Tax on corporate transactions in Canada: overview

A Q&A guide to tax on corporate transactions in Canada.

This Q&A gives a high level overview of tax in Canada and looks at key practical issues including, for example: the main taxes, reliefs and structures used in share and asset sales, dividends, mergers, joint ventures, reorganisations, share buybacks, private equity deals and restructuring and insolvency.

To compare answers across multiple jurisdictions, visit the Tax on corporate transactions Country Q&A tool.

The Q&A is part of the PLC multi-jurisdictional guide to tax on corporate transactions. For a full list of jurisdictional Q&As visit www.practicallaw.com/taxontransactions-mjg.

 

Christopher J Steeves, L David Fox and Paul V Casuccio, Fasken Martineau DuMoulin LLP
Contents

Tax authorities

1. What are the main authorities responsible for enforcing taxes on corporate transactions in your jurisdiction?

There are two levels of corporate taxation in Canada: federal and provincial. Each of the provinces retains legislative authority over provincial taxes on corporate transactions.

The authorities that administer taxes on corporate transactions are:

  • The Canada Revenue Agency (CRA). The CRA administers federal taxes on corporate transactions, and provincial taxes on corporate transactions in all but two of the provinces (Québec and Alberta).

  • Provincial tax administrations. Only Québec and Alberta have separate tax administrations that administer provincial taxes on corporate transactions.

Pre-completion clearances and guidance

2. Is it possible to apply for tax clearances or obtain guidance from the tax authorities before completing a corporate transaction?

On written request, the CRA can issue an advance income tax ruling (ATR) or a written ruling concerning Canada's federal value added tax (goods and services tax/harmonised sales tax (GST/HST)) in respect of a proposed transaction. In either case, the CRA provides a written statement indicating how it intends to interpret and apply specific provisions of Canadian tax law to the contemplated transaction. The ATR or GST/HST ruling is binding on the CRA only in respect of the taxpayers and the transactions specified in the ATR or GST/HST ruling, and provided that the applicable law remains unchanged. Similar rulings may be available under provincial tax legislation. In addition, the CRA will provide interpretations of law based on generic fact patterns on an anonymous basis, but these interpretations are not binding on the CRA.

If a non-resident disposes of taxable Canadian property, the seller can obtain a compliance certificate under the Income Tax Act (Canada) (ITA) (section 116 certificate) before the disposal. The buyer is only liable to withhold and remit tax on behalf of the seller to the extent that the actual sale proceeds exceed the proceeds covered by the section 116 certificate.

The person administering the dissolution of a company should obtain clearance certificates for income tax and GST/HST, otherwise they can be liable for any unpaid taxes, interest and penalties to the extent of the value of the property distributed (see Question 5, Federal value added tax (GST/HST)).

Compliance certificates can also be obtained from a province in respect of provincial sales tax (PST), confirming that all returns have been filed and all reported sales taxes remitted (see Question 5, Provincial sales and value added taxes). In certain circumstances, persons selling their business assets (generally through a sale in bulk) must obtain a clearance certificate in respect of PST. Failure to do so can render the buyer liable for PST owed by the seller at the time of sale.

 

Main taxes on corporate transactions

Transfer taxes and notaries' fees

3. What are the main transfer taxes and/or notaries' fees potentially payable on corporate transactions?

Transfer tax

Canada does not impose transfer taxes or stamp duty on corporate transactions involving financial services, including the sale of shares in the capital stock of a company.

GST/HST/PST

Key characteristics. Canada has both federal and provincial level value added taxes as well as certain provincial level retail sales taxes that can apply to sales of assets, but sales of shares are typically exempt from all such taxes.

Triggering event. A sale of assets generally triggers sales tax for the buyer.

Liable party/parties. GST/HST and PST (including the Québec sales tax (QST)) may apply to the sale of assets, the rates and application of which depends on:

  • The place where the assets are supplied.

  • The nature of the actual assets.

  • The nature of both the vendor and purchaser.

There are specific rules for determining where such assets are supplied and the rules vary depending on the nature of the assets (for example, the rules relating to intangible personal property are different from those for tangible property). Further, some provinces have their own legislation which determines not only the rate, but also how the tax is applied (see Question 5).

Applicable rate(s). The federal GST/HST rate varies from 0% to 15% depending on where, and to whom, the assets are supplied.

Land transfer taxes

Key characteristics. Provinces administer land transfer taxes, so their existence, scope and rates differ among the provincial jurisdictions.

Triggering event. Transfers of real property in Canada can trigger land transfer tax.

Liable party/parties. Generally, the buyer is responsible for paying land transfer taxes and other registration fees, but this is subject to negotiation by the parties.

Applicable rate(s). Given that provinces administer land transfer taxes, the applicable rates differ among the various provinces. Those provinces that do not charge land transfer tax generally impose a registration fee under a land registration or title system.

Notaries' fees

Key characteristics. Corporate transactions are not subject to notaries' fees under federal law. Notaries' fees only arise in the civil law jurisdiction of Québec on certain transactions. Notaries' fees are not imposed in any other province in Canada.

Triggering event. In Québec, certain transactions involving real property, hypothecs securing indebtedness and immovable hypothecs (a hypothec is a form of security) must be made or granted by notarial act. Generally, a notarial act is a document signed in the presence of a notary and by the notary himself. Certain other formalities must also be satisfied for a notarial act to be valid.

Liable party/parties. The parties to an act executed by a notary in Québec are solidarily liable for the notary's disbursements and fees.

Applicable rate(s). A notary's professional fees for services rendered are not regulated in Québec.

Corporate and capital gains taxes

4. What are the main corporate and/or capital gains taxes potentially payable on corporate transactions?

Income tax

Key characteristics. Companies resident in Canada are subject to tax on their worldwide taxable income for the year under the ITA. This includes the business profits of the company for its financial year, calculated on an accrual basis, but subject to the specific provisions of the ITA and any applicable provincial tax legislation.

Triggering event. Corporate tax can be triggered in several ways during a corporate transaction, including:

  • Capital gains. One half of any capital gains (taxable capital gains) realised by the company during its financial year is subject to tax at the general corporate rates, to the extent that the gains exceed one half of any capital losses (allowable capital losses) incurred in that year or carried forward from previous years.

    Asset or share transfers can trigger a capital gain (or capital loss), to the extent that the proceeds from the transfer of capital property exceed (or are less than) the tax cost (adjusted cost base) of the asset or shares immediately before the disposal. One half of this is a taxable capital gain (or allowable capital loss). An allowable capital loss is deductible only against taxable capital gains realised in that financial year. Any excess (net capital loss) can be carried back and deducted against net taxable capital gains in the three preceding tax years, or carried forward indefinitely.

    The non-taxable portion of capital gains realised by a Canadian private company (net of the non-deductible portion of its capital losses) is added to its capital dividend account, out of which it can elect to pay tax-free dividends to its shareholders. A Canadian-controlled private company may be liable for a refundable tax of 6.66% of investment income, including taxable capital gains.

  • Income. A corporate transaction can also give rise to business income on transfers of certain assets, such as inventory or depreciable capital property, where the disposal results in the recapture of depreciation for tax purposes (capital cost allowance). However, a loss in respect of the sale of inventory or depreciable capital property (terminal loss) is a non-capital loss, and is fully deductible against income earned in that year. Any excess can be carried back and deducted against net income in the three preceding tax years, or carried forward for 20 years.

  • Dividends. A company can generally return paid-up capital to its shareholders, including non-residents, on a tax-free basis. In certain circumstances, reductions of capital by a public company are treated as ordinary dividends. The starting point for calculating the paid-up capital in respect of a class of shares is the stated capital of the class, as determined under the applicable corporate statute.

    In a corporate transaction, dividends may be deemed to have been received where an amount received on a redemption of shares exceeds the value of the paid-up capital (see Question 29, Corporate taxes). Intercorporate dividends between Canadian companies are generally included in calculating the recipient company's income, but are typically deductible in calculating its taxable income. However, Canadian private companies and certain other companies may be liable for a 33.33% refundable tax on intercorporate dividends received. Additional taxes can be imposed on dividends in respect of certain preference shares.

Liable party/parties. Generally speaking, the vendor (and/or its shareholders) will be liable for income tax on corporate transactions.

Applicable rate(s). The rate of corporate tax varies, depending on the source of income and the company's classification. For companies subject to federal and provincial income taxes, the federal corporate tax rate is 15%. Combined with provincial tax rates, 2012 corporate tax rates generally range from 25.0% to 31.0%. If income is subject to federal tax but is not earned in a province, the rate is generally 25%. Reduced tax rates are provided on active business income (generally all corporate income other than income from a specified investment business or a personal services business) up to specified thresholds for qualifying Canadian small businesses, as well as on manufacturing and processing profits.

Value added and sales taxes

5. What are the main value added and/or sales taxes potentially payable on corporate transactions?

Federal value added tax (GST/HST)

Key characteristics. GST/HST is the federal value added tax levied by the federal government under the Excise Tax Act (Canada) (R.S.C. 1985, c. E-15), as amended (ETA). GST/HST is imposed on most supplies of either property or services, and credits (input tax credits) are available to allow most businesses to recover the GST/HST paid in the course of making those supplies. A business that supplies taxable goods or services in Canada is generally required to register and collect GST/HST from its customers.

Triggering event. GST/HST is triggered on the supply of taxable property or services and in some cases on the import of taxable property or services.

Liable party/parties. The buyer/importer is typically responsible for paying GST/HST on its purchase/import of taxable property or services. On sales within Canada, the seller is responsible for reporting and remitting GST/HST. On imports of tangible property, the government collects the GST at a rate of 5% at the border and on the import of intangible goods and services, the importer can be liable to self-assess and remit the GST/HST.

Applicable rate(s). The rate of tax to be collected and remitted depends on where the property or service in question is supplied (or deemed to be supplied) under rules known as the Place of Supply Rules. Where supplies of property or services are made in the provinces of Ontario, British Columbia, Newfoundland and Labrador, Nova Scotia and New Brunswick, the rate of tax varies from 12% to 15%. Where supplies of property or services are made in any other province or territory in Canada, the federal tax rate is 5%. From April 2013, British Columbia will return to a federal tax rate of 5%.

Certain enumerated supplies, for example, basic groceries and exported property and services, are "zero-rated", meaning that the tax is charged at 0%, allowing the supplier to claim input tax credits to recover its own GST/HST expenses, without requiring that the purchaser incur any GST/HST expense. Other enumerated supplies, for example, medical services and financial services, are exempt and not subject to GST/HST meaning that the supplier cannot claim input tax credits.

Provincial sales and value added taxes

Key characteristics. Since 1 July 2010, only Manitoba, Saskatchewan and Prince Edward Island continue to have separate PST that are generally required on sales to end users of tangible property and certain limited services. Ontario, British Columbia, Newfoundland and Labrador, Nova Scotia and New Brunswick effectively eliminated their retail sales tax systems and instead harmonised their provincial tax with the federal tax, which in these provinces is sometimes referred to as the harmonised sales tax (HST). From April 2013, British Columbia will reintroduce a PST. Québec has its own value added tax (QST), which operates similarly to GST/HST.

Triggering event. PST (apart from QST) is primarily triggered on the supply or import of tangible personal property into a province, as well as on select services. QST is triggered on the supply or import of most property and services in or into Québec.

Liable party/parties. The buyer/importer is generally responsible for paying or self-assessing the PST.

Applicable rate(s). Sellers carrying on business in Manitoba, Saskatchewan, Prince Edward Island or Québec that make taxable supplies in those provinces must generally be registered for, collect and remit the applicable PST/QST. The rates of tax range up to 10%, and the types of property and services that are subject to PST/QST vary among provinces.

Sales tax and corporate transactions

Key characteristics. The issue or transfer of shares is a financial service and therefore generally not subject to GST/HST, but transactions involving asset transfers generally trigger GST/HST, subject to certain relief provisions for qualifying corporate transactions. Similarly, PST is not generally triggered on share transactions but can be triggered by asset transactions, subject to certain exemptions depending on the province where the assets are situated.

Triggering event. GST/HST and PST is generally triggered on the transfer of assets.

Liable party/parties. The buyer is generally liable to pay any applicable GST/HST or PST.

Applicable rate(s). GST/HST rates vary between 5% and 15% and PST rates are up to 10%.

Other taxes on corporate transactions

6. Are any other taxes potentially payable on corporate transactions?

Capital tax

Canada does not impose a capital tax (large companies' tax) on companies' taxable capital employed in Canada. Only Nova Scotia imposes a capital tax on companies, though Nova Scotia is scheduled to eliminate its general capital tax by 1 July 2012.

Capital tax may be imposed on financial institutions.

Taxes applicable to foreign companies

7. In what circumstances will the taxes identified in Questions 3 to 6 be applicable to foreign companies (in other words, what "presence" is required to give rise to tax liability)?

Land transfer taxes

A foreign company that acquires real property situated in a province is subject to land transfer taxes or registration fees (see Question 3, Land transfer taxes). Some provinces have higher rates of land transfer tax for non-residents.

Corporate tax

Corporate tax on income. Foreign companies are subject to federal corporate tax on income earned from carrying on business in Canada at the rates applicable to Canadian residents under the ITA (see Question 4). Whether a foreign company is carrying on business in Canada is primarily a question of fact. The ITA also deems certain activities to constitute carrying on business in Canada, including:

  • Producing or manufacturing anything in Canada.

  • Soliciting or offering anything for sale in Canada through an agent or servant.

  • Disposing of certain resource properties or real property (other than capital property) situated in Canada, and interests or options in respect of such properties.

However, Canada's tax treaties generally limit the taxation of business income earned by non-residents to income earned by carrying on business through a permanent establishment (PE) in Canada. A PE is generally defined under Canada's tax treaties as being a fixed place of business through which the business of a resident is wholly or partly carried on.

Foreign companies are generally subject to provincial corporate tax when they are carrying on business through a PE in the province.

Capital gains tax on property. Foreign companies are also subject to tax, at the rates applicable to Canadian residents, on taxable capital gains realised on disposals of taxable Canadian property. This generally includes:

  • Disposals of real property situated in Canada.

  • Shares in private Canadian companies where more than 50% of the fair market value is derived from real property situated in Canada.

  • Certain property used in carrying on business in Canada.

  • Interests in certain partnerships, trusts and non-resident companies, the value of which is derived principally from taxable Canadian property.

A person acquiring taxable Canadian property from a non-resident must generally withhold and remit 25% (or 50% for some types of property, including depreciable capital property) of the purchase price to the CRA, except for certain types of property (including treaty-protected property). Failure to do so can render the buyer liable to pay this amount as a tax, and to pay interest and penalties. The buyer may not be liable for the withholding tax if the non-resident obtains a tax compliance certificate (section 116 certificate under the ITA) (see Question 2).

Branch tax. If a foreign company carries on business in Canada through a branch operation, an additional branch tax is also payable. Branch tax is assessed at 25% of after-tax profits of the branch not reinvested in Canada. The rate of branch tax can be reduced under the provisions of an applicable tax treaty. Under the Canada-US Income Tax Convention 1980 (Canada-US Treaty), the rate has been reduced in certain circumstances to 5%. Certain tax treaties (including the Canada-US Treaty) also provide an exemption in respect of a certain amount of branch profits.

GST/HST, QST and PST

Foreign companies carrying on business in Canada must register for, charge and collect GST/HST (see Question 5). A non-resident person must generally have a significant presence in Canada to be considered as carrying on business for GST/HST purposes. Significant presence is not defined under the ETA, so determining whether a non-resident person has a significant presence in Canada is a question of fact. The CRA publishes guidelines that outline the factors it considers when determining this issue.

Foreign companies that carry on business in a PST jurisdiction (including Québec) and that sell taxable goods and services there, can also be required to register for, charge and collect PST and/or QST, as applicable.

Withholding tax

Foreign companies can be subject to withholding tax on amounts paid, or deemed paid, to them by Canadian residents, for example, participating interest, interest paid and deemed paid by non-arm's length Canadian residents, dividends, management fees, rents and royalties. The rate of withholding is 25%. However, this can be reduced under the provisions of an applicable tax treaty (see Question 8). Generally, withholding tax on interest payments made by Canadian residents to arm's-length non-residents has been abolished.

The Canadian payer is liable for withholding and remitting the tax on behalf of the foreign company. Since a Canadian company can distribute amounts to its non-resident shareholders as a return of capital to the extent of its paid-up capital, it can be possible to defer the withholding tax on dividends where the foreign company has a Canadian subsidiary.

Provincial tax

Some provinces also impose additional tax on capital gains realised from disposals of certain types of property (generally real property) situated in the province.

 

Dividends

8. Is there a requirement to withhold tax on dividends or other distributions?

Withholding tax

The ITA imposes a withholding tax on dividends, management fees, rents and royalties, and certain other payments (see Question 7, Withholding tax). The 25% rate can be reduced under the provisions of an applicable tax treaty. For example, under the Canada-US Treaty, withholding tax is reduced to 15% on dividends. In addition, if a US company beneficially owns at least 10% of the voting stock of a Canadian company, dividends paid by the Canadian company to the US company are only subject to a 5% withholding tax rate.

 

Share acquisitions and disposals

Taxes potentially payable

9. What taxes are potentially payable on a share acquisition/share disposal?

Land transfer taxes

Land transfer taxes are generally not payable (see Question 3, Land transfer taxes).

Corporate tax

Taxable capital gains realised may be subject to tax (see Question 4).

GST/HST, QST and PST

A transfer of shares generally does not trigger GST/HST, QST or PST (see Question 5).

Exemptions and reliefs

10. Are any exemptions or reliefs available to the liable party?

Rollover relief

A tax deferral can be achieved if a taxable Canadian company issues shares as consideration for the transfer of property to the company by any person, by electing the amount at which the transfer takes place for tax purposes, within a permitted range (called a section 85 election (section 85, ITA)). The company can also offer non-share consideration, such as cash, indebtedness or the assumption of liabilities. Both parties must file an election with the CRA in the prescribed form and within the prescribed time limits.

Share-for-share exchanges

A seller can transfer shares in a taxable Canadian company on a tax-deferred basis to another Canadian company in exchange for treasury shares of the buyer company, provided that:

  • The shares being disposed of are capital property.

  • The only consideration the seller receives is shares of the buyer company.

The tax deferral applies automatically and no election is required unless the seller opts to make any portion of the accrued capital gain taxable.

A tax deferral is available to Canadian resident taxpayers where the shares of a non-resident company are exchanged for shares of another non-resident company, where certain conditions are met.

Small business company shares

If the seller is a Canadian resident individual, all or a portion of the capital gain on the sale of the shares may be exempt from tax by virtue of the one-time Can$750,000 capital gains exemption on disposals of shares that are qualified small business company shares under the ITA (as at 1 March 2012, US$1 was about Can$1).

Tax advantages/disadvantages for the buyer

11. Please set out the tax advantages and disadvantages of a share acquisition for the buyer.

Advantages

Although a buyer generally prefers an asset acquisition, a share acquisition has certain tax advantages. If the company from whom the shares are being acquired has unused operating losses from prior taxation years, those losses can be preserved on a share acquisition to set off business profits in future years, provided that the conditions under the ITA are met. In addition, land transfer tax, GST/HST, QST and PST are generally not triggered on a share acquisition (see Question 9).

Disadvantages

The principal disadvantage is that the buyer inherits the tax cost of the assets, which can limit future deductions in respect of those assets.

Tax advantages/disadvantages for the seller

12. Please set out the tax advantages and disadvantages of a share disposal for the seller.

Advantages

A seller usually prefers a share disposal because it is generally taxed at more favourable capital gains rates. If the seller is a Canadian resident individual, all or a portion of the capital gain on the sale of shares may be exempt from tax under the capital gains exemption on disposals of qualified small business company shares (see Question 10, Small business company shares).

In addition, a capital gains reserve is available when the purchase price for the shares is payable in instalments in subsequent taxation years (not exceeding five years) (see Question 13, Capital gains reserve).

Disadvantages

If the proceeds, net of any reasonable disposal costs, are less than the adjusted cost base of the shares, the seller realises a capital loss that can only reduce capital gains that the seller realises (and not ordinary taxable income) (see Question 4, Income tax: Capital gains).

Transaction structures to minimise the tax burden

13. What transaction structures (if any) are commonly used to minimise the tax burden?

Pre-sale dividends

It may be possible to reduce the capital gain of an acquisition by paying a dividend before the transfer or sale of shares. Subject to certain anti-avoidance rules, a company's safe income (essentially, the after-tax retained earnings of a company) can generally be paid out to a corporate shareholder or seller as a tax-free inter-corporate dividend. The proceeds from the sale are generally reduced by the amount of the dividend, therefore reducing the capital gain on the disposal of the shares.

Holding company alternative structure

If the seller is an individual, it may be possible to transfer the shares on a tax-deferred basis to a holding company, and to pay a tax-free inter-corporate dividend out of the target company's safe income (see above, Pre-sale dividends).

Capital gains reserve

If the purchase price is payable in instalments, the seller may be able to claim a reserve for a portion of the proceeds not due until after the year of sale.

Hybrid structures

The seller may first transfer out certain assets that it does not wish to dispose of, or that the buyer does not wish to purchase, and then sell the shares to the buyer. Alternatively, if the seller only wishes to dispose of one of its divisions, the assets of the division can be transferred to a new company, which then sells its shares. If properly structured, these transactions can reduce the purchase price for the shares, and thereby reduce the capital gain on the disposal.

Exchangeable shares

The ITA does not currently permit tax-deferred transfers of shares of a Canadian company to a non-resident company in exchange for shares issued by the non-resident company.

However, a tax deferral can be achieved by issuing exchangeable shares as consideration to the seller(s). Typically, a Canadian company's shares are acquired by a Canadian acquisition company in exchange for its shares that are exchangeable into shares in the non-resident parent company. These exchangeable shares may be economically equivalent to the shares of the non-resident parent company.

 

Asset acquisitions and disposals

Taxes potentially payable

14. What taxes are potentially payable on an asset acquisition/asset disposal?

Land transfer taxes

Land transfer taxes can be payable on a sale or transfer of real property (see Question 3).

Corporate tax

Corporate tax can arise in several ways on a transfer of assets.

Taxable capital gains. A capital gain realised on the disposal of assets that are capital property of the seller (for example, real property) may be taxed. A gain on the disposal of certain assets such as inventory is taxable as the seller's business income (see Question 4).

Accounts receivable. Amounts previously claimed as a reserve for doubtful debts (amounts under dispute with customers or amounts that customers are having difficulty paying because of cash flow problems) are treated as business income in the year of sale. The sale of accounts receivable generally triggers a capital loss, to the extent that the purchase price allocated is less than the face value of the debts.

Depreciable capital property. Disposals of depreciable assets may trigger a capital gain, but not a capital loss. Any recapture (or terminal loss) of depreciation for tax purposes (capital cost allowance) on disposals of depreciable capital property is generally taxed as business income (or loss) of the seller.

Eligible capital property. Two-thirds of any gain on the sale of eligible capital property, for example, goodwill, trade marks and copyright, must be included in income. Any proceeds remaining from a sale of assets after the allocation to specific assets are attributed to goodwill.

GST/HST, QST and PST

Transfers of Canadian assets are generally subject to GST/HST and, subject to the Québec place of supply rules, the QST. Where all, or substantially all, of the assets of a business, or part of a business, are being transferred (and in certain other specific scenarios), relief from this taxation may exist. Tangible assets located in a PST province can also be subject to PST in that province, but relief is available in certain circumstances, for example, when inventory or production machinery/equipment is being acquired.

Exemptions and reliefs

15. Are any exemptions or reliefs available to the liable party?

Land transfer taxes

Ontario provides a deferral of land transfer tax on certain qualifying transfers to an affiliated company. Other provinces can have similar provisions.

Corporate tax

Election for accounts receivable. If the seller has sold all, or substantially all, of the property used in carrying on the business to the buyer, the parties can file a joint election. This permits the seller to deduct the amount by which the face value of the purchased accounts receivable exceeds the price paid for those receivables (instead of treating this as a capital loss from the sale). The buyer is required to include this amount in income, but is able to claim a reserve for doubtful debts in the year of acquisition.

Rollover relief. The section 85 ITA election is available for transfers of capital property (other than real property owned by a non-resident) and inventory (except real property inventory) (see Question 10, Rollover relief).

GST/HST, QST and PST

Input tax credits. If the purchase of the assets is subject to GST/HST or QST, a buyer will often be entitled to recover the tax paid by claiming input tax credits (input tax refunds in Québec).

Relief from GST/HST or QST. If the buyer is acquiring a business carried on by the seller, and the buyer is acquiring all, or substantially all, of the assets reasonably necessary for it to be able to carry on that business, the buyer and seller may be entitled to jointly elect to have the assets transferred without paying GST/HST or QST. If the seller is registered for GST/HST and QST purposes, but the buyer is not, this election is not available.

If the buyer and the seller are Canadian companies and are closely related within the meaning of the ETA, an additional joint election may be available to transfer certain property without having to pay GST/HST or QST.

Exemptions from PST. Several provinces provide an exemption for certain transfers between closely related companies.

Tax advantages/disadvantages for the buyer

16. Please set out the tax advantages and disadvantages of an asset acquisition for the buyer.

Advantages

Buyers generally prefer asset acquisitions for a number of reasons, including the various tax advantages that are available for a buyer on an asset acquisition. Subject to certain anti-avoidance rules, the buyer may be able to allocate the purchase price to the assets in a tax-efficient manner, and increase the cost of the assets to their fair market value at the time of purchase. This gives them a higher depreciable base for tax purposes.

In addition, any goodwill inherent in the purchase price is eligible capital property, three-quarters of which is deductible at a rate of 7% per taxation year for tax purposes (see Question 14, Corporate tax: Eligible capital property).

Disadvantages

The buyer can be disadvantaged by an asset acquisition where it is required to pay transfer taxes, including land transfer tax, GST/HST, QST and PST (see Questions 4 and 5).

Tax advantages/disadvantages for the seller

17. Please set out the tax advantages and disadvantages of an asset disposal for the seller.

Advantages

Generally, a seller prefers a share disposal to an asset disposal. However, if the seller's shareholders do not require the proceeds of sale, tax can be deferred by leaving the sale proceeds in the company. In addition, if the sale of certain assets triggers a non-capital loss, this loss can be used to offset the company's taxable income.

Disadvantages

One of the main disadvantages for the seller in an asset disposal is that the transaction is subject to two levels of taxation:

  • At the corporate level on the sale of assets.

  • Subsequently on the distribution of net proceeds to shareholder(s).

In addition, the sale of certain assets can create ordinary income (as opposed to capital gains) for the company (see Question 4).

Transaction structures to minimise the tax burden

18. What transaction structures (if any) are commonly used to minimise the tax burden?

Corporate tax

Distribution of sale proceeds. If a company receives sale proceeds and the shareholders do not require the funds, a tax deferral can be achieved by leaving the proceeds in the company. Alternatively, depending on the surplus accounts of the company, the after-tax proceeds can be distributed tax-free through the payment of intercorporate dividends, returns of capital or capital dividends. Distributing the proceeds by payment of taxable dividends may generate a dividend refund for certain companies (see Question 4).

Reserves. If the purchase price is payable in instalments, a seller may be able to claim certain reserves to defer taxes payable in respect of capital property (see Question 13, Capital gains reserve) and inventory.

GST/HST, QST and PST

Drop-down of assets to a subsidiary. In certain circumstances, companies can transfer property to a subsidiary in exchange for shares before a sale of the subsidiary's shares, to avoid GST/HST, QST and PST under the related party exemptions (see Question 15, GST/HST, QST and PST). Some PST provinces require the companies to remain related for a specified period following the transfer of assets.

 

Legal mergers

Taxes potentially payable

19. What taxes are potentially payable on a legal merger?

Land transfer taxes

A merger does not generally trigger land transfer taxes. However, in Ontario, no exemption is available when the land is transferred on the winding-up of a subsidiary into its parent. This can vary in different provinces (see Question 3, Land transfer taxes).

Corporate tax

A merger generally occurs on a rollover basis for Canadian tax purposes, provided that certain conditions are met (see Question 20, Corporate tax).

GST/HST, QST and PST

A merger does not generally trigger GST/HST, QST or PST (see Question 5).

Exemptions and reliefs

20. Are any exemptions or reliefs available to the liable party? If yes, provide brief details.

Land transfer taxes

See Question 15, Land transfer taxes.

Corporate tax

A tax deferral can be available to shareholders where all of the following apply:

  • Two or more taxable Canadian companies (original companies) are merged into a new merged company.

  • All the property and liabilities of the original companies immediately before the merger (except property held by an original company in another, and amounts payable by an original company to another) become the property and liabilities of the merged company.

  • All shareholders of the original companies in the merger (except any shareholder that is an original company) receive shares in the merged company.

The merged company is treated as a continuation of each of the original companies with respect to the tax attributes of any assets and liabilities, tax surpluses or other tax accounts.

Two or more taxable Canadian companies can also merge on a tax-deferred basis where the Canadian parent company of the merged company issues shares to the shareholders of the merged companies (a triangular merger).

The ITA also allows tax-deferred combinations of a Canadian subsidiary company with its Canadian parent, by either:

  • A merger (provided that the parent owns all the shares).

  • Winding-up the subsidiary (provided that the parent owns at least 90% of the shares of each class). On winding-up, the parent company may be able to step up the cost of certain non-depreciable capital properties that it acquires from the dissolution of the subsidiary.

Other taxes

See Question 10.

Transaction structures to minimise the tax burden

21. What transaction structures (if any) are commonly used to minimise the tax burden?
 

Joint ventures

Taxes potentially payable

22. What taxes are potentially payable on establishing a joint venture company (JVC)?

Land transfer taxes

Land transfer taxes can be payable on a sale or transfer of real property to the JVC (see Question 3, Land transfer taxes and Question 14, Land transfer taxes).

Corporate tax

The transfer of assets to the JVC can trigger business income and taxable capital gains that are subject to tax (see Questions 4 and 14).

When a joint venture is carried on through a Canadian company, its income is taxed as a Canadian resident company (see Question 4).

GST/HST, QST and PST

GST/HST, QST and PST may be imposed on a sale or transfer of property to the JVC (see Questions 5 and 14). However, in circumstances where a special joint venture election has been made amongst parties to a joint venture agreement, certain supplies made amongst the parties will not be subject to GST/HST.

Exemptions and reliefs

23. Are any exemptions or reliefs available to the liable party?

Land transfer taxes

See Question 15, Land transfer taxes.

Corporate tax

The section 85 election under the ITA may be available for certain transfers of property to the JVC (see Question 10, Rollover relief and Question 15, Corporate tax).

GST/HST, QST and PST

The buyer may be able to recover GST/HST and/or QST paid through input tax credits or refunds (see Question 15, GST/HST, QST and PST: Input tax credits). In addition, in certain circumstances, a special joint venture election can be made amongst parties to a joint venture agreement that allows for relief from the payment of GST/HST.

Other taxes

See Question 10.

Transaction structures to minimise the tax burden

24. What transaction structures (if any) are commonly used to minimise the tax burden?

Partnership

The joint venture can be operated as a partnership instead of a JVC. The ITA permits transfers of property to a Canadian partnership on a tax-deferred basis. Real estate inventory, which is not eligible for a tax deferral when transferred to a company, is eligible for rollover relief when transferred to a Canadian partnership.

The taxable income of the partnership is calculated at the partnership level, but taxed in the hands of each of the partners. If the partnership is carrying on business in Canada, each of the partners is considered to be carrying on business in Canada for Canadian tax purposes. Therefore, a foreign company that is a partner may be taxed in Canada on its share of partnership profits as if it carried on the business of the partnership directly through a Canadian branch (see Question 7).

Joint ventures as a business vehicle

Where a joint venture is not carried on through a company, and where the legal relationship between the parties is not a partnership (generally, only where the joint venture is limited to a single undertaking), there is no disposal of assets on the establishment of the joint venture and therefore tax is not triggered.

Each party to the joint venture is subject to tax on its share of income from the joint venture. In these circumstances, a foreign company is only subject to Canadian tax if the company itself is carrying on business in Canada (see Question 7).

 

Company reorganisations

Taxes potentially payable

25. What taxes are potentially payable on a company reorganisation?

Land transfer taxes

Land transfer taxes are generally not triggered (see Question 3, Land transfer taxes).

Corporate tax

A corporate reorganisation is generally not subject to tax, unless the exemptions are not available (see Question 26).

GST/HST, QST and PST

A corporate reorganisation does not generally trigger GST/HST, QST or PST (see Question 5).

Exemptions and reliefs

26. Are any exemptions or relief available to the liable party?

Corporate tax

Convertible property. A holder exercising a right to convert the shares or debt of a company into new issued shares of the same company is generally not subject to tax on this conversion, if certain conditions are met. For this automatic rollover to apply, no additional consideration can be received for the conversion. This tax deferral is available on a conversion of shares in a non-resident company.

Reorganisations of capital. An automatic rollover is available for shareholders if all of the shares of a particular class of company are disposed of in a reorganisation of capital, provided that the consideration received on the exchange includes new issued shares in the same company. The transferor can receive other property as consideration. This tax deferral is also available to shareholders on a reorganisation of capital of a non-resident company.

Other taxes

See Question 10.

Transaction structures to minimise the tax burden

27. What transaction structures (if any) are commonly used to minimise the tax burden?

Transactions are generally structured to obtain a tax deferral (see Question 26).

 

Restructuring and insolvency

28. What are the key tax implications of the business insolvency and restructuring procedures in your jurisdiction?

Tax implications for the business

Generally, an insolvent Canadian corporate debtor will not realise negative Canadian tax consequences until it settles a "commercial debt obligation" for an amount that is less than the principal amount of that debt. At that time, Canada's complex debt forgiveness rules will apply to the corporate debtor. Special rules can also apply which consider a debt to be settled for less than its principal amount where that debt is refinanced or converted into equity of the corporate debtor.

The debt forgiveness rules generally require that the "forgiven amount" be applied to reduce various tax attributes of the debtor in a specific order, including tax loss carry-forwards, tax cost in capital properties and other tax accounts. For these purposes, the forgiven amount is generally equal to the difference between the principal amount of the debt and the amount paid when the debt is settled. The debtor has some ability to make elections which effect the ordering of those reductions, and can also elect to transfer unutilised balances to certain related corporations. To the extent the forgiven amount is not fully utilised to reduce the tax attributes of the debtor or be transferred to a related party, one half of any remaining balance will generally be included in computing the debtor's taxable income.

The debt forgiveness rules apply equally in circumstances where a restructuring is the result of private agreements with creditors, or pursuant to a court-ordered stay of proceedings under Canada's bankruptcy and insolvency laws.

Tax implications for the owners

A shareholder who holds shares of a corporation that becomes bankrupt, or restructures, during a year can, in some circumstances, elect to have a deemed disposition of the shares of the bankrupt corporation, the result of which is that the shareholder recognises a capital loss in that year.

Tax implications for the creditors

A creditor of an insolvent or restructured corporation can, in some circumstances, elect to treat the debt as a doubtful debt or a bad debt, meaning that the creditor is either entitled to claim a reasonable reserve in respect of a doubtful debt, or to realise a loss in respect of a bad debt. However, the treatment of bad debts is subject to certain exceptions where the creditor has subsequently received or seized the debtor's property.

 

Share buybacks

Taxes potentially payable

29. What taxes are potentially payable on a share buyback?

Transfer taxes

Transfer taxes are generally not triggered (see Question 3, Transfer taxes).

Corporate taxes

If a Canadian company redeems, acquires or purchases for cancellation any of its shares (other than on a winding-up or reorganisation of its capital), the shareholder is deemed to have received a dividend to the extent that the proceeds exceed the paid-up capital of the share. If the shareholder is a company, the deemed dividend can be recharacterised as a capital gain. The amount of any deemed dividend is excluded from the proceeds for the purposes of calculating any capital gain or loss on the disposal of the shares (see Question 4).

GST/HST, QST and PST

GST/HST, QST and PST are generally not triggered (see Question 5).

Exemptions and reliefs

30. Are any exemptions or reliefs available to the liable party?

Corporate tax

An exception to deemed dividend treatment may be available where the Canadian corporation is public corporation purchasing its shares in the open market in the manner in which shares would normally be purchased by any member of the public in the open market.

Transaction structures to minimise the tax burden

31. What transaction structures (if any) are commonly used to minimise the tax burden?

The ITA permits paid-up capital to be shifted among classes of shares, provided that the increase in one class is set off by a decrease in another. It may be possible, before the redemption, to shift paid-up capital from one class of shares to the class of shares to be redeemed, to reduce or eliminate any deemed dividend.

 

Private equity financed transactions: MBOs

Taxes potentially payable

32. What taxes are potentially payable on a management buyout (MBO)?

The tax consequences vary depending on whether the transaction is structured as an asset or a share sale (see Questions 9 and 14).

Exemptions and reliefs

33. Are any exemptions or reliefs available to the liable party?

These are similar to those for share sales (see Question 10) and asset sales (see Question 15).

Transaction structures to minimise the tax burden

34. What transaction structures (if any) are commonly used to minimise the tax burden?

These are similar to those for share sales (see Question 13) and asset sales (see Question 18).

 

Reform

35. Please summarise any proposals for reform that will impact on the taxation of corporate transactions.

Income tax

The 2012 federal Budget was announced on Thursday 29 March 2012. The Budget proposed new anti-avoidance rules aimed at partnerships, as well as a reduction to tax credits available under the scientific research and experimental development (SR&ED) regime.

The Budget proposed a reduction in the debt-to-equity ratio (from 2:1 to 1.5:1) applicable to the restriction on interest deductibility for Canadian resident subsidiary corporations on financing provided by certain non-residents under the Canadian thin-capitalisation rules. Interest expense which is disallowed under the thin-capitalisation rules will be, as proposed by the Budget, recharacterised as a dividend for Canadian withholding tax purposes (that is, the disallowed interest expense will not retain its character as interest paid by the Canadian resident subsidiary to the non-resident) and will be subject to Canada's 25% withholding tax (subject to a reduction in the rate under an applicable tax treaty).

The 2012 Budget proposed provisions limiting tax benefits resulting from the acquisition of shares of a foreign affiliate by a Canadian subsidiary that is controlled by a non-resident corporation.

The Budget also proposed rules permitting the assessment of "secondary adjustments" for the amount of a primary transfer pricing adjustment that is a benefit to any non-arm's length non-resident participating in a transaction with a Canadian resident. Generally speaking, a "secondary adjustment" assessed under the proposed provision will be treated as a deemed dividend, subject to non-resident withholding tax.

GST/HST, QST and PST

On 1 July 2010, Ontario and British Columbia harmonised their respective provincial retail sales taxes with the federal GST/HST, and with this harmonisation came a major overhaul of many elements of the federal legislation that will apply to all GST/HST registrants. These include, most notably, changes to:

  • The Place of Supply Rules.

  • The rules relating to how investment plans have to report their GST/HST.

  • The creation of new rules that restrict the availability of input tax credits for large businesses.

Due to public outcry relating to the harmonisation of British Columbia's sales tax, a referendum occurred in that province in 2011 and the result of this was a decision to de-harmonise. Therefore British Columbia will, in April 2013, return to the 5% federal GST in addition to a PST.

 
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