On August 14, 2012, the Department of Finance released draft
legislation that includes a revised version of the foreign
affiliate dumping proposals tabled with the March 29 Federal
Budget. The stated objective of the proposals is to curtail the
inappropriate erosion of the Canadian tax base but the rules are
much broader than that. The revised proposals have potentially
adverse income tax consequences where a corporation resident in
Canada (CRIC) that is, or becomes, controlled by a non-resident
corporation (a parent) makes an investment in a non-resident
corporation (a subject corporation) that is, or becomes, a foreign
affiliate of the CRIC. Many submissions have been made to the
Department of Finance raising concerns with the proposals and a
further draft of the legislation is expected. However, it remains
to be seen whether these concerns will be fully addressed.
The adverse income tax consequences can include the deemed
payment of a dividend by the CRIC to the parent equal to the amount
of the investment. The dividend is subject to dividend withholding
tax at 25 percent (or such lower rate as is available under an
applicable tax treaty). Other possible tax consequences include the
reduction of the paidup capital of the shares in the CRIC which may
have an impact on repatriation strategies and meeting thin
capitalization debt limits.
This summary is not a technical review of the proposals but an
aid in identifying the circumstances in which the proposals might
apply. Because of the breadth of the rules, a tax professional
should be consulted before a foreign controlled CRIC does anything
that might be viewed as an investment in a subject corporation.
Investment in a subject corporation by a CRIC is very broadly
defined and can potentially encompass a wide range of transactions
or events, including:
an acquisition of shares in a non-resident corporation from
treasury or from another person,
a contribution of capital to a non-resident corporation,
the conferral of a benefit on a non-resident corporation such
as the provision of services to the non-resident corporation for
below market consideration or the forgiveness of an existing debt
of the non-resident corporation,
the creation or acquisition of a debt obligation of a
the extension of the term of an existing debt owed by, or the
extension of the redemption, acquisition or cancellation date of
existing shares held in, a nonresident corporation, and
the acquisition of an option, right or interest in any of the
Importantly, an investment in a subject corporation can also
include an acquisition by a foreign controlled CRIC of shares in
another Canadian resident corporation if that other corporation
derives more than 50 percent of its value from one or more
non-resident corporations that are foreign affiliates.
While there are exceptions and qualifications to the above
situations, the rules are tricky and some of the exceptions require
a joint election and have their own tax implications, such as the
imputation of interest income to the CRIC. The grandfathering is
limited and generally only excuses arm's length transactions
completed before 2013 in accordance with a written agreement
entered into before March 29, 2012. Taxpayers can elect to have the
Budget version of the proposals apply to transactions that occur
after March 28, 2012, and before 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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