Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: Whether the Canada-US Tax Convention (“Convention”) provides relief from double taxation in circumstances where a Canadian resident is the sole member of a disregarded U.S. LLC carrying on business in the U.S. with its mind and management residing in Canada?
Position: No, the Convention does not contain a mechanism to allow the U.S. income tax imposed on the member of the LLC to be credited against the income tax payable in Canada by the LLC.
Reasons: Article XXIV of the Convention provides that a deduction from income tax payable in Canada for U.S. income tax paid is subject to the provisions of the Income Tax Act.
STEP CRA Roundtable – June 13, 2017
Question 8. Articles IV and XXVI: Single-member disregarded U.S. LLC
Consider a single-member disregarded U.S. limited liability company (“SMLLC”) whose member is a resident of Canada. If the mind and management of the SMLLC resides in Canada, Canadian domestic income tax law would treat the SMLLC as a corporation resident in Canada. Since the SMLLC is not liable for U.S. income tax, the SMLLC is not a resident of the U.S. for purposes of applying the Canada-US Tax Convention (the “Convention”). As such, paragraph 3 of Article IV of the Convention cannot be relied on to tie-break the SMLLC to the U.S. Accordingly, the SMLLC would be required to file a T2 corporate income tax return and report its worldwide income, including any U.S. source income. This is the case, even though any such U.S. source income would also be subject to U.S. income tax in the hands of the member of the SMLLC. Moreover, the SMLLC would not be entitled to claim any foreign tax credit for the U.S. income tax paid by its member. Assume that, for the purposes of the question, the U.S. source income is taxable in the U.S. on the basis that it is business income earned through a permanent establishment in the U.S.
Pursuant to paragraph 1 of Article XXVI of the Convention, a person may approach the competent authority of the Contracting State of which the person is a resident, if the person considers that the actions of one or both of the Contracting States result in taxation not in accordance with the provisions of the Convention. Although the member of the SMLLC and the SMLLC are distinct taxpayers in the eyes of Canadian income tax law, they are one and the same from the perspective of U.S. income tax law. It could be viewed that, from the U.S. perspective, the member is double-taxed on the same U.S. source income: the member’s U.S. source income is taxed once under U.S. income tax law, and the same income is taxed again under Canadian income tax law also in the hands of the member (since the SMLLC is disregarded from the U.S. perspective).
Does the Convention provide relief from double taxation in the circumstances described?
Would the answer be the same for U.S. LLPs or LLLPs?
We agree that paragraph 3 of Article IV of the Convention does not apply in the circumstances described with the result that the SMLLC would be subject to tax in Canada as a resident. In determining any relief from double taxation in the form of a deduction against Canadian income tax payable (i.e., a foreign tax credit), paragraph 2 of Article XXIV of the Convention confirms that any deduction against Canadian income tax payable is subject to the provisions of the Income Tax Act (the “Act”). In the circumstances described, the CRA agrees that section 126 of the Act does not allow for the U.S. income tax paid by the member of the SMLLC to be credited against Canadian income tax payable by the SMLLC. However, relief from double taxation may be available to the member in the form of a deduction under subsection 20(12) of the Act or, to the extent the U.S. income tax paid by the member is not deducted under subsection 20(12) and the member has income from a source in the U.S., in the form of a foreign tax credit against the member’s own Canadian income tax otherwise payable. As such, it is the CRA’s view that in the circumstances described there is no taxation not in accordance with the provisions of the Convention as contemplated by Article XXVI(1) of the Convention.
The answer would be the same for a U.S. LLP or LLLP which is treated as a fiscally transparent entity for purposes of U.S. income tax law and as a corporation for purposes of Canadian income tax law. Further to this point, it may be noted that at the recent 2017 International Fiscal Association annual conference in Toronto, the CRA provided an update on the deliberations of its internal working group which is studying compliance issues related to Florida and Delaware LLPs and LLLPs arising from its 2016 announcement that it would generally consider such entities to be corporations for the purposes of Canadian income tax law.
We note that the double taxation described in the scenario above could be avoided entirely by the SMLLC electing to be taxed for U.S. income tax purposes as a traditional C corporation. It is the CRA’s understanding that such an election would result in the SMLLC being liable for U.S. income tax and, thus, to be a resident of both Canada and the U.S. Then, pursuant to Article IV(3)(a) of the Convention, the SMLLC would be deemed to be a resident only of the U.S.
Alternatively, if the SMLLC is eligible to, and does, elect to be taxed as an S corporation after it elected to be taxable as a C corporation, it is the CRA’s understanding that it would be subject to pass-through taxation for U.S. income tax purposes like a typical disregarded U.S. LLC. However, the member may be able to request Competent Authority assistance pursuant to paragraph 5 of Article XXIX of the Convention. It is the CRA’s understanding that there are numerous criteria an SMLLC would have to meet in order to be eligible to elect to be treated as an S corporation. One such criterion is that the SMLLC must have no non-resident alien shareholders. Therefore, in the scenario described, the Canadian resident member would have to also be a resident of the U.S. (i.e., a dual resident), or a U.S. citizen, in order for the SMLLC to be eligible to elect to be an S corporation.
Response prepared in collaboration with:
Competent Authority Services Division
International, Large Business and Investigations Branch
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