Prejudice to Canadian shareholder of the Canadian purchaser if a non-arm's length non-resident shareholder (p. 7)
[I]f a resident and a non-resident together establish the purchaser corporation as a joint venture vehicle, both are in effect penalized if it is determined that the non-resident does not deal at arm's length with the purchaser corporation….
Tainting from historical non-resident shareholders (p. 7)
[T]he "series" question also gives rise to considerable uncertainty, as well as some clearly inappropriate results. For example, if a Canadian corporation (with no non-resident shareholders) acquires the purchaser corporation from a non-resident seller, and then that purchaser corporation is used to acquire a non-resident corporation that holds an underlying Canadian corporation, subsection 212.1(4) will not apply if the two acquisitions are part of the same "series" even though no non-resident indirectly acquires any interest in the acquired corporation. Similarly, if a Canadian corporation (with no non-resident shareholders) acquires the purchaser corporation from a non-resident seller, and the purchaser corporation already holds a non-resident corporation that in turn holds an underlying Canadian corporation, subsection 212.1(4) will not apply to allow the sandwich to be unwound into the purchaser corporation. [fn 17: It may be possible to unwind the sandwich differently (for example, by first liquidating the acquired Canadian corporation into acquiring Canadian corporation and then unwinding the sandwich into the acquiring Canadian corporation rather than into the acquired Canadian corporation), but it remains to be seen whether that approach would ultimately be feasible. There is also no exclusion for deemed non-arm's length relationships resulting from a paragraph 251(5)(b) right.]
Double deemed dividend on unwinding a double-decker sandwich (p.7)_
Third, these proposals can give rise to inappropriate results even where there is no arm's length acquisition. For example, if a non-resident ("FP") holds a Canadian corporation ("Canco A") that holds a non-resident corporation ("Holdco") that in turn holds an underlying Canadian corporation ("Canco B"), the unwinding of the sandwich can give rise to the inappropriate acceleration of taxation (or even double taxation). Assume that neither Canadian corporation has any PUC, and that their value is 100. There will be two PUC deficiencies of 100. If Holdco distributes Canco B to Canco A, there will be a deemed dividend of 100 from Canco A to Holdco, even though the PUC deficiency remains on the Canco A shares. If Canco A then makes a distribution of 100 to FP, a second dividend or deemed dividend of 100 will arise. This result is inappropriate because the two PUC deficiencies are overlapping and reflect the same economic value. In addition, since the deemed dividend from Canco A to Holdco would be a "downstream dividend", it is unlikely that the-usual treaty-reduced rate of 5% would apply for withholding tax purposes, such that the rate will likely be 15%....
Canadian Pubco or private-equity fund with potential non-arm's length shareholders or partners (pp. 7-8)
[S]ince the provision would refer to a non-resident that owns shares of the capital stock of the purchaser corporation "directly or indirectly", a Canadian public company may not be able to rely on subsection 212.1(4) unless, it could establish that it deals at arm's length with all its non-resident shareholders and with all the non-resident stakeholders of its resident shareholders. There is also the example of a private equity fund that holds a Canadian corporation. If the fund is a partnership, it would be a designated partnership (as defined in paragraph 212.1 (3)(e)) if a majority-interest partner or every member of a majority-interest group of partners (as defined in subsection 251.1(3)) is a non-resident person….Even if the general partner is Canadian, the fund may have a single non-resident direct or indirect member, and thus the question would arise as to whether that member of the partnership deals at arm's length with the corporation controlled by the partnership.
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