For international businesses, cross-border investments and transactions can bring numerous uncertainties, not least of which are potential tax liabilities. My clients regularly contact me with concerns about these matters, raising questions about topics such as thin capitalization and back to back loan rules, sending employees overseas, selling real estate, repatriation of funds, and more. If you face issues like these, you've come to the right place. Aaron Schechter of the Canadian accounting firm Crowe Soberman recently spoke with me about tax considerations for U.S. companies that have a presence in Canada or are considering engaging in business across the border. Find some of his top tips below.
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1. Thin Capitalization Rules
Issue: A Canadian company capitalized by non-residents cannot exceed a 1.5:1 non-resident interest bearing debt to equity ratio in order to obtain an interest deduction and avoid punitive Canadian tax consequences.
Planning: Attention must be given to complying with the interest bearing debt to equity ratio. Consideration should be given to converting debt into equity or making debt non-interest bearing.
2. Back to Back Loan Rules
Issue: A Canadian subsidiary is financed with an interest bearing loan from a U.S. corporation, which obtained the funds by borrowing from a non-U.S. entity in the corporate group. Even though the Canada-U.S. Tax Treaty provides for an exemption from withholding tax on interest in respect of related party debt, the Canadian corporation may still be subject to a Canadian withholding tax in certain situations. For example, if the U.S. company borrowed the funds from a related entity in another tax jurisdiction, the government authorities may treat the loan as if the funds were borrowed from the latter lender and subject the interest payment to Canadian withholding tax.
Planning: Review all intercompany loans within the corporate group. Consider having non-interest bearing loans within the corporate group or avoiding a U.S. entity as an intermediary if the end borrower is a Canadian company.
3. Non-Canadian Corporation
Carrying on Business in Canada
Issue: If a non-Canadian corporation has a representative (i.e. an employee or subcontractor) who physically provides services while in Canada, the payee must withhold a 15% tax (24% if services are provided in Quebec). A non-Canadian corporation may incorrectly assume that this Canadian withholding tax is a final tax. However, the amount is simply an estimated payment and not a final withholding tax. If the corporation does not have a permanent establishment in Canada, it will receive a full refund of the taxes withheld if a tax return is filed. Alternatively, if the company does have a permanent establishment in Canada, it will be taxed on its Canadian sourced net income, and the Canadian withholding tax would be treated as a tax payment against that liability upon filing a Canadian tax return. There are penalties for not filing a Canadian tax return if the non-resident is considered to be carrying on business in Canada.
Planning: The non-Canadian corporation may be able to apply for a tax waiver to be exempt from the 15% or 24% withholding tax, if it does not have a permanent establishment in Canada. In addition, the non-Canadian corporation must file a Canadian corporate tax return within six (6) months of its year end to avoid penalties and interest where it has a requirement to file a tax return.
4. Non-Canadian Corporation Sending its Employees to Canada
Issue: If the non-Canadian corporation's employees physically provide services in Canada, the non-Canadian corporation has Canadian payroll withholding tax responsibility and obligations.
Planning: The non-Canadian corporation may be able to apply for a one-off tax waiver for a limited period of time or a blanket waiver absolving it from Canadian payroll obligations (two-year period blanket) under certain circumstances.
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