PLEASE NOTE: THIS INFORMATION WAS ORIGINALLY SUBMITTED BY COOPERS & LYBRAND, CANADA
The Canadian Income Tax Act generally imposes a 25% withholding tax on interest payments made by residents of Canada to non-residents. This domestic withholding tax rate is often reduced and, in some cases, can be eliminated under certain income tax treaties that Canada has with other countries.
However, for qualifying debt obligations, the interest paid is exempt from Canadian withholding tax under domestic law, even if no relevant tax treaty exists. This exemption from non-resident withholding tax is contained in the Income Tax Act and relates to certain arm's-length situations. Generally speaking, for the exception to apply, the following requirements must be satisfied:
(1) the interest must be payable by a corporation resident in Canada to a person with whom that corporation is dealing at arm's-length;
(2) the corporation may not under any circumstances be obliged (under the terms of the obligation or any agreement relating thereto) to pay more than 25% of the principal amount of the obligation within five years from the date of issue of the obligation, except:
i) in the event of a failure or default under the terms of the debt obligation;
ii) if the terms of the obligation or any agreement relating thereto become unlawful or are changed by virtue of legislation or by a court, statutory board or commission; or
iii) if the person exercises a right under the terms of the obligation or any agreement relating thereto to convert the obligation into, or exchange the obligation for, a prescribed security. Generally speaking, a prescribed security for this purpose is a share of the corporation which is not redeemable within five years of the issuance of the debt obligation; and
(3) none of the interest is contingent or dependent upon 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 the debtor corporation.
By meeting the criteria noted above, a savings of withholding tax of up to 25% can be achieved. This would likely have a bearing on the interest rate charged by a non-resident lender and could, therefore, generate savings on the overall cost of borrowing. The elimination of the withholding tax cost also opens up additional capital markets for Canadian companies by removing a possible financial impediment to non-residents loaning funds to Canadian companies.
The information provided herein is for general guidance on matters of interest only. The application and impact of laws, regulations and administrative practices can vary widely, based on the specific facts involved. In addition, laws, regulations and administrative practices are continually being revised. Accordingly, this information is not intended to constitute legal, accounting, tax, investment or other professional advice or service.
While every effort has been made to ensure the information provided herein is accurate and timely, no decision should be made or action taken on the basis of this information without first consulting a Coopers & Lybrand professional. Should you have any questions concerning the information provided herein or require specific advice, please contact your Coopers & Lybrand advisor, or:
David W. Steele
145 King Street West
Toronto, Ontario M5H 1V8
E-mail: Click Contact Link
Click Contact Link
To print this article, all you need is to be registered on Mondaq.com.
Click to Login as an existing user or Register so you can print this article.
Over the past year, we have watched the Canadian dollar drop relative to its U.S. counterpoint impacting Canadian businesses. U.S. goods and services are now more expensive, U.S. sales make a premium and errors when recording foreign exchange transactions can cost you more money.
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).