Canada: Cross-Border Securities Lending — Still Problematic

Article by Chris Van Loan, Blake, Cassels & Graydon LLP

This article was originally published in Blakes Bulletin on Cross-Border Taxation - November 2004

The ability to borrow and lend securities without significant tax consequences is essential to various capital markets activities including repo financings and hedging the obligations created by certain derivative products. U.S.-based securities lenders have traditionally faced difficulties in lending to Canadian-based securities borrowers because of potential withholding tax on payments made as compensation for dividend or interest payments on the borrowed securities. U.S.-based borrowers must be concerned with the application of withholding tax on interest paid on cash collateral and the reluctance of certain Canadian securities lenders to lend Canadian equities because of concerns with respect to the Canadian tax characterization of compensation payments.

A technical amendments bill released earlier this year included a number of proposals designed to address shortcomings in the existing income tax rules governing securities lending. Most significantly, these rules will now apply to units of most income trusts. Although these proposed changes are largely helpful, significant withholding tax and characterization pitfalls continue to exist in the context of cross-border securities lending transactions and will, in fact, likely be even more significant where the borrowed securities are units of income trusts.

Extending the Rules to Arrangements Involving Income Trust Units

Generally, the securities lending rules in the Income Tax Act (Canada) (the Act) deem a person who lends a "qualifying security" under a "securities lending arrangement" not to have disposed of such security for tax purposes. These rules also govern the tax characterization of payments made by a securities borrower to a securities lender as compensation for distributions on the borrowed security.

One of the proposals introduced earlier this year will extend the securities lending rules to qualifying arrangements involving units of mutual fund trusts that are listed on prescribed stock exchanges. This category should encompass the vast majority of income trusts which have become an important component of Canadian capital markets. The extension of the securities lending rules to arrangements involving such trust units applies retroactively to loans of listed mutual fund trusts made after 2001.

Compensation Payments and Withholding Tax

The treatment of compensation payments for purposes of withholding tax is also dealt with in the proposed amendments. This is relevant to the compensation payments made by a Canadian resident securities borrower to a U.S. securities lender. Generally, the proposals will allow a compensation payment in respect of a security distribution on a qualified trust unit to retain the character and composition of the underlying payment and to be deemed to have been paid directly by the trust to the securities lender. This characterization would also be relevant for the new taxes applicable to certain payments made by qualifying mutual fund trusts to non-resident beneficiaries discussed below. Unlike the existing provisions governing compensation payments relating to borrowed equity or debt securities, there is no requirement that the securities lending arrangement be 95% collateralized with cash or government debt obligations in order to obtain such deeming treatment.

Characterization of Compensation Payments

A key issue that had to be addressed in the context of securities lending transactions involving trust units concerned the characterization of compensation payments received by a securities lender. Under existing rules, qualifying compensation payments relating to dividends paid on a share of a Canadian corporation are deemed to be dividends for tax purposes, ensuring that a Canadian-resident securities lender continues to be entitled to preferential tax treatment for qualifying dividend compensation payments. In order to qualify for this deeming treatment, the securities borrower generally must be resident in Canada or a non-resident who paid the amount in the course of carrying on business through a permanent establishment in Canada. Because compensation payments made by a U.S. securities lender would generally not qualify for such deeming treatment, Canadian entities are reluctant to lend dividend-paying Canadian equities to U.S. borrowers unless the Canadian entity is a tax exempt entity, such as a pension fund, that is indifferent to the tax character of the compensation payment.

The proposed amendments include an extension of such deeming treatment to compensation payments made or received in respect of qualified trust unit distributions. Income trusts make distributions to beneficiaries of amounts representing capital gains realized by the trust or returns of capital in addition to dividends received by the trust from Canadian corporations. This array of trust distributions required broader deeming treatment for compensation payments where the borrowed security was a trust unit as opposed to a share of a Canadian corporation. Under the proposed amendments, qualifying compensation payments relating to trust distributions will take on the character of the "underlying payment". Unfortunately, consistent with the existing rules governing the character of payments made to compensate for Canadian dividends, such deeming treatment will generally not be available where the securities borrower making the payment is not resident in Canada or making the payment in the course of carrying on business through a permanent establishment in Canada.

The Budget Proposals

In an unrelated development, the March 23, 2004 federal budget (the Budget) included two proposals that would be relevant to transactions where income trust units have been borrowed from a non-resident. The first of these proposals imposes a 25% withholding tax on capital gains distributions made by a mutual fund trust to non-resident holders to the extent that such capital gains arise from the disposition of taxable Canadian property after March 22, 2004.

In addition, the Budget also introduced a new 15% tax applicable to otherwise tax-free distributions made to non-residents by certain listed mutual fund trusts where, at any time after 2004, the value of the units of the trust is primarily attributable to real property in Canada, Canadian resource property or timber resource property. A Canadian resident who has borrowed income trust units from a non-resident will have to keep these new taxes in mind as the rules may require withholding from compensation payments to be made by the securities borrower.

Although the proposed amendments to the securities lending rules contained in the Act make it possible to borrow and lend income trust units without facing significant tax disadvantages, one should not expect that there will be a great increase in the amount of cross-border securities lending arrangements. There are still significant drawbacks to Canadian securities lenders who require compensation payments to retain the tax character of the underlying payments. Furthermore, a Canadian-resident borrower of qualifying trust units will have to keep the new taxes proposed in the Budget in mind when making compensation payments to a non-resident securities lender.

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.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Events from this Firm
27 Oct 2016, Seminar, Toronto, Canada

Please join members of the Blakes Commercial Real Estate group as they discuss five key provisions of a commercial real estate purchase agreement that are often the subject of much negotiation but are sometimes misunderstood.

1 Nov 2016, Seminar, Toronto, Canada

What is the emotional culture of your organization?

Every organization and workplace has an emotional culture that can have an impact on everything from employee performance to customer or client satisfaction.

3 Nov 2016, Seminar, Toronto, Canada

Join leading lawyers from the Blakes Pensions, Benefits & Executive Compensation group as they discuss recent updates and legal developments in pension and employee benefits law as well as strategies to identify and minimize common risks.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
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).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

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.