31 August 1989 Income Tax Severed Letter 5-8357 - Subparagraph 4(a) of Article 11 of the Canada-Netherlands Income Tax Convention of 1986

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.

Dear Sirs:

We are writing in response to your letter of July 6, 1989 in which you requested the Department's opinion regarding the application of paragraph 212(1)(b) of the Income Tax Act (the “Act”) and subparagraph 4(a) of Article 11 of the Canada-Netherlands Income Tax Convention of 1986 (the “Convention”) in the situation described below.

In the situation that you describe, Mr. B is an individual who recently immigrated to Canada from the Netherlands and is now a resident of Canada for the purposes of the Act. Mr. B owns all of the shares of a Netherlands corporation (“NethCo”). Mr. A is an individual resident in Canada for the purposes of the Act. Mr. A is the uncle of Mr. B. Mr. A owns all of the shares of a Canadian corporation (“CanCo”). NethCo lends money to CanCo and CanCo lends the same amount to Mr. B. Interest is paid quarterly on the loans. You have asked whether subparagraph 4(a) of Article 11 of the Convention will apply to exempt any interest so paid by CanCo to NethCo from withholding tax under the Act because CanCo and NethCo deal at arm's length with each other.

Because your question appears to deal with an actual situation, you should direct your question to the local District Taxation Office of the Department. Nevertheless, we are prepared to offer you the following general comments that may be of some assistance to you.

We assume that, in the situation you describe, NethCo is, pursuant to paragraph 1 of Article 4 of the Convention, a resident of the Netherlands for the purposes of the Convention and that the only requirement of subparagraph 4(a) of Article 11 of the Convention that may not be met is the requirement that CanCo and NethCo deal with each other at arm's length for the purposes of the Convention. However, if NethCo is also resident in Canada for the purposes of the Act by reason of its place of management being situated in Canada and, hence, liable to tax under the Act, NethCo will be deemed, pursuant to paragraph 3 of Article 4 of the Convention, not to be a resident of either Canada or the Netherlands for the purposes of, among other Articles, Article 11 of the Convention unless the competent authorities of Canada and the Netherlands have reached an agreement, pursuant to paragraph 3 of Article 4 of the Convention, with respect to the residence of NethCo for the purposes of the Convention. Whether or not NethCo is so resident in Canada for the purposes of the Act is a question of fact that can only be determined by reference to all of the relevant facts and circumstances of a particular case. We are unable to express any opinion with respect to this question of fact in a hypothetical situation.

Where NethCo is so resident in Canada for the purposes of the Act and paragraph 3 of Article 4 of the Convention applies to deem NethCo not to be a resident of the Netherlands for the purposes of Article 11 of the Convention, subparagraph 4(a) of Article 11 of the Convention will not apply to preclude Canada from taxing any interest paid by CanCo to NethCo in accordance with the provisions of the Act. In such circumstances, NethCo will be resident in Canada for, the purposes of the Act and, hence, any interest received by NethCo from CanCo will have to be included, pursuant to paragraph 12(1)(c) of the Act, in computing NethCo's income from a business or property for the purposes of the Act. In such circumstances, no withholding taxes under Part XIII of the Act, which only applies where certain amounts are paid to a non-resident, will be exigible and any limitations in the Convention on Canada's right to tax such payments under the Act will be of no relevance.

Where NethCo is not so resident in Canada for the purposes of the Act, NethCo would be a resident of the Netherlands for the purposes of the Convention and, hence, the provisions in Article 11 of the Convention may apply, in the hypothetical situation you describe, to limit Canada's right to tax interest paid by CanCo to NethCo. Subparagraph 4(a) of Article 11 of the Convention provides for a limitation on Canada's right to tax interest paid by a corporation that is a resident of Canada to a resident of the Netherlands in substantially the same terms as the exemption in subparagraph 212(1)(b)(vii) of the Act from withholding tax that would otherwise be exigible under paragraph 212(1)(b) of the Act on interest paid by a person resident in Canada to a non-resident. It is, therefore, not necessary, in the Department's view, to determine whether or not, in the hypothetical situation you describe, Article 11 of the Convention imposes any limitation on Canada's right to tax any interest paid by CanCo to NethCo provided that such interest is interest described in the exemption in subparagraph 212(1)(b)(vii) of the Act.

CanCo and NethCo must be dealing at arm's length with each other at the time CanCo pays interest to NethCo if such interest is to be eligible for the exemption in subparagraph 251(i)(b)(vii) of the Act from withholding tax that would otherwise be exigible under paragraph 212(1)(b) of the Act. Paragraph 251(1)(b) of the Act provides that, for the purpose of the Act, it is a question of fact whether persons not related to each other for the purposes of the Act were, at a particular time, dealing with each other at arm's length. In the situation you describe, Mr. A and Mr. B are not related to each other for the purposes of the Act and, hence, CanCo and NethCo are also not related to each other for the purposes of the Act. Whether or not CanCo and NethCo are dealing at arm's length with each other at any particular time is a question of fact that can only be determined by reference to all of the relevant facts and circumstances of a particular situation. We are unable to express any opinion with respect to this question of fact in a hypothetical situation.

Our comments in this letter represent our general views with respect to the subject matter of your letter. The facts of a particular situation may lead to a different conclusion. Our comments in this letter are not rulings and, in accordance with the guidelines set out in Information Circular 70-6R dated December 18, 1978, are not binding on the Department.