Ian Bradley, Seth Lim, "The Updated Hybrid Mismatch Rules", International Tax Highlights (Canadian Tax Foundation and IFA Canada), Vol. 3, No. 1, February 2024. p. 2

Double taxation under A(b) (p. 3)

  • The inclusion in foreign accrual property income (FAPI) of a foreign affiliate (FA) by virtue of A(b) of the FAPI definition of a dividend paid to it by another FA that is deductible under foreign tax laws tends to produce double taxation given that the there is no deduction in the FAPI of the payer FA for the amount of the dividend included in the recipient’s FAPI.

Denial of foreign tax under FTCG rules (pp 3-4)

  • Where the hybrid mismatch rules include a payment in an FA’s FAPI or taxable surplus, the foreign tax credit generator rules (set out in ss. 91(4.1) to (4.7) and Regs. 5907(1.03) to (1.07)) will often deny relief for foreign tax on that payment.
  • This is so even where relief would be provided in a comparable scenario involving a Canadian recipient (for instance, that of a Canadian corporation which is denied an s. 113 deduction under s. 113(5) for a dividend from an FA because the dividend was deductible under foreign tax law except that it receives a deduction under s. 113(6) for a (relevant tax factor) multiple of any foreign withholding tax on the dividend.

Relief under s. 227(6.3) where reversal of primary, but not secondary, rule mismatch (p.4)

  • Where s. 214(18) deemed interest paid by a Canadian taxpayer under a hybrid mismatch arrangement to be a dividend so as to be subject to Part XIII tax, and s. 20(1)(yy) subsequently provides a deduction because the timing mismatch is resolved, s. 227(6.3) allows the taxpayer to apply for a refund of the withholding tax based on the reduction in (or elimination of) the withholding tax for an interest payment.
  • No equivalent to s. 20(1)(yy) applies in the reverse situation where a payment is included in the Canadian taxpayer’s income under the hybrid mismatch rule, but this mismatch is later resolved. Although the Explanatory Notes suggest that ss. 12(3) and 248(28) should generally prevent a timing mismatch from producing a double income inclusion, these provisions may not be effective in some situations, for instance, where the future income inclusion arises to a different Canadian taxpayer, or under foreign tax laws.