This panel focused on tax considerations pertaining to recent cross-border transactions.
Outbound Transactions – The panel considered reasons why a company may want to emigrate from Canada and the potential benefits of doing so, including: substantial business operations in the US, access to entitlements or contracts provided by the US government, avoiding foreign accrual property income exposure, and eliminating the risk of being a passive foreign investment company for US tax purposes.
Recent Domestication Transactions – Describing several recent domestication transactions the panel discussed key tax issues that can arise when a corporation continues to the US, such as the importance of tracking paid up capital to manage tax liabilities arising on deemed dividends, loss carry-forwards, surplus calculations, section 128.1 departure tax, and the Part XIV emigration tax that may apply where the fair market value of assets are more than applicable liabilities and paid-up capital. In addition, the panel explained that domestication transactions can create sandwich structures that give rise to tax inefficiencies. Of note, where a structure includes an entity that is disregarded for US tax purposes, the structure may not be a sandwich for US tax purposes, but may be so for Canadian tax purposes.
Model transactions – The panel considered two model domestication transactions, one based on Maxar Canada’s 2018 domestication and another based on Encana’s 2020 plan. For both models, the panel observed the importance of protecting paid-up capital and avoiding any reduction in the adjusted cost base of shares in the emigrating corporation, as such attributes can help reduce tax liabilities arising on emigration or by virtue of the foreign affiliate dumping (“FAD”) rules. In respect of these model transactions, the panel compared an inbound F reorganization with a share-for-share exchange followed by an out-from-under, noting that the former alleviates the need for an immediate valuation, involves a hybrid entity, may trigger the FAD rules, and provides less clarity on the repositioning of external debt, whereas the latter does not require a valuation of US entities, offers a clear pipeline for the repatriation of US profits to public shareholders and is likely easier for the repositioning of external debt.
Inbound Transactions – The panel discussed the 2021 Contact Gold transaction by which Contact Gold, originally a British Columbia corporation which had emigrated to Nevada, redomiciled back to British Columbia. The transaction involved two steps: a continuance and an amalgamation with Contact Gold surviving. The panel explained that while a cross-border amalgamation is possible in some provinces, it is not clear that the predecessor entities would qualify as taxable Canadian corporations for the purposes of subsection 87(1).
US Inversion – The panel considered US inverted entities, which can result when a US corporation redomiciles to Canada, and in certain other circumstances where a Canadian corporation acquires a US corporation or business. Such US inverted entities add tax complexity because they are subject to Canadian and US tax on their worldwide income, and cross-border payments can be subject to Canadian and US withholding tax rules. The panel noted that from a Canadian perspective it may be possible in certain circumstances to remove an acquired inverted entity from a structure if a bump is available.
Canopy/Acreage – The panel described the proposed acquisition of Acreage, a US inverted entity, by Canopy, a Canadian corporation. As proposed the acquisition will occur when US federal law changes to permit the cultivation, distribution and possession of marijuana. The transaction is of particular interest in that it involves the acquisition of a US inverted entity.
The panelists provided a discussion of various interesting and practical topics in the cross-border M&A context, including:
Foreign Affiliate Dumping Rules in M&A
The discussion focused on FAD rules that look at the concept of “series of transactions or events”, which is particularly relevant in the context of an M&A transaction. The applicability of the FAD rules to certain pre-closing and post-closing transactions was discussed. Specific practical examples were also discussed including internal reorganizations, amalgamations, indirect investments, and preferred share investments.
111(4)(e) Planning – Impact of Proposed “Substantive CCPC” Rules
The panelists discussed the 111(4)(e) planning technique in the context of a cross-boarder acquisition and the impact of the proposed “Substantive CCPC” rules announced in Budget 2022 on such planning and what opportunities and strategies may remain.
Earnouts and other forms of non-share consideration in cross-border structures
The speakers provided a recent overview of CRA statements on earnouts paid to non-residents and discussed the treatment of earnouts on immigration/emigration. The panelists then discussed market trends in Contingent Value Rights (CVRs) and Tax Receivable Agreements (TRAs).
Canadian tax issues when dealing with Canadian companies that are treated as inverted for US tax purposes
The panel addressed the issues arising in circumstances where a business combination among a US and Canadian company triggers an inversion such that the Canadian company is treated as a US corporation for US tax purposes and subject to both US and Canadian income tax (as the tax treaty does not provide relief). The panel also addressed certain issues that need to be managed given foreign tax credit mismatches as well as some of the possible benefits (present and historical) of the Canadian company being treated as inverted. Finally, some possible Pillar II mismatch issues were discussed.
Update on tax provisions in transactional agreements
This practical discussion reviewed current trends in representations and warranties, tax indemnity provisions and insurance in the cross-border M&A context. The recent Boliden and Glencore cases were also discussed in regards to tax indemnity and break fees respectively.
The following topics were discussed in the Tax Directors Roundtable:
Role of tax group within organization: The rest of the organization should understand how the tax team provides value to the organization. “Roadshows” within the organization introduce the tax team and elevate non-tax members’ knowledge so that they can spot issues and bring them to the tax team’s attention. The tax team, while it may not be the heart or brains of the organization, should be viewed as analogous to the organization’s kidney or liver – i.e., performing an essential and necessary function within the organization.
This panel discussion focused on a review and discussion of the implications of current case law in the following categories: (i) cases dealing with the general anti-avoidance rule (“GAAR”); (ii) cases dealing with statutory interpretation; and (iii) recent cases dealing with, and proposed legislative responses to, the audit powers of the Canada Revenue Agency (“CRA”).
1. GAAR
The panel considered two GAAR cases: Canada v. Alta Energy Luxembourg S.A.R.L., 2021 SCC 49 (“Alta Energy) and Canada v. Deans Knight Income Corporation, 2021 FCA 160 (“Deans Knight”). Deans Knight was granted leave to appeal by the Supreme Court of Canada (“SCC”) on March 10, 2022.
In respect of Alta Energy, the panel emphasized the findings of the majority, namely that the treaty represented a bargain between the parties and the ultimate result was a product of drafting decisions. The Supreme Court reiterated a cautionary word that tax disputes should avoid moral judgements and purely results-oriented analyses.
Regarding Deans Knight, the panelists emphasized the uncertainty and predictability that has been created as a result of the “actual control” test introduced by the Federal Court of Appeal (“FCA”). The panelists agreed that the uncertainty created is particularly concerning, provided that “control” goes to the very heart of the commercial world. By subsuming aspects of both de jure and de facto control into a new test, the FCA has created the need for clarification from Canada’s highest Court. In this respect the panel looks forward to the appeal.
A key theme present in both Alta Energy and Deans Knight, as identified by the panel, is a technique often utilized by the Crown, by which the Crown articulates a compelling narrative in respect of the transactions carried out by the taxpayer, that are meant to elicit an emotional response that Parliament could not have “intended” to allow for the tax results achieved. Phrases with largely negative connotations, such as “treaty shopping” and “loss sharing” are employed to give the impression that the tax result is objectionable and should be prohibited. The decision of the minority in Alta Energy and the FCA’s decision in Deans Knight appear to have been influenced to some extent by such advocacy. The cautionary words of the Majority in Alta Energy, should however, provide some comfort to taxpayers that such moral judgements and results-oriented analyses is to be resisted by the Courts.
2. Statutory Interpretation
Cases discussed involving statutory interpretation included the SCC decision, Canada v. Loblaw Financial Holdings Inc., 2021 SCC 51 (“Loblaw Financial”) and Bank of Nova Scotia v. R., 2021 TCC 70 (“BNS”).
In regards to recent decisions that dealt with issues of statutory interpretation, the panelist’s observed, similar to the trends observed in GAAR cases, that the Crown often employs purposive interpretation as a proxy for policy, which leads to a more narrative-focused, results-driven analysis to the interpretation of statutory provisions in the Income Tax Act (the “Act”)– as a result, the textual, contextual and purposive analysis of statutory provisions takes the form of a “GAAR-lite”. Importantly, the Supreme Court of Canada in Loblaw Financial rejected such approach, drawing a clear distinction between the GAAR analysis and general statutory interpretation. The Court was clear, in non-GAAR cases, where the text is clear and complete, deference should be afforded to the text. Only where the text is unclear and ambiguous, should the Courts consider external, contextual factors. The panelists were in agreement that the text of the Act is meant to capture, and be reflective of, policy considerations, which they felt was departed from to some degree by the dissent in Alta Energy and in BNS.
3. CRA Audit Powers
Finally, the panel considered proposed legislative changes in response to the decisions in Canada v. Cameco Corporation, 2019 FCA 67 and BP Canada Energy Company v. MNR, 2017 FCA 61.
Based on the recent case law, the panelists concluded that the Courts have generally favoured providing the CRA with broad powers for administration and enforcement of the Act to ensure full compliance by taxpayers. The Courts appear unwilling to frustrate CRA’s ability to fix a taxpayer’s liability or undermine the statutory tools perceived by the tax administration as required to establish tax liability.
Conclusion
In concluding, the panelists look forward to the forthcoming decision of the Supreme Court of Canada in Deans Knight, which presents a unique opportunity to reconcile the majority and minority decisions in Alta Energy and clarify interpretative issues raised in Loblaw Financial. The prospect of potential revisions or amendments to the GAAR will remain top of mind for tax practitioners as such cases continue to flow through the Courts.
This panel discussion focused on the new draft legislation recently released in relation to excessive interest and financing expenses and hybrid mismatch arrangements.
Excessive Interest and Financing Expenses Limitation (“EIFEL”) Rules
The draft EIFEL rules were released on February 4, 2022 to implement the 2021 budget proposal to limit the deduction for interest and financing expenses. These rules are based on the recommendations of the OECD in BEPS Action Plan 4 and are generally applicable for taxation years that begin on or after January 1, 2023. In general, these rules will apply to limit the deduction of net interest and financing expenses of corporations and trusts to a fixed ratio of 30% of “adjusted taxable income” (“ATI”) (the “fixed ratio” rule) or higher percentage of ATI based on a “group ratio”.
The panel provided an overview of the legislative framework governing EIFEL, including key definitions, concepts, and exclusions. The panel emphasized the complexity of the EIFEL rules and related anti-avoidance rules, which are drafted broadly, and may lead to potentially unintended negative consequences. These were illustrated with several examples, including:
With respect to foreign affiliates, the panel noted that it is not currently clear how the EIFEL rules are intended to apply in the foreign affiliate arena, and they are awaiting clarification on this.
Hybrid-Mismatch Rules
The first of two legislative packages in relation to hybrid-mismatch arrangement was released on April 29, 2022 and applies effective July 1, 2022*. The intent of these rules is to neutralize the deduction/non-inclusion outcomes associated with certain types of hybrid-mismatch arrangements as well as foreign deductions for notional interest expense. The panel provided a brief overview of the legislative framework governing hybrid-mismatch arrangements and provided examples of how the rules may operate in the context of inbound hybrid debt arrangements, non-interest-bearing loans to controlled foreign affiliates resident in jurisdictions that allow for notional interest expense deductions, and REPO transactions.
The panel noted that the amount denied under the hybrid-mismatch rules may be a deemed to be a dividend and subject to Canadian withholding tax. Also, as this deeming rule may apply on accrual basis, the unwind of such arrangements before July 1 may become a necessity for some impacted taxpayers.
This panel discussion focused on the new draft legislation recently released in relation to excessive interest and financing expenses and hybrid mismatch arrangements.
Excessive Interest and Financing Expenses Limitation (“EIFEL”) Rules
The draft EIFEL rules were released on February 4, 2022 to implement the 2021 budget proposal to limit the deduction for interest and financing expenses. These rules are based on the recommendations of the OECD in BEPS Action Plan 4 and are generally applicable for taxation years that begin on or after January 1, 2023. In general, these rules will apply to limit the deduction of net interest and financing expenses of corporations and trusts to a fixed ratio of 30% of “adjusted taxable income” (“ATI”) (the “fixed ratio” rule) or higher percentage of ATI based on a “group ratio”.
The panel provided an overview of the legislative framework governing EIFEL, including key definitions, concepts, and exclusions. The panel emphasized the complexity of the EIFEL rules and related anti-avoidance rules, which are drafted broadly, and may lead to potentially unintended negative consequences. These were illustrated with several examples, including:
With respect to foreign affiliates, the panel noted that it is not currently clear how the EIFEL rules are intended to apply in the foreign affiliate arena, and they are awaiting clarification on this.
Hybrid-Mismatch Rules
The first of two legislative packages in relation to hybrid-mismatch arrangement was released on April 29, 2022 and applies effective July 1, 2022*. The intent of these rules is to neutralize the deduction/non-inclusion outcomes associated with certain types of hybrid-mismatch arrangements as well as foreign deductions for notional interest expense. The panel provided a brief overview of the legislative framework governing hybrid-mismatch arrangements and provided examples of how the rules may operate in the context of inbound hybrid debt arrangements, non-interest-bearing loans to controlled foreign affiliates resident in jurisdictions that allow for notional interest expense deductions, and REPO transactions.
The panel noted that the amount denied under the hybrid-mismatch rules may be a deemed to be a dividend and subject to Canadian withholding tax. Also, as this deeming rule may apply on accrual basis, the unwind of such arrangements before July 1 may become a necessity for some impacted taxpayers.
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