Canada: New Canadian Amendments: Foreign Affiliate Dumping, Loans To Non-Resident Corporations, Thin Capitalization And Partnership Bumps And Sales

The Department of Finance released draft legislation on August 14, 2012 (the Proposals) that revises various provisions included in the March 29, 2012 Canadian Federal Budget (the 2012 Budget) – including significant revisions to the foreign affiliate dumping rules and an updated version of the thin capitalization proposals and rules applicable to tax bumps on partnership interests and sales of partnership interests to tax exempts and non-residents.  The Proposals also introduce a new elective rule that applies to certain loans from Canadian corporations to non-resident corporations that would otherwise have result in a deemed dividend subject to Canadian withholding tax.  Each of these is discussed below.  Although not discussed in this update, the attached appendix lists the various other provisions included in the Proposals.  The Department of Finance has requested comments on the Proposals by September 13, 2012.


The 2012 Budget proposed "foreign affiliate dumping" rules that were intended to discourage foreign-based multinational corporations from "dumping" foreign affiliates into their Canadian subsidiaries in a manner that erodes the Canadian tax base.  Specifically, the rules were intended to address certain situations where Canadian companies incur tax-deductible interest expense on borrowed money used to acquire shares of foreign affiliates (reduction of tax payable under Part I of the Income Tax Act (Canada) (the Act)), or where foreign corporations access surplus funds of a Canadian subsidiary without a distribution that would otherwise have been subject to Canadian dividend withholding tax (reduction of tax under Part XIII of the Act). 

The Proposals include several significant changes.  These revised rules will have a significant impact on foreign-based multinationals with Canadian subsidiaries, and will generally apply to transactions occurring on or after March 29, 2012 (with limited transitional relief for transactions occurring before 2013 pursuant to written agreements in place before March 29, 2012, and with an ability to elect to use the original version of the foreign affiliate dumping proposals announced in the 2012 Federal Budget for transactions occurring between March 29, 2012 and August 14, 2012). 

The revised rules provide an exception for certain corporate reorganizations, and relax somewhat the situations in which the rules may result in an immediate deemed dividend as a result of certain foreign affiliate investments.  However, the revised rules continue to result in double taxation (such as withholding tax on deemed dividends where property is acquired and a second withholding tax where the same property is distributed as an actual dividend), and may discourage certain non-residents from investing in Canadian corporations.

Application of FA Dumping Rules – Deemed Dividend or PUC Reduction

Subject to three general exceptions discussed below, the revised rules apply where a corporation resident in Canada (CRIC) that is controlled by a non-resident corporation (Parent) makes an investment in a non-resident corporation that is a foreign affiliate (FA) of the CRIC (either immediately after the investment is made or resulting from the series of transactions that includes the investment). Where applicable, the new rules either deem the CRIC to have paid a dividend to Parent, or reduce the paid-up capital of the CRIC's shares.

A deemed dividend to the Parent is subject to Canadian withholding tax at a rate of 25%, subject to potential relief under an applicable income tax treaty.  The amount of the deemed dividend is equal to the portion of the fair market value of the investment in FA that is reflected by property (other than shares of the CRIC) transferred by the CRIC, obligations assumed by the CRIC, or benefits conferred by the CRIC that relate to the investment.  Alternatively, where the FA investment is contributed to the CRIC for shares of the CRIC, the paid-up capital of such shares is reduced by the amount otherwise added to the paid-up capital on the contribution.  Accordingly, contributing an FA investment to a CRIC for shares of the CRIC will generally not result in any net increase to the CRIC's paid-up capital (which would otherwise reflect an amount that the CRIC could distribute to the Parent free of Canadian withholding tax as a return of capital distribution).  Any contributed surplus otherwise arising to the CRIC where the FA Dumping rules apply is excluded from the computation of the CRIC's debt to equity ratio for thin capitalization purposes.

A new joint election allows the CRIC and the Parent to elect to treat what would otherwise be a deemed dividend as a reduction to the CRIC's paid-up capital.  This election is available if the CRIC has only one class of shares outstanding or if the FA investment may be traced to a contribution to a particular class of shares of the CRIC, and if all shares of the CRIC that were not owned by the Parent were owned by persons who were dealing at arm's length with the CRIC.  Where the joint election is made, the reduced paid-up capital may be effectively reinstated on certain subsequent distributions as a return of capital by the CRIC.  Specifically, the paid-up capital may be reinstated to the extent that the subsequent distribution is a distribution of the FA investment, substituted property for the FA investment, or proceeds from the disposition of such property that are distributed by the CRIC within 30 days of the disposition.  However, the paid-up capital reinstatement rule is limited to where the new election to reduce paid-up capital is made – it does not apply where the paid-up capital suppression rule applies automatically (because the FA investment was contributed by the Parent in exchange for shares of the CRIC).

For example, the Parent may contribute cash to the CRIC which the CRIC then uses to acquire FA shares.  In that case, the default rule is a deemed dividend, subject to the ability to elect to reduce the paid-up capital of the CRIC shares to avoid the deemed dividend.  Where the election is made to avoid a deemed dividend, the CRIC may subsequently distribute the FA shares or substituted property to the Parent as a return of capital that is not subject to withholding tax (as the paid-up capital may be reinstated up to an amount not exceeding the fair market value of the FA shares at the time of the distribution or the amount by which the paid-up capital was originally reduced).  However, if the Parent had originally simply contributed the FA shares to the CRIC (resulting in an automatic reduction to the CRIC's paid-up capital) then a subsequent distribution of the FA shares to the Parent would generally be subject to Canadian withholding tax (since no reinstatement of the paid-up capital would apply).

Exceptions to the FA Dumping Rules

The three general exceptions to the revised rules are for (i) pertinent loan or indebtedness, (ii) corporate reorganizations, and (iii) strategic business expansions. 

 (i) Pertinent Loan or Indebtedness (PLI)

The new PLI exception allows an amount owing by an FA to a CRIC to be excluded from the FA dumping rules on an elective basis.  The result of making the election is that the particular amount owing becomes subject to a new interest imputation regime, rather than the FA dumping rules.  This interest imputation regime generally requires the CRIC to include interest income on the amount owing at a rate that is at least equal to the greater of a prescribed rate for the period during the year the PLI is outstanding (which is currently 5%: being the Canadian Treasury Bill rate, which is adjusted quarterly, plus 4%) and the rate applicable on any debt obligation incurred by the CRIC to fund the PLI.  The revised rules clarify that where the new interest imputation rules apply the existing interest imputation rules in section 17 will not apply.  The PLI election applies to amounts that became owing after March 28, 2012 that were not otherwise excluded from being an FA investment under the ordinary course of business exceptions described below.

 (ii) Corporate Reorganizations

Exceptions from the FA dumping rules are provided for various types of corporate reorganizations. These exceptions are generally intended to prevent the application of the FA dumping rules where there is no new investment in an FA.  These rules apply to certain acquisitions of FA shares by a CRIC: on an acquisition from a non-arm's length CRIC; on a share for share exchange; on a reorganization of capital; on an amalgamation or merger; or on a liquidation, share redemption or dividend.  However, an investment may nevertheless be considered to have been made on various corporate reorganizations where, for example, debt is assumed by the CRIC in respect of a distribution from FA (such as on a liquidation of a top tier FA into the CRIC).  For purposes of the FA dumping rules a corporation formed on an amalgamation of a parent and its wholly-owned subsidiary CRIC (under subsection 87(11)) is deemed to be a continuation of its predecessors and is deemed not to have acquired property from its predecessors.  Similarly, where a CRIC is wound-up into another CRIC (under subsection 88(1)) the parent is deemed to be a continuation of its subsidiary and is deemed not to have acquired property from the subsidiary as a result of the winding-up.  These changes are intended to prevent certain "acquisition and bump" transactions from resulting in new FA investments.

 (iii) Strategic Business Expansion

The exception for strategic business expansions is intended to allow a CRIC to invest in an FA where the business of the FA is more closely connected to the business of the CRIC than to any other member of the multinational group and the officers of the CRIC are the predominant decision makers in relation to the investment in FA in a commercial and economic sense.  In many cases it will be difficult for a CRIC to satisfy these restrictive conditions.  This exception replaces the "business purpose" exception in the prior draft, and applies where the CRIC demonstrates that each of the following conditions are met: (a) the business activities of FA and its subsidiaries are, and are expected to remain, on a collective basis more closely connected to the business activities of the CRIC (or of a non-arm's length CRIC) than the business activities of any non-arm's length non-resident corporation (other than FA or its subsidiaries); (b) officers of the CRIC had and exercised the principal decision-making authority in respect of making the investment and a majority of those officers were resident, and worked principally, in Canada at the investment time; and (c) at the investment time it is reasonably expected that (i) officers of the CRIC will have and exercise the ongoing principal decision-making authority in respect of the investment, (ii) a majority of  those officers will be resident, and will work principally, in Canada, and (iii) performance evaluation and compensation of such officers will be based on the results and operations of the relevant FA to a greater extent than will be the performance evaluation and compensation of any officer of a non-arm's length non-resident corporation (other than the FA or its controlled subsidiaries). 

In determining whether FA's business activities are connected with the business activities of the CRIC, the explanatory notes accompanying the draft rules indicate that activities may be connected if they are similar in nature or "parallel" (such as manufacturing and distributing similar products or providing similar services) or if one corporation's activities are "upstream" or "downstream" to the other's or if one business uses technology of the other in its operations (such as where one corporation sells the output of, or provides inputs to, the manufacturing process of the other).  However, the explanatory notes also clarify that mere connectedness is not sufficient.  The connection to the CRIC must be closer than the connection to other non-arm's length non-resident corporations.

In determining whether an officer is working principally in Canada the explanatory notes suggest that they must spend the majority of their working time in Canada, carry out a majority of their important functions in Canada, and make most of their important decisions, with respect to the CRIC in Canada.

The strategic business expansion exception, and some of the corporate reorganization exceptions, do not apply in respect of an investment in FA shares that may not reasonably be considered to fully participate in the profits of FA and any appreciation in the value of FA, unless FA is a subsidiary wholly-owned corporation of the CRIC.  Accordingly, such exceptions will generally not apply to preferred share FA investments unless the FA is a subsidiary wholly-owned corporation of the CRIC.

A new anti-avoidance rule applies where a CRIC uses a "good" FA as a conduit to make an investment in a "bad" FA.  For example, the strategic business expansion exemption may be effectively deemed not to apply to an investment in an FA that would otherwise satisfy the exemption if that FA in turn invests in another FA that would not meet that exemption.

FA Investments Subject to the FA Dumping Rules

For the purposes of the FA dumping proposals, an investment in an FA by a CRIC means any of the following: (a) an acquisition of FA shares by CRIC; (b) a contribution to the capital of FA by CRIC; (c) a transaction where an amount becomes owing by FA to CRIC (other than an amount arising in the ordinary course of CRIC's business that is repaid within 180 days or an amount that is a PLI); (d) an acquisition of an FA debt obligation by CRIC (other than an acquisition from an arm's-length person in the ordinary course of CRIC's business or a debt obligation that is a PLI); (e) an extension of (i) the maturity date of a debt obligation owing by FA to CRIC, or (ii) the redemption, acquisition or cancellation date of FA shares owned by CRIC; (f) an acquisition by CRIC of shares of another CRIC if the total fair market value of FA shares owned directly or indirectly by the other CRIC exceeds 50% of the total fair market value (determined without reference to debt obligations of any Canadian corporation in which the other CRIC has a direct or indirect interest) of all properties owned by the other CRIC; and (g) an acquisition by CRIC of an option in respect of, or an interest or right in, shares of FA or a debt obligation of FA that is not excluded under the exceptions above.  Detailed rules supplement the indirect acquisition rules above – providing further detail regarding the manner in which to determine the amount of an indirect FA investment.  For example, a new rule prevents "stuffing" a CRIC with non-FA investments to avoid the application of the rule in (f) above where the non-FA investments are disposed of by the CRIC as part of the same series of transactions.

Additional rules apply for purposes of the FA dumping rules to look though certain investments by partnerships.  Very generally, these rules deem each member of a partnership to have entered into any transaction entered into by the partnership itself in proportion to the fair market value of the member's direct or indirect (through other partnerships) interest in the partnership.  Similarly, members of a partnership are deemed to own their proportionate amount of the partnership's property, and are deemed to owe their proportionate amount of amounts owning by a partnership, for purposes of these rules.

The proposals also include changes to the corporate emigration rules that are intended to deter corporate emigration strategies that could otherwise be used as a substitute for transactions addressed by the FA dumping rules.  These rules apply where shares of an emigrating corporation are owned by a CRIC that is controlled by a non-resident Parent and the emigrating corporation is an FA of the CRIC immediately after the emigration.  Where applicable, the paid-up capital that the emigrating corporation would otherwise have is deemed to be nil, resulting in a greater departure tax being payable on emigration.


A separate new rule also allows a CRIC to make an PLI election in respect of other loans or indebtedness owing to the CRIC by a foreign corporation (such as a loan by the CRIC to its foreign Parent or to a foreign sister corporation).  Although such other indebtedness would not have been subject to the FA dumping rules, it could otherwise have been subject to the current "shareholder loan" rule in subsection 15(2) – which, subject to certain exceptions, would deem the principal amount of such indebtedness to be a dividend paid by the CRIC that is subject to Canadian dividend withholding tax.  Where the new election is made, subsection 15(2) does not apply to the particular indebtedness.  Similar to the election for amounts owing by an FA, amounts owing by other non-resident corporations in respect of which this election is made will then be subject to the new interest imputation rule.  The new election applies to amounts that became owing to a CRIC after March 28, 2012 by a non-resident Parent or a non-arm's length non-resident corporation.


One of the key developments in the 2012 Budget was the tightening up of the thin capitalization regime.  Generally, the thin capitalization rules deny the deduction of interest paid by Canadian-resident corporations to specified non-residents to the extent that a stipulated debt-to-equity ratio is exceeded in a year.  More specifically, the ratio is the corporation's "outstanding debts to specified non-residents" (measured on the basis of the highest amount of such debts in each month of the relevant taxation year) to the total of (a) the retained earnings of the corporation at the beginning of the year (measured on an unconsolidated basis), (b) the corporation's contributed surplus for the year, to the extent contributed by specified non-resident shareholders (measured as the average for the year of contributed surplus for each month of the year) and (c) the corporation's paid-up capital for the year in relation to stock owned by specified non-resident shareholders (measured as the average for the year of the paid-up capital of the corporation at the beginning of each month).

Debt-to-equity ratio

The headline change to the thin capitalization rules in the 2012 Budget was to change the debt-to-equity ratio from 2:1 to 1.5:1, applicable to taxation years beginning after 2012.  The Proposals are entirely consistent with the 2012 Budget in this respect.  (Note also the change to the contributed surplus calculation, discussed under "Revised Foreign Affiliate Dumping Regime" above.)


The 2012 Budget also proposed changes that would take into account debt owed by partnerships.  Under these proposals, a corporation resident in Canada is to be allocated its specified proportion of the debts owed by the partnership in which the corporation is directly or indirectly a member for purposes of determining whether the corporation has exceeded the debt-to-equity ratio.  In addition, where partnership debts contribute to an excess of the debt-to-equity ratio by a Canadian corporate partner, the "excess interest deduction" of the partnership is added to the income of the relevant Canadian corporate partner.  The source of the income inclusion is determined by reference to the source against which the interest is deductible at the partner level. The Proposals implement these partnership rules, applicable to taxation years beginning after March 28, 2012.

Generally, proposed subsection 18(7), which applies only for purposes of the thin capitalization regime, deems each member of a partnership (a) to owe the member's specified proportion of the partner's debts and obligations to pay an amount (the debt amount), (b) to owe the debt amount to the person to whom the partnership owes the debt or other obligation to pay an amount and (c) to have paid interest on the debt amount that is deductible in computing the member's income to the extent that an amount in respect of interest paid or payable on the debt amount by the partnership is deductible in computing the partnership's income.  A member's specified proportion is its proportionate share of income of the partnership and is measured by reference to the last fiscal period, if any, of the partnership ending before the end of the taxation year of the member and at a time when the partner is a member of the partnership.  If there is no such specified proportion (e.g., if a member becomes a member of the partnership after the last fiscal period of the partnership) then the specified proportion is the proportion that the fair market value of the member's interest in the partnership at the relevant time is of the fair market value of all interests in the partnership at that time.  There may be some fact patterns (such as situations where a member sells part of its interest in a partnership in a taxation year) where the specified proportion determination yields anomalous results.  The allocation rule applies through tiers of partnerships to allocate debt to the "ultimate members".

Proposed paragraph 12(1)(l.1) contains the income inclusion for a Canadian corporate partner in respect of a debt amount of the partnership where the corporate partner's thin capitalization limit is exceeded.  In general, the amount of the inclusion is equal to a fraction of all of the interest that is deductible by the partnership and paid in, or payable by the partnership in respect of, the relevant taxation year of the Canadian corporate partner on the debt amount included in the Canadian corporate partner's "outstanding debts to specified non-residents".  The fraction is equal to the fraction of interest payable on the Canadian corporate partner's outstanding debts to specified non-residents that is denied by the thin capitalization deduction denial provision in subsection 18(4).  The income inclusion may be reduced to adjust for foreign accrual property income in certain cases.

Recharacterizating Disallowed Interest Expense for Withholding Tax Purposes

The 2012 Budget also proposed a recharacterization of interest which was subject to the thin capitalization rules as dividends.  Proposed subsection 214(16) implements the proposal.  Specifically, for withholding tax purposes, an amount paid or credited as interest by a corporation resident in Canada, or by a partnership of which the corporation is a member, in a taxation year of the corporation to a non-resident person is deemed to have been paid by the corporation as a dividend, and not to have been paid or credited by the corporation or the partnership as interest to the extent that (a) the interest is not deductible by the corporation in the year because of subsection 18(4) or (b) is included in the income of the corporation for the year under paragraph 12(1)(l.1). 

Any such recharacterized interest expense is allocated to each specified non-resident creditor in proportion to the corporation's debt owing in the year to all specified non-residents.  The corporation is then entitled to designate the recharacterized interest expense to the particular interest payments made to any particular specified non-resident in a taxation year.  Interest payable in a taxation year but not yet paid or credited at the end of the year would be deemed to have been paid or credited as a dividend at the end of the taxation year.  The designation is to occur in the corporation's Part I income tax return for the relevant year.  Under proposed subsection 214(17), interest payable pursuant to a legal obligation to pay interest on an amount of interest is excluded from this rule, consistent with paragraph 20(1)(d). 

The ability to designate particular payments as dividends allows the corporation to defer the date at which the obligation to remit withholding tax on dividends arises.   However, the proposed amendments leave open a number of issues relating to withholding tax mechanics.  For example, recharacterized interest paid by a partnership is deemed to be paid by the corporation and not the partnership.  If the partnership has withheld and remitted an amount in respect of interest, is that amount deemed to have been remitted by the corporation so as to reduce the corporation's withholding obligation? 

Proposed subsection 214(17) also contains a new anti-avoidance rule which is intended to prevent the circumvention of the dividend recharacterization rule by a transfer of the debt obligation.  Specifically, for purposes of the dividend recharacterization rule, where a debt or other obligation of a corporation is transferred and subsection 214(6) or (7) deems a non-resident transferor to have received a payment of interest, interest that is payable at the time of transfer on the debt or other obligation is deemed to have been paid by the corporation immediately before that time to the non-resident transferring the debt or other obligation.

As contemplated in the 2012 Budget, the dividend recharacterization rule applies to taxation years ending after March 28, 2012, subject to a transition rule for taxation years including March 29, 2012 which prorates the amount of the recharacterized dividend on the basis of the number of days in the taxation year before (or on) and after March 28, 2012.  As the anti-avoidance rule for debt transfers is new, it is not applicable before August 14, 2012.

Interaction Between Thin Capitalization Deduction Denial and FAPI Inclusion

The 2012 Budget included a proposal to prevent the double taxation of amounts paid or payable by a Canadian corporation as interest but also included in the corporation's income as foreign accrual property income (FAPI). Consistent with this proposal, the Proposals include proposed subsection 18(8), applicable to taxation years ending after March 28, 2012.  Subsection 18(8) provides that a deduction of an amount in respect of interest paid or payable to a controlled foreign affiliate of a corporation resident in Canada will not be denied under the thin capitalization rules to the extent that the corporation includes FAPI in the year or a subsequent year that can reasonably be considered to be in respect of the interest.  As noted above, the FAPI carve-out also appears in connection with the income inclusion for interest paid or payable by partnerships.


The Proposals contain two amendments that address what the 2012 Budget materials described as "tax avoidance through the use of partnerships".

Bump Limitation Rule

Where a taxable Canadian corporation (the parent) amalgamates with a wholly-owned subsidiary or causes such a subsidiary to be wound-up, in certain circumstances, it may be possible to step-up or "bump" the tax cost to the parent of non-depreciable capital property owned by the subsidiary at the time that the parent acquired control of the subsidiary, up to an amount equal to the fair market value of such property at such time (referred to as the "maximum bump").  Non-depreciable capital property includes interests in a partnership held by the subsidiary.  On the other hand, depreciable properties, resources properties, eligible capital property and property held on income account are not eligible for the cost base bump (each, an "ineligible property").

The 2012 Budget materials indicated that transactions were undertaken where ineligible property was transferred to a partnership by a subsidiary prior to the acquisition of control of the subsidiary,  and the tax cost of the partnership interest was subsequently bumped on the winding-up or the amalgamation of the subsidiary.  The Proposals contain amendments to the Act to reduce the maximum bump in the cost of a partnership interest owned by the subsidiary, to the extent that the accrued gain on the partnership interest is attributable to accrued gains on ineligible properties held by the partnership directly or indirectly through other partnerships. 

The bump limitation rule will apply even if the ineligible properties were not acquired by a partnership as part of the same series of transactions as the parent's acquisition of control of the subsidiary.  The Proposals do not restrict the ability to obtain a bump on shares of a corporation to which the subsidiary has transferred ineligible property prior to the acquisition of control.

The Proposals introduce new anti-avoidance rules aimed at preventing the avoidance of the bump limitation rule.  First, the Proposals contain a rule that prevents the amount of the maximum bump in the cost of an interest in a partnership that directly or indirectly through other partnerships holds ineligible property from being increased through either (i) the tax-deferred transfer of property to a partnership held by the subsidiary, or (ii) the tax-deferred transfer of partnership interests to the subsidiary prior to the parent's acquisition of control of the subsidiary.  If any such tax-deferred transfers of property are made as part of the same series of transactions or events as the acquisition of control of the subsidiary, for purposes of determining the maximum bump in the cost of a partnership interest owned by the subsidiary, the fair market value of the transferred property will not be included in determining the fair market value of the partnership interest. 

Second, the Proposals contain a rule that prevents direct or indirect transfers of ineligible property on a tax-deferred basis to a partnership owned by the subsidiary subsequent to the acquisition of control as part of the same series of transactions or events as the acquisition of control. 

These new anti-avoidance rules appear to be aimed at transactions designed to increase the cost of an interest in a partnership that holds ineligible property directly or through other partnerships with a view to increasing the tax cost of ineligible property or an interest in another partnership that holds ineligible property on the winding-up of the partnership.

The Proposals generally will apply to amalgamations that occur, and windings-up that begin, on or after March 29, 2012, subject to a limited grandfathering rule.  In particular, the proposed rule will not apply to an amalgamation that occurs before 2013, or a winding-up of a subsidiary that begins before 2013, if the parent acquired control of the subsidiary before March 29, 2012 (or was obligated to do so as evidenced in writing), provided that the parent had the intention, also evidenced in writing before March 29, 2012, to amalgamate with or wind-up the subsidiary.  However, the new anti-avoidance rule introduced by the Proposals regarding tax-deferred transfers of property prior to the acquisition of control will apply only to dispositions occurring on or after August 14, 2012, subject to a limited grandfathering rule for dispositions occurring before 2013 pursuant to an obligation under a written agreement entered into before August 14, 2012 by parties that deal with each other at arm's length.

Sales of Partnerships to Tax-Exempts or Non-Residents

Subsection 100(1) of the Act provides that where a taxpayer sells a partnership interest to a tax-exempt person and realizes a capital gain, the amount of the taxpayer's taxable capital gain is deemed to be one-half of the amount of the capital gain attributable to accrued gains on non-depreciable capital property plus 100% of the remainder of the capital gain.  This effectively results in a 100% inclusion rate (vs. the ordinary capital gain inclusion rate of 50%) to the extent that the accrued gain on the partnership is attributable to accrued gains on partnership assets, other than non-depreciable capital property (income assets).  The Budget materials indicated that such an inclusion is required since the tax-exempt purchaser could wind-up the partnership without paying any tax on the accrued gain on the income assets.

The Proposals would amend subsection 100(1) of the Act in a number of ways.  First, the subsection is to be expanded so that it also applies where a taxpayer directly or indirectly disposes of a partnership interest to (i) a non-resident person, (ii) a partnership with certain direct or indirect tax-exempt or non-resident members, or (iii) a trust resident in Canada (other than a mutual fund trust) with certain direct or indirect tax-exempt beneficiaries.  Look-through rules will apply to the extent that a partnership interest is disposed of to such a partnership or trust so that subsection 100(1) will apply only to the percentage of the gain attributable to a tax-exempt or non-resident person.  There is a de minimis exception from the application subsection 100(1) if, under the look-through rule, subsection 100(1) would otherwise apply to 10% or less of the gain on the disposition of a partnership interest. 

The 2012 Budget materials indicated that the extension of subsection 100(1) to non-residents is necessary since otherwise an interest in a partnership that holds income assets could be disposed of to a non-resident, and the partnership might be wound-up free of tax either under the Act (e.g., if the partnership did not carry on business in Canada and did not hold taxable Canadian property) or in reliance on one of Canada's tax treaties.   However, an exception is provided for a disposition of a partnership interest to a non-resident person if immediately before and immediately after the acquisition by the non-resident, the partnership uses substantially all of the partnership's property in carrying on business through one or more permanent establishments in Canada. 

Second, the section will be amended to apply where, as part of a transaction or a series of transactions or events, a taxpayer disposes of an interest in a partnership, and that interest is directly or indirectly acquired by one of the persons described above.  This amendment is intended to ensure that the section applies to direct and indirect dispositions of a partnership interest to one of the persons described above.

Finally, the Proposals introduce an anti-avoidance rule that can apply to deem a capital gain to be realized and subject to subsection 100(1) in circumstances where, although there is no direct disposition of a partnership interest,  partnership interests are created or changed in a way that is economically equivalent to a direct disposition of the interest.

The Proposals to amend subsection 100(1) generally will apply to dispositions of an interest in a partnership made by a taxpayer on or after March 29, 2012, other than an arm's-length disposition made before 2013, if the taxpayer was obligated to make the disposition pursuant to a written agreement entered into by the taxpayer before March 29, 2012.  However, the Proposals relating to the new look-through rules and the anti-avoidance rule will come into force on August 14, 2012, with grandfathering for the application of the anti-avoidance rule for certain transactions completed before 2013 pursuant to an arm's length agreement entered into before August 14, 2012.

If you have any questions or require additional analysis on the August 14, 2012 proposals, please contact any member of our  National Tax Department.

Appendix – Finance List of Provisions Included in the August 14, 2012 Proposals

Personal Income Tax

  • Improving Registered Disability Savings Plans (RDSPs) following the review of the RDSP program in 2011.
  • Including an employer's contributions to a group sickness or accident insurance plan in an employee's income to the extent that the contributions are not in respect of wage-loss replacement benefits payable on a periodic basis.
  • Amending the rules applicable to retirement compensation arrangements to prevent certain schemes designed to inappropriately reduce tax liabilities.
  • Amending the rules applicable to Employees Profit Sharing Plans to discourage excessive contributions for employees with a close tie to their employer.

Corporate Income Tax

  • Expanding the eligibility for the accelerated capital cost allowance for clean energy generation equipment to include a broader range of bioenergy equipment.
  • Phasing out the Corporate Mineral Exploration and Development Tax Credit.
  • Phasing out the Atlantic Investment Tax Credit for activities related to the oil & gas and mining sectors.
  • Providing that qualified property for the purposes of the Atlantic Investment Tax Credit will include certain electricity generation equipment and clean energy generation equipment used primarily in an eligible activity.
  • Reducing the general Scientific Research and Experimental Development (SR&ED) investment tax credit rate to 15 per cent from 20 per cent.
  • Reducing the prescribed proxy amount, which taxpayers use to claim SR&ED overhead expenditures, from 65 per cent to 55 per cent of the salaries and wages of employees who are engaged in SR&ED activities.
  • Removing the profit element from arm's length third-party contracts for the purpose of the calculation of SR&ED tax credits.
  • Removing capital from the base of eligible expenditures for the purpose of the calculation of SR&ED tax incentives.
  • Preventing the avoidance of corporate income tax through the use of partnerships to convert income gains into capital gains.

International Taxation

  • Ensuring that transfer pricing secondary adjustments will be treated as dividends for Part XIII withholding tax purposes.
  • Improving the integrity and fairness of the thin capitalization rules by:
  • reducing the debt-to-equity ratio from 2-to-1 to 1.5-to-1;
  • extending the scope of the thin capitalization rules to debts of partnerships of which a Canadian-resident corporation is a member;
  • treating disallowed interest expense under the thin capitalization rules as dividends for Part XIII withholding tax purposes; and
  • preventing double taxation in certain circumstances where a Canadian resident corporation borrows money from its controlled foreign affiliate.
  • Restricting the ability of foreign-based multinational corporations to transfer, or "dump", foreign affiliates into their Canadian subsidiaries, while preserving the ability of these subsidiaries to undertake legitimate expansions of their Canadian businesses.
  • Phasing out the Overseas Employment Tax Credit.1


1 Department of Finance Press Release 2012-089 dated August 14, 2012.

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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Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.