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Steve Suarez Borden Ladner Gervais (Toronto)

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1 Steve Suarez Borden Ladner Gervais (Toronto)
INBOUND FINANCING AND INVESTMENTS MINING TAXATION UPDATE ACUMEN INFORMATION MAY 10, 2012 Steve Suarez Borden Ladner Gervais (Toronto)

2 OVERVIEW OF PRESENTATION
Financing & Inbound Investment Debt Financing Equity Financing Alternative Investments Non-Resident Acquisitions of Canadian Mining Companies Exit Strategies Taxable Canadian property Tax treaty protection s.116 issues Cross-Border Canada – U.S. Issues Limitation on benefits under the Canada-U.S. Treaty Using hybrid entities in inbound transactions

3 Financing & Inbound Investment
Non-residents making Canadian mining investments (new projects in Canada, acquiring interests in existing projects or acquiring interests in existing Canadian entities) must consider: Canadian income tax Canadian withholding tax home-county taxes limited legal liability day-to-day functionality In most cases other than straightforward lending or royalties, this will involve using a Canadian corporation (directly or indirectly) as the investment vehicle

4 Financing & Inbound Investment
Debt Financing: non-residents have a number of important considerations to balance where to locate interest expense thin capitalization limitations on Canadian interest deductibility possibilities for double-dip financing Canadian interest withholding tax Other considerations

5 Financing & Inbound Investment: Debt
On simple loans to arm’s length borrowers, a non-resident will typically be worried only about home country taxation of interest income no Canadian withholding tax on interest paid to a non-resident creditor dealing at arm’s length with Canadian borrower, unless interest is “participating” (e.g., variable based on profit, cash flow, etc.) Otherwise, if non-resident is debt-financing a Canadian investment, need to consider whether interest expense deductions are most useful in Canada or the non- resident’s home country (effective tax rate, where sufficient taxable income exists, etc.); withholding tax costs of lending to Canada; and is there any scope for multiple deductions?

6 Financing & Inbound Investment: Debt
Thin capitalization restrictions (s.18(4)ITA) Canadian corporations are restricted on the amount of interest expense they can deduct on debt owing to “specified non-residents”: non-residents who own, or deal non-arm’s length with someone who owns, 25%+ of Canco’s equity (by votes or value) No interest deduction on debt owing by Canco to specified non-residents, to the extent it exceeds 2x Canco’s “equity”, being the sum of Canco’s start-of year unconsolidated retained earnings; Canco’s contributed surplus received from specified non-resident shareholders; and paid-up capital of Canco shares owned by specified non-resident shareholders

7 Financing & Inbound Investment: Debt
Thin capitalization restrictions are being tightened under the March 2012 federal budget debt/equity limit being reduced to 1.5:1 (effective 2013) rules now capture debt of partnerships that have Canadian corporations as partners disallowed interest expense with be treated as a dividend (not interest) for withholding tax purposes See “Canadian 2012 Federal Budget: Tightening the Screws,” included with materials

8 Financing & Inbound Investment: Debt
Foreign Parent Foreign Finance Co $50M equity $100M loan Canco Starting in 2013, Canco can only deduct interest on $75M of the debt owing to Foreign Finance Co no deduction for interest on the remaining $25M, which is treated as a dividend and subject to dividend withholding tax

9 Financing & Inbound Investment: Debt
Double-Dip Structures Where U.S. parent is lending to Canadian subsidiary, consider whether a “double dip” hybrid structure can be used to create an instrument that is debt for Canadian purposes (deductible interest expense for Canco) but equity for U.S. purposes (no interest income for U.S. parent)

10 Financing & Inbound Investment: Debt
1. Loan US Co Canco LLC Third-party debt 2. Forward Subscription Agreement 4. Guarantee 3. Support Agreement Summary 1. US Co uses proceeds of 3rd party debt to make a loan to Canco 2. Simultaneously, LLC enters into a forward subscription agreement with Canco to purchase Canco shares for cash equal to the principal amount of the loan on the maturity date Simultaneously, US Co enters into a support agreement with LLC to purchase shares for cash in order that LLC can fund its obligation under the forward subscription agreement Simultaneously US Co provides Canco with a guarantee of LLC’s performance under the FSA

11 Financing & Inbound Investment: Debt
US Co Canco LLC 4. Guarantee 1. Loan 3. Support Agreement 2. Forward Subscription Agreement Summary 1. Loan from US Co to Canco 2. Forward subscription agreement between LLC and Canco Support agreement between US Co and LLC Guarantee from US Co to Canco

12 Financing & Inbound Investment: Debt
Interest Withholding Tax Under Part XIII, Canada no longer levies withholding tax on interest (other than participating interest) paid to a creditor dealing at arm’s length with the debtor “participating debt interest” means interest (other than interest described in any of paragraphs (b) to (d) of the definition “fully exempt interest”) that is paid or payable on an obligation, other than a prescribed obligation, all or any portion of which interest is contingent or dependent on the use of or production from property in Canada or is computed by reference to revenue, profit, cash flow, commodity price or any other similar criterion or by reference to dividends paid or payable to shareholders of any class of shares of the capital stock of a corporation.

13 Financing & Inbound Investment: Debt
Interest Withholding Tax: other relevant provisions s.214(6): deemed payment of accrued interest on transfer of bond, etc. by a non-resident to a Canadian resident, if bond issued by Canadian resident s.214(7): deemed payment of interest on transfer of bond, etc. by a non-resident to a Canadian resident, if issued by Canadian resident and transfer price exceeds issue price of the bond s.214(8): “excluded obligations”, carved out of s.214(7) and partially carved out of s. 214(6) (former 5/25 debt or shallow discount debt issued for not less than 97% of principal amount)

14 Financing & Inbound Investment: Debt
Interest Withholding Tax: convertible debentures There is considerable uncertainty as to the tax treatment of holders of convertible debentures who are non-residents not clear whether the value of shares received on conversion over principal amount is “participating interest” (if so Canadian withholding tax applies on sale or conversion of debenture) not clear whether “regular” interest is tainted by the conversion premium CRA administrative position has been “under development” for almost 4 years, and remains in progress

15 Financing & Inbound Investment: Debt
Interest Withholding Tax: Tax treaty structuring While most of Canada’s tax treaties reduce the 25% rate of Part XIII interest withholding tax to 10%, the rate under the Canada-U.S. Treaty for U.S. residents entitled to Treaty benefits is 0%, even if dealing non-arm’s length with the debtor ➙ This creates an incentive for non-residents outside the U.S. to consider financing into Canada through a U.S. group member, in order to get 0% interest withholding Issues to watch for limitation on benefits under the Canada-U.S. Treaty anti-hybrid rules in Canada-U.S. Treaty anti-avoidance mechanisms (discussed below)

16 Financing & Inbound Investment: Debt
Interest Withholding Tax: Financing Through the U.S.

17 Financing & Inbound Investment: Debt
s.78: Accrued and Unpaid Interest: Deductible amounts owing to a non-arm’s length person and which remain unpaid at the end of the second taxation year following the year it was incurred, are added back to income in the third following year, unless the parties jointly elect to deem the amount to have been paid

18 Financing & Inbound Investment: Debt
Foreign Exchange Issues When lending into Canada, consider the F/X implications of the loan Canadian debtor borrowing non-Cdn. $ will realize income/gain/loss on maturity, with any loss probably denied recognition if incurred on debt from a non-arm’s length lender Canadian debtor should not assume any gain will be a capital gain: need to consider capital/income treatment Canco may want to consider making the s.261 foreign currency election in appropriate circumstances For more on the tax treatment of F/X gains and losses, see “Canadian Taxation of Foreign Exchange Gains and Losses” at

19 Financing & Inbound Investment: Equity
Equity Financing: principal Canadian tax considerations for non-residents making an equity investment in Canada: tax recognition of cost of investment maximizing cross-border paid-up capital (PUC) minimizing Canadian dividend withholding tax minimizing Canadian taxation of gains on exit managing s.116 obligations on sale

20 Financing & Inbound Investment: Equity
Paid-up Capital Tax equivalent of corporate law share capital Basic concept is that shareholders should be able to extract PUC without being treated as receiving a dividend (but reduces shareholder’s cost in the share) Each share of the same class or series has the same PUC (PUC of class divided by # of shares)

21 Financing & Inbound Investment: Equity
Paid-up Capital: pooled within each class $200 FMV = $200 Cost/PUC = $100 CanCo Before X Y After X Y FMV = $200 Cost = $100 PUC = $150 Cost/FMV = $200 PUC = $150 CanCo $200

22 Financing & Inbound Investment: Equity
Paid-up Capital: non-residents Especially important for non-resident purchasers PUC can be extracted out of Canada without dividend withholding tax PUC increases how much debt Canco can incur from related non-residents on an interest-deductible basis 2012 federal budget targets PUC increases where foreign-controlled Canco makes an “investment” in a foreign affiliate that does not satisfy a business purpose test (see “Canadian 2012 Federal Budget: Tightening the Screws”)

23 Financing & Inbound Investment: Equity
Paid-up Capital: non-resident acquisition $10M FMV = $10M PUC = $2M Canco Non-Resident Buyer Vendor

24 Financing & Inbound Investment: Equity
Canco Incorrect Non-Resident Buyer FMV/Cost = $10M PUC = $2M Vendor $10M Correct Non-Resident Buyer Vendor $10M FMV/Cost/PUC = $10M New Canco FMV/Cost = $10M PUC = $2M Canco

25 Financing & Inbound Investment: Equity
Equity Distributions A Canadian corporation can choose to make a distribution to shareholders either as (1) a dividend, or (2) a return of capital (to the extent of the stated capital of its shares) unlike the U.S., there is no rule treating all distributions as dividends for tax purposes to the extent the corporation has earnings & profits (E & P) A dividend triggers dividend withholding tax but does not reduce the holder’s basis in the share A return of capital reduces basis in the share and is not treated as a dividend to the extent of PUC (except where s.84(4.1) applies)

26 Financing & Inbound Investment: Equity
Equity Distributions In a mining investment, the prospect of dividends is often remote unless the Canadian corporation is a producer of significant size (mining is very capital-intensive) dividend-paying mining corporations tend to be large public companies, which are severely limited in their ability to make capital reductions for tax purposes due to s.84(4.1) As a result, choice of jurisdiction to hold Canadian mining shares is usually driven by (1) recipient-country taxation, and (2) managing Canadian taxation of gains on dispositions, (see Exit Strategies)

27 Financing & Inbound Investment: Periodic Repatriations
Dividend from Canco PUC Reduction from Canco Loan from Canco Withholding Tax 25%; potentially reduced as low as 5% by tax treaty (note Canada-U.S. problem with ULCs) None if sufficient PUC; reduces holder’s basis in shares of payer None if repaid within permitted timeframe and not part of a series of loans and repayments; otherwise treated as a dividend Comments Consider whether relevant Canadian corporate law places any constraints on Canco’s ability to declare and pay dividend (e.g., solvency test) No U.S. style E&P rule; can choose to reduce PUC even if profits exist (subject to s.84(4.1) for public corporations) Consider effect on thin capitalization rules to Canco Various rules require market interest rate to be charged by Canadian lender

28 Financing & Inbound Investment: Royalties
It is relatively unusual for foreigners to invest in a Canadian mining project in the form of a royalty, as these tend to be tax-inefficient effectively no cost recognition for Canadian purposes, as CDE pool rarely of use to a non-resident royalties subject to 25% withholding tax under Part XIII Canada’s tax treaties tend to offer little or no relief from Canadian taxation of Canadian-source mining royalties

29 Financing & Inbound Investment: Metal Streams
Metal stream transactions are a particular form of mining transaction that typically sees a producer sell secondary output (e.g., silver from a gold mine) to an arm’s length purchaser, usually on the basis of an upfront payment plus a relatively low price per unit delivered (considerably less than spot) structured so as not to be a royalty up-front payment often set up as a deposit While possible to effect directly into Canada, (especially where the mine is located in Canada) metal stream transactions are typically set up with a foreign subsidiary of the Canadian mining company

30 Financing & Inbound Investment: Metal Streams
Income Tax Results: Vendor: payments from Vendor Subco included in income when received Vendor Subco: upfront payment included into income when received; s. 12(1)(m) reserve claimed for goods to be delivered in future. Sales income from Purchaser included into income as received.

31 Financing & Inbound Investment: Acquisitions
Acquisitions of Canadian mining companies: see B. Sinclair’s presentation form of transaction form and amount of consideration process structuring considerations purchaser (s.116 issues, s.88(1)(d) bump, exit strategy) vendor (tax minimization, deferral, s.116 issues) pre-and-post transaction planning

32 Financing & Inbound Investment: Acquisitions
Points of particular relevance to non-resident purchasers maximizing cross-border PUC (to maximize Canadian interest deductibility under thin capitalization rules and the ability to effect distributions as PUC returns) s.88(1)(d) bump limited to using cash consideration especially useful to extract Target’s foreign subsidiaries out of Canada limited ability to offer tax deferral to Target shareholders who are taxable in Canada on gains (unless using exchangeable shares) special considerations when planning for sale of investment (minimizing Canadian tax on gains)

33 Financing & Inbound Investment: Acquisitions
Illustration of Inbound Acquisition Planning Pre-Acquisition

34 Financing & Inbound Investment: Acquisitions
Post-Acquisition

35 Financing & Inbound Investment: Acquisitions
For more on acquisitions of Canadian mining corporations see: “Using Exchangeable Shares in Inbound Canadian Transactions” (About page of website) “Canada’s Tax Cost Step-Up: What Foreign Purchasers Should Know” (About page of website) “Canada’s Section 116 System for Non-Resident Vendors of Taxable Canadian Property” (included with materials)

36 Exit Strategies The time to plan for how to exit an investment in Canadian mining is before making the investment, especially for non-residents. Careful planning can help minimize: Canadian capital gains tax Canadian s.116 obligations home-country taxation (direct and CFC) Taxpayers are invariably more successful with planning that is put in place at the time the investment is made as opposed to planning done near the time of sale

37 Exit Strategies: Debt Unless somehow convertible into or exchangeable for another property, a debt investment into Canada will generally not constitute “taxable Canadian property” so as to be subject to Canadian capital gains tax or s.116 obligations simply lending to a Canadian mining company does not create TCP But consider the potential for s.214(7) to create Part XIII tax on sale or redemption if proceeds exceed issue price and debt is not an “excluded obligation”

38 Exit Strategies: Equity
When making an equity investment in Canada, the three principal Canadian tax considerations are: will the investment constitute TCP, so as to be subject to Canadian capital gains tax if so, can protection from Canadian capital gains tax be found in a relevant tax treaty if the investment constitutes TCP, do the parties have obligations under the s.116 system governing dispositions of TCP by non-resident vendors

39 Exit Strategies: Equity
Taxable Canadian Property includes interest in Canadian real property or Canadian resource property (which includes most mining royalties) property used or held in a business carried on in Canada share not listed on a designated stock exchange (other than of a mutual fund corporation) or partnership interest or trust interest (other than of a mutual fund trust), that derives its value (directly or indirectly) primarily from Canadian real/resource properties anytime in the preceding 60 months (other than through a corporation, partnership or trust whose shares/interests are not TCP) share that is listed on a designated stock exchange, or of a mutual fund corporation, or interest in a mutual fund trust, if at any time in the preceding 60 months both: more than 50% of the share’s/interest’s FMV was derived (directly or indirectly/ from Canadian real/resource properties; and taxpayer (together with non-arm’s length persons) owned 25%+ of corporation’s shares or MFT’s units

40 Exit Strategies: Equity
Summary: TCP Status Property TCP Status Shares of corporations listed on a designated stock exchange; shares of mutual fund corporations; units of mutual fund trusts TCP if at any time during the preceding 60 months, both 1. the nonresident holder owned more than 25 percent of any class of the corporation’s shares or the trust’s units (including any shares or units owned by non-arm’s length persons), and 2. more than 50 percent of value of the shares or units was derived (directly or indirectly) from Canadian real property Unlisted shares of corporations (other than mutual fund corporations); interests in partnerships and most trusts TCP if at any time during the preceding 60 months more than 50 percent of value of the share or interest was derived from Canadian real property directly or indirectly (otherwise than through a corporation, partnership or trust the shares or interests of which are not themselves TCP at that time)

41 Exit Strategies: Equity
Determination of taxable Canadian property status for shares 2010 Budget narrowed TCP status for shares: only TCP if shares derive value primarily from Canadian real property in past 5 years (directly or indirectly) Previously, CRA had allowed taxpayers to make “value primarily derived” determination based on (1) corporation’s gross assets, or (2) corporation’s net assets, allocating liabilities on a reasonable basis

42 Exit Strategies: Equity
At 2011 CTF Round Table, CRA announced a change in its administrative policy For property held by the taxpayer any time during 2011 and disposed of before 2013, old policy applies For all other property, the CRA will make “value primarily derived” determination based on gross assets Q: shouldn’t the value of a share be based on the value of the corporation’s assets less all claims ranking ahead of the shares, i.e., on a net assets basis?

43 Exit Strategies: Equity
Tax Treaties: where the Canadian equity investment will (or may in the future) constitute TCP, it is essential to consider whether tax on sale could be reduced either by structuring the exit as a dividend for Canadian tax purposes (if dividend withholding tax is less than Canadian capital gains tax), or using a tax treaty to achieve a more favourable result, taking into account (1) Canadian taxation of the gain, (2) taxation of the gain in the shareholder’s jurisdiction, (3) costs of distributing the sale proceeds out of the shareholder’s jurisdiction (whenever this occurs) and (4) taxation of that distribution in the jurisdiction of the ultimate parent

44 Exit Strategies: Equity
Tax Treaties: there is a very wide range of protection from Canadian capital gains taxation on a sale of shares in Canada’s tax treaties (see “Canadian Taxation of Mining,” included with materials) – for example: No relief (e.g., Chile. ,Argentina, Brazil, Australia, Japan, India) Taxation if share value derived primarily from Canadian real property (e.g., China, Singapore, Korea, Ireland) As above, but operating mines excluded from “real property” (e.g., Netherlands, Germany, South Africa, Luxembourg, Switzerland, U.K.) Taxation limited to Canadian corporations (Netherlands, Russia, Switzerland, U.S., Germany) Publicly-listed shares excluded (Luxembourg, Netherlands, U.K., Germany, Switzerland) Minimum ownership threshold, usually 10% (South Africa, U.K., Netherlands, Luxembourg, Switzerland)

45 Exit Strategies: Equity
Tax Treaties Residence: mind and management is not in jurisdiction of entity’s governing law Agency: entity is acting as agent for someone else Beneficial Ownership: entity is not the beneficial owner of the relevant property Sham: purported legal relationships do not in fact exist Treaty Shopping: use of treaty jurisdiction somehow inherently abusive

46 Exit Strategies: Equity
s.116 System: applicable to dispositions of TCP by a non-resident (whether or not any tax is owing or any gain exists), unless an exception applies; consists of vendor notification obligation purchaser remittance obligation vendor tax return filing obligation See “Canada’s Section 116 System for Non-Resident Vendors of Taxable Canadian Property” (included with materials)

47 Exit Strategies: Equity
s.116 System: Excluded Property Generally no s. 116 system obligations arise to the extent the TCP is “excluded property,” which includes: shares listed on a recognized stock exchange deemed TCP (e.g., shares received on a tax-deferred rollover) bonds, debentures, mortgages and similar obligations options/interests in respect of the foregoing “treaty-exempt property” (which requires the purchaser to notify the CRA within 30 days of sale if the purchaser and vendor are related)

48 Exit Strategies: Equity
s.116 System: Vendor notification obligation Vendor is required to notify the CRA within 10 days of the disposition, unless the TCP is (1) excluded property, or (2) property described in s.116(5.2), viz., property that may yield income on disposition s.116 System: Vendor Tax Return Obligation Vendor is required to file a Canadian tax return, unless all TCP dispositions in the year are (1) of excluded property, or (2) ones in respect of which the CRA issued a certificate of compliance

49 Exit Strategies: Equity
s.116 System: Purchaser remittance obligation Purchaser is liable to remit to the CRA (and may withhold from the purchase price) 25% of the purchase price, unless property is excluded property; purchaser reasonably believes that vendor is not a non-resident, after making reasonable inquiry; requirements for s.116(5.01) “treaty protected property” exception are met; or CRA has issued a certificate of compliance

50 Exit Strategies: Equity
s.116 Withholding: Treaty-protected property exception Where a non-resident vendor is claiming to be exempt from tax on a disposition of TCP due to a treaty exemption, purchaser can 1. withhold and remit; 2. demand a certificate of compliance; or 3. file Form T2062C within 30 days of sale under s. 116(5.01) Problem with 3. was that s.116(5.01), which was introduced in 2008, does not exempt the purchaser from liability if treaty exemption does not in fact apply (e.g., due to valuation uncertainty, chattel/fixture uncertainty, former residence, limitation on benefits, anti-avoidance, etc.) ➙ Result: Purchasers often unwilling to rely on 3.

51 Exit Strategies: Equity
s.116 Withholding: Treaty-protected property exception Statement on CRA website (“Disposing of or acquiring certain Canadian property”) now provides that CRA will generally not assess a purchaser for not withholding in good-faith belief that non-resident was treaty-exempt if purchaser has filed Form T2062C; purchaser and vendor are unrelated; and purchaser has made every reasonable effort to determine that property is treaty-exempt “Every reasonable effort” means at least the steps suggested on Form T2062C

52 Canada-U.S. Treaty Issues: Limitation on Benefits
Canada’s treaty with the U.S. is the only Canadian tax treaty that contains a comprehensive “limitation on benefits” (LOB) Article, restricting who may claim benefits under the Treaty (it is not enough just to be a U.S. resident) U.S. subsidiaries of foreign corporations generally do not qualify under the base test See “Thoughts on the New LOB Clause in The Canada-U.S. Treaty” (included with materials)

53 Canada-U.S. Treaty Issues: Limitation on Benefits
Limitation on Benefits: Summary of Analysis Is person seeking treaty benefits a U.S. resident for treaty purposes? Is U.S. resident a qualifying person? Are benefits available under “active trade or business exception”? Treaty benefits available only if “derivative benefits” test met (limited benefits only) or under residual exception in Article XXIX-A(6).* Yes No No No Yes Yes Not eligible for treaty benefits. Eligible for treaty benefits.* Eligible for treaty benefits.* * Availability of treaty benefits subject to antiabuse rules as per Article XXIX-A (7).

54 Canada-U.S. Treaty Issues: Limitation on Benefits
Basic test: is the U.S. resident claiming Treaty benefits a “qualifying person”? natural person corporation whose principal class of shares primarily traded on recognized Canadian or U.S. stock exchange corporation more than 50% of whose shares (by votes and value) are owned by 5 or fewer persons described in 2 (directly or indirectly through a chain of qualifying persons) corporation 50% or more of whose shares (by votes and value) are not owned (directly or indirectly) by non-qualifying persons

55 Canada-U.S. Treaty Issues: Limitation on Benefits
Active Trade or Business (ATB) Test Summary Is the U.S. resident (or related person) actively conducting a trade or business in the U.S. (other than an ineligible business)?* Is the U.S. trade or business substantial relative to the activity carried on in Canada giving rise to the income on which the U.S. resident is seeking treaty benefits? Is the Canadian-source income derived in connection with or incidental to the U.S. trade or business (directly or indirectly through one or more Canadian residents)? U.S. resident entitled to treaty benefits with respect to connected or incidental income, subject to antiabuse limitations. Is person seeking treaty benefits a U.S. resident for treaty purposes? Yes Yes Yes Yes No No No No Active trade or business exception not available. Active trade or business exception not available. Active trade or business exception not available. Active trade or business exception not available. * An ineligible business is the making or managing of investments, unless carried on with customers in the ordinary course of business by a bank, insurance company, registered securities dealer, or deposit-taking financial institutions.

56 Canada-U.S. Treaty Issues: Limitation on Benefits
Derivative Benefits Test Summary Is person seeking treaty benefits a U.S. resident for treaty purposes? Are 90% + of U.S. company’s shares* owned, directly or indirectly, by qualifying persons or eligible third-country shareholders?** Are U.S. company’s eligible third-country shareholders entitled to Canadian tax rate on the relevant income as low or lower than the corresponding rate under the treaty? Does U.S. company meet base erosion test (deductible expenses payable to non-qualifying persons < 50% of gross income)? U.S. company entitled to treaty benefits under Articles X (Dividends), XI (Interest), and XII (Royalties), subject to antiabuse limitations. Yes Yes Yes Yes No No No No Not eligible for derivative benefits. Not eligible for derivative benefits. Not eligible for derivative benefits. Not eligible for derivative benefits. “Debt substitute shares” are ignored under this test, and a further test applies if a “disproportionate class of shares” exists. ** An eligible third-country shareholder is a resident of a third country entitled to full benefits under a treaty between Canada and that third country, and who (if resident in the U.S.) would either be a qualifying person under the Canada–U.S. treaty or eligible for treaty benefits under the “active trade or business” test (if it was assumed that the shareholder carried on in the U.S. the same business it in fact carries on in the third country).

57 Canada-U.S. Treaty Issues: LLCs
For many years, Canada refused to extend Treaty benefits to LLCs that are disregarded for U.S. tax purposes, on the basis that they were not U.S. residents (liable to pay tax in the U.S.), and would not look through them (like partnerships) to allow the LLC members to claim Treaty benefits CRA continued this position in spite of Tax Court decision in TD Securities LLC v. The Queen holding the taxpayer LLC to be entitled to Treaty benefits Article IV(6) (added by the 2007 Protocol) addresses this, by allowing Treaty benefits to be claimed by U.S. residents (only) on items of income earned through a disregarded LLC

58 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
Unlimited Liability Corporations (ULCs): popular with U.S. companies investing in Canada, because they can elect to disregard the ULC for U.S. tax purposes Under Article IV(7)(b) of the Canada-U.S. Tax Treaty, Treaty benefits are denied where U.S. taxation is different as a result of the ULC being disregarded for U.S. tax purposes ➙ 25% Canadian withholding tax instead of 0% (interest) or 5% (dividends) ➙ especially problematic on payments from ULC to LLC There are work-arounds, but use disregarded ULCs with caution

59 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
Article IV(7)(b) An amount of income, profit or gain shall be considered not to be paid to or derived by a person who is a resident of a Contracting State where: The person is considered under the taxation law of the other Contracting State to have derived the amount through an entity that is not a resident of the first-mentioned State, but by reason of the entity not being treated as fiscally transparent under the laws of that State, the treatment of the amount under the taxation law of that State is not the same as its treatment would be if the amount had been derived directly by that person; or The person is considered under the taxation law of the other contracting State to have received the amount from an entity that is a resident of that other State, but by reason of the entity being treated as fiscally transparent under the laws of the first-mentioned Sate, the treatment of the amount under the taxation law of that State is not the same as its treatment would be if that entity were not treated as fiscally transparent under the laws of that State.

60 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
LLC Owning Shares of Disregarded ULC CRA says the better view is that U.S. residents cannot claim Treaty benefits on amounts paid by a ULC to an LLC where both entities are and the income item disregarded for U.S. tax purposes: see CRA document C6, dated February 11, 2010 Consider inserting a third country (i.e., Luxembourg) between LLC and ULC, so that a different treaty applies

61 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
Dividends Paid by Disregarded ULCs

62 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
Disregarded ULCs and Interest

63 Canada-U.S. Treaty Issues: Anti-Hybrid Rules
Disregarded ULCs and Interest

64 The End Thank you For more on the Canadian taxation of mining, go to Steve Suarez Borden, Ladner Gervais LLP (Toronto)


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