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: What will be the tax treatment of the different forms of revenue received as part of a franchise agreement with an Omani company under the Canada-Sultanate of Oman Income Tax Convention (the "Treaty")?
Position: See analysis.
XXXXXXXXXX
2010-036866
M. Gauthier
Attention: XXXXXXXXXX (613) 957-2095
June 14, 2010
Dear XXXXXXXXXX ,
Re: Canada - Sultanate of Oman Income Tax Convention
This is in reply to your email of May 7, 2010 in which you inquired about the potential withholding tax of a country with which Canada has a tax convention. Various amounts are expected to be received from a company in the Sultanate of Oman according to a potential franchise agreement with your company.
In summary, you describe the situation as follows:
1. A Canadian company will enter into a XXXXXXXXXX -year master franchise agreement with an Omani company whereby the Canadian company will grant franchise rights to the Omani company to develop the Canadian company's brand in Oman.
2. The Omani company will pay the Canadian company a non-refundable initial fee to purchase the master franchise rights for the Canadian company's XXXXXXXXXX brand.
3. The Omani company will pay the Canadian company a specified lump sum for every XXXXXXXXXX opened in Oman.
4. The Omani company will pay the Canadian company an on-going royalty based on a percentage of sales from every XXXXXXXXXX opened in Oman.
5. The Omani company will be required to use the Canadian company's design for the XXXXXXXXXX . The Canadian company will hire architects to develop a design. The Canadian company will sell the design to the Omani company at a mark-up to cover the Canadian company's time in ensuring the drawings meet the Canadian company's minimal design standards and its time spent as liaison between the Omani company and the architects.
6. As part of the master franchise agreement described above, the Canadian company will train XXXXXXXXXX employees of the Omani company in Canada on how to operate, build, and sell the Canadian company's franchise brand in Oman. In addition, the Canadian company will assist the Omani company during the opening of the first XXXXXXXXXX opened in Oman.
Question:
You wish to know whether the state of Oman may require a tax to be withheld against the payments described above so that you can anticipate correctly the payments the Canadian company will receive pursuant to the master franchise agreement.
Our Comments:
Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of a request for an advance income tax ruling submitted in the manner set out in Information Circular 70-6R5, "Advanced Income Tax Rulings", dated May 17, 2002. This Information Circular and other Canada Revenue Agency ("CRA") publications can be accessed on the internet at http://www.cra-arc.gc.ca. Where the particular transactions are complete, the inquiry should be addressed to the relevant tax services office, a list of which is available on the "Contact Us" page of the CRA website. Although we cannot comment on your specific situation, we are prepared to provide the following general comments in respect of the issues that you raised. Note that these comments are not binding on the CRA.
As we have not seen the agreement between the Canadian company and the Omani company, it is not possible to say with any real degree of certainty what the nature of the payments would be. As noted above, we could provide written confirmation of the tax implications inherent in particular proposed transactions through the advance income tax ruling process as mentioned above. In addition, please note that we cannot provide any interpretation of Omani law. Accordingly, our comments will be restricted to our interpretation of the Canada-Oman Tax Agreement that was signed on June 30, 2004 and entered into force on April 27, 2005 (the "Treaty") in the general context of the situation presented above.
1. Non-Refundable Initial Fee, New XXXXXXXXXX Fee & Design Fee Profit:
Generally, the business profits of a taxpayer resident in a Canada are only taxable in Canada in accordance with Article 7 of most of Canada's income tax conventions, including the Treaty with Oman, unless the taxpayer carries on business in the other country through a permanent establishment. Paragraph 1 of Article 7 of the Treaty states that "The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on or has carried on business in the other Contracting State through a permanent establishment situated therein". In other words, the profits of a Canadian enterprise shall be taxable only in Canada unless the enterprise carries on or has carried on business in Oman through a permanent establishment. Therefore, if the Canadian enterprise has a permanent establishment in Oman, as defined in Article 5 of the Treaty, the Canadian enterprise may be subject to Omani tax, but only so much as is attributable to that permanent establishment. If the Canadian enterprise does not have a permanent establishment, then the business profits are generally taxable only in Canada.
Assuming that the non-refundable initial fee constitutes business profits of the Canadian company and that such profits are not attributable to a permanent establishment of the Canadian company in Oman, such business profits would normally be taxable only in Canada by virtue of the Treaty. The same comments would apply to the New XXXXXXXXXX Fee and to the Design Fee Profits.
2. Ongoing Royalties based on sales:
Paragraph 2 of Article 12 of the Treaty states that "royalties may be taxed in the Contracting State in which they arise and according to the laws of that State, but if the beneficial owner of the royalties is a resident of the other Contracting State, the tax so charged shall not exceed ten per cent of the gross amount of the royalties". In other words, if the beneficial owner of the royalties is a resident of Canada, the tax withheld by Oman shall not exceed 10%.
Royalties are defined in paragraph 4 of Article 12 of the Treaty:
The term "royalties" as used in this Article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including computer software, cinematograph films, or films or tapes or discs or other means of reproduction used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience.
Assuming that the ongoing payments based on sales that must be made by the Omani company pursuant to the master franchise agreement meet the definition of a royalty in paragraph 4 of Article 12 of the Treaty, the payments could be taxed in Oman where they arise pursuant to paragraph 2 of Article 12. Paragraph 2 limits the amount of tax that can be charged by Oman to 10% of the gross amount of the royalties.
3. Services included in Master Franchise Rights
The master franchise agreement provides that the Canadian company will provide certain services to the franchisee. Paragraph 11.6 of the OECD commentary to Article 12, concerning the taxation of royalties, states:
The appropriate course to take with a mixed contract is, in principle, to break down, on the basis of the information contained in the contract or by means of a reasonable apportionment, the whole amount of the stipulated consideration according to the various parts of what is being provided under the contract, and then to apply to each part of it so determined the taxation treatment proper thereto. If, however, one part of what is being provided constitutes by far the principal purpose of the contract and the other parts stipulated therein are only of an ancillary and largely unimportant character, then the treatment applicable to the principal part should generally be applied to the whole amount of the consideration.
Therefore, depending on the specifics of the contract, it may be necessary to apportion certain payments. For example, it may be appropriate to consider part of the non-refundable initial fee to be a payment for services rendered. As mentioned above, if a payment is considered business income of the Canadian company and the Canadian company does not have a permanent establishment in Oman, that income may only be taxed in Canada in accordance with the treaty. This does not preclude Omani law from requiring a tax withholding in respect of services rendered in Oman, much as Income Tax Regulation 105 provides. Should Omani law require a tax withholding in regard of services rendered in Oman by the Canadian company, it would seem reasonable to assume that such tax, if withheld, would be refundable to the Canadian company by the government of Oman if the income of the Canadian company from rendering services in Oman represent business profits that may not be taxed in Oman in accordance with Article 7 of the Treaty.
Capital Gains
Paragraph 5 of Article 14 of the Treaty states that "Gains from the alienation of any property other than that referred to in paragraphs 1, 2, 3, and 4 shall be taxable only in the Contracting State of which the alienator is a resident. In other words, gains from the disposition of property, other than immovable property, movable property forming part of the business property of a permanent establishment, ships and aircraft, shares, or an interest in a partnership, are taxable only in the country for which the person disposing of the property is resident. Therefore, capital gains, if any, from the disposition of property belonging to the Canadian company would normally be taxable in Canada, unless the property in question is real property.
We hope this information is of assistance to you.
Yours truly,
Alain Godin
Section Manager for Division Director
International and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
Canada Revenue Agency
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