News of Note

Some of the points made by Paul Stesco, a Manager in the International Advisory Services Section, International Tax Division:

• BEPS Actions 8 to 10 (re transfer pricing) were examined and determined to not require any changes to the s. 247 rules, and the Action 8 DEMPE (“Development, Enhancement, Maintenance, Protection, and Exploitation”) guidelines respecting of intangible assets are generally reflective of the things CRA already was looking at. However, CRA considers that there are changes in direction respecting: the risk-free rates of return, e.g., to the bare IP owner (which is something the OECD is still working on); and the treatment of low-value-added services.
• Respecting Action 13 (re documentation), Canada expects to have between 100 to 120 Canadian multinational parents reporting under the Country-by-Country Reporting (CbCR) rules.
• The U.S. has not yet “signed on” to the automatic CbCR exchange, and CRA and Finance are coming up with a policy as to how to deal with that.
• Most of the CbCR reporting received in Canada from other countries will be centered in the Head Office and used to assist in tier-1 risk assessment.
• CRA considers that the CbCR information received is confidential information that is protected under ITA s. 241, and thus to be used only in the same way as information exchanged under competent authority. However, “there are jurisdictions suggesting that they would make this information public,” and CRA is awaiting their final decision on this point.
• CRA internally reorganized, so that CRA International and Avoidance specialists are now embedded within large case-file audits and report directly to the large case manager. However, all of the economists, who have a significant effect on transfer pricing audits, are in Ottawa.
• BEPS is causing CRA to review TPM-15 on intra-group services given the new guidelines on low value-added services.
• CRA has increased its scrutiny of business “restructurings” (including changes to contracts) in order to get a complete picture of the situation before and after, and may do a “fulsome” audit regarding the change.
• The penalty recommendations by the Transfer Pricing Review Committee have declined from 51% (for referrals received up to 2012) to 44% thereafter – there is more and better contemporaneous documentation.
• Ss. 247(2)(b) and(d) "recharacterizations aren’t done on a regular basis. They are the outliers."

Neal Armstrong. November 2016 Toronto Centre Canada Revenue Agency & Tax Professionals Seminar on International Tax Issues.

The stub period accrual rules originally were motivated by situations as simple as that where foreign accrual property income of a controlled foreign affiliate of a Canadian taxpayer accrues during the first portion of the year, but the CFA then becomes a subsidiary of someone else before year end, so that none of that FAPI is required to be picked up by the taxpayer. Several observations (among many) of Angelo on the revised stub period accrual rules in draft ss. 91 (1.1) to (1.5) (which inter alia can operate to trigger a stub taxation year in a CFA where there has been a change (e.g., a decrease, as in the above example) to a relevant taxpayer’s surplus entitlement percentage (SEP) respecting that CFA):

• There is an exception to this rule in s. 91(1.1)(b)(i), where the decrease to the taxpayer's SEP in the particular CFA is matched by an increase to the SEP in the particular CFA of one or more taxpayers, each of which is a taxable Canadian corporation that does not deal at arm's length with the taxpayer immediately after the particular time. Two points:

First, the decrease and increase(s) must be in respect of the same particular CFA. Thus, if there is some sort of reorganization involving two particular CFAs and the taxpayer's SEP in one of them decreases but the taxpayer's (or a non-arm's length taxable Canadian corporation's) SEP in the other one increases, that does not fit within this exception even if the total amount of attributable FAPI remains unchanged. Moreover, this exception would apply only where the increased SEP lands in a non-arm's length taxable Canadian corporation - and thus would not apply where the other non-arm's length taxpayer is an individual or a trust or even a partnership, notwithstanding that the SEP decrease is to be "determined as if the taxpayer were a corporation resident in Canada."

• The deemed (s. 91(1.2)) year end respecting, e.g., a particular CFA of the Canadian taxpayer, applies also respecting each resident corporation not dealing at arm's length with the taxpayer (and each partnership where the particular taxpayer or a non-arm's length corporation resident in Canada is, directly or indirectly, through one or more partnerships, a member thereof.)
• Ss. 91(1.4) and (1.5) provide in specified circumstances for an election to be made for there to be a deemed CFA stub year under s. 91(1.2). Two examples in the Explanatory Notes illustrate where this is desirable. However, it is unclear why these measures are elective, since it is difficult to see any circumstance where this result would not be desirable from the perspective of the particular taxpayer in the situations where the elections are available.

Neal Armstrong. Summaries of Angelo Nikolakakis, "Guess Who's Back? The Revised Stub Period Rule for FAPI," International Tax, CCH Wolters Kluwer, No. 90, October 2016, p. 8 under s. 91(1.1), s. 91(1.2). s. 91(1.4) and s. 91(1.5).

The availability of the new housing GST/HST rebate to the taxpayer under ETA s.254(2) turned on him (or his spouse) being the only person who was “liable” under the purchase agreement. CRA denied the rebate on the basis that a friend of the taxpayer had acquired an undivided 1% interest in the property (as a result of requirements of the mortgagee), even though, on the date of closing, the friend executed a declaration of bare trust in favour of the taxpayer and his wife.

In finding that the requirements for the rebate were satisfied, Smith J stated:

The notion of a bare trust as an agency relationship…is well known and well established…. For tax purposes, a bare trust is considered a non-entity in the sense that a beneficiary as principal, is considered to deal directly with property through the trustee as agent or nominee.

Neal Armstrong. Summary of Cheema v. The Queen, 2016 TCC 251 under ETA, s. 254(2)(b).

The High Court of Australia has found that various non-Australian companies, which made money trading on the Australian stock exchange, were resident in Australia, on the basis of having their central management and control there, notwithstanding that all the board meetings were held outside Australia and the directors were mostly residents of Switzerland. The key point was that they did not exercise any independent judgment with respect to any decisions to be taken by the companies, so that all such decisions essentially were made by the Australian-resident individual, who was the companies’ ultimate beneficial owner, from his office in Sydney. The Court stated:

Ordinarily…it will be found that a company is resident where the meetings of its board are conducted. But… it does not follow that the result should be the same where a board of directors abrogates its decision-making power in favour of an outsider and operates as a puppet or cypher, effectively doing no more than noting and implementing decisions made by the outsider as if they were in truth decisions of the board.

In addition to various Australian and British decisions, the Court referred to Fundy Settlement with approval, and also referenced Hertz, where the U.S. Supreme Court:

held that, in determining whether a corporation is a "citizen" for federal jurisdictional purposes, the statutory criterion of "principal place of business" is …"best read as referring to the place where [the] corporation's officers direct, control, and coordinate the corporation's activities. It is the place that Courts of Appeals have called the corporation's 'nerve center' … and not simply an office where the corporation holds its board meetings… .”

Neal Armstrong. Summary of Bywater Investments Ltd. v Commissioner of Taxation; Hua Wang Bank Berhad v Commissioner of Taxation [2016] HCA 45 under s. 2(1).