Non-residents of Canada who sell Canadian assets must determine
whether such sale gives rise to a Canadian tax liability. If it
does, it is important to obtain what is colloquially called a
section 116 certificate, in reference to the governing provision of
Canada's Income Tax Act.
What kinds of property are taxed?
Canada claims jurisdiction to tax non-residents on sales only of
"taxable Canadian property" ("TCP"). TCP
generally includes Canadian real estate, assets used in a business
in Canada or private company shares (or interests in a trust or
partnership) that derive more that 50% of their value from Canadian
real estate (or certain resource properties) at any time in the
past five years. Shares of a public company or mutual fund are
treated the same as private company shares if the taxpayer together
with non-arm's length persons owns 25% or more of the issued
shares or trust units.
What is the relevance of Canada's tax treaties?
TCP used to include all private company shares, which were then
exempt under Canada's tax treaties provided that they did not
derive their value from Canadian real estate, as above. Section 116
certificates were required in those situations in order to invoke
the treaty exemption and avoid the tax. Now that treaty-exempt
categories of assets are generally excluded from the definition of
TCP to begin with, the reason for obtaining a section 116
certificate is to reduce rather than avoid the amount of Canadian
income tax on the sale.
What is the benefit of a section 116 certificate?
In the absence of a section 116 certificate, the purchaser is
required to withhold and remit 25% of the purchase price. Since the
Canada Revenue Agency ("CRA") will have no information as
to the vendor's cost base in the assets, this 25% rate applies
to the full amount of the purchase price rather than to the amount
of the capital gain alone. If the vendor obtains a section 116
certificate, it will pay to the CRA tax only in the amount of 25%
of the capital gain.
How do I apply for a section 116 certificate?
Form T2062 is to be filed with the tax services
office—"TSO", as distinct from the tax
"centre"—for the area in which the property is
located. If the vendor is not registered for Canadian income tax
purposes then the vendor must so register by filing Form RC1 at the
same time as the T2062. The supporting information to be filed with
the T2062 varies according to the nature of the property and
vendor. A checklist is attached to the T2062 at http://www.cra-arc.gc.ca/E/pbg/tf/t2062/t2062-08e.pdf.
In general, the vendor must provide identification and evidence of
their cost base and anticipated sale proceeds.
As a practical matter, a vendor may not have the funds with
which to pay the tax until the sale proceeds are received on
closing. This creates a problem since the section 116 certificate
is not issued until the tax is either paid or security acceptable
to the Minister of National Revenue is given therefor. This is
addressed by filing the T2062 and requesting a comfort letter in
advance of the section 116 certificate. The comfort letter
identifies the amount of tax payable and relieves the purchaser of
liability in excess of that amount. The amount withheld and
remitted is then the correct 25% of the capital gain rather than
25% of the entire purchase price. The purchaser then has 30 days
following the end of the month in which the sale occurs to remit
the funds and the section 116 certificate is issued following
Failure of the purchaser to meet these obligations causes the
purchaser to become liable for the tax, in which case the purchaser
must then pursue civil remedies to recover against a vendor who may
then have no further assets in Canada.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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