Copyright 2008, Blake, Cassels & Graydon LLP
Originally published in Blakes Bulletin on Tax, September 2008
On July 15, 2008, the Federal Court of Canada released its decision in the case of FMC Technologies Company v. Minister of National Revenue. The decision concerned the application of the withholding requirement under section 105 of the Income Tax Regulations (Canada) (Regulation 105), which requires that every person paying to a non-resident person a fee, commission or other amount in respect of services rendered in Canada, deduct or withhold 15% of such payment. The decision is of interest because it confirmed that Regulation 105 withholding will be required in situations where payments for services performed in Canada are made to or for the benefit of a non-resident, even where a Canadian resident service provider has been sub-contracted to provide such services on behalf of the non-resident. The case also illustrates the difficulties associated with challenging the obligation to withhold in these circumstances and the importance of regard to limitation periods when a non-resident is seeking a refund for an overpayment of Canadian tax.
Facts Of The Case
FMC Technologies Company (FMC) is a Nova Scotia company that, throughout the 1999-2002 taxation years, was a wholly-owned subsidiary of a non-resident Swiss company, FMC International A.G. (FMCI). In 1997, FMC, together with a sister company and a number of other joint venturers entered into an agreement with a consortium of companies seeking to develop the petroleum resources in the Terra Nova oil fields (the Agreement). Pursuant to the Agreement, FMC contracted to provide certain project management services with respect to the Terra Nova project. Petro-Canada, a member of the consortium, was designated as the operator of the project and was to act as agent for the other owners in relation to the project. The Agreement contained a provision which permitted FMC to assign all, but not less than all, of its interests, rights and obligations under the Agreement to a third party. Shortly after signing the Agreement, in accordance with this provision and with the consent of Petro-Canada, FMC assigned all of its rights and obligations under the Agreement to FMCI.
However, because FMC had the capacity to perform the in-Canada services whereas FMCI could only provide the offshore services, FMCI and FMC entered into a subcontract arrangement (the Subcontract) for the in-Canada portion of the services. Pursuant to the terms of the Subcontract, FMC would provide the in-Canada services required under the Agreement and would invoice Petro-Canada directly for such services (with the invoiced amounts determined in accordance with a fixed formula which included the pro-rata share of the total fixed profit allocated to FMCI in relation to the in-Canada services under the provisions of the Agreement). As FMCI was not entitled to assign part of its rights and obligations under the terms of the Agreement, FMCI instead assigned a portion of the contractual payments due to it under the Agreement to FMC, with the consent of Petro-Canada (the Assignment Agreement). The assigned payments related to the actual in-Canada portion of the work performed by FMC and, as part of this assignment, FMCI relinquished any claim that it might have had against Petro Canada for the payment of these separately invoiced amounts, subject only to the provision that the payments were actually made to FMC. FMC then went on to provide the in-Canada services in accordance with the terms of the Subcontract between FMC and FMCI and invoiced Petro-Canada approximately C$18.8-million during the 1999-2002 taxation years for these services.
In February 2004, the Canada Revenue Agency (the CRA) issued assessments to Petro Canada in its capacity as operator of the Terra Nova project for the 1999-2002 taxation years for failure to withhold under Regulation 105. The assessments included an amount payable totalling approximately C$2.8-million, or 15% of C$18.8-million invoiced by FMC to Petro-Canada, plus interest and penalties. The CRA took the position that the payments made for the in-Canada services were, in law, made to FMCI, a non-resident company, and, as such, Petro-Canada was obligated to withhold 15% of such payments pursuant to Regulation 105. This was notwithstanding the fact that the in-Canada services were provided by FMC (a Canadian resident company) and that payments for such services were made directly to FMC pursuant to the terms of the Subcontract and the Assignment Agreement.
Petro-Canada filed a Notice of Objection with respect to the assessments. In 2006, the CRA confirmed the assessments and Petro-Canada, choosing not to appeal to the Tax Court of Canada, paid the assessed amounts to the Receiver General. Pursuant to the terms of the Agreement, FMC subsequently indemnified Petro-Canada for the assessed amounts.
As FMC had included the full amount of the payments from Petro-Canada in its income for the 1999-2002 taxation years and paid Canadian income tax thereon, FMC attempted to appeal Petro-Canada's assessment to the Tax Court of Canada but the appeal was quashed on the grounds that FMC was not the taxpayer subject to the assessments at issue and therefore lacked standing. FMCI also sought a refund of the C$2.8-million paid by Petro-Canada and credited to its account on the basis that it was not liable for Canadian income tax as it did not have a permanent establishment in Canada, pursuant to the terms of the Canada-Switzerland Tax Convention. However, this request was refused as it was filed beyond the three-year limitation period set out in subsection 164(1) of the Income Tax Act (Canada) (the Act).
FMC next applied to the Minister of National Revenue (the Minister) under subsections 164(1) and 164(1.1) of the Act for a refund, alleging an overpayment of tax for the 1999 – 2002 taxation years in the amount of the Regulation 105 withholding amount paid by Petro-Canada plus interest and penalties. FMC submitted that the amounts assessed against and paid by Petro Canada should have been paid to the credit of FMC's tax account and not to FMCI's and, because this was not done, FMC had effectively paid tax twice on the same earned income.
The Minister refused FMC's request for a refund again on the grounds that FMCI, was, in law, the payee of the payments from Petro-Canada and, as such, the Regulation 105 withholding amount had been properly assessed and credited to the account of FMCI, the non-resident. FMC subsequently applied to the Federal Court for judicial review of the Minister's decision, arguing that the withheld amount remitted by Petro-Canada should have been credited to its account as, in law, the payments were made for the benefit of FMC.
Mactavish J. dismissed FMC's application for lack of jurisdiction on the grounds that the review of tax assessments falls exclusively within the purview of the Tax Court of Canada, not the Federal Court. While this finding was sufficient to dispose of the application, Mactavish J. proceeded to consider the substantive issue of whether the Minister erred in refusing FMC's request for a refund and concluded that the Minister was correct in its determination that FMC was not the legal payee of the payments made by Petro-Canada and that, therefore, Regulation 105 amounts were properly assessed and credited to the account of FMCI.
In reaching this conclusion, Mactavish J. reasoned that the existence of the Subcontract and Assignment Agreement could not change the fact that Petro-Canada's contractual obligations to pay for the work to be done in Canada and offshore were with FMCI, not FMC. In support of this proposition, she noted the fact that the Agreement specifically prohibited FMCI from assigning any of its rights and obligations to a third party and that, while FMCI was authorized to assign monies due to it under the Agreement, the assignment of such monies did not create any direct contractual rights or obligations as between FMC and Petro-Canada. As such, FMC's only right of recovery in the event of Petro-Canada's failure to pay the invoiced amounts would have been against FMCI, which had reserved the right to sue Petro-Canada in the event of non payment to FMC. In effect, the conclusion was that FMC received payment on behalf of FMCI.
Finally, Mactavish J. emphasized the fact that FMC had not challenged the assessments levied against it for the 1999-2002 taxation years, concluding that, as a result, such assessments were final and conclusive of the amount of tax payable as well as the computation of any refund. She further stated that while it would have been open to FMCI to seek a return of the amounts withheld by Petro-Canada by filing Canadian income tax returns reflecting the monies remitted by Petro-Canada and deducting the amounts paid to FMC, FMCI's failure to do so in a timely manner could not create a right on the part of FMC to recoup any amount that may be owing to FMCI through the Canadian tax refund process.
While it should be noted that Mactavish J.'s analysis with respect to the Regulation 105 withholding issue is obiter, as the case was decided on the jurisdictional issue, the decision does confirm that the Regulation 105 withholding requirement will be applied in situations where a non-resident enters into a contract that provides for services to be rendered in Canada and then subcontracts with a Canadian service provider. In particular, the case confirms that the Canadian service provider must have a direct contractual relationship with the payor of fees in order to avoid the application of Regulation 105 to the fees paid for the services of the Canadian service provider. Moreover, the case is cautionary with respect to the appropriate method for a non resident seeking a refund of amounts remitted to its account under Regulation 105 in these circumstances and the harshness that may result from the disregard of the three-year limitation period provided for in subsection 164(1) of the Act.
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