15 May 2019 IFA Roundtable Q. 3, 2019-0798741C6 - Participating Debt Interest & US Treaty

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 payment of an “additional participating amount” on an obligation would, in and by itself, prevent any further “periodic non-participating interest” payments to be relieved from Part XIII withholding tax based on Article X(6)(b) of the Canada-US Tax Treaty?

Position: No.

Reasons: Wording of the tax treaty.

2019 International Fiscal Association Conference
CRA Roundtable

Question 3 – Participating Interest and the Canada-US Tax Convention

A recent CRA advance tax ruling (2016-0664041R3) considered a debt which included both periodic non-participating interest payments, as well as the possibility of future additional payments (the “Additional Amount(s)”) that were contingent on the index price of a particular commodity. The CRA ruled that the payments of periodic non-participating interest would not be considered to be “participating debt interest” if, at or before the time of such payment, no Additional Amount had been paid or become payable. However, all payments of periodic non-participating interest would be considered to be “participating debt interest” subject to withholding tax once an Additional Amount is paid or becomes payable. The rationale appears to be based on the definition of “participating debt interest” in the Act which is: “interest... that is paid or payable on an obligation... all or any portion of which interest is contingent or dependent...”. All interest payments would then be considered to be “participating debt interest” as of the time a contingent or dependent amount is paid or payable.

Under the Canada-US Tax Convention (the “Treaty”) however, interest paid by a resident of Canada to a resident of the United States that is entitled to the benefits of the Treaty is not subject to Canadian withholding tax, other than interest:

“arising in Canada that is determined with reference to receipts, sales, income, profits or other cash flow of the debtor (…), to any change in the value of any property of the debtor (…) or to any dividend, partnership distribution or similar payment made by the debtor ...”

The Treaty provision does not include the “all or any portion” language included in the definition of “participating debt interest” in the Income Tax Act (the “Act”). Would the payments of periodic non-participating interest made after the payment of an Additional Amount be relieved from Part XIII withholding tax under the Treaty?

CRA Response

It is our general view that all payments of periodic non-participating interest made on an obligation will qualify as “participating debt interest” payments, within the meaning assigned by subsection 212(3) of the Act, as of the time an Additional Amount becomes paid or payable on that obligation. Such payments will thus be subject to Part XIII withholding tax under subparagraph 212(1)(b)(ii) of the Act.

However, US residents may generally be exempted from Part XIII withholding tax on interest by virtue of Article XI(1) of the Treaty provided, amongst other things, that the interest is not otherwise subject to Article XI(6)(b) of the Treaty. In that respect, it is our general view that the determination as to whether an amount of interest is subject to Article XI(6)(b) of the Treaty has to be made in respect of each amount of interest paid or credited. As such, the fact that an amount of interest previously paid on an obligation was subject to Article XI(6)(b) of the Treaty would not, in and by itself, result in any other interest payment on the same obligation being subject to Article XI(6)(b) of the Treaty and not being exempt from Part XIII withholding tax by virtue of Article XI(1) of the Treaty.

Yannick Roulier / Nicolas Bilodeau
2019-079874
May 15, 2019