On March 22, 2016, Canada’s new Liberal Party-run government issued its 2016 Federal Budget (the “Budget”) before Parliament. The Budget includes several international tax proposals, and for the first time, addresses whether the government intends to implement the OECD BEPS Project recommendations.
Aside from treaty dispute resolution mechanisms (BEPS Action 14), the Budget includes measures that would adopt the remaining OECD BEPS Project minimum standards on harmful tax practices (BEPS Action 5), preventing treaty abuse (BEPS Action 6), and country-by-country (CbC) reporting (BEPS Action 13). The Budget also discusses application of the transfer pricing provisions found in the BEPS Action 8 through 10 recommendations. All OECD and G20 member countries have agreed to implement these recommendations into their domestic tax rules and/or tax treaties.
Also, on page 67, the Budget announces that Canada intends to implement the OECD Common Reporting Standard (CRS) for the automatic exchange of financial account information, but does not provide an implementation timeline.
We address each BEPS proposal included in the Budget in turn.
CbC Reporting – BEPS Action 13
On page 46, the Budget states that Canada intends to implement CbC reporting, applying the OECD-recommended monetary threshold (€750 million) for “taxation years that begin after 2015,” with the first CbC reports to be filed with the Canadian tax authorities (CRA) by the end of 2017. The first exchange of Canadian CbC report information would occur by June 2018. Canada will issue draft legislation “in the coming months.”
Instead of adopting a native currency threshold for CbC reporting as several other adopting countries have done (e.g. Australia, China, India, Japan, Mexico, Norway, South Africa, and the U.S.), Canada intends to use the €750 million amount included in the BEPS Action 13 recommendations.
It should be noted that Canada has not signed on to the OECD Multilateral Competent Authority Agreement on the Exchange of CbC Reports (the “MCAA”). Under the MCAA, signatories may exchange CbC reports with other signatories if they have CbC reporting requirements in place and are a party to the OECD Convention on Mutual Administrative Assistance in Tax Matters. Instead, the Budget states that the government intends to enter into agreements with each jurisdiction on the exchange of CbC report information, an approach followed by the U.S. tax authorities to ensure that participating jurisdictions maintain confidentiality.
Because the U.S. has created a partial gap period for 2016 for filing initial CbC reports with the U.S. tax authorities by not accept early voluntary filing of CbC reports before July 1, 2016, Canada may end up being a favorable jurisdiction for U.S. multinationals with operations in the country to file their CbC reports initially in Canada, assuming that the Canadian CbC reporting rules enter into force as of the date of the Budget release (March 22, 2016).
As a side note, on March 22, the OECD released a CbC report XML Schema and corresponding User Guide. With the assistance of the CbC XML Schema, CbC reports would be electronically transmitted between tax authorities of each participating jurisdiction. The CbC XML Schema and User Guide discuss the information required for each data element reported. It also contains guidance on how to make corrections of a data element within a file.
Harmful Tax Practices – BEPS Action 5
Page 49 of the Budget states that the government intends to adopt the spontaneous exchange of tax information minimum standard included in the BEPS Action 5 recommendations, and to begin exchanging tax rulings in 2016 with other participating jurisdictions. By contrast, EU member states intend to exchange tax ruling information with other member states beginning on January 1, 2017, as a result of the December 8, 2015 amendments to EU Directive 2011/16/EU. The amended EU Directive covers automatic exchange of tax rulings and Advance Pricing Agreements (APAs), among other categories of information.
The BEPS Action 5 minimum standard covers the following categories to tax rulings:
- Rulings related to preferential regimes;
- Cross-border unilateral APAs;
- Rulings giving a downward adjustment to profits;
- Permanent Establishment (PE) rulings;
- Conduit rulings; and
- Any other type of ruling agreed to by OECD members in the future.
Canada does not appear to have a Patent Box (or any other incentive) regime that may violate the BEPS Action 5 recommendations.
Preventing Treaty Abuse – BEPS Action 6
Page 48 of the Budget states that Canada already has Limitation on Benefit (LOB) provisions in one of its tax treaties (entered into with the U.S.), and several treaties with limited Principal Purpose Test (PPT) provisions intended to prevent treaty shopping. Canada intends to include similar provisions in future treaty negotiations and may sign the OECD multilateral instrument that it is involved in drafting with other participating countries in December 2016.
For background, the OECD will likely incorporate some or all of the LOB provisions included in the 2016 U.S. Model Income Tax Treaty (the “2016 Treaty”) released by the U.S. Treasury on February 17, 2016. Specifically, the 2016 Treaty includes a modified “derivative benefits” and a new “headquarter company” LOB test. A derivative benefits rule essentially provides that a tested company will be entitled to treaty benefits if a percentage of its shares are owned by persons who would be entitled to such benefits if they had derived the income directly. Meanwhile, the headquarters company test requires a headquarters company to exercise primary management and control functions (and not just supervision and administration) in its residence country with respect to itself and its geographically diverse subsidiaries, in addition to a base erosion test with respect to payments that are deductible.
Transfer Pricing Outcomes Are in Line with Value Creation – BEPS Actions 8-10
Page 47 of the Budget states that while Canada’s transfer pricing rules do not explicitly incorporate the OECD Transfer Pricing Guidelines, Canadian taxpayers, the CRA, and courts use the Guidelines to interpret and apply Canada’s arm’s length principal, found in Section 247 of the Income Tax Act. The guidance from the OECD BEPS Action 8 through 10 recommendations generally aligns with tax practices of the CRA, so the CRA intends to apply them in its current practices. This resembles, but to a lesser extent, the recent announcements by the U.K., Finnish, and Swedish tax authorities that they intend to apply the BEPS Action 8 through 10 recommendations immediately as part of their tax examinations.
The CRA is awaiting further work by the OECD on low value-adding services and “cash boxes,” before deciding how to implement those provisions.
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