On March 4, 2010 , Budget 2010 proposed important changes to the
non-resident clearance certificate and withholding tax rules in
section 116 of the Income Tax Act . These changes should have
significant benefits for Canada's life sciences sector.
In a nutshell
Budget 2010 announced that non-residents will no longer need to
obtain clearance certificates or pay withholding tax on the sale of
shares in a Canadian corporation (and certain other interests), as
long as the shares do not derive their value principally from real
or immovable property situated in Canada, Canadian resource
property, or timber resource property. This change will be
particularly beneficial to the life sciences sector, which has
lobbied for years to obtain relief. It is widely thought that
foreign investment in Canada has been impeded by the existing
rules, which impose onerous tax and administrative requirements on
The changes announced in Budget 2010 are far-reaching because
they will eliminate altogether the application of section 116
withholding tax and clearance certificate requirements for shares
in private Canadian corporations and certain other interests -
unless the value of the shares is derived principally (more than
50%) from real property, resource property or timber resource
property in Canada (or was so derived at any time within the
previous 60 months). If the proposed changes are passed into law,
Canadian life sciences corporations will no longer be handicapped
by the administrative burden of section 116 that was imposed on
foreign venture capital funds and other non-resident investors.
Foreign investors in private Canadian corporations were
generally protected from Canadian tax on capital gains derived from
their Canadian investments if they resided in a treaty
jurisdiction. However it was necessary for them to obtain a section
116 clearance certificate from the Canada Revenue Agency. Pending
receipt of a clearance certificate, tax had to be withheld. In
2009, changes were made to relax the requirements, but the changes
didn't go far enough, so the need to withhold and obtain a
clearance certificate remained a practical reality.
For foreign venture capital funds, many of whom are structured
as limited partnerships or LLCs, the compliance burden was a
serious bone of contention. The compliance burden was often cited
by foreign VCs as a sufficient reason to look elsewhere for
investment opportunities. The problem was not limited to the
Canadian life sciences sector, but efforts by life sciences
companies to raise funding from foreign, especially US, venture
capital funds were especially hampered by the tax requirements.
As an unexpected bonus, Budget 2010 also provides tax relief for
investors who reside in non-treaty jurisdictions. By excluding
certain private Canadian corporations altogether from the
definition of "taxable Canadian property", capital gains
on such investments will no longer taxable in Canada in the hands
of any foreign investor, even an investor who has no treaty
Many life sciences companies in Canada have faced severe cash
crunches since the financial crisis began in earnest in 2008. The
improvement to the investment environment which should result from
the change to section 116 is not a comprehensive solution to the
funding crisis life sciences companies face, but it will
significantly enhance their ability to access desparately needed
capital from foreign investors.
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