Foreign Affiliate Dumping

go

beyond

borders

go

break

ground

strength

in

numbers

FOREIGN AFFILIATE DUMPING

Jennifer Hanna

Foreign Affiliate Dumping

Jennifer Hanna

March 2013

2

Agenda

• Introduction

• Conditions for application

• Consequences

• Meaning of “investment”

• PLOI

• Dividend substitution election

• PUC suppression and reinstatement

• Closely connected business exception

• Internal reorganization exceptions

• Miscellaneous supporting rules


Jennifer Hanna

March 2013

History

• 2008 – Advisory Panel on Canada’s system of

international taxation

• “foreign debt dumping”

• March 28, 2012 Federal Budget

• “foreign affiliate dumping”, deemed interest rules

• August 14, 2012 – Legislative proposals released

for consultation

• Indirect investment

• October 15, 2012 – NWMM

• Tweaks and fixes

3


Jennifer Hanna

March 2013

Introduction – Example of dumping

• Can Sub incurs interest

expense to fund

investment in preferred

shares of foreign sub of

Parent

• Can Sub earns a fixed

rate of return on the

preferred shares

• Preferred share return is

paid via exempt surplus

dividends

• No expectation of “equity-

like” return on investment

• No Canadian taxation of

income

4

Foreign Parent

Foreign Sub1 Can Sub

Foreign Sub2

Interest bearing

debt

Fixed rate preferred

shares

Operations

generating exempt

surplus

common

shares


Jennifer Hanna

March 2013

Introduction - legislation

• Section 212.3 – anti-FA dumping rules

• Section 17.1 – deemed interest inclusion rules

for downstream debt elected to be PLOI

• Section 15.1 – deemed interest inclusion rules

for shareholder debt elected to be PLOI

5


Jennifer Hanna

March 2013

Introduction – Coming into force

• Generally applies to transactions and events occurring after March 28,

2012

• Grandfathering - rules do not apply to pre-2013 transactions between

parties dealing at arm’s length if:

• Either

• (A) indirect acquisition; CRIC obligated to complete acquisition under

a written agreement with a public company target dated pre-March

29, 2012, or

• (B) parties obligated to complete transaction under pre-March 29,

2012 written agreement, and

• No release from obligation due to amendments to Act

• Rules modified for pre-August 14, 2012 transactions on elective basis

• Elections for substituted dividends and/or PLOI - extension to 365

days after Royal Assent

6


Jennifer Hanna

March 2013

Conditions for application – Anti-Dumping

• 212.3(1)

• Corporation resident in Canada (CRIC)

• CRIC is controlled by a foreign corporation

(Parent)

• CRIC makes an “investment” in a subject

corporation

• Subject corporation is a foreign affiliate of CRIC

7


Jennifer Hanna

March 2013

Conditions for application – Example of Parent

• 212.3(15)(a)

• Foreign sub 1 is the

controlling “Parent” of

Can Sub

• Foreign Co is not the

“Parent” for purposes of

the dumping rules

8

Foreign Co

Foreign Sub1

CRIC

Foreign Sub2

51%

49%

100%


Jennifer Hanna

March 2013

Conditions for application – Example of Parent

• Foreign Co is the

controlling “Parent” of

Can Sub

9

Foreign Co

Foreign Sub1

CRIC

Foreign Sub3

50%

100%

Foreign Sub2

50%

100%


Jennifer Hanna

March 2013

Conditions for application – Example of no Parent

• 212.3(15)(b)

• CRIC is deemed not controlled

by Foreign Sub 1 or Foreign Co

because both are controlled by

Canadian parent

10

Foreign Co

Foreign Sub1

CRIC

Foreign Sub2

51%

49%

100%

Canadian

Parent


Jennifer Hanna

March 2013

Consequences

• 212.3(2)

(a) deemed dividend paid by CRIC to Parent =

FMV of

• any property (other than shares of the CRIC) transferred,

obligation assumed, benefit otherwise conferred, by the

CRIC, or

• property transferred to the CRIC which results in a

reduction of an amount owing to the CRIC

that reasonably relates to the “investment”

11


Jennifer Hanna

March 2013

Consequences

• 212.3(2)

(b) PUC reduction of CRIC shares = increase in

PUC that reasonably relates to the “investment”

12


Jennifer Hanna

March 2013

Consequences (a)

• 212.3(2)(a)

• CRIC deemed to pay dividend to

parent (Foreign Sub1)

• But, see whether PUC

suppression rule under 212.3(7)

applies to override dividend

treatment

13

Foreign Parent

Foreign Sub1

CRIC

Foreign Sub2

51%

49% 100%

Dividend

Investment


Jennifer Hanna

March 2013

Consequences (b)

• 212.3(2)(b)

• E.g. CRIC receives Foreign Sub2

shares from Foreign Parent

and/or Foreign Sub1 in exchange

for CRIC shares, resulting in an

increase to the PUC of CRIC

shares

• 212.3(2)(b) reduces the PUC of

CRIC shares

14

Foreign Parent

Foreign Sub1

CRIC

Foreign Sub2

51%

49% 100%

PUC reduction


Jennifer Hanna

March 2013

What is an “Investment”? (a)

• 212.3(10)(a)

• Acquisition of shares of the

subject corporation by the

CRIC

15

Foreign Parent

CRIC

Foreign Sub


Jennifer Hanna

March 2013

Investment (b)

• 212.3(10)(b)

• Contribution of capital to the

subject corporation by the

CRIC

• Includes any benefit conferred

on the CRIC

16

Foreign Parent

CRIC

Foreign Sub

$$


Jennifer Hanna

March 2013

Investment (c)

• 212.3(10)(c)

• An amount becomes owing to

the CRIC by the subject

corporation

• Excludes:

• Ordinary course of business, repaid

w/in 180 days, or

• Pertinent loan or indebtedness

(“PLOI”)

17

Foreign Parent

CRIC

Foreign Sub

Loan


Jennifer Hanna

March 2013

Investment (d)

• 212.3(10)(d)

• Acquisition of debt of subject

corporation from another person

• Excludes:

• Acquired in the ordinary course of

business from arm’s length person,

or


(“PLOI”)

18

Foreign

Parent

CRIC

Foreign

Sub 2 Loan

Bank

Foreign

Parent

CRIC

Foreign

Sub 2

Loan

Bank


Jennifer Hanna

March 2013

Investment (e)

• 212.3(10)(e)

• Extension of maturity date of

shares or debt

• Excludes:


(“PLOI”)

• 212.3(5) – Deems there to be

a transfer of property equal

to the amount owing or the

FMV of the shares

immediately after the time of

the extension

19

Foreign Parent

CRIC

Foreign Sub

Existing loan –

maturity date is

extended

Shares – redemption/

acquisition/ cancellation

date is extended


Jennifer Hanna

March 2013

Investment (f)

• 212.3(10)(f)

• Indirect acquisition through

acquisition of a Canadian

corporation (Target)

• FMV of Target’s shares of foreign

affiliates (directly or indirectly

owned) > 75% of the FMV of all of

Target’s property

• Without reference to debt obligations of

Canadian resident corporation(s) in

which Target has a direct/indirect interest

• Without double-counting value of tiered

FA shares

20

Foreign Parent

CRIC

Foreign Sub

Can Target


Jennifer Hanna

March 2013

Investment (f)

• 212.3(10)(f)

• Some anomalies in value test

• Value of Foreign Sub debt is a

“good” property?

• Likely exempt from s.17 income

attribution rules under 17(8)

• Value of Can Sub debt is not

included in “good” property?

• Canadian debt is deemed to be

disregarded

• Disregarding debt may not

always result in an increase in

the value of the other good

property (Can Sub shares) – e.g.

shares of a joint venture

company

21

Foreign Parent

CRIC

Foreign Sub

Can Target

Can Sub

50% 50%

100% Debt

Third

party

Debt


Jennifer Hanna

March 2013

Investment (f) – “anti-stuffing” rule

• 212.3(14)(a) deems 75% test in

(10)(f) to be satisfied (and an

“investment” to be made) if

• after the acquisition of Can Target

by CRIC and as part of the series,

Can Target property (direct/indirect,

other than FA shares) is disposed of,

and

• after the acquisition and during the

series, the 75% test would have

been satisfied

• E.g. Can Target sells non-core

Canadian assets after CRIC

acquires Can Target

22

Foreign Parent

CRIC

Foreign Sub

Can Target

Can Sub 2 Can Sub 1

Non-core assets


Jennifer Hanna

March 2013

Investment (g)

• 212.3(10)(g)

• An acquisition of an option,

interest in, right in… shares,

debt of subject corporation

• Excludes:

• Amounts that would be excluded

under (c) or (d)

23

Foreign Parent

CRIC

Foreign Sub

Interests/ rights/

options, etc.


Jennifer Hanna

March 2013

Pertinent Loan or Indebtedness

• 212.3(11)

• Excludes debt from being an “investment”

• Amount owing by subject corporation to CRIC

• Amount became owing after March 28, 2012 (or the

maturity date was extended after that date)

• CRIC and parent jointly elect

• On or before filing due-date for the year in which the

amount becomes owing or in which the maturity date

extension is made

• Three-year period for late-filing (212.3(12))

24


Jennifer Hanna

March 2013

Pertinent Loan or Indebtedness

• 17.1(1) applies instead of 212.3:

• Deemed interest income to the CRIC

• Greater of prescribed rate (currently 5%) and the

amount of interest payable on debt incurred by the

CRIC (or certain non-arm’s length persons) in order

to fund the PLOI

• 17.1(2)

• 180 days of transitional relief from 17.1(1) where non-

resident acquires control of CRIC

• 17.1(3)

• Deemed not to be PLOI where a treaty would apply to

reduce the income of the CRIC

25


Jennifer Hanna

March 2013

Dividend substitution election

• 212.3(3)

• Election to modify the (2)(a) deemed dividend

• Election is made among:

• CRIC

• Qualifying substitute corporation(s)

• Parent and/or another non-resident corporation that is controlled by the

parent

• Agreed amounts are deemed to be paid as dividend(s) by the

qualifying substitute corporation and not the CRIC

• Also, they are deemed to be paid to the parent and/or other non-

resident corporation

• Election due on filing due-date – with 3 year late filing period

26


Jennifer Hanna

March 2013

“Qualifying substitute corporation”

• 212.3(4) definition

• QSC:

• Controlled by Parent

• Has an equity % in CRIC

• Shares of which are owned by the

Parent or other non-resident

corporation not at arm’s length with

Parent

• Can Sub deemed to pay dividend

to Parent

• Allows for treaty relief on deemed

dividend

• 5% rate applies under many treaties if

the recipient of the dividend is a

corporation that owns >10% of the

shares of the dividend payer

27

Foreign Parent

CRIC

Foreign Sub

100%

Investment

Dividend Can Sub

QSC


Jennifer Hanna

March 2013

“Other non-resident corporation”

• 212.3(3)(a)

• Also for accessing treaty

protection

• Also, to optimize PUC

suppression rules

• Normally (2)(a) dividend deemed

paid by CRIC to foreign parent

• Election permits some/all of

dividend to be deemed to be

paid by CRIC to Foreign Sub1

28

Foreign Parent

CRIC

Foreign Sub 2

Investment

Foreign Sub 1

50%

50%

100%

Dividend

Dividend


Jennifer Hanna

March 2013

“QSC” and “other non-resident corporation”

• 212.3(3)(b)

• Normally (2)(a) dividend is

deemed paid by CRIC to

foreign parent

• Election permits dividend to be

deemed to be paid by Can Sub

to Foreign Sub1 to Foreign

Parent

• Can still have any portion of

the dividends to be paid by

CRIC to Foreign Sub1 and/or

Foreign Parent

29

Foreign Parent

CRIC

Foreign Sub 2

95% equity

Investment

Dividend

Can Sub

Foreign Sub1 5% equity

100% votes

100%

Dividend


Jennifer Hanna

March 2013

Dividend substitution election

• 212.3(3)

• Can Sub1 and Can Sub2

must each be a party in

making the election even if

they are not “paying” any of

the deemed dividends.

30

Foreign Parent

CRIC

Foreign Sub 2

Investment

Can Sub1

Foreign Sub1

100%

Dividend

Can Sub2

100%

45% 45%

10%


Jennifer Hanna

March 2013

PUC suppression rule

• 212.3(6) and (7)

• Reduces or eliminates deemed dividend(s)

• Reduces the PUC of CRIC and/or QSC shares

• In previous drafts, PUC suppression was by

election, now automatic (if conditions met)

• Controlled by making dividend substitution election

(DSE)

31


Jennifer Hanna

March 2013

PUC suppression - consequences

Consequences: (212.3(7))

• Each deemed dividend is reduced by least of:

• the dividend otherwise determined,

• if no DSE, and if only one class of CRIC shares, the PUC of that

single class of shares,

• if no DSE, and more than one class of shares of the CRIC, the

PUC of the class(es) of shares that increased due to the

transfer(s) of property used to make the investment

• if DSE, the PUC of the class of shares on which the dividend is

elected to be paid - may be multiple elected dividends

• PUC of the shares of the CRIC and/or QSC reduced in a

corresponding manner to the reduction of the deemed

dividend(s)

32


Jennifer Hanna

March 2013

• If no DSE, conditions for PUC suppression are as follows:

(212.3(6)(b))

1. Any shares of CRIC that are not owned by the Parent are

owned by an arm’s length person or a non-arm’s length non-

resident

AND

2. Either

• Only 1 class of CRIC shares outstanding,

or

• PUC in respect of CRIC’s shares arose from transfer(s) of

property to the CRIC and CRIC used all of the property to

make the investment (or indirect investment)

33

PUC suppression – no DSE


Jennifer Hanna

March 2013

• CRIC has only one class of

shares

• Owned by

• Foreign Parent,

• Foreign non-arm’s length

corporation, and/or

• Arm’s length persons

• I.e. – no non-arm’s length

Canadian residents

34

Foreign Parent

CRIC

Foreign Sub 2

Arm’s length

Canadians /

non-residents

Common shares

Foreign Sub 1



Jennifer Hanna

March 2013

• CRIC receives property

from any/all of Foreign

Parent, Foreign Sub 1, or

Arm’s length Canadians,

resulting in PUC increase

• CRIC makes investment in

Foreign Sub 2 (may be

direct or indirect through a

Can Target)

• CRIC uses all of the

property from the PUC

increase to make the

investment

35

Foreign Parent

CRIC

Foreign Sub 2

Arm’s length

Canadians Foreign Sub 1

Class A Class A

Class B

All property from PUC

increase is used to make

investment



Jennifer Hanna

March 2013


• PUC suppression DOES

NOT apply unless a

dividend substitution

election is made.

36

Foreign Parent

CRIC

Foreign Sub 2

Non-arm’s

length

Canadian

Foreign Sub 1


Jennifer Hanna

March 2013

PUC suppression – DSE made

• If DSE is made, the conditions for PUC suppression are as

follows: (212.3(6)(a))

• The dividend substitution election is made in a manner that

maximizes the aggregate reduction of cross-border, non-arm’s

length PUC after the PUC suppression rules apply

• (3)(b) election would need to allocate the deemed dividend as follows:

• first to the class of shares of the CRIC/QSC of which the parent/NAL

non-resident owns the greatest proportion (up to the PUC of such

class)

• then to the class of which the parent/NAL non-resident holds the next-

largest proportionate share

• and so on

37


Jennifer Hanna

March 2013

PUC suppression – DSE made

• The (3)(b) election

maximizes the deemed

dividends on the Class B

shares before the Class A

shares

• Under (7) the PUC of the

Class B shares must be

“used up” before the PUC

of the Class A shares is

accessed

38

Foreign Parent

CRIC

Foreign Sub 2

Arm’s length

Canadians Foreign Sub 1

Can Sub

Class A

Class B

Class A


Jennifer Hanna

March 2013

PUC reinstatement election

• 212.3(9)

• Adds back previously suppressed PUC

• Conditions:

• Previous investment under (10)(a), (b) or (f)

• Previous reduction of PUC under (2)(b) or (7) of a

“particular corporation” (i.e. CRIC or QSC)

• Particular corporation subsequently reduces its PUC

and makes distribution of capital

• PUC is deemed to be increased immediately before

the subsequent reduction of the PUC

39


Jennifer Hanna

March 2013


• Amount added back to PUC is least of:

• Amount of PUC reduction at the “subsequent time”

• The amount of PUC previously suppressed under (2)(b) or (7)

• The amount(s) that are distributed on the PUC reduction which

are:

• (i) the value of the subject corporation or substituted foreign affiliate

shares that are distributed as at the subsequent time, or

(ii) the proceeds of disposition of the subject corporation shares (or

substituted shares), or of dividend/paid-up capital reduction received

in respect of such shares (within 180 days)

• If (i) or (ii) n/a, nil

40


Jennifer Hanna

March 2013


• 212.3(9)

• PUC of CRIC was

suppressed upon

original investment in

FA

• CRIC reduces PUC and

distributes shares of

FA to Parent

• Election reinstates

previously suppressed

PUC immediately

before distribution of

FA shares

41

Foreign

Parent

CRIC

Foreign

Sub

Foreign

Parent

CRIC Foreign

Sub

Suppressed

PUC Reinstated,

then reduced

PUC


Jennifer Hanna

March 2013


• 212.3(9)

• PUC of CRIC suppressed on

acquisition of Can Target

• CRIC and Can Target

amalgamate, bump shares of

Foreign Sub

• 212.3(22) supporting rule for

amalgamation/wind-up

• CRIC Amalco reduces PUC

and distributes shares of FA

to Parent

• Election reinstates

previously suppressed PUC

immediately before

distribution of FA shares

42

Foreign

Parent

Can

Target

Foreign

Sub

Foreign

Parent

CRIC

Amalco

Foreign

Sub

Suppressed

PUC

Reinstated,

then reduced

PUC

CRIC


Jennifer Hanna

March 2013

Exemption from FAD: Closely connected business

• 212.3(16) – FAD rules N/A if CRIC demonstrates:

• The business carried on by subject corporation and all other

corporations in which the subject corporation has an equity

percentage (subject subsidiary corporations) are, and are expected to

remain,

more closely connected to

the business activities carried on in Canada by the CRIC (or Canadian

resident non-arm’s length corporation)

than to

the business activities carried on by any non-resident corporation with

which the CRIC does not deal at arm’s length (other than the business

activities of pre-existing controlled foreign affiliates (s.17) of the CRIC,

the subject corporation or the subject subsidiary corporations)

43


Jennifer Hanna

March 2013

Closely connected business (cont)

• CRIC also demonstrates that with respect to officers of the CRIC:

• They had and exercised (and continue to exercise) principal decision-

making authority in respect of the investment

• Majority were (and will continue to be) resident and working principally in

Canada or in a country where a “connected affiliate” is resident

• Connected affiliate is a CFA of the CRIC, carries on business that is

as closely connected with that of the subject corporation (and the

subject corporation’s subsidiaries) as the Canadian company’s

activities are connected with the subject corporation (and its

subsidiaries)

• Performance evaluations of officers who are resident in and work

principally in Canada (or above-mentioned connected affiliate’s country)

are based on the results of the operations of the subject corporation to a

greater extent than will be the performance evaluation of any other officer

of a non-arm’s length non-resident corporation (other than an officer of

the subject corporation, controlled subsidiary of the subject corp., or a

connected affiliate)

44


Jennifer Hanna

March 2013

Closely connected business (cont)

• Dual officers rule in 212.3(17)

• An officer of both the CRIC and a non-arm’s length non-resident corporation (other

than the subject corporation, subject subsidiary or connected affiliate) is deemed

not to be resident and not to work principally in a country in which a connected

affiliate is resident.

45


Jennifer Hanna

March 2013

Closely connected business 212.3(16)

• Is the business of

Foreign Sub 2 and

its subsidiaries

more closely

connected to the

CRIC than to any

business of Foreign

Parent, sister,

aunts,

grandparents,

cousins…?

• Imagine if Foreign

Parent is state-

owned

46

Foreign Parent

CRIC

Foreign Sub 2

Foreign Sister

Foreign Aunt

Foreign

Grandparent

Foreign Cousin

Foreign Sub 3 Foreign Sub 4


Jennifer Hanna

March 2013

Exceptions for Internal Reorganizations

• Reorganization exceptions – laundry list:

• Acquisition of FA shares (212.3(18)(a), (b)):

• from related Canadian corporation, at no time during

the series dealing at arm’s length

• on 87(1) amalgamation forming the CRIC between

related, non-arm’s length predecessor corporations

• Under 51(1), 85.1(3), 86(1), 87(8.1) foreign merger,

88(3) liquidation/dissolution, redemption of shares of

another pre-existing FA, or as a dividend/PUC

reduction on shares of another pre-existing FA

47


Jennifer Hanna

March 2013


• 212.3(18) (c):

• Acquisition of Can Target shares

• from related Canadian corporation, at no time during

the series dealing at arm’s length

• on 87(1) amalgamation forming the CRIC between

related, non-arm’s length predecessor corporations

• Under 51(1), 86(1)

48


Jennifer Hanna

March 2013

• 212.3(18)(d)

• Acquisition of subject corporation or Can Target shares that

results from the direct acquisition of shares of a Canadian

resident corporation

• The subject corporation or Can Target shares are received by

CRIC as sole consideration for an exchange of a debt obligation

owing to the CRIC (other than exchange to which 51(1) applies)

49



Jennifer Hanna

March 2013

• 212.3(18)(c)(v) double-counting

relief

• Can Target (or Canadian corporation

related to both CRIC and Can

Target) makes an investment in the

subject corporation, using property

transferred by the CRIC, within 30

days and as part of the same series

• Note: the investment by Can Target

may be caught by the anti-dumping

rules

50

Foreign Parent

CRIC

Foreign Sub

Can Target

Investment

Investment



Jennifer Hanna

March 2013

Miscellaneous supporting rules

• 212.3(19) – certain internal reorganization exceptions and

the closely connected exception do not apply to an

acquisition of preferred shares of the subject corporation

unless all of shares of the subject corporation are wholly-

owned by the CRIC and/or Canadian resident subsidiary

and/or Canadian resident parent of the CRIC

• (20) – assumption of debt on liquidation/dissolution is not

excepted under internal reorganization rules

• (21) – anti-avoidance rule – artificially related persons

deemed not to be related for purposes of (18) internal

reorganization rules

• (22) – amalgamation/windup supporting rules

51


Jennifer Hanna

March 2013

Miscellaneous supporting rules

• (23) – No getting around rules by making indirect investment in

another subject corporation which itself makes an investment

• (24) – Rules do not apply to investment in subject corporation

by CRIC if

• The transferred property is used by subject corporation to

make a loan to a controlled foreign affiliate under s. 17

(“particular corporation”)

• Particular corporation is a corporation to which the closely

connected business exception would apply

• Particular corporation uses the proceeds of the loan in an

active business (95(1)) in its country of residence

• (25) – Partnership supporting rules

52

montréal ottawa toronto hamilton waterloo region calgary vancouver moscow london

Thank You

www.taxand.com

Jennifer Hanna, LL.B

Tel: 403-298-1892

Email: [email protected]

http://www.taxand.com/

Business

Foreign Affiliate Dumping