Canada: Finance Proposes Amendments To Limit Holding Company - Input Tax Credit Claims ("ITC") And Seeks Consultations On Further Possible Changes

Last Updated: August 14 2018
Article by Jamie M. Wilks

Purpose of the Proposed Amendments

In the February 27, 2018 Budget, the Federal Government announced that it "intends to clarify which expenses for the parent corporation that are in respect of shares or indebtedness of a related commercial operating corporation qualify for input tax credits." While the jurisprudence had taken an expansive view of what expenses may qualify for ITCs, the Canada Revenue Agency (the "CRA") maintained its restrictive administrative policy limiting the expenses eligible for ITC claims. It was anticipated that these pending amendments would harmonize the law with the CRA's longstanding administrative policy. For more information about the existing ITC holding company rules and the Canadian Government's intention to change these rules, refer to our two Tax Bulletins at Accessing Input Tax Credits ("ITCs") of Holding Companies and Partners and Structuring of Partnerships to Reduce GST/HST Costs (released in June 2014) and Budget 2018: Government Proceeds with "Investment Limited Partnership" GST/HST Measures and Holding Corporation Consultations (released in March 2018), respectively.

Comparison of Existing Rules with the Proposed Amendments

Exactly five months after the Budget notifying stakeholders of the Federal Government's intention to modify the ITC holding company rules, the Department of Finance on July 27, 2018 (the "Announcement Date") released proposed amendments (the "Proposed Amendments") to set out the specific conditions under which taxable acquisitions or imports of property or services by holding companies would be eligible for ITC claims prospectively.

Both under the existing rules and Proposed Amendments, in order to be eligible for ITC claims, the holding company must be a "registrant" (either registered, or required to be registered, for the GST/HST) and resident in Canada.

Under the existing rules, where a registrant, resident holding company is "related to" an operating company and the operating company is engaged exclusively in a taxable commercial activity, the holding company can claim ITCs to recover GST/HST payable on its costs or imports (inputs), to the extent that these inputs are acquired or imported by the holding company "in relation to" the shares or indebtedness of the operating company. Not surprisingly, in view of the Supreme Court of Canada jurisprudence that pre-dated the GST/HST legislation, the Courts have interpreted "in relation to" in this context very broadly.

Proposed Amendments to Impose Specific Conditions to Determine ITC Eligibility

In order to counteract this jurisprudence, the Proposed Amendments limit the conditions under which ITCs would be allowed. Effective as of the Announcement Date, the Proposed Amendments specifically define what is meant by "an operating corporation" of a holding company in new ss. 186(0.1) of the ETA. Substantively, this defined term corresponds with the pre-Announcement Date requirements for an operating company.

Under the Proposed Amendments effective as of Announcement Date, for the purpose of determining a holding company's ITC claim, the holding company will generally be considered to have acquired or imported property or services for use in the course of commercial activities and eligible for ITCs, to the extent that the conditions in paragraph (a), (b) or (c) of ss. 186(1) in the Proposed Amendments applies. These conditions for ITC eligibility in paragraphs (a), (b) and (c) are entirely new and restrict the availability of ITC claims.

Paragraph (a) is satisfied if the holding company acquires or imports the property or service for the purpose of either:

  1. the holding company disposing of, acquiring or holding the shares, or indebtedness, of the particular "operating corporation"; or
  2. the particular "operating corporation" redeeming, issuing, converting or otherwise modifying shares or indebtedness of the operating corporation.

Paragraph (b) is satisfied if all of the following conditions are satisfied:

  1. the holding company acquires or imports the property or services for the purpose of issuing or selling shares or indebtedness of the holding corporation,
  2. the holding company transfers the proceeds from the issuance or sale in (i) above to the operating corporation in exchange for the shares or indebtedness of the operating corporation, and
  3. these transferred proceeds are for use by the operating corporation exclusively in the course of its commercial activities.

To illustrate how paragraph (b) operates in practice, the Department of Finance provided the following example in its Explanatory Notes for the Proposed Amendments. A holding company generates $1,000,000 of proceeds from the issuance of bonds. The holding company acquires legal services for the purpose of issuing these bonds. Of the $1,000,000 of proceeds raised from its bond issuance, the holding company distributes $800,000 of the proceeds to an operating corporation of the holding company, of which $750,000 is used by the operating corporation to purchase equipment used exclusively in its commercial activities, and the balance of $50,000 is invested in money market securities. In consideration for the $800,000 payment to the operating corporation, the holding company acquires shares of the operating corporation.

Under the Proposed Amendments, the holding company would be deemed to have acquired 75% of the legal services for use in the holding company's commercial activities. By virtue of subparagraph (b)(ii), the potential ITC pool is limited to 80% of the legal fees, as only $800,000 of the $1,000,000 (80%) of the proceeds are transferred and made available to the operating corporation in exchange for common shares of the operating corporation. As $50,000 is invested in money market securities (exempt financial services) and exempt supplies are generally carved out from commercial activities, the ITC pool is further limited by another 5% ($50,000/$1,000,000) to 75% of the legal fees. Only 75% of the GST/HST payable on the legal fees relating to the bond issuance would be recoverable by ITC claims.

Had the existing rules applied, as interpreted by the Courts, at least 80% of the GST/HST payable on the legal fees would have been recoverable by ITC claims, as at least $800,000 of the $1,000,000 proceeds raised by the bond issuance are "in relation to" the shares of the operating corporation. That is a sensible result too, since for the purpose of determining the operating corporation's own ITC claims, taxable inputs acquired by the operating corporation for use in its exempt financial services (investing in money market securities) "that relate to" its commercial activities would normally be treated as part of its own commercial activities and eligible for ITC claims pursuant to ss. 185(1) of the ETA.

On the positive side, the Proposed Amendments in paragraph (b) are more liberal than the CRA's existing administrative policy. In one example in the published policy, a holding company issues shares of its own in order to purchase a further 15% of the shares of the operating corporation. The holding company pays GST/HST on the legal and accounting services acquired to issue the shares. As the legal and accounting services are acquired by the holding company to issue its own shares (the most direct or first order purpose), they are not for consumption or use "in relation to" the shares of the operating company (the secondary or second order purpose). Accordingly, the CRA opines that no ITCs should be allowed to recover the GST/HST payable on the professional fees.1 In stark contrast, the Courts have said that the phrase "in relation to" should be interpreted expansively, and the shares of the operating corporation need not be the direct purpose of the inputs acquired, but can be more remotely or indirectly connected to the inputs (such as a secondary purpose).

Under paragraph (c), provided that all or substantially all of the holding company's property is shares or indebtedness of operating corporations, ITCs are available for taxable inputs acquired or imported for the purpose of carrying on an activity of the holding company, subject to the listed exclusions in subparagraphs (c)(i) and (ii). The first exception in subparagraph (c)(i) is for an activity that is primarily in respect of shares or indebtedness of a person that is neither the holding company nor one of its operating corporations. The second exception in subparagraph (c)(ii) is for an activity engaged in the course of making an exempt supply by the holding company, unless it is an exempt financial service that is listed in any of clauses (c)(ii)(A) to (E).

Clarifying Amendments

Certain of the Proposed Amendments take effect prior to the Announcement Date. Among them, certain Proposed Amendments clarify that property of an operating corporation could be manufactured or produced (not only acquired or imported) for consumption, use or supply exclusively in the course of the corporation's commercial activities. Effective as of Announcement Date, these amendments are incorporated into the definition of an "operating corporation" in ss. 186(0.1).

Increased Complexity and Tracking of Inputs

Once again, where the jurisprudence has gone further in allowing tax relief than what the Federal Government believes is appropriate or intended, the Federal Government introduces amendments to override the jurisprudence (at least fortunately in this case not retroactively). The amendments are inevitably detailed and complex. In addition to being more restrictive than the existing rules, the conditions for ITC eligibility imposed under the Proposed Amendments add layers of complexity that introduce onerous obligations to trace how taxable inputs are used.

Consultations

On July 27, 2018, along with the Proposed Amendments, the Government released a consultation paper. As announced in the 2018 Federal Budget, the Government is considering making the ITC holding company rules even more restrictive. The consultation paper discusses the Government's concern and what is under consideration to address this concern.

Currently, under the existing rules and the Proposed Amendments, it is sufficient that the holding company is "related to" the operating corporation. That test could be satisfied, for example, where the holding company owns 51% of the shares of the operating corporation and controls the operating corporation. The Federal Government is concerned that the threshold for the degree of integration between the holding company and operating corporation under the "related to" test is too low. The Federal Government is seeking consultations on whether to raise the relationship threshold to closely-related, like for certain other tax relieving provisions (generally, there is at least 90% common ownership among the corporations).

Conversely, the Government is also seeking consultation on liberalizing the ITC rules, so as not to discriminate against other investment vehicles, such as partnerships and trusts. The Government has concerns with whether the degree of ownership or control of a partnership or a trust may be as readily determined as with corporations. In this regard, the "Government is interested in hearing stakeholders' views regarding expanding the holding corporation rule to include partnerships and trusts, given the issues described above for determining a partnership's or trust's proxy for voting rights."

By September 28, 2018, parties may submit comments in writing to the Department of Finance on either or both of the above topics under consideration.

Footnote

[1] Example 3, page 6 of the CRA's GST/HST Memorandum 8.6 – Input Tax Credits for Holding Corporations and Corporate Takeovers.

The foregoing provides only an overview and does not constitute legal advice. Readers are cautioned against making any decisions based on this material alone. Rather, specific legal advice should be obtained.

© McMillan LLP 2018

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.

Authors
Jamie M. Wilks
Similar Articles
Relevancy Powered by MondaqAI
Nelligan O'Brien Payne LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Nelligan O'Brien Payne LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
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
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
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

Mondaq.com (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 www.mondaq.com

To Use Mondaq.com 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.

Disclaimer

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.

General

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