Doing Business in Canada

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Canada is a premier location for investment in business.  Canada not only has a wealth of natural resources but also has a stable political climate, a well-educated workforce, a sound financial system and a first-rate infrastructure.  Canada is known for supporting innovation in a wide range of sectors via generous research and development incentives.  Low corporate tax rates as well as easy access to major US markets make Canada a domicile of choice for businesses looking to gain a foothold in North America.

There are a number of issues which you must consider when contemplating doing business in Canada. This document addresses some of the common questions and provides practical information concerning the primary issues which should be considered.  

What type of Business Structure should we use?

There are advantages and disadvantages to each of the available structures.  There is no one correct answer as the most advantageous structure will be dependent on each enterprise’s specific business circumstances and needs. A brief overview of the main structures is below.  The considerations do not include the application of treaty benefits that may be in effect due to a tax convention between Canada and the applicable non-resident jurisdiction:

Branch:

  • Not a separate legal entity but an extension of the overseas parent company.
  • No limited liability in respect of the Canadian operations.
  • Payments made to a Canadian branch of a foreign entity in respect of services provided in Canada are subject to federal withholding tax.
  • If the Branch has a Permanent Establishment (“PE”) in Canada then profits from this PE are liable for Canadian federal corporate income tax and Branch tax as well as provincial corporate income tax, any withholdings remitted on the Branch’s behalf can be credited against federal taxes payable.
  • Federal Goods and Services Tax as well as Provincial Sales Tax (as applicable) should be considered in all cases.

 Corporation:

  • Provides limited liability to Canadian operations.
  • Corporate income tax to be paid on company profits.
  • T2, Corporation Income Tax Return as well as the applicable Provincial returns must be filed within 6 months of the year end, taxes are payable within two months each year and monthly tax instalments are due federally and provincially.
  • Withholding Tax to be paid on any distributions to non-resident shareholders.
  • Thin capitalization rules apply to debt / equity financing by non-resident shareholders.
  • Federal Goods and Services Tax as well as Provincial Sales Tax (as applicable) should be considered in all cases.

Limited Partnership:

  • Members (partners) have limited liability, with the exception of the general partner (normally a corporation with no other assets).
  • Payments made to a non-resident partnership in respect of services provided in Canada are subject to withholding tax.
  • Taxable income is allocated to the members of the partnership who then pay Canadian income tax on these profits.  Non-resident members may be entitled to foreign tax credits in their home country as a result of the payment of Canadian Income tax.
  • If the partnership has a Permanent Establishment in Canada then profits from this PE are liable for Canadian federal income tax as well as provincial income tax, amounts remitted in respect of withholding taxes are also allocated and credited against tax otherwise payable, corporate members are also subject to the Branch tax as noted previously.
  • Federal Goods and Services Tax as well as Provincial Sales Tax (as applicable) should be considered in all cases.

How much Corporation Tax will the business pay?

Current combined federal and provincial Corporation Tax rates applicable to active business income in Canada by province are:

 

2016 Combined Federal and Provincial Tax rates

%

Newfoundland and Labrador

30.0

Prince Edward Island

31

Nova Scotia

31

New Brunswick

27

Quebec

26.9

Ontario

26.5

Manitoba

27

Saskatchewan

27

Alberta

27

British Columbia

26

Northwest Territories

26.5

Nunavut

27

Yukon

30

Non-resident federal

25

(NB: includes all rate changes announced up to June 30, 2016)

A general withholding tax rate of 25 per cent applies to the gross amounts of certain payments made by a resident of Canada to a non-resident.  This includes management fees, dividends, rents and royalties.  This rate may often be reduced to a lower rate as stipulated in the applicable tax treaty.

Other considerations include the potential availability of investment tax credits made available by the Federal and Provincial governments.  These include but are not limited to programs such as the Film or Video Production tax credits, the Scientific Research and Experimental Development (“SRED”) investment tax credits, and the Apprenticeship Job Creation Tax Credit.

What if we make cross-border transactions between group companies?

Transfer prices are the prices at which services, tangible property, and intangible property are traded across international borders between related parties. Canadian legislation follows internationally accepted principles, and in particular the Organization for Economic Co-operation and Development (“OECD”) transfer pricing guidelines.

Canada’s Transfer Pricing (“TP”) legislation embodies the arm’s length principle; and requires that, for tax purposes, the terms and conditions agreed to between non-arm’s length parties in their commercial or financial relations be those that one would have expected had the parties been dealing with each other at arm’s length.

The arm’s length principle treats a group of parties not dealing at arm’s length as if they operate as separate entities rather than as inseparable parts of a single unified business.  It is generally based on a comparison of prices or margins between non-arm’s length parties on cross-border transactions with prices or margins on similar transactions between arm’s length parties.

Typical transactions between affiliated entities that are covered by TP regulations are:

  • Sale and purchase of goods;
  • Provision of management services;
  • Property rental charges;
  • Transfer of intangible assets e.g. trademarks, patents;
  • Sharing of knowledge, expertise, business contacts etc.; and
  • Provision of financial support e.g. inter-group loans and charging a “market” interest on loans (although the department is more likely to use the specific provisions of the Canadian income tax act relating to loans and other indebtedness to or from non-residents before applying the transfer pricing rules).

A business will need to prepare a Transfer Pricing Report proving the arm’s length basis of transactions. The report will include a functional and risk analysis, analysis of the adopted pricing model and benchmarking of the arm’s length basis. Taxpayers are required to make or obtain records or documents on or before the filing date for the tax year and to provide those records and document to the Canada Revenue Agency within 3 months of the receipt of a written request to do so.

Where a taxpayer is found to not have used reasonable efforts to determine and use arm’s length prices or allocations a penalty can apply.

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