25 November 2021 CTF Roundtable - Hybrid Mismatch Rules Panel
This summarizes the CRA portion of the Hybrid Mismatch Rules panel at the 25 November 2021 CTF annual conference. The CRA presenter was:
Alexandra MacLean, Director General, International and Large Business Directorate
The discussion leader was Nik Diksic (EY Law, Montreal), and the other presenters were Philippe-Antoine Morin (EY Law, Montreal), Matias Milet (Osler, Toronto), and Serge Huysmans (EY, New York).
Recent practice on tax hybrids
MacLean: I am touching briefly on what CRA is currently doing in the absence of specific anti-hybrid rules for past taxation years. Of course, Audit’s docket goes back quite a few years and includes some structures that may not be as common nowadays.
In 2019, we put out a notice to tax professionals highlighting a fairly common structure, and noting that we had resolved a file using Canadian transfer pricing rules. Since then, in addition to holding that this structure is primarily entered into to obtain a tax benefit and would not be undertaken by persons dealing at arm’s length, CRA also uses a new term — “commercial irrationality” — which is also well known in transfer pricing circles.
Even before the announcement, a CRA group was looking at these structures, attempting to ensure that it was taking a consistent position nationally. In this regard, CRA consults with the Department of Finance regularly, typically through the Transfer Pricing Review Committee.
There are a number of files in this project. A number have been reassessed and a number of notices of objections have been filed. Some taxpayers in fact have not objected (i.e. they paid the reassessed amount). Two cases are at the Tax Court stage already, and some files have been resolved through audit agreements. (In other words, we have covered the entire range of possible outcomes so far.)
This is not the only base-eroding structure that interests us in Large Business. As I often tell this group, if you are getting a tax benefit relative to a fair measurement of income in relation to a fair appreciation of your business structure, we are probably going to look pretty closely at that in Large Business Audit and, if there is an existing tax rule that we think might apply, we are going to apply it.
Notices to tax professionals
MacLean: We have put out one or two more notices to tax professionals. Notices are not limited to a bad news – they’re a useful way for those of us in the Compliance Programs Branch to communicate directly with tax professionals as opposed to the general public, so we can be a bit more technical sometimes and just talk about administrative positions that we are taking. You may see more of those, and more effort to coordinate our position, assess structures consistently, and make sure we are identifying them in files across the country.
MacLean: CRA took a position at IFA 2013 that did not look favourably on structures avoiding Article IV(7)(b), so that is also potentially another area of interest for us. The International and Large Business Directorate in Ottawa is an interesting place. This week we had a fascinating meeting on the debt-equity divide. As you all know, Canada is relatively a form-over-substance jurisdiction. Nevertheless, we do have to meet the test that a given instrument is legally debt or legally equity, as the case may be. We will be examining some structures pretty carefully from that perspective.
We have a lot of nice information technology tools that help us now in this work of identifying patterns in the tax data that comes in to us, and incorporate new sources of data all the time. It is a neat time to be working in tax compliance.
We also have OECD’s Pillars, interest deductibility, and hybrid rules coming down the pipe, so it’s a challenging environment out there, and I am very optimistic that we will see more straightforward business-oriented planning going forward.
Whether hybrid-mismatch rules are necessary in light of other developments
Question: What’s your perspective on whether Canada really needs hybrid mismatch rules if the earning-stripping rule, and the global minimum tax, are implemented as proposed?
Huysmans: It’s clearly a fair question, in that when you go through the complexity of these rules, the question is: what is there left?
I think it is really the question of the allocation of the right to tax-share and the right to deny. The minimum tax rules don’t really tackle this in the same way that these rules do. So I think, at least in the first phase, we will see both clearly in place at the same time.
I am hopeful that, after a while, we will realize that this is overwhelming and that there are a lot of redundancies. But I will defer to Alex on this because this is somewhat of a policy question.
MacLean: I am a mere tax administrator, so maybe I should defer to people off screen, but I agree that it would be great to get a simpler international tax regime out there, and maybe we will get there in the next five or ten years.
Of course, as a compliance official, generally opposed to base erosion, with a mandate to address base erosion where possible, I would rather see too many rules than not enough. It seems as if there is something of a pendulum, but it would be great if everybody could get back to commercial profit-generating activities in simple logical formats globally. I know it is going to be challenging and there is going to be quite a lot of restructuring if all these rules come into place, to try to make sure we have fair outcomes. While I am opposed to base erosion, I want to quickly note that taxpayers getting themselves into trouble with multiple layers of taxation is not something I relish at all and we will try to do what we can to avoid assessing positions that trigger double-taxation, but wish to ensure that the rules are being administered and interpreted in the most coherent way possible.