Canada: Back-To-Back Loans And The 5/25 Withholding Tax Exemption

Last Updated: January 27 2005

Article by Kathleen Penny

© 2004 Blake, Cassels & Graydon LLP

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

The Canada Revenue Agency (CRA) has recently issued an administrative income tax ruling which expands the possible application of the "5/25" Canadian withholding tax exemption for interest paid by Canadian corporate borrowers, by blessing for the second time a back-to-back loan arrangement. The ruling confirms that the general anti-avoidance rule (GAAR) would not be applied to deny the exemption in the circumstances presented.

Withholding Tax Exemption for Corporate Debt

The 5/25 withholding tax exemption generally applies when a Canadian resident corporation becomes indebted to a non-resident with which it deals at arm’s length, provided that the debtor cannot under any circumstances be obligated to repay more than 25% of the principal amount in the first five years after the date the debt is issued. An exception to the 25% limitation is made if there is an event of failure or default or illegality, in which case there can be an accelerated obligation to repay the debt in full.

The exemption has also been extended to debtors that are non-resident corporations with Canadian businesses or assets, provided that under Canadian tax law they are deemed to be resident for Canadian withholding tax purposes when they pay interest. Also, the exemption has been extended to partnerships, provided that each and every partner is a Canadian resident corporation or a non-resident corporation deemed to be Canadian resident for withholding tax purposes.

Non-Corporate Borrowers

The exemption is not available if the Canadian debtor is a Canadian resident individual, a Canadian resident trust, or a partnership with one or more non-corporate partners. As a result, the exemption has not been available in a number of common situations in which Canadian entities may have wished to borrow from a non-resident of Canada. Because individuals do not qualify, the exemption is not available for personal mortgage loans. The exemption is not available for a loan to a trust, such as a Canadian REIT or securitization vehicle, even if the trust has a corporate trustee. This is because a trust is deemed to be an individual for Canadian tax purposes. Many partnerships used for Canadian real estate investment and other activities have individuals as partners, so the withholding tax exemption is not available for partnership debt held by a non-resident.

Back-to-Back Loans

The CRA had in the past frowned upon suggestions that the withholding tax exemption might be available where a Canadian corporation borrows from a non-resident on terms that would technically qualify for the exemption, and then on-lends to an entity that would not qualify to access the withholding tax exemption. If the Canadian corporation were properly characterised as an agent or nominee for the ultimate borrower, this would result in a failure to qualify for the exemption. Even if the Canadian corporation acted as principal to borrow and on-lend, the CRA’s position was that GAAR may apply to deny the exemption. This depended on the facts, and in particular whether the primary purpose for the loan to the Canadian corporation was to obtain the withholding tax exemption. If this were the primary purpose, there would be an "avoidance transaction". In addition, the position was that the loan to the Canadian corporation may be considered a misuse or abuse of the withholding tax exemption, and in that case GAAR would apply to deny the exemption.

CRA’s Latest Ruling

The recently released tax ruling appears to be the second publicly-disclosed ruling granted by the CRA which confirms that GAAR would not be applied to deny the withholding tax exemption in the case of back-to-back loans. However, it is the first ruling granted where the corporation that borrowed from a foreign lender, and loaned funds to an ultimate borrower that did not itself qualify for the exemption, was a special purpose vehicle newly formed to participate in the back-to-back loan transactions.

A favourable GAAR ruling was granted. Key to the finding that GAAR did not apply were several factual statements made by the taxpayer in the ruling request, regarding the reasons for structuring the transaction in this manner.

One of the key representations made was that debt could not be raised for the securitization trust from Canadian financial institutions on terms and conditions at least as favourable as those under the proposed loan from the foreign lender. It was also not an alternative for the Canadian corporation sponsoring the securitization trust to borrow from the foreign lender, because the lender would consider the credit risk of the entire business of the corporation, unlike the securitization trust where credit risk was isolated. (Query whether the CRA was viewing the transactions as a form of indirect financing for this Canadian corporation, rather than financing for the securitization trust.) Lastly, the taxpayer stated that there would be significant costs and delays associated with unwinding the securitization transactions currently being carried out with the trust, and implementing a new securitization platform.

It will be interesting to see whether the CRA will extend the same treatment to other types of trusts (including REITs), partnerships and the like. Presumably it will always be the case that the terms and conditions of the loan from the foreign lender would be more favourable than would be obtained from Canadian financial institutions (otherwise there would be no commercial reason to favour the foreign lender). It will presumably also always be the case that there are valid existing reasons for the non-corporate structure of the borrower, and likely also adverse consequences of restructuring into a corporate structure. Nevertheless, a GAAR ruling is always dependent on all of the facts and circumstances.

The Canadian case law regarding the interpretation of GAAR, including the interpretation of the definition of "avoidance transaction" and what constitutes a "misuse" or "abuse" of the Canadian Income Tax Act is still developing. We are still awaiting the first case on GAAR to be heard by the Supreme Court of Canada. The approach of the courts in the future will presumably affect both the rulings practices of the CRA and the comfort level of Canadian borrowers in carrying out withholding tax planning of the type discussed above.

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
26 Oct 2018, Other, Vancouver, Canada

Cybersecurity, including data privacy and security obligations, has become a critical chapter in every company’s risk management playbook.

30 Oct 2018, Other, Toronto, Canada

Please join us for discussions on recent updates and legal developments in pension and employee benefits as well as employment law issues.

12 Nov 2018, Other, Toronto, Canada

Stories aren’t falsehoods. Stories are the root of all effective human communications: they motivate, animate and clarify. If you aren’t telling stories, you probably aren’t getting your point across.

In association with
Related Topics
Related Articles
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
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of

To Use you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

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 or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq 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 of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions