRA document.
The CRA has also expressed in CRA document 2017-0691191C6 (April 26, 2017) the view that the transfer pricing rules could apply for the purposes of the calculation of foreign accrual property income (“FAPI”) where a foreign affiliate enters into a transaction with another non-resident person.
Based on the above summary and the fact pattern referred to in the first paragraph:
(i) Would the transfer pricing rules in section 247 operate to deem interest income to FS which is picked up in CanCo's income as FAPI?
(ii) If the answer to (i) is “yes”, can the CRA comment on whether subsection 80.4(2) would apply to deem a benefit to arise (that is, in turn, subject to Part XIII withholding tax) since no interest is actually paid?
(i) As expressed in Question 2 of the CRA’s Roundtable held at the 2017 International Fiscal Association Conference, it is the CRA's long-standing view that subsection 247(2) could, in general, apply to a transaction between a foreign affiliate and another non-resident person in computing the foreign affiliate's FAPI in respect of a taxpayer.
In the present case, we are of the view that subsection 247(2) would apply to adjust the interest income of FS on the loan between FS and FB to reflect an arm’s length rate of interest. The adjusted interest income to FS would be included in its FAPI and further included in CanCo’s income, pursuant to subsection 91(1).
(ii) This answer builds on the technical interpretation provided by the CRA in document 2015-0622751I7 that was issued in 2017.
The CRA is of the view that section 247 can apply in conjunction with other provisions of the Act. The fact that subsection 247(2) could apply to adjust the interest income of FS on the loan between FS and FB and result in an income adjustment to FS for the purposes of its FAPI computation does not preclude subsection 80.4(2) from applying in respect of FB.
In the present case, subsection 80.4(2) would apply to deem FB to have received a benefit computed based on the prescribed rate under paragraph 4301(c) of the Income Tax Regulations. Subsection 15(9) deems the subsection 80.4(2) benefit to be a shareholder benefit under subsection 15(1). That shareholder benefit is then deemed to have been paid to FB as a dividend under paragraph 214(3)(a), which is subject to withholding tax under subsection 212(2). FS would be required to withhold and remit the withholding tax under subsection 215(1).
The CRA sees no conflict between subsections 80.4(2) and 247(2) and is of the view that these provisions may apply concurrently in the present case. Also, it is to be noted that subsection 247(12) is not applicable in respect of the “primary adjustments” made in the present circumstances in application of subsection 247(2).
Q.8 - Application of 90(9)(b)&(c)
Consider a situation where the Canadian parent (“Canco”) of a controlled foreign affiliate (“CFA”) received a loan from CFA (the “Upstream Loan”) in year 1 and the Upstream Loan is outstanding at the end of years 1, 2 and 3.
In year 1, Canco included the amount of the Upstream Loan in income under subsection 90(6) and claimed a deduction under subsection 90(9) on the basis that CFA had sufficient exempt surplus at the time the Upstream Loan was made in year 1 and has not otherwise breached the conditions in subsection 90(9). In years 2 and 3, pursuant to subsection 90(12), Canco included in its income the amount deducted under subsection 90(9) in the previous year and claimed a new deduction under subsection 90(9) in each of those years. CFA does not generate any exempt surplus in years 1 through 4.
In year 4, CFA pays a dividend that is prescribed to be paid out of its exempt surplus. The amount of the dividend is equal to the amount of the Upstream Loan and CFA pays the dividend by issuing a note payable to Canco (the “Note”). The Note is then legally set-off against the Upstream Loan receivable by CFA, resulting in a repayment of the Upstream Loan.
In year 4, Canco includes in income, under subsection 90(12), the deduction under subsection 90(9) taken in year 3 and takes a deduction under subsection 90(14) for the repayment of the Upstream Loan. In year 4 Canco also includes in income under subsection 90(1) the dividend received from CFA and claims a deduction under paragraph 113(1)(a) equal to the amount of the dividend.
Could the CRA confirm that Canco would not be offside paragraph 90(9)(b) in years 1, 2 and 3 even though the Upstream Loan was still outstanding in year 4 at the time that the dividend was paid out of exempt surplus in year 4?
The wording of paragraphs 90(9)(b) and (c) is ambiguous with respect to the above scenario as it suggests that a deduction under subsection 90(9) would not be available for a particular taxation year unless the exempt surplus is “not relevant in applying this subsection in respect of...any deduction under subsection ...113(1) in respect of a dividend paid, during the period in which the particular loan or indebtedness is outstanding.”
The Explanatory Notes appear to be helpful by noting that if in any year the conditions in paragraphs 90(9)(b) or (c) are not met, the taxpayer loses the ability to claim deductions under subsection 90(9) for that and future taxation years such that the subsection 90(9) deduction should be available in years 1, 2 and 3 in the circumstances described in this question.
Subsections 90(6), 90(9) and 90(12) provide for a series of inclusions and deductions on an annual basis for the period during which an upstream loan or indebtedness is outstanding.
Subsection 90(6) provides for the inclusion in the income of a taxpayer resident in Canada of the specified amount by which certain persons or partnerships become indebted to a foreign affiliate of the taxpayer or to a partnership of which such a foreign affiliate is a member.
Where the taxpayer is a corporation, subsection 90(9) provides for the deduction for the corporation’s taxation year in which the amount was included under subsection 90(6) of an amount that may reasonably have been considered to have been deductible in computing the income under any of the provisions listed in subparagraphs 90(9)(a)(i) or (ii) if the amount included in income under subsection 90(6) had been instead paid to the corporation by the creditor affiliate or partnership as a dividend and, if applicable, partnership distribution.
Subsection 90(12) provides for the ongoing inclusion in the income of the corporation for a taxation year of any amount that it deducted under subsection 90(9) in computing its income for the immediately preceding taxation year. Paragraphs 90(9)(b) and (c) contain conditions for the ongoing deductibility of particular amounts from year to year under subsection 90(9). One of those conditions is that the surplus account or the adjusted cost base that supported the deduction under subsection 90(9) for the corporation’s taxation year in which an amount was included in income under subsection 90(6) did not become relevant in supporting a deduction under subsection 90(9) in respect of another loan or indebtedness or in respect of any deduction claimed in respect of a dividend paid while the loan or indebtedness is outstanding.
Finally, subsection 90(14) provides for a deduction from the income of the corporation of an amount that was included under subsection 90(6) on the repayment of the loan or indebtedness provided certain conditions are met.
As stated in the Explanatory Notes to subsection 90(9), if in any taxation year these conditions are not met, the taxpayer loses the ability to claim deductions under subsection 90(9) for that and future taxation years.
The CRA reads paragraphs 90(9)(a) and 90(9)(b) as operating together such that the deduction under subsection 90(9) is available on a yearly basis as long as the supporting exempt surplus, hybrid surplus, taxable surplus or adjusted cost base continues to support the deduction. However, should they become relevant in supporting a deduction under subsection 90(9) in respect of another loan or indebtedness or in respect of any deduction claimed in respect of a dividend paid in a taxation year while the loan or indebtedness is outstanding, the deduction would no longer be available in that year.
In the situation described above, paragraphs 90(9)(b) and 90(9)(c) did not apply at the time that the deduction under subsection 90(9) was computed in each of years 1, 2, and 3. Since paragraph 90(9)(b) applied during year 4, the deduction under subsection 90(9) would not be available beginning in year 4.
In the situation described, the CRA would not deny the deduction under subsection 90(9) in years 1, 2, and 3 as a result of the claiming of the subsection 113(1) deduction by Canco in year 4 in respect of the dividend received from CFA.
Q.9 – Income Tax Rulings Directorate – Remissions
The fees charged by the CRA for providing an advance income tax ruling or a supplemental ruling (“Ruling”), and a consultation in advance of a Ruling (“Pre-ruling Consultation”), are governed by the Service Fees Act.
In accordance with section 7 of the Service Fees Act, a reduction of a fee (“Remission”) is required where the CRA considers that a service standard has not been met.
Can the CRA describe how a Remission will be determined with respect to the fees charged for Rulings and Pre-ruling Consultations?
The objective of the Income Tax Rulings Directorate (“ITRD”) is to issue a Ruling or complete a Pre-ruling Consultation within a specified, agreed-upon time period.
The service standard for a Ruling is 90 business days commencing with the receipt of all information required from the client as outlined in Appendix A – Ruling Request Checklist of Information Circular IC 70-6R11, Advance Income Tax Rulings and Technical Interpretations (“IC 70-6”). The service standard for a Pre-ruling Consultation is to complete a teleconference within 15 business days from the date the ITRD confirms to the client that the request complies with IC 70-6 and has been accepted.
In some cases, achieving these service targets may not be possible. Where the service target date needs to be adjusted, the ITRD will inform the client in advance and establish an alternate, mutually agreed upon service target date.
Remission of the service fee will be granted when the Ruling is issued, or the Pre-ruling Consultation is completed, subsequent to its service target date, as set out in Appendix H – Remissions of IC 70-6.
The Remission will be calculated on an incremental basis as a percentage discount on the hourly rate applicable to the hours worked subsequent to the service target date and will be processed as a reduction to the client invoice.
Remission of the service fee, where appropriate, will apply to Rulings or Pre-ruling Consultations received by the ITRD after April 1, 2021. Additional information regarding Remissions can be found in Appendix H - Remissions of IC 70-6.
1 See Budget 2021- Part 4 - Fair and Responsible Government- Chapter 10 “Responsible Government”- Section 10.1 “A Tax System that Promotes Fairness”- “ Protecting the Fairness and Integrity of Our Tax System” at page 308 (available at https://www.budget.gc.ca/2021/reportrapport/p4-en.html).
2 S.C. 2017, c. 20, s. 451.
3 IC 70-6R11 Advance Income Tax Rulings and Technical Interpretations was published April 1, 2021