Ontario and British Columbia have announced that they will be
following the lead of Newfoundland and Labrador, Nova Scotia and
New Brunswick by harmonizing their provincial sales taxes (each a
"PST") with the federal Goods and Services Tax
("GST"), effective as of July 1, 2010, to form a single
Harmonized Sales Tax ("HST"). The HST will combine a
provincial sales tax component of 8% with the GST of 5% for a
combined rate of 13% in Ontario, and a provincial sales tax
component of 7% for a combined rate of 12% in British
Columbia.
HST and investment funds
While the HST regime promises to simplify the sales tax
collection process by implementing a uniform tax base and tax
administration across federal and participating provincial
governments, it will also result in a significant increase in taxes
with respect to certain goods and services to which PST does not
currently apply. For example, professional money management
services provided to investment funds - which are currently subject
to GST but not PST - will be subject, once the new legislation
takes effect, to the higher rate of HST.
Investment funds (and thus, indirectly, mutual fund investors)
currently pay GST at the rate of 5% on the management fees that
they are charged by fund managers. The implementation of the HST in
Ontario and British Columbia will mean that those fees will
henceforth be subject to the higher HST rate, which will result in
lower returns to investors. In Ontario, many industry professionals
have noted that this tax will be hidden from investors because the
Ontario Securities Commission obliges fund managers to report a
single "management expense ratio" (MER) which includes
the management fee (and all applicable taxes) and certain operating
expenses of the investment funds.
Investment fund managers operating in Ontario or British Columbia
will generally be required to charge HST to Canadian investment
funds with respect to management services performed in Ontario or
B.C. In those cases, the supply of management services will be
subject to HST where (i) 90% or more of the services are performed
by the investment fund manager in Ontario or B.C., as the case may
be, (ii) the place of negotiation of the management services is
located in Ontario or B.C. and a significant part (i.e. at least
10% according to the CRA) of the services are performed in that
province, or (iii) the services are provided primarily (over 50%)
in one or more of the HST provinces. However, a rebate for some or
all of the HST (based on use in non-participating provinces) may be
available on services consumed primarily outside the HST zone or
for management services rendered to mutual funds where their
beneficiaries are resident outside the HST zone. Considering that
both the rebate and place-of-supply mechanisms are complicated, you
are urged to consult a tax advisor to determine the specific tax
consequences applicable to your specific situation.
In addition, it is noteworthy that investment funds that are
considered to be residents of Ontario or B.C. could be subject to a
self-assessment rule when they acquire services for consumption,
use or supply primarily in an HST participating province (including
Ontario and B.C.). Under the self-assessment rule, the HST is
payable to the extent the services are used in participating
provinces. A mutual fund company that is resident of Canada will be
considered a resident of Ontario or B.C. for HST purposes if (i) it
is incorporated or continued under the laws of Ontario or B.C.;
(ii) its "mind and management" is situated in Ontario or
B.C., or (iii) it has a permanent establishment in Ontario or B.C.
(if it has a permanent establishment). Generally, a mutual fund
trust that is a resident of Canada should be considered a resident
of Ontario or B.C. for HST purposes where (i) the trustee or other
legal representative who manages the trust or controls the trust
assets resides in Ontario or B.C. (in this respect, it is worth
noting that a recent case suggested that the central management and
control test should also apply in determining the residence of
trusts1) or (ii) the mutual fund trust has a permanent
establishment in Ontario or B.C. (where applicable).
To potentially avoid the application of the self-assessment rule,
mutual fund companies would have to move their permanent
establishment and "central management and control" from
Ontario or B.C. to another province (continuation under the laws of
provinces other than Ontario or B.C. might also be required) and
close their permanent establishment in Ontario or B.C. - a process
that would be quite cumbersome. For mutual fund trusts, a change of
trustees might be envisaged as well as the move of their permanent
establishment, if any, outside Ontario or B.C. However, this will
not help the fund in and of itself if the fund's managers are
located in Ontario or B.C. and have to charge the HST on their
services if the rebate mentioned above is not available. As the tax
authorities might in certain circumstances regard such arrangements
as unacceptable tax avoidance, investment fund managers are urged
to consult a tax advisor to determine the specific tax consequences
to them of the new HST regime and to review the options that may be
open to them.
GST/HST on portfolio management fees - recent developments
In April 2009, the Federal Court of Appeal released its
much-anticipated decision in The Queen v. The Canadian Medical
Protective Association (CMPA).2 This decision
potentially impacts the application of the GST (and the HST) on
portfolio management fees and may affect investment management
firms as well as their clients. In CMPA, the Federal Court of
Appeal found that discretionary investment management services
rendered through the management of either segregated or pooled
funds are exempt "financial services" that should not be
subject to GST or HST. The decision runs counter to the historical
position taken by the federal tax authorities to the effect that
investment management services are merely the provision of advice
that is taxable for GST and HST purposes. In particular, the Court
ruled that discretionary investment management services are
directed at the "transfer of ownership or repayment of a
financial instrument" and to the "arranging for"
such services within the meaning of paragraphs 123(1)(d) and (l) of
the term "financial service" in the Excise Tax
Act (Canada) (the "Act"), and are therefore exempt
from GST and HST under the Act. As a result, the Court concluded
that such services do not constitute the "service of providing
advice" under paragraph 123(1)(p) that is specifically
excluded from the definition of "financial service" and
are therefore subject to GST and HST.
Although the Minister did not appeal the Federal Court of
Appeal's decision, the tax authorities have recently stated
that they disagree with it and are disregarding the case - in other
words, they are still of the view that such services currently
remain fully taxable. As a result, it would be unwise for
investment management firms to stop charging GST/HST on portfolio
management fees at this time. Following the CMPA decision, many
clients of investment management firms that receive discretionary
investment management services and could not or did not claim an
input tax credit were advised to apply for a rebate of GST or HST
paid on these fees. Considering the tax authorities' position,
it is unlikely that they will be granting rebates on this basis -
and almost certainly not anytime soon.
Footnotes
1 Garron Family Trust v. The Queen, 2009 TCC 450.
2 2009 FCA 115.
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.