Proposed Change to the Canadian International Shipping Regime
On December 20, 2023, the Department of Finance released legislative
proposals intended to make available to Canadian-resident corporations
the existing exemption for international shipping income. These
proposals are in line with an announcement made in the 2023 fall
economic statement, and they acknowledge that the 15 percent global
minimum tax should generally not capture international shipping income.
Explanatory notes to the legislative proposals were also published on
January 29, 2024.
As reflected in paragraph 81(1)(c) of the ITA, Canada’s longstanding
policy on the taxation of international shipping income, a policy based
on a reciprocity regime, has been not to tax the international shipping
income of non-resident persons provided that the non-resident’s country
of residence grants a similar exemption to Canadian taxpayers.
To maintain competitiveness, Canadian-based international shipping
groups have structured their operations to fall within the ambit of
paragraph 81(1)(c) while maintaining operations in Canada using the
Canadian foreign affiliates regime. In addition, Canada enacted
subsection 250(6) of the Act so as to deem a non-Canadian corporation
not to be a tax resident of Canada and to be a tax resident of its
country of incorporation, if certain conditions related to international
shipping were met.
Canada’s policy rationale has been consistent with the principle that,
under article 8 in most double tax treaties signed by Canada, the taxing
right is reserved solely for the country of residence. This ensures
that income is taxed in only one country. The policy rationale is also
in line with the global consensus on offering alternative tax regimes,
such as tonnage tax, to international shipping groups—an approach that
takes into account specific industry considerations and the high
volatility of the shipping market.
International Shipping in the Context of GloBE
In August 2023, Canada released the Global Minimum Tax Act (GMTA),
effective for fiscal years starting on or after December 31, 2023, to
implement the global minimum tax. As noted above, Finance announced in
November, and reiterated in the technical notes, its intention of
introducing certain amendments to domestic legislation to ensure that
Canadian shipping companies with management in Canada can continue their
operations in Canada.
Canada replicated, in the GMTA, the international shipping exemption in
article 3.3 of the global anti-base erosion (GloBE) model rules.
Pursuant to section 19 of the GMTA, a constituent entity’s income from
its core or ancillary international shipping activities is excluded from
the calculation of its GloBE income. To benefit from that exemption,
the constituent entity’s “strategic or commercial management” that is
related to the performance of these qualifying activities needs (under
section 19(6) of the GMTA) to be effectively carried on within the
jurisdiction in which the constituent entity is located.
This exemption is based on tonnage tax regimes and substance-based
regimes that are common in Europe and Asia. These regimes generally
exempt international shipping income from taxation (or reduce the
applicable tax to a fixed amount per tonnage) if substance-based
requirements are met.
However, the formulation of section 19 of the GMTA may create challenges
for Canadian-based international shipping groups that are subject to
pillar 2, given that the strategic or commercial management of
international shipping operations might not be located in the
jurisdiction in which the international shipping income is booked.
Proposed Legislative Changes
The December release provides the possibility of realigning the location
of the strategic and commercial management with the location of the
entity for GMTA purposes, by moving the entity’s tax residence to
Canada.
The longstanding regime, under paragraph 81(1)(c) and subsection 250(6)
of the Act, remains available to taxpayers, but with the addition of new
paragraph 81(1)(c.1) and other minor adjustments. Paragraph 81(1)(c.1)
would exempt from tax under the Act “the income for the year of a
corporation resident in Canada (if this Act were read without reference
to subsection 250(4)) earned in Canada from international shipping, if
that corporation satisfies the conditions in paragraphs 250(6)(a) and
(b).” The residence requirement for paragraph 81(1)(c.1) is based on the
common-law mind-and-management test. Subsection 250(6) becomes an
elective regime in respect of each taxation year. These amendments will
preserve and enhance the desirability of locating the strategic and
commercial management of international shipping operations in Canada in
light of the GloBE regime.
Audrey Dubois and Karl Degré
KPMG LLP, Montreal
