SOME IMPLICATIONS OF THE CANADIAN TAX LAW ON FOREIGN INVESTMENTS IN CANADA - A GERMAN PERSPECTIVE
by
MICHAEL F.M. REUTER
A THESIS SUBMITTED IN PARTIAL FULFILMENT OF
THE REQUIREMENTS FOR THE DEGREE OF
MASTER OF LAWS
in THE FACULTY OF GRADUATE STUDIES (The Department of Law)
We accept this thesis as conforming to the required standard
THE UNIVERSITY OF BRITISH COLUMBIA April 1987
© Michael F.M. Reuter, 1987 In presenting this thesis in partial fulfilment of the requirements for an advanced degree at the University of British Columbia, I agree that the Library shall make it freely available for reference and study. I further agree that permission for extensive copying of this thesis for scholarly purposes may be granted by the head of my department or by his or her representatives. It is understood that copying or publication of this thesis for financial gain shall not be allowed without my written permission.
Department of
The University of British Columbia 1956 Main Mall Vancouver, Canada V6T 1Y3
Date M^Tt i^gy ABSTRACT
Some Implications of the Canadian Tax Law on Foreign
Investment in Canada — A German Perspective
Canada is one of the countries depending on foreign investment to a fairly high extent. After some time of concern about foreign investment1 the Foreign Investment
Review Act (FIRA) was implemented.2 With the federal election in 1984 the Canadian government took the stand in favour of foreign investment again and changed FIRA to a more positive "Investment Canada". Anyway, the control of foreign investment should be seen only as part of a larger economic policy, which determines the economic criteria for investment decisions.
One of these criteria is the Canadian tax law. And as one example, prior to 1980, all private corporations were entitled to the refundable tax in respect of their investment income. A first limitation was introduced in
October of 1973, whereby corporations other than
Canadian-controlled-private corporations were denied any refundable tax in respect of income from real property for taxation years commenced after 1979. Finally, as a result of the November 12, 1981 budget, for taxation years commenced after that date, investment income no longer "earns" refundable tax unless the corporation was a Canadian-controlled-private corporation throughout the relevant taxation year.
i i The Canadian taxation of residents and non-residents in Canada, including the taxation of Canadian and non-Canadian-controlled companies and branches of foreign companies, is unequal and discriminating. This thesis will give some ideas about the Canadian taxation of foreign investment in Canada, referring sometimes to the
Canadian-German Double Tax Convention as well as the
O.E.C.D. Model Double Tax Convention. Since tax planning is a part of general economic investment decisions, the taxation of foreign investments will be evaluated in relation to other investment criteria for investments in
Canada. As it will become obvious, there are reasons in favour of the Canadian tax policy on one hand and reasons against it on the other hand. As a conclusion, I am of the opinion that it is worthwhile to consider changes in the taxation of foreign investment. TABLE OF CONTENTS
LIST OF TABLES vi i i
1 . Introduction 1
2. The Canadian Concept of International Taxation ...3
3. Definition of Residence 5
3.1 Residence of Individuals 5
3.2 Residence of Corporations and Definition of Permanent Establishment 10
3.3 Residence of Trusts 13
4. Reasons for Distinction of Taxation of Residents and Non-Residents 17
4.1 (Technical) Aspects of Collecting Taxes ....17
4.2 Aspects Justifying Discrimination in Itself 18
4.2.1 Economic and Other Reasons for Different Treatment of Non-Residents' Investment in Canada 19
4.2.2 Assumption: Foreign Investors Repratriate Their Profits Instead of Re-Investing Them in Canada 25
4.2.3 Assumption: Foreign Investors are Buying Abroad, Canadians are Buying Canadian 28
5. Legitimate Forms of Discrimination in Tax Law ...31
5.1 Discrimination in International Law 31
5.1.1 General Ideas on Discrimination in International Law 33
5.1.2 Prohibition of Discrimination in International Law 35
5.1.2.1 Examples of Prohibitions of Discrimination in International Law 37
5.1.2.2 The Intent of Prohibitions of Discrimination 42
5.2 Constitutional and Administrative Prohibitions of Discrimination 47 iv 5.2.1 Obligation of the Administration to Follow the Principle of Equality 47
5.2.2 Ties of the Legislation to the Principle of Equal Treatment 49
5.2.3 The Principle of Equal Treatment in Constitutional and
Administrative Law 49
5.2.4 Conclusion 53
5.3 Discrimination in International Tax Law ....54 5.3.1 Non-Discrimination According to Art. 24 of the OECD Model Draft Convention 56
5.3.2 The Application of the Principle of Non-Discrimination 58
5.3.3 Discrimination Relating to the Nationality/Citizenship 59
5.3.4 Discrimination of Branches 62
5.3.5 Discrimination According to the Control of Capital 65
5.3.6 Conclusion 66
6. Canadian Taxation of Non-Residents1 67
6.1 Prepayment of Taxes 68
6.2 Witholding Tax 69
6.3 Evaluation 71
6.4 Election of Filing a Return 75
6.5 Conclusion 77
7. Non-Canadian Controlled Companies 78
7.1 Intercorporate Dividends 78
7.2 Small Business 79
7.3 Thin Capitalization 81
7.4 Investment Through a Corporation 84
7.5 Oil and Gas 87
v 7.6 Evaluation of the Taxation of
Non-Canadian Controlled Companies 87
8. Non-Resident-Owned Investment Corporation 91
9. Foreign Companies Operating in Canada (Branch
Tax) 94
9.1 Evaluation of the Branch Tax 97
10. Economic Criteria for Investment Decisions 99 10.1 Economical Criteria Including Tax Consequences for Investment Decisions in Favour of Canada 99 10.1.1 Main areas of German Investment in Canada 100
10.2 General Economic Criteria and Tax Implications 100
10.2.1 Stability 100
10.2.2 Resources Including Human
Resources 101
10.2.3 Transportation 101
10.2.4 Marketing/Sales 102
10.2.5 Taxes 103 10.3 Comparison to Investment in the United States 104
10.4 Statistics on Investment in Canada and in the U.S 1 05
11. Proposals for an Alternative Approach and Some Changes in the Income Tax Act 110
11.1 Canada and Art. 24 OECD Model Double Tax Convention 110
11.2 Some Proposals 114
1 2 . Conclusion 117
FOOTNOTES 119
BIBLIOGRAPHY 1 99
vi APPENDIX A
INTERPRETATION BULLETINS ON THE TAXATION OF NON-RESIDENTS, NON-CANADIAN-CONTROLLED COMPANIES AND RELATED ISSUES 228
APPENDIX B
INFORMATION CIRCULARS ON THE TAXATION OF NON-RESIDENTS, NON-CANADIAN-CONTROLLED COMPANIES AND RELATED ISSUES 231
INDEX OF CASES 232
vii LIST OF TABLES
Development of German Investment in the U.S. and in Canada from 1975 to 1984 106
Direct and Indirect German Investment in the U.S. and in Canada from 1976 to 1983 107
Number of German Companies Involved in Investment in the U.S. and in Canada from 1976 to 1982 107
Annual Gross of those Companies 108
Employees of those Companies 109
vi i i 1. INTRODUCTION
The Canadian taxation of foreign investment is one of the subjects where there are many books and articles written about.3 Most of them are dealing with the technical details of taxation rather than looking for the reasons behind it and evaluating the considerations the concept is based on, especially not in an international context.
The Canadian taxation of foreign investment in this context is supposed to include the taxation of non-residents in general," the taxation of companies controlled by non-residents5 or by non-resident companies3 and the taxation of Canadian branches of foreign companies.6
The purpose of this thesis is to contribute to an international discussion between industrialized countries in general.7 When all examples used in this thesis concentrate on Canada, one has to be aware that Canada in this sense is not a special country and that similar tax considerations have lead other countries as well when implementing rules dealing with the taxation of non-residents.8 I will try to concentrate on the general principles and the general structure of the Canadian taxation on foreign investment without getting into too many technical details. Therefore I will explain the principles necessary to understand the Canadian taxation as far as foreign investment is concerned. But I won't
1 2 deal with the taxation of every branch of the economy separately in detail. Instead of this I will concentrate on some reflected differences in taxation of residents and non-residents, and I will try to get into the political, economical and psychological background necessary to understand the principles dealt with. The issue will be the evaluation of the Canadian taxation policy towards foreign investment in Canada.
The concept followed in this thesis is based on a general understanding, that free trade and investment are most advantageous for all countries involved, at least in the long run. In my understanding this concept of free trade and investment policy does allow more fair competition, a stronger and decentralized economical development and lower prices for the consumer in general.9 The taxation of foreign investment, especially a non discriminating, equal treatment of residents and non-residents in tax law, is a part of this concept. I am aware that the concept this thesis is based on, as well as the criteria consequently developed from this basis,10 may be criticized. But even in this case I would be satisfied, as long as the taxation of foreign investment is going to be included in the general discussion of free
investment and trade policy in Canada.11 2. THE CANADIAN CONCEPT OF INTERNATIONAL TAXATION
Most countries are taxing the world income of every person resident.12 Some countries are taxing the world income of their citizens, wherever resident.13 In addition, most countries are levying an income tax on non-residents and foreign companies deriving income from a source in this country. As an example, Canada imposes income taxes on non-residents who are employed in
Canada1' or who carry on business in Canada.15 Canada also taxes non-residents on the disposition of taxable
Canadian property16 and on interests, dividends, rents, royalties, management fees and similar types of income from Canadian sources.17
Whenever a person has income from outside of "his" country,18 there are (at least) two tax authorities levying taxes: his home country and the other country.
Under international law there is no rule against double taxation.19 Each country is free to determine, if and to which extent to tax non-residents on their income derived from and property situated in their territory, as well as on income and property outside their territory.20
Therefore it would be possible that a taxpayer could be taxed twice. If, for example, a Canadian resident21 carries on business in the United States, the profit out of his operation in the States could be taxed twice,22 once there and once in Canada. This obviously would not be fair. But it wouldn't be fair also, if none of these
3 4 countries would impose taxes.23
Canada taxes its residents on the basis of their worldwide income.24 This means that wherever the source of income is located, the Canadian resident is taxable for all his worldwide income in Canada. Non-residents are taxed only on their Canadian income. As specified in sec.
2(3) I.T.A., non-residents are taxable in Canada, if they
(a) are employed in Canada,
(b) carry on a business in Canada,25 or
(c) dispose of taxable Canadian property
at any time of the year.26
Contrary to sec. 2(3) I.T.A., under the
Canadian-German Double Tax Convention self-employed people27 as well as enterprises28 are not going to be taxed in the other Contracting State as long as they don't carry on business through a permanent establishment.29 This rule prevails over sec. 2(3)
I.T.A..30
These criteria seem reasonable in terms of international taxation. But let's have a closer look at some of the details of the Canadian taxation of non-residents and non-Canadian controlled companies. 3. DEFINITION OF RESIDENCE
In the Canadian Income Tax Act (I.T.A.) there is no definition of residence to be found.31 The only definition we find is the definition of a non-resident in sec. 248 I.T.A. It reads: "'Non-resident' means not resident in Canada." This answer doesn't help. Sec.
250(3) I.T.A. includes in the definition of resident a person, who is "ordinarily" a resident.32 This doesn't help either. Persons who normaly sojourn in Canada for a period of 183 days or more in the year, are deemed to be residents according to sec. 250(1)I.T.A..
Since we still don't have any definition of residence, I will try to look into it first for
individuals, second for corporations and then for trusts and estates.
3.1 RESIDENCE OF INDIVIDUALS
Under common law physical presence is not always a major
factor in establishing residence — a taxpayer can be
found to be resident in a country even though he may spend very little time there. For example, in Erickson v.
M.N.R.33 the taxpayer normally lived in Canada but was transferred to Ireland for two years to work on a mining project. Although he returned to Canada for only one
10-day period during that time to visit his wife and
family, he was held to be resident here. Also in Cooper v. Cadwalader,3 4 an American citizen who had rented a
5 6 house in Scotland for two months a year for vacation was held to be a resident of the U.K. for tax purposes. In
I.R.C. v. Lysaght,35 the taxpayer, who was born in
England of Irish parents and partially retired from his position as managing director of an English company, went to live permanently with his family in Ireland. The House of Lords upheld the Commissioners' finding of fact that the taxpayer was resident in the U.K. Although he had no home in England, he returned once a month for directors' meetings, which the Commissioners found to be sufficient.
Very often, having a home and family within a jurisdiction is a major factor in finding a person to be resident there. In Russell,36 the taxpayer had a matrimonial home in Canada and was found to be resident here, although he himself was not present. Also, in
Malion,3 7 a U.S. citizen working as a seaman on U.S. ships but having a home in Canada was held to be resident in Canada. However, the presence or absence of a home and family is not always determinative. In Meldrum,3 8 a sea captain resident in New York bought a house in Nova
Scotia in which his daughter lived and at which he stayed for annual holidays of about two weeks each summer. He also made short visits when his Canadian port of call was close by. The Tax Appeal Board held he was not resident in Canada within the meaning of subsection 9(1) of the
Income War Tax Act. In York v. M.N.R.,39 the taxpayer had lived in Canada at one point, but in 1973 he separated 7 from his wife and moved to the U.S. He visited his children three or four times a year and came to Canada twice in 1977 on business, for which the Minister assessed him as a resident. The Tax Review Board held he was not a resident despite the facts that he had a family and owned a house in Canada: his connection with Canada was tenuous and there was no indication that he intended to return here to live. Thus a home and family per se are not conclusive factors in determining residence - the court will examine the nature of the taxpayer's relationship with his home or family before deciding the quest ion.
It should be noted that it is not a requirement that the taxpayer have a home at all to be a resident. In
Levene v. I.R.C.,qo a British subject, who moved from his house in London and thereafter had no fixed abode and returned to the U.K. for approximately 20 weeks each year, was held to be resident in the U.K. Also, in Shpak and Shpak v. M.N.R.,"1 two taxpayers had lived in
Vancouver, but to avoid high housing costs they moved to
Point Roberts in the State of Washington. They continued to work in Vancouver but never intended to move back. The minister denied their claim for a dividend tax credit on the ground that they were no longer Canadian residents, but this was overturned by the Tax Review Board. The
Board stated that the taxpayers had dual residency, one of which was Canada — although Point Roberts was their 8 domicile, the centre of their interests, social life and conveniences was Canada.42
A detailed description of the view of the Department of National Revenue is laid down in IT-221.43 It determines that an individual is a resident of Canada for tax purposes, if the place where he "regularly, normally or customarily lives is in Canada." All facts have to be considered in order to make this determination, especially for the determination of the residential ties within Canada. As primary residential ties are seen as the dewelling place, spouse or dependents, and personal property and social ties of an individual. Other ties like a provincial health insurance, a seasonal residence, professional or other memberships in Canada and family allowance payments are also seen to be significant.
If someone leaves Canada without establishing a permanent residence elsewhere there is a presumption that he remains a resident of Canada. Since dual residence is possible, the fact that someone establishes a permanent residence abroad does not mean he has become a non-resident of Canada. If someone is a resident of
Canada as well as in another country, reference should be made to the double tax convention between Canada and that other country.
As an example I will refer to Art. 4 of the
Canadian-German Double Tax Convention,44 which excludes cases of dual residence. 9
It reads:
"Article 4
Resident
(1) For the purposes of this Agreement, the term
"resident of a Contracting State" means any person who, under the laws of that State, is liable to tax therein by reason of his domicile, residence, place of management or any other criterion of a similar nature. But this term does not include any person who is liable to tax in that State in respect only of income from sources in that State or capital situated therein.
(2) Where by reason of the provisions of paragraph 1 an individual is a resident of both
Contracting States, his status shall be determined as follows:
(a) he shall be deemed to be a resident of the
State with which his personal and economic
relations are closer (centre of vital
interests);
(b) if the State in which he has his centre of
vital interests cannot be determined, or if
he has not a permanent home available to him
in either State, he shall be deemed to be a
resident of the State in which he has an
habitual abode;
(c) if he has an habitual abode in both States or 10
in either of them, he shall be deemed to be a
resident of the State of which he is a
nat ional;
(d) if he is a national of both States or of
neither of them, the competent authorities of
the Contracting States shall settle the
question by mutual agreement.
(3) Where by reason of the provisions of
paragraph 1 a person other than an individual is
a resident of both Contracting States, the
competent authorities of the Contracting States
shall endeavour to settle its status by mutual
agreement."
This definition prevails over other definitions and also over the definition of deemed residence in sec. 250(1)
I.T.A. Therefore, for the purpose of this thesis, I think it will be sufficient to determine the residence of an individual by the definition of the Convention.
3.2 RESIDENCE OF CORPORATIONS AND DEFINITION OF PERMANENT
ESTABLISHMENT
Residence of a corporation for Anglo-Canadian income tax purposes has been held to be where the central control and management of the corporation actually abides:"5 De
Beers Consolidated Mines Ltd. v. Howe."6 The place of central management and control is generally where the directors and the company hold their meetings and the 11 conduct of affairs is decided. This fundamental criterion was confirmed in Egyptian Delta Land & Investment Co.
Ltd. v. Todd,47 where it was judged that the residence of a company, whether British or not, is established by its real business' location. This criterion was then followed in all future decisions regarding the residence of companies. In the United States, a corporation is treated as resident where it is incorporated.
As is the case for individuals, the notion of residence is extended by some statutory definitions. Any company incorporated in Canada after April 26, 1965 shall be deemed to be resident in Canada. The simple and formal aspect of the incorporation creates residence,48 regardless of where the real business is done or where the directors act. The deemed residence of sec.250(4)
I.T.A. applies throughout an entire taxation year and the company is assessed on its world income according to sec.2(l) and sec.3 I.T.A.. But the central management and control-test prevails over sec.250(4) I.T.A.
For the purpose of international taxation there does not appear to be any particular problem in determining if a company incorporated in Canada is "really" a resident
Canadian company.43
Another important issue is to determine a "permanent establishment."50 Under the I.T.A., corporations not incorporated or residing in Canada, but carrying on business in Canada, and disposing of certain types of 1 2
Canadian property are subject to taxation in Canada.
However, the Canadian-German Double Tax Convention provides that a German corporation carrying on business
in Canada is not subject to Canadian income tax on its business profits in Canada, unless it has a permanent establishment in Canada and the profits are attributable to that establishment. A permanent establishment includes a branch, office, factory, workshop or mine but does not
include an independent broker or agent, provided he has no general authority to contract on behalf of the German corporation and is acting in the ordinary course of his business. We find the definition of a permanent establishment in the Canadian-German Tax Convention, at least for German activities in Canada. Art. 5 of the
Convention determines a permanent establishment as a
fixed place of business through which the business of an enterprise is wholly or partly carried on. It includes places of management, branches, offices, mines, and wells, but not facilities for the sole purpose of maintenance, storage, or any other activity of a preparatory or auxiliary character. Building and construction sites constitute a permanent establishment
only if they last more than 12 months. For further details I have to refer to Art. 5 itself.51 1 3
3.3 RESIDENCE OF TRUSTS
Canada taxes trusts resident in Canada. Sec. 104 I.T.A. is the only section which is relevant to the determination of the residence of a trust.52 It is generally thought by the commentators that sec.104(1)
I.T.A. implies that the residence of the trust is determined by the residence of its trustees. Where there is only one trustee, or where there are multiple trustees all resident in the same jurisdiction, it is clear that that jurisdiction is, for the purpose of the Income Tax
Act, the residence of the trust. However, great difficulties arise when there are multiple trustees resident in different jurisdictions.
Sec. 104(1) I.T.A. would seem to imply a test for the determination of the residence of a multiple trustee trust; the residence of the trust would be the residence of the trustees "having ownership or control of the trust property." However, there are two major difficulties with this possible test. First, legal title to the trust property is vested in all of the trustees. All of the trustees own the trust property. Second, subject to explicit contrary intention de jure control is also vested equally in all the trustees. Unless the trust document provides otherwise, decisions of the trustees must be unanamous. There can be no majority rule. Thus, in the typical trust, no single trustee or group of trustees has either complete ownership or complete de 1 4
jure control of the trust property. Furthermore, if sec.104(1) I.T.A. was intended to deal with the question of the residence of a trust it could have been much clearer and explicit.
For the foregoing reasons, it was held in Thibodeau v. The Queen53 that the Income Tax Act contains no provisions for the determination of the residence of a trust.
M.A. Cohen54 suggests that the Courts determine the
residence of a trust by adopting the De Beers test of
"central control and management" used to determine the
residence of a corporation.55 This test considers the
jurisdiction of the de facto control and management of the corporation.56
R.A. Green57 states that the Act is silent with
regard to the determination of the residence of a trust.
He suggests three important factors to be considered: 1)
the residence of the trustees; 2) the jurisdiction in which the trust is controlled; 3) the jurisdiction in which the trust property is situated.
As far as I know, Thibodeau Family Trust v. The
Queen,5 8 is the only decision in respect of the present
statutory provisions and the issue of the residence of a
trust.5 9
In seeking to resolve the issue of residence,
Justice Gibson J. expressly rejected the arguments of the
Crown that he should employ a De Beers formula of central 1 5 management and control and that the trust in question could have a dual residence.60 He clearly implies that it is de jure control which is relevant for the determination of the residence of a trust. This is because each trustee is under a fiduciary duty to personally exercise the trust and discretion reposed in him by the settlor.61
Gibson J. gives no clear justification for departing from this factual approach in the trust context. For this reason, the commentators have held that the case cannot be considered an authority contrary to the view that residence is a question of fact for taxation purposes.
They suggest that the decision should be restricted to its particular facts and that it creates no new law.62
In 1980 the Department of National Revenue issued an
Interpretation Bulletin, No. IT-447. While such a
Bulletin is not binding and is merely a practise guideline, it is clearly relevant especially in light of the scarcity of case law. It contains a number of relevants propositions: 1) the resident of a trust is a question of fact; 2) the residence of a trust is generally where the trustee or other legal representative manages or controls the trust assets resides; 3) if there are multiple trustees, the trust residence is where more than 50% of the management and control of the trust resides; 4) the location of the legal rights and trust assets is a relevant consideration; 5) the residence of 16 the beneficiaries is irrelevant; 6) the residence of an
"other person" with a substantial portion of the management and control of the trust is a relevant consideration which may be determinative.63 This
Interpretation Bulletin seems to be adopting the de facto central management and control concept used in the determination of residence of a corporation. 4. REASONS FOR DISTINCTION OF TAXATION OF RESIDENTS AND
NON-RESIDENTS
As a basis for the further understanding of the
taxation of non-residents' investment in Canada I would
like to look at the possible reasons why a tax system in general may discriminate between residents and non-residents.
4.1 (TECHNICAL) ASPECTS OF COLLECTING TAXES
One of the technical reasons for distinction between the
taxation of residents and non-residents is that every country likes to make sure that it actually receives
taxes from the taxpayer. If the taxpayer is a
non-resident, chances are that he or she doesn't stay in
the country and therefore the tax department might be
unable to collect the taxes. Certain technical
instruments like the witholding tax64 and the
requirements of prepayment of taxes65 may help to achieve
this goal.
The witholding tax is a tax levied on payments from
the payor to the payee and is to be deducted from the
amount to be paid by the payor. One typical example for
the witholding tax is the dividend tax credit: The
company paying dividends to their shareholders deducts
taxes at source, pays out the difference and the
shareholder may claim the dividend tax credit in his or
her own income tax return.
17 18
In other instances residents have to withold taxes
from gross amounts to be paid to non-residents.66 The
system of witholding tax in general safeguards Revenue
Canada against different kinds of non-payment of taxes.
Whereas the dividend tax credit should allow tax neutrality in respect to moneys received through a corporation and directly for residents, it guarantees the payment of taxes in itself for non-residents.67 Speaking
in general, the concept of witholding tax is a common
system to provide for a similar tax treatment of
residents and non-residents and allows an easy way of collection for the tax department.68 The same purpose
fits the instrument of prepayment of taxes: The MNR has
to ensure that non-residents do not take their money and walk away without paying their taxes.
4.2 ASPECTS JUSTIFYING DISCRIMINATION IN ITSELF
Apart from this technical reason, which — by the way — doesn't apply when the non-resident taxpayer is living or doing business in this country,69 we find an own
understanding and policy towards non-residents.
Often a country doesn't like to give non-residents a
tax treatment as favourable as its gives to its
residents. In the Canadian I.T.A. there are various areas
of different tax treatment of residents, non-residents,
Canadian controlled companies and non-Canadian controlled
companies, as we will see later more detailed. Since tax 19 policy is a part of the general economic policy, I would like to look at the bacground of this policy which may explain the different tax treatment of non-residents in
Canada.
4.2.1 ECONOMIC AND OTHER REASONS FOR DIFFERENT TREATMENT
OF NON-RESIDENTS' INVESTMENT IN CANADA
Canada is the second largest country in the world with a relatively small population of about 25 million people. Most of them are living in a 200 km belt along the border with the United States, the rest of Canada is populated sparely. The living standard in Canada is one of the highest in the world.
Canada has a large amount of resources, but not the manpower and capital to develop them. There are a few major resources, especially wood, oil and natural gas and mineral resources like coal, aluminum, nickel, copper, and a bit of silver and gold. The resource industry is making its money by selling the resources, and they are selling big quantities. Compared to industries in other western countries, Canadian industries are small, one of the reasons being a lack of capital and technology to build them up. New production industries are trying to build up, but they cannot process as many resources as there are.
Productivity is low compared to countries like the
United States, Japan or West Germany. Especially the U.S. 20 companies are producing larger quantities and they are able to produce much cheaper. In Canada the population and therefore the market for production is much smaller.
Therefore Canadian companies do not produce big quantities.
As the Grey Report points out, in the U.S. companies could specialize on mass production at high quality and low prices, whereas Canadian companies have had to produce the full product line in numbers too few to be efficient or cost effective. The Grey Report gives one example of refrigerator production in Canada, which may be helpful for illustration: At the time of the report, there were nine manufacturers producing refrigerators in
Canada. The optimum number of refrigerators produced per plant was found to be 200,000, while in fact each plant produced an average of 130,000.
Looking at imports and exports, Canada is exporting mainly wheat, fish, cattle, pulp, paper, and various natural resources and importing processed goods. The resources are sold cheaply, and the processing is done outside Canada. Let's take one example: Canada is exporting coal to Japan. They are producing cars, create employment, sell the cars back to Canada and make the money out of processing.
As one Canadian businessman said" "We charge them, they charge us. But our price is included in their calculation. They incorporate the costs of the resources 21
into the costs of the product, add other costs like
labour, management, etc. and add profits. So Canada sells
the resources, gets them back processed, has to pay profits and therefore Canada is loosing money as a general factor, even if the mineral resource industry
itself makes money. This is the dilemma."
In the oil industry we find the same phenomenon:
Canada is selling oil to other countries, they use it for
the production of plastic and in fuel, and Canada buys
these products back. So Canada is relying on other countries and the reason why the balance between exports and imports is not negative are the huge quantities of
resources Canada has. Therefore we find the slogan:
"Canada for Canadians" and "Buy Canadian" to help the
people of Canada build up their country. Many Canadians
and Canadian businessmen feel that they should support
Canadian products and not "give help" to other countries.
By helping Canadian companies the level of self
sufficiency should be increased.
The manufacturing and processing industry in Canada
was growing over the last years. Exports of pulp, paper
and cellulose were making about 10% of Canadian exports
in 1983 and exports of machines and parts were making
about 30%.70 One big part of these exports consists of
the exports of auto-parts to the United States. Since the
car industry was very weak in relation to other western
countries Canada and the U.S. entered into an "auto-pact" 22
some time ago, providing for the set up of plants and
parts-production in Canada and allowing free trade of
parts over the border without tariffs.
The Canadian industries do not feel able to compete
in the international market, and they want the government
to protect their market by tariffs and whatever else it
takes, until they become competitive. As an example, I
would like to refer to the Canadian garment industry.
Whereas the U.S. has a large share of the international market, Canada just got onto her feet to get into the
market. So the Canadian industrial lobby asked for
tariffs to protect Canadian products against the U.S.
garment industry, which can produce larger quantities at
good quality for very competitive prices, whereas the
Canadian products are much more expensive.71 There are
different programs to build up Canadian industries, and
there are tendencies to keep the money in Canada to be
reinvested in Canada and increase Canadian employment at
the same time.
As an example, special programs helping Canadians
are to be found in the oil industry.72 Federal and
provincial programs try to get companies to drill for
more oil. They want more Canadian involvement and to keep
the money in Canada. Regulations make it advantageous for
Canadians to participate in each and any projects in
order to keep it feasable. So 100% U.S.-owned and other
foreign-owned projects would have to pay more oil 23 charges, whereas 50:50 U.S.-Canadian or 50:50
foreign-Canadian projects have to pay less. Under the
Alberta Petroleum Incentives Pogram (APIP), which applies only to Canadians, the government pays aid of $0.35 for each $1.00 spent on drilling expenses including expenses
for geological preparation for an exploration well. For a development well it pays $0.20 for each $1.00 spent. The program provides for some other incentives as well,
forcing U.S. companies to make a joint venture with a
Canadian company. U.S. companies by themselves do not get any moneys at all.
Under the Federal Petroleum Incentives Program
(FPIP), which applies outside Alberta, especially for
off-shore drilling in the Beaufort Sea, the government
pays $0.80 on each $1.00 spent. These programs help the
Canadian oil industry and Canadian companies. There are
also restrictions on selling natural gas to the U.S. and
restrictions on the production over and above certain quantities of oil, to keep the price of oil and natural
gas up.
A different treatment of Canadian controlled
companies and non-Canadian controlled companies is to be
seen also in terms of taxation, and I will refer to it in
more detail later on.
Special incentives are given for the development of
small businesses. Programs support them with initial
capital as well as cheap financing. Tax incentives allow 24 a lower tax rate (small business abatement) in order to help them build up.
So it can be seen that the general economic policy in Canada tries to give incentives for Canadians and Canadian companies, either by tariffs or by direct or by indirect subsidies. Direct subsidies are the APIP and FPIP Programs. Indirect subsidies are all kinds of tax incentives spread throughtout the I.T.A.
Looking at the Canadian tax law we will see those tax incentives for investment in different areas.73 Some of them have been mentioned already. Speaking in general, to encourage people to invest money in, for example, real estate, often a government increases the rate of depreciation or allows the investor to shelter other income by losses resulting from those investments.7" Other examples could be the Scientific Research Tax Credit (SRTC) by which Canada tried to stimulate investment in research companies75 and tax incentives given for the Canadian gas and oil industry,76 where the instruments of write-offs are used.77 As an incentive for investment in scientific research companies the government tried to implement tax credits for the investor (individual as well as corporate).78 Another example might be the Canadian movie industry, where investment in motion-picture films allows for write-offs.7 9 25
In all these cases, where taxation and tax law is
used as a part of the government's policy to create
investment incentives or disincentives it happens that
these advantageous tax rules are only for residents and
Canadian or Canadian controlled companies.
The bottom line of this policy is that Canadian
investment in Canada is supposed to bring economic growth
and economic benefits to Canada, whereas nonresidents'
investment inside Canada is not seen to fit this goal.
One of the assumptions along this line is that foreign
investors repatriate profits instead of re-investing them
in Canada. One other assumption is that foreign investors
are buying their supply abroad, whereas Canadians try to
buy Canadian goods. Let's have a closer look at both
arguments and see, if or up to which extent they are a
sound basis for taxation policy.
4.2.2 ASSUMPTION: FOREIGN INVESTORS REPRATRIATE THEIR
PROFITS INSTEAD OF RE-INVESTING THEM IN CANADA
The assumption that foreign investors repatriate
their profits instead of re-investing them in Canada was
discussed in the- reports dealing with the implementation
of FIRA.80 Foreign investors were supposed to undertake
investments in Canada intending to repatriate profits.
They also require payments in the form of dividends or
interest. Even if importing capital when the investment
is made, the result was supposed to be a very complex 26
series of inflow and outflow relations of capital which defy coherent analysis. However, in 1970 the Gray Report suggested that foreign direct investment would have a deficit impact on Canada within ten years of the investment itself.
On the other hand, it was noted that Canadian investors themselves often prefer to expatriate profits and invest outside of Canada, preferably in the United States. Part of the explanation for the Canadian exodus of capital may be that Canadians subsidiaries of American parents are often wholly owned by the parent company. The result is that Canadians cannot invest in those Canadian subsidiaries, but must invest in the parent company in the United States in order to gain an equity position.
Furthermore, the Canadian mentality was perceived to be one of extreme caution and lacked entrepreneurship in contrast to the United States lenders and equity players who generally had the resources and the initiative to take more speculative investments. The result was that in the Gray Report there was seen to be sufficient Canadian capital which was just not applied properly to Canadian circumstances but transferred abroad. Furthermore, the economic development in the United States was much faster and healthier over the last 10 years than in Canada. So many Canadian companies were expanding into the United States, setting up new plants there and concentrating on growth and profits there instead of further development 27 in Canada.
Last, but not least, there were major tax incentives to do investment in the United States:
(a) In the areas of corporate taxation in the U.S. we
find a favourable tax rate for non-distributed
profits in order to give incentives to re-invest
moneys in the company. For undistributed profits the
corporate tax rate in the U.S. is lower than in
Canada.81
(b) Before Janurary 1, 1985 the taxation of small
businesses was more favourable in the U.S. than in
Canada, since a favourable tax rate was applied for
the first US $100,000 in each year whereas there was
an accumulative account for the small business
abatement in Canada. However, since January, 1985
Canada allows for half of the normal tax rate for the
first Can $200,000 of net income from a Canadian
controlled private company as specified in sec. 125
I.T.A.82
(c) After introducing the capital gains tax on the
disposition of real estate in Canada, it was
favourable to do real estate investment in some
states of the U.S. providing for exemption of capital
gains when the proceeds are re-invested in real
estate.8 3
Depreciation was also higher in the U.S., where
- apart from older MURB buildings - the depreciation 28
is limited to 5% p.a. of the value of the building in
Canada.8* Therefore, comparing non-residents'
investments in Canada and Canadian investments, there
seems to be a similar tendency to take profits out of
Canada. However, payments of dividends and/or
interests are to be made for foreign shareholders and
chances are that foreign investors are likely to
repatriate profits up to a very high degree. As the
Gray Report concluded, foreign investment may have
(at least)85 "a mild cost effect in balance of
payments."
4.2.3 ASSUMPTION: FOREIGN INVESTORS ARE BUYING ABROAD,
CANADIANS ARE BUYING CANADIAN
With regard to imports, in the Grey Report it was
found that subsidiaries import one-third of their purchases. Subsidiary firms were responsible for 40% of total Canadian imports in 1969. If automobiles were excluded, the figure drops to 24%. Only 36% of Canadian companies bought 95% or more of their supplies and services from Canadian sources. Only 11% of foreign owned businesses bought 95% from Canadian sources. This high
level of importation by Canadian subsidiaries could be explained by the subsidiaries' desire for constant source of supply, advantages granted by the parent, contracts developed in the U.S. market, parent companies' purchases
in bulk, desire to keep U.S. unions happy and simply 29 because they are following standard procedures. This high degree of importation was seen to contribute to slowing down the Canadian manufacturing sector, squeezing out efficient Canadian suppliers of both materials and services and having decisions based from abroad on insufficient information. Usually import purchases are based on sound business principles but are still damaging to Canadian suppliers of both raw materials and services.
Unfortunately, I do not have any statistics on the degree of buying abroad and buying Canadian since that time. But we have to conclude that foreign investors contribute to high imports at a relatively higher ratio than Canadians. So we find that those assumptions are right, at least to some extent.
It may be hard to analyze the economic costs and benefits of foreign investment in Canada. The root problem may well be that Canada is too small to compete with the United States and therefore will always be a net
importer of technology, capital, skills, and some form of materials. The problem, it must be emphasized, is one of degree. But if Canada depends on foreign investment, foreign investment is part of the economic development of
Canada and creates growth and benefits at least to some extent.
Speaking in terms of taxation, one could imagine that Canadian tax policy would implement tax incentives
for foreign investment in areas where it is needed or 30 desireable and tax disadvantages in areas where it is not. As I discuss the different areas of taxation, I will try to put my finger on those economic benefit considerat ions. 5. LEGITIMATE FORMS OF DISCRIMINATION IN TAX LAW
As we did see, there are some technical reasons for a distinctive taxation of residents and non-residents.
There seems to be also different economic implications of
domestic and foreign investments in Canada which may
explain why tax incentives in Canada are not given to
non-residents and non-Canadian controlled companies. But apart from those considerations I would like to establish
a legal framework to determine legitimate forms and
illegitimate forms of discrimination in tax law. To give
a background I would like to introduce some problems of
discrimination in international law in general before I
will concentrate on the special aspects of discrimination
in taxation.
5.1 DISCRIMINATION IN INTERNATIONAL LAW
The term non-discrimination is taken from Anglo-American
law into international law and international business
law.86 The word "to discriminate" originally came from
"discriminare" in the latin language, which had the
meaning of to distinct, to see a difference.87 Today the
term has different meanings. In French 88 and in German89
it is used in the sense of "to see a difference" 90 and
"to distinct." More often "discrimination" is used in the
negative sense of "treating somebody worse than others,"
"not giving the same rights to all" or "to discriminate
against somebody." This dual meaning seems to be common
31 32 in French and English too.91 Therefore Francis92 defines discrimination as all kinds of treatment or social behaviour which result in any disadvantage for individuals, social groups or countries, neglecting the
"principle of equal treatment."93 While in commerce the term is used more in a neutral sense of distinction,94 in political science it is used in the sense of undesireable treatment95 and in law it is often used in the sense of not justified different treatment.96
Hereby it is not explained why a different treatment is considered as unjustified. A different treatment could be signified as unjustified because it is perceived as unjust97 or undesireable98 because it is considered as unlawful99 since it is contrary to the intention of the law. Only if the standards and the purposes the term discrimination shall serve for are included in a legal context, we get a legal term. If, however, the standards and purposes of the term "discrimination" exist only in a political concept we get an economical or political term.
In the political sector the term discrimination is vague because it contains variable factors100 and can therefore be misused. It often serves as a hidden incitation to change the status quo. The term receives its economic policy tenor only with regard to the purposes it serves for.101 Therefore the term discrimination can only have a relatively constant tenor in a legal context.102 33
Equal and different are alternative terms. They
exclude each other and are supplements at the same time
because one is the correlate of the other.
Therefore the principle of non-discrimination means
"not to be allowed to treat different" as well as "to have to treat equally." Consequently, the principle of
non-discrimination prohibits a different treatment and
requires equal treatment at the same time. Therefore, the principle of non-discrimination represents itself as a
negative worded principle of equal treatment.103
5.1.1 GENERAL IDEAS ON DISCRIMINATION IN INTERNATIONAL
LAW
As a principle the international law includes a
general but formal prohibition of discrimination.104 It
is derived from the principle of equailty of the
countries.10 5
Concerning the equal international status of
countries as international bodies106 (we would call them
"human rights of countries")107 these are fundamental
principles like the principle of self-determination,
self-esteem, survival, the principle of equal treatment,
and the principle of formal equality.108 Apart from those
rudimentary legal effects there is no general prohibition
in international law which requires equal rights and
obligations for every country.109 The equality of the
countries in international law means that each country 34 can plead its rights and has to fulfil its obligations.110 With reference to the treatment of foreigners - however, not of foreign legal entities or companies111 - and their assets, certain minimum rights are recognized by customary international law. It is not allowed to short of the minimum legal position of foreigners which is granted in accordance with this minimum standard by customary international law.112 This general prohibition of discrimination relating to international law for the protection of the human rights of foreigners is widely accepted, for example: for their recognition as a legal subject, there is the recognition of the essential rights of liberty, the right to take legal action, protection against criminal offence.113 In addition, the international law includes a "prohibition of grave and intolerable encroachments."
A general principle of the international law which allots a relative equality of special rights and obligations of the countries and - indirectly - their people that means an equal treatment in financial matters of non-nationals is not accepted114 apart from the above mentioned restriction. Discriminations are only considered to be an unfriendly act which justifies retortion unless a special statute of international law signifies the contrary.115 35
5.1.2 PROHIBITION OF DISCRIMINATION IN INTERNATIONAL LAW
In international law there was a requirement to implement the rule of equal treatment into agreements.
Apart from a limited number of cases, first of all in the law relating to aliens, the proof of a special title for the equal treatment is always required. The international law includes a number of standard clauses which appears often in a modified form.116 The parties to a contract are bound by the reciprocity clause which grants the equal treatment for each of them.117 Therefore this clause limits the obligations in accordance with the reciprocal equal rights and obligations of the contracting parties.118 Sometimes the "reciprocity clause" serves to limit a most-favoured-nation clause.119
In relation with third nations, however, this system of reciprocal agreements leads to different treatment for each country. This can be excluded by the agreement of a most-favoured-nation clause.120 Within the scope of the most-favoured-nation clause121 the contracting parties oblige themselves - mostly mutual122 - to grant favourable treatment for the contracting countries and their citizens, companies, ships, vehicles and goods as they did for the citizens, companies, ships, vehicles and goods of the most favoured countries they ever negotiate with. By this the favourable treatment is extended always to the contracting parties who granted the most favoured nation treatment reciprocally. This clause is specially 36
implemented in treaties on Friendship, Commerce and
Navigation. Being used in international agreements this clause is even more effective.123 The principle of equal economic rights within the scope of the open-door policy124 as it was realized first by the Congo-Act of
February 26, 1885 today deserves only an historicl
interest.125 Tertium comparationis is the treatment of each contracting country or third country and their citizens in a corresponding situation.126
While the most favoured nation clause refers to the
treatment which is granted to foreigners, the national clause provides for an equal treatment compared with nationals127 who are in the same position. Whether the
foreign citizens, companies, ships, vehicles or goods are
in the same position with the nationals has to be decided according to the facts which determine the national
statutes. The legal consequence, the procedure and the
kind of application of the law form the "treatment" for
the nationals, which has to be extended to the favoured
foreigners without any exception. The national clause is
used very often in Friendship, Commerce and Navigation
Treaties, either by itself or in combination with a most•
favoured-nation clause.128
Since the United States became one of the super
powers of the world, a more specialized understanding of
the principle of non-discrimination spread out in
international law.129 In a negative sense the 37 non-discrimination clause determines the obligation of equal treatment130 by prohibiting different treatment for the contracting parties.131 The clause is used in areas of administrative planning especially in the area of quantitative restrictions.132 According to its origin it
is tied to the distinction of "unreasonable," "arbitrary discrimination" in contrast to the "reasonable classification"133 which developed as a consequence of the interpretation of the "Equal Protection Clause" in the 14th Amendment to the U.S. Constitution. The non-discrimination clause is found in political agreements as well as in trade agreements because it is more adaptable134 than the standard of the most-favoured nation treatment and treatment of nationals. It was used
for the protection of human rights, especially for minorities,135 in the area of international trade and
European integration.
5.1.2.1 Examples of Prohibitions of Discrimination in
International Law
Since the 15th century there exists contractual
agreements which protect the equal treatment in
international law136 especially in the area of trade
in the form of most favoured nation clauses in trade
agreements and Friendship, Commerce and Navigation
Treat ies.
In the Berlin Document of February 1885 equal
rights for economic activities were laid down for the 38
Congo-Basin ("egalite commercial") - also called: open-door policy. Similar agreements were following
for regions belonging to the interest sphere of different powers, assigning for a complete commercial equality of the citizens of the contracting countries
in those regions.137 In the peace-treaty of
Versailles of June 28th, 1919138 contractural clauses which contain the word "discrimination" are used for the first time in the form of a prohibition of discrimination against the Polish minority in
Danzig.139 In addition, by the Treaty of Versailles the German Empire was bound not to discriminate against the trade of a former enemy compared to a third country140 and not to undertake "discrimination or preference" ("distinction ou preference") relating to the routes of transportation or the nationality of the means of transportation.141
In particular, one group of prohibitions of discrimination should eliminate the "arbitrary discrimination" ("discriminations malveillantes").
The prohibition of malevolent discriminations were
specially intended to prevent the misuse of
regulations which allow import and export
restrictions in order to protect the public security and order as well as the essential security interests
(see Convention for the Abolition of the Restriction of Import and Export dated November 8, 1927).142 39
There are further prohibitions of malevolent discriminations of citizens, ships, railroad cars or alien goods in the "Geneva Convention on
International Railroad and Ocean Traffic."143
Distinctions regarding only the ship's flag were quoted as an example for a malevolent discrimination.144
After World War II there were bilateral and multilateral agreements including numerous non-discrimination clauses. As an example for the prohibition of discrimination laid down in a bilateral treaty we can refer to Art. V sec. (3), XII sec. (3), XIV sec. (3), XVII sec. (3) and XIII sec.
(3) of the Friendship, Commerce and Navigation treaty between the United States and the Federal Republic of
Germany of October 29, 1954.145
Several international organizations declare their special intention to get rid of and to avoid discrimination.146
Article VIII sec. (3) of the Agreement on the
International Monetary Fund of December 27, 19451"7 prohibits discriminatory practices in the policy in
international currencies. The General Agreement on
Tariffs and Trade of 1947 (GATT) includes not only a general most-favoured-nation clause for the area of customs duties and declarations and the formalities connected with them148 but it includes also 40 regulations for the non-discriminatory application of quantitative restrictions1"9 and a prohibition of discrimination for international trade of socialist enterprises and monopolies owned by countries.150 In addition, in the GATT-Conferences the GATT creates a platform to remove discriminations.
Like the GATT the OEEC codex of liberalization provides the abolishment of every discrimination between the member countries as well as against one of them. The provision refers to every discrimination in any part of international business unless there is an explicit exception.151 The EEC-Treaty as well as the Treaty of the Foundation of the European
Community of Coal and Steel (MUV)152 includes many prohibitions of discriminations.
As a general clause Article 4(b) MUV prohibits all "measures and practices" which cause a discrimination between producers, buyers or consumers for the coal and steel industry. Contrary to the international prohibition of discrimination which is suited for the countries, hereby a general and direct obligation of equal treatment of the participants of the market (producers, merchants, consumers) is created153 and the administration as defined in Art.
7 and Art. 8 MUV has to ensure its observance. This prohibition of discrimination directly effects enterprises.15" The administration of the community 41
(Art. 8 MUV) and all member countries155 have to obey
it. The general prohibition of discrimination is
specified by a number of instructions. The administration is not allowed to determine discriminating restrictions for productions and consumptions (Art. 58 (2) MUV). It has to specially observe the prohibition of discrimination (Art. 4(b)
MUV) for mergers and acquisitions (Art. 66 (2) MUV).
The treaty includes the prohibition of discrimination
relating to prices (Art. 60 (1) MUV), freight and
transport regulations (Art. 70 MUV) and relating to
national and alien employees, especially for their
salary and their working conditions (Art. 69 (4)
MUV) .
Also the (EURATOM-Treaty)156 Treaty of the
Foundation of the European Atomic Community includes
prohibitions of discrimination in Article 52, 68, 93
and 97. These articles guarantee the availability of
atomic material for all member countries, their
citizens, and enterprises. This includes a supply and
customs policy equal for all of them. Furthermore,
the prohibitions intend to abolish the limitation of
the access to qualified employment in the nuclear
field (Art. 96 EAG-V) as well as the participants in
the construction of scientific or industrial atomic
plants, based on nationality.157 42
5.1.2.2 The Intent.of Prohibitions of Discrimination
The prohibition of discrimination includes always a command of equal treatment.158 The most favoured nation clause and the national clause as well as the non-discrimination clause form the principle of equal treatment in international law.159
The principle of equal treatment is binding to the extent of the respective contractual international agreement as it is worded in different situations. To determine its special content therefore it is necessary to determine the ideas and terms of equal treatment as it is used in each case.160
The question is which main aspect and in which relation the parties to a contract wanted to ensure an equal treatment. According to the point of view which determines the contents of the idea of equality we have to decide which criterions, relating to the situation, should be taken in a case.161 The prohibitions of discrimination in international law are based on the principle of equal treatment.
Therefore they have to be determined according to the norms of international law162 unless the prohibition of discrimination refers to the respective national
law. In accordance with the respective point of view we must decide whether two or more situations give
reasons for a different treatment. The contents and means of a situation as intended by the parties 43 determine its different understanding. Most non-discrimination clauses prohibit a different treatment only in a special limited scope.163 Usually they include special situations which effect the economic relations with other countries. Therefore, the obligation is limited.164 In general, the national clause is only accepted for the legal status of foreigners in the private order of the country of residence and does not grant the access to public and administrative positions. The national clause also does not grant any political power.165 On the other hand, the prohibitions of discrimination are subject to limitations within the scope of Art. XII, XXIV,
XXV, GATT, and Art. 8 OEEC Codex of
Liberalization.166 The personal, regional and
factural scope of the principle of equal treatment or prohibition of discrimination can only be determined
in the context with other provisions and in consideration of the facts of the respective scope of application.16 7
The most-favoured-nation clause and the national
treatment clause are worded as positive prohibitions of discrimination and take reference to a fixed
standard of comparison. The respective level of comparison is valid for the negative worded prohibition of discrimination and has to be determined for the respective provision.168 It can 44 refer to the treatment of nationals but it can also refer to the treatment of foreigners which differs from the treatment of nationals. The respective prohibition of discrimination can be defined by indicating the points of view which decide on the situation. Sometimes the points of view have to be taken from the systematic context of the other provision of the same treaty. For example: It is accepted that the prohibition of disrimination of
Article 14 of the European Convention of Human Rights includes rights and liberties and an independent violition of Article 14 cannot be asserted.169
The wording of the prohibitions of discrimination can also be let open for every single country. The most-favoured-nation clause gives complete freedom in the creation of the "favoured" treatment170 unless it is combined with the obligation to keep the status quo.171 The national clause does not instruct how to treat the nationals.172 Therefore, the obliged country is authorized to decide the points of view which determine the position of foreigners compared to that of nationals or the position of foreigners of the most-favoured-nation. Therefore, the national authority refers to the points of view of the respective national legislation and the standard of the legal application for nationals or the foreigners 45
from most favoured nations. The equal treatment
required by the prohibition of discrimination can be absolute or relative.
If an appropriate equality incurs as a consequence of a well-balanced constellation of power, the equal treatment clauses only create absolute equal opportunities, e.g., in the form of
the most-favoured-nation treatment or the treatment
of nationals.173 If, however, the free acting of the market is disarranged by a planned economic action
with a contrary trend the existing equality must be
replaced by an artificial one which corresponds to
the different efficiency of each country.17* The
relative equality has to be realized according to
Article XIII GATT. The relative equality takes into
regard the qualitative and the quantitative
discrimination of the economic efficiency of the
countries in terms of their import quota.175 The
principle of equal treatment can be regarded more
formal or essential. It is called formal if it offers
an equal treatment in an external treatment in an
external-formal sense. An only formal obligation of
non-discrimination permits that the treatment can
depend on conditions which on the one hand are
"general" in a formal sense and do not have to have
any objective connection with the discrimination and
therefore actually discriminate certain groups of 46 people which should be treated equally.176 In order
to avoid a circumvention of the respective
prohibition of discrimination the prohibtion of
discrimination relating to international law should
be interpreted.177 A special kind of the essential
equal treatment is the real equal treatment. As a
result this really means equal treatment. Every
prohibition of discrimination has a positive and a
negative aspect, because of the alternative nature of
the term of equality.178 A discrimination can mean to
treat the non-comparable equally and to treat the
comparable different.179 Trying to reach an equal
status under different circumstances the principle of
non-discrimination can give away the equality of the
means180 and can require a different treatment
because it has to take into consideration the actual
difference of the objects of comparison. In this case
the equal treatment of the non-comparable would be a
discrimination.181 The relative equal treatment
differs from the actual equal treatment in the manner
that the relative one only stands for a quantitative
discrimination of the respective objects of
comparison while the actual equality can also require
a qualitative discrimination of the objects of
comparison.18 2 47
5.2 CONSTITUTIONAL AND ADMINISTRATIVE PROHIBITIONS OF
DISCRIMINATION
The principle of equality of the citizens before law is
implemented in every constitution of the member countries of the European Community with the exception of the
Netherlands.183 The principle of equality is also embodied in the constitution of Switzerland18" and the
United States of America.185
5.2.1 OBLIGATION OF THE ADMINISTRATION TO FOLLOW THE
PRINCIPLE OF EQUALITY
In the Netherlands the general principle of equality
is a general principle of law. It is one of the general principles of an ordinary administration.186 The Dutch
Constitution includes only several special prohibitions of discrimination which should grant the permission to
take up public offices,187 the same protection for
persons and property188 and protection for the religious affairs of Dutch citizens.189 In the Netherlands casebooks on administrative law derive the principle of
equality in taxes from the general principle of
equality.190 It is also accepted if it is used in public
affairs.191
The adminstrative law in France did not develop the
principle of obligation of the administration to follow
the principle of equality relating to the precedents of
the French Council of State (Counseil d'Etat) in 48 accordance with the Constitution but as a general principle of administrative law.192 Particularly in the area of the economic administration the Conseil d'Etat regards the principle of non-discrimination as the counterbalance to further authorities and the strong dependence on the economy.193 The area of application of the French principle of equality covers three main groups of cases: It concerns the equality under the law, the equality under public charges and the equality in public services (services publiques).194 It unites the administration in the area of the "Eingriffsverwaltung"
(regulative administration) as well as the
"Daseinsvorsorge" (distributive administration) and in the scope of the administration of the economy.195 The
Conseil d'Etat considers that the administration of the economy is infringed with the principle of equal treatment and has to be repealed as "detournement de pouvoir" if the plaintiff in an "action en contestation de validite" (an action to set aside administrative acts) can prove that the contested provision is led from motives which differ from those of the public interest. 1 9 6
The Italian administration jurisdiction of the
Council of State does not derive the ties of the administration to the principle of equal treatment from
Art. 3 of the Italian Constitution197 but from the principle that the administration has to be independent 49 from the political parties.198 The ties of the legislator concerning the principle of equal status is derived from the Italian Constitution.199 The violation of the principle of equality by the administration is considered as an abuse of discretion, as well as in the legal sense as in the precedents. This is the same in France (eccesso di potere).200
Contrary to the above mentioned member countries, in
Belgium,201 the Federal Republic of Germany202 and
Luxembourg203 the principle of equal treatment is taken from the constitution and governs all of the public administration204 but, even without any constitutional guarantee, it would be one of the important principles of law.205
5.2.2 TIES OF THE LEGISLATION TO THE PRINCIPLE OF EQUAL
TREATMENT
It is essential that in several member countries as
Italy206 and in the Federal Republic of Germany207 the legislator is tied to the principle of equal treatment.
This is valid in Switzerland too208 and the United
States.209
5.2.3 THE PRINCIPLE OF EQUAL TREATMENT IN CONSTITUTIONAL
AND ADMINISTRATIVE LAW
The principle of equal treatment requires an equal application of the law. Following Aristoteles' command of 50 a relatively equal treatment the law has to allot "suum quique." By this the difference in society and in the social reality should be taken into consideration.210
Having real differences in reality the equality shall be
limited.211
But the decisive question is: Which differences are
relevant and justify a discrimination in an individual case? If affairs are qualitatively equal, which quantitative differences are relevant and require, therefore, a relatively equal treatment?212 The characteristics being relevant for a comparison depend on
the points of view for comparison. The respective valid point of view for comparison, the intention of the equalization determines the choice of the decisive characteristics for comparison.213 The object of comparison and the characteristics of these objects have
to be considered by turns with the points of view for comparison. The German "Grundgesetz" (constitution)
specifies the point for comparison partly negative by enumeration of the irrelevant different characteristics.214 However, this enumeration is not complete. In an individual case where the negative characteristics do not count the respective valid
positive point of view for comparison has to be
determined. According to Ipsen, principles of
constitutional order determine the comparison, like: the
democratic principle, the principle of law and order, the 51 separation of administrative, legislative and judicial power, the social element and the character of a federal authority.215 In the area of adminstrative discretion points of view for comparison have to be specified
relating to the intention and the limits of the di sc ret ion.
An important criterion is the scope for the comparison.216 Relating to the political rights the principle of equal treatment has to be interpreted different than relating to tax law, trade, international
trade law or the right to expropriate. If an economy is driven by interventionists, the prohibition of discrimination in economic law has a more specified scope of application than in a liberal economy.217 Therefore an
interventionist measure violates only the prohibition of discrimination if two cases which are equal relating to
the aims of the intervention218 are treated different (in a discriminatory manner).
On the other hand, the addressee and his competences and the margin of discretion which is granted to the
respective addressee are important. While the principle
of equal treatment in the scope of administration is
understood as an abuse of discretion, it limits the
discretion of the legislator only as prohibition of
arbitrary actions.219 Therefore, an abuse of discretion
and inconsistency with the principle of equal treatment
are only given, "if there is no reasonable argument which 52 derives from the nature of the matter or any other logical reason for the legal discrimination or equal treatment."220
The margin of discretion is extended by the interpretation of the principle of equal treatment. The legislator does not need to chose the "most expedient,"
"the most reasonable" or the "fairest" solution relating to a determined aim or model.221 Therefore the principle of equal treatment is binding for the legislator. It is not necessary that all real differences are taken into consideration but the legislator has not to treat relevant equal situations as different and relevant situations not equally.222 Arbitrary actions are only given "if an appropriate reason for a legal determination cannot be investigated."223 For example, if the legality which is a part of the matter22" is disregarded relating to the idea of equality. This interpretation corresponds to the interpretation in the United States of America and in Switzerland.225
As the natural prohibition of discrimination is considered as an arbitrary action (prohibition of abuse of law) a margin of discretion for the definition of general valuation is placed. By this the difficulties are considered which are opposite to a definite interpretation of the term equality in a special
individual case with regard to an abstract noun. The terms reserve to infringe226 the tasks and 53 responsibilities which are assigned to the administration or the legislation by declining of the control of expediency and the restriction of the control of discretion.
Whether a discrimination exists has to be seen relating to the practical effect of a rule for the individual act and not in accordance with a formal reason. Therefore the principle of equal treatment has the aim to realize an essential equality and not to be a formal one.227 From the mentioned examples of prohibition of discrimination in international law and in constitutional and administrative law of the member countries of the EEC we can learn that the prohibition of discrimination depends on
the area of power of the addressee of the prohibition
and on the possibility to make differences based on
real relations or in the scope of the legal order,
sphere they have effects on, and
the system of norms who the idea of equality should
be realized as a general clause with regard to the
valid value for the defined factual scope.
5.2.4 CONCLUSION
As a conclusion we can see:
(a) that non-discrimination is a negative wording of the
principle of equal treatment,
(b) that non-discrimination and equal treatment are 54
principles of international law,
(c) that the realization of those principles actually
depends on the countries involved and that the main
instruments to implement and guarantee equal
treatment are international treaties,
(d) that even without those treaties there is a minimum
standard in international law.
5.3 DISCRIMINATION IN INTERNATIONAL TAX LAW
Debatin, a well known German writer on international taxation, said in his article about discrimination in tax law: In international law we find the principle of non-discrimination.228 However, its content is too vague and not enough for an exact determination of criteria in taxation. On the other hand, "it belongs to the basic elements of modern legal systems that all regulations and actions of any country are determined by the principle of equal treatment."229 Art. 3 Grundgesetz230 implements a provision guaranteeing a general equal treatment. Those guidelines have to be determined exactly in each case according to the circumstances, because the principle of equal treatment does not mean a legal equality in an absolute sense, but it is a consequence of the principle of fairness, that equal has to be treated equally and different has to be treated differently. Following this
line the legislation of the German court of constitution
is interpreting the principle of equal treatment in the 55 way of disallowing unequal or discriminating treatment, where a sound reason, being taken from the nature of the facts and the circumstances, or a proper reason is missing,231 therefore disallowing an arbitrary distinction. This has to be applied in taxation too, and hence it is where one of the central areas of application
is. Differences in taxation are legitimate, if there is a sound reason for them. If not, they are illegitimate.
Therefore it has to be determined if situations being seen as different in a legal sense actually are different in fact, justifying a different legal treatment.
It is extremely difficult to apply those criteria, while guaranteeing a subtle differentation as can be seen
in the legislation of the German court of constitution.
In the German tax law a lot of changes were necessary in order to comply with the principle of equal treatment.232
Those were not in the areas of international taxation, even if we find the biggest differences in fact in this area. Making a distinction between residents and non-residents in taxation is not to criticize in itself, since there have to be differences at least in a technical way. But also the taxation of world wide income and the taxation of income derived only from sources of a country make a difference. Critical is the determination, which criteria for the different treatment of residents and non-residents are to be chosen in detail, according
to the principles of international and constitutional 56
law.
From the abstract rules developed above we can only take abstract guidelines, that an arbitrary discrimination is not justified in international
taxat ion.23 3
5.3.1 NON-DISCRIMINATION ACCORDING TO ART. 24 OF THE OECD
MODEL DRAFT CONVENTION
The principle of non-discrimination got its
"break-through," its wide international acknowledgement and recognition in international taxation when it was
implemented in Art. 24 of the OECD Model Draft Double
Taxation Convention on Income and Capital.23" More correctly, the principle of non-discrimination was already a subject of the first recommendation which the
OEEC as predecessor of the OECD gave out as a draft model
for all international tax conventions.235 The fact that
the principle of non-discrimination was made part of the
OECD model convention did not make it binding in terms of
international law. The model convention itself is only a
recommendation given by OECD to implement the model clauses in double tax conventions to be negotiated by its member countries. So the recommendation to implement the
principle of non-discrimination is only a recommendation
too. But the OECD model convention actually had a
thriving impact on the negotiation of international
double tax conventions, and non-discrimination is a well 57 established criterion in the concept of modern conventions.
The principle of non-discrimination has got different intentions and reasons. Its roots are laid down
in different areas: Those are citizenship, the fact of doing business and the dependence on the source of the capital. a) In relation to the criterion of citizenship,
countries are not allowed to tax citizens of a
foreign country which is a member of the OECD Model
Double Tax Convention more burdensome than their own
citizens. Treaties following the OECD Model Draft
Convent ion naturally do include stateless into this
principle of equal treatment. In this case there is
only one exception left for people being citizens of
a third country, where there is no double tax
convention. Here the reason is the principle of
reciprocity. But it is not necessary to forget about
the principle of non-dicrimination. It would be
sufficient to refuse the equal treatment in the area
where the other country is taxing discriminatory
itself.
b) In relation to the same branch of business the
principle of non-discrimination does not allow a more
burdensome taxation of foreign branches of another
country than it is granted to domestic companies in
the same business. Here we have the most important 58
effect of the principle of non-discrimination. It
grants the same treatment in taxation for a foreign
branch as it is given for domestic companies.
Therefore, in this area the principle of
non-discrimination does not intend neutrality of
competition as far as taxes are concerned, c) In relation to the different sources of capital the
principle of equal treatment does not allow a more
burdensome taxation for companies where the capital
is totally or partly, directly or indirectly in the
possession of persons living in a different country
or being under control of those people. The factor of
control of the capital does not allow a different
treatment. But it is important to keep in mind, that
the principle only includes the taxation of the
company itself and not the taxation of persons who
control or own the capital of the company.
5.3.2 THE APPLICATION OF THE PRINCIPLE OF
NON-DISCRIMINATION
The principle of non-discrimination being a part of double tax conventions does include all taxes under the convention. Usually those are income taxes and the
taxation of capital. Other taxes, especially indirect
taxes, are not included in the protection of the
principle of non-discrimination. The result does not meet
the intention of the principle of non-discrimination. 59
There is a need of this principle for all areas of taxation which is included in double tax conventions. If
the principle of non-discrimination would not include
specific taxes they would realize ideas opposite to the basic idea of international double tax conventions.
Therefore the modern concept of double tax conventions do extend the principle of non-discrimination on all taxes.
Therefore the principle of non-discrimination does mean any discrimination of all kind and independent of its
name, as it is included in the OECD Model Draft
Convent ion. The idea and intention of the principle of
non-discrimination require to realize it as far as possible. Double draft tax conventions actually do
include all kinds of taxes in the principle of
non-discrimination.
5.3.3 DISCRIMINATION RELATING TO THE
NATIONALITY/CITIZENSHIP
Looking at the principle of non-discrimination which
is laid down in the OECD double tax convention, countries
are not allowed to tax foreign citizens more burdensome
than their own citizens. Therefore we find a
discrimination wherever foreign citizens are taxed more
burdensome than nationals under the same circumstances.
This means that a more burdensome taxation relating only
to the nationality is not allowed because of the
principle of non-discrimination. Because of the 60 nationality, somebody must not be taxed worse than others. The reason does not matter. Therefore, it is not necessary that the purpose of a provision is the discrimination of foreigners. If the principle of non-discrimination is laid down in the double tax convention, we have to look if it is a principle for a certain group of people or if it is related to the origin of people who have to be resident in one of the countries of a convention. In the latter case, the principle of
non-discrimination would not help for citizens of one of
the countries of a convention if they are resident in a
third country. A discrimination only exists if a foreign citizen is taxed more burdensome than a national under
the same circumstances. Differences in taxation based on distinctions of the legal and real circumstances, without any regard of the nationality, are not understood as a
discrimination. This is important for the distinction of
the so called "beschrankte" and "unbeschrakte" taxation, as it is laid down in sec. 1 para. (1), (2) and (3) of
the German Income Tax Act.236 This is not tied to the
person who actually has to pay taxes inside or outside
the country. A different treatment of residence and
non-residence in itself does not originate from the same
circumstances. Therefore it is not a discrimination in
itself. The OECD principle of non-discrimination defines
citizens not only as individuals, but also as all legal
entities and partnerships which are established in 61 accordance with the law of the respective country.
Therefore, a criterion for the "citizenship" there is the
law of incorporation. We therefore have a discrimination whenever a legal entity or partnership being incorporated outside of the country of taxation is taxed more burdensome than legal entities or partnerships
incorporated inside that country. But, of course here we have also to compare its situation under the same circumstances. This is lacking if in one case the legal entity is resident in the taxing country and in the other case he is resident outside of that country. In the
German law the difference between "beschrankter" and
"unbeschrankter" taxation is based on this difference.
According to section one of the German Corporate Tax Act, a company is resident in Germany if the center for management or control is inside Germany. Consequently the difference of "bechrankte" and "unbeschrankte" taxation
is not a discrimination in itself. In accordance with the
principle of non-discrimination, a discrimination is only
given if a company which maintains a place of management
within the country and being treated as a resident of
that country is treated worse than a company which is
incorporated according to foreign law. If cases like this
do not happen very often, this is not an argument for the
weakness of the principle of discrimination. It is only
to be seen as a proof that those cases do not happen very
often. 62
5.3.4 DISCRIMINATION OF BRANCHES
The prohibition of discrimination for enterprises has the aim to grant at least the same conditions of competition as they exist for the respective activity of domestic enterprises. Based on the typical conditions of double tax conventions the OECD clause says: It is not allowed to set up more burdensome taxes for a branch being maintained by a company of the other country of the convention than for a company being resident in the taxing country, if they are doing the same kind of business.
Therefore the principle of non-discrimination is related to the enterprise. More exactly this means that it is related to the entrepreneur. He has to be a resident in the country which does grant the principle of non-discrimination under the treaty. This means that he must be subject to the "unbeschrankte"237 taxation. The citizenship does not matter.
The principle of non-discrimination is directed towards branches. By this the principle of non-discrimination is implemented in the concept of double tax conventions which only allow taxing a foreign company if it does not maintain a branch inside the taxing country. The business carried on by the branch is not to be taxed worse than as if it would be carried on by a domestic company. This protection is directed against a more burdensome taxation of "beschrankte" 63 against "unbeschrankte" taxation. This is the basic difference from a discrimination based on nationality or citizenship which does not take the difference of
"beschrankter" and "unbeschrankter" taxation into consideration. The prohibition of discrimination of branches does aim at a taxation of branches which is exactly the same for the "beschrankte" taxation as it is for the "unbeschrankte."
Here we have a sign that the principle of non-discrimination of branches does not give favours to foreign enterprises.238 The reason is that this would mean to build up the taxation of.foreign enterprises on the favourable tax treatment of the "unbeschrankte" taxation. The difference between "beschrankte" and
"unbeschrankte" is part of all modern tax systems and this would not be valid any longer. It is clear that this cannot be included in the principle of non-discrimination. The principle of non-discrimination is restricted on the prohibition to tax branches more burdensome than domestic enterprises doing the same business.
In order to define the prohibition of discrimination we have to distinguish between the effects of taxation referring to the branch and the business of the plant on one hand and to the scope of taxation of the entity on the other hand. This is not to be seen as a contrast or in a sense of a separation between the taxation of 64 companies and individuals.239 The taxation of branches depends on the characteristics of the company in order to determine income and corporate taxes. In spite of this, there are elements in taxation of branches which can be compared with the elements of taxation of income of the individual. This is expressed in the traditional clause of the taxation of branches according to the
OECD-formula, which does compare the business carried on by the branch to the domestic enterprise. But on the other hand, countries are not obliged to grant the same amount as tax free for branches and for foreign enterprises as they do for the domestic companies.
Therefore, the rule of taxation which has to be applied in a certain case depends on the fact if the branch is situated inside or outside of the area which is covered by the principle of non-discrimination. Not covered by the principle of discrimination, there are the elements of taxation relating to the taxation of the
individual. Taxing somebody within a low tax bracket according to his personal income is neutral for the principle of non-discrimination. Outside of the principle of discrimination there are all kinds of taxation which are based on the specific elements of the individual as opposite to the kind of business of the branch, even if they do not belong to the amount of income of the
taxpayer. Anyway, in order to compare taxation we have to
look at the result of the tax provisions. The taxation of 65 a branch must not be higher than the taxation of domestic companies. Different kinds of taxation do not matter.
Therefore it is not a discrimination if the kind of taxation of a branch differs from the taxation of a domestic company unless the taxation is more burdensome.
We have to compare the taxation of the branch and the taxation of a domestic company, doing the same business. However, this comparison between a branch and a domestic company is not always possible because the branch is not a legal entity. As an idea we have to add the element of a separate legal entity as a fiction according to the situation of a foreign corporation.
Therefore we have to compare a foreign company to a domestic one of the same kind. This is especially important for the corporate taxes. The corporate taxes of a domestic branch of a foreign company cannot be examined as it can be done for a domestic sole proprietorship having the same elements as a branch. But the taxation of a domestic branch has to be compared with the taxation of a domestic corporation.
5.3.5 DISCRIMINATION ACCORDING TO THE CONTROL OF CAPITAL
The principle of non-discrimination does not allow taxing the domestic company more burdensome because its capital does not belong totally or partly, directly or
indirectly, to persons who are residents abroad. The same principle does not allow taxing domestic companies more 66 burdensome if they are controlled by persons who are resident abroad. The topic is not to tax the persons holding the shares in the company but to tax the company itself. The fact that capital is coming from abroad should not be a reason for a more burdensome taxation.
The sense of the prohibition of that kind of discrimination is obvious but it is not very effective for the tax system because that kind of discrimination became rare.
5.3.6 CONCLUSION
We therefore can conclude:
1. The principle of non-discrimination does commit
countries to an equal treatment in taxation.
2. The principle of equal treatment has to be considered
for companies as well as for individuals.
3. It also commits to a comparable taxation of residency
and non-residency as well of Canadian controlled
companies and non-Canadian controlled companies.
4. We still have to treat branches of foreign companies
operating inside a country different from companies
being incorporated there, but only to the extent as a
different treatment of the branch is a logical
consequence of the different legal status. Compared
to a domestic company, a branch should not be taxed
more burdensome. 6. CANADIAN TAXATION OF NON-RESIDENTS240
Non-resident persons who are employed or carry on business in Canada or dispose of taxable Canadian property are taxed primarily under Part I (sec. 2, 115 and 116 I.T.A.), whereas non-residents receiving income from Canada are taxed under Part XIII I.T.A.
I will just give a rough idea on Part I tax, without going into too many details. As I already pointed out
German non-residents are not always subject to Canadian taxation, when they carry out business in Canada.
Contrary to the provision of sec. 2(3) I.T.A. there has to be a permanent establishment. Self-employed professionals are deemed to render their services from their home country, unless there is such permanent establishment in the other country.241 If there is a permanent establishment in Canada, business income is subject to Canadian taxation. Employment income is taxable according to sec. 2(3)(a), 115 I.T.A..
Non-residents are also subject to capital gains tax on the disposition of taxable Canadian property.242
Furtheron I would like to describe the prepayment of taxes by non-residents, the witholding tax, and the election of filing a return.
67 68
6.1 PREPAYMENT OF TAXES
The most common and important case for the prepayment of taxes is the disposition of real estate.243
When a non-resident disposes of real eatate, he has to prepay taxes according to sec. 116 I.T.A.2 4 4 This provision imposes a liability for taxes on the purchaser,
"unless after a reasonable inquiry he had no reason to believe, that the non-resident person was not resident in
Canada."2 4 5
The other very common case for the prepayment of taxes is the so called dividend tax credit. Assuming dividents to be paid by a Canadian company, the company has to pay taxes on dividends before they are paid to the shareholder. The resident shareholder as well as the non resident one will receive the dividend from the company as well as a tax credit , which may reduce the overall
Canadian tax burden up to the total of the dividend tax credit. For non residents having any Canadian income other than those dividends the credit is not worth anything and he actually looses it. This consequence of the dividend tax credit is not a policy against non resident shareholders, but it results out of the technicallity of the system itself. This becomes obvious where non residents are eligible to use the dividend tax credit. By the way, we find the same difficulty in West
Germany. 69
6.2 WITHOLDING TAX
In addition to any tax which might be levied upon a non-resident under Part I there is a tax levied under
Part XIII I.T.A. which, generally speaking, is a tax on gross amounts paid or credited by Canadians to non-residents, arising from investments and from sources other than personal employment or the carrying on of business.246 The tax is required to be witheld at source by the Canadian payor from the gross amounts paid or credited, without.deductions of expenses, if any, and is to be remitted to the Receiver General of Canada as provided in sec. 215 I.T.A..24 7
The general rate of witholding tax in Canada is
25%.248 In most double tax conventions it is reduced to
15%249 or even 10%.250
Subject to witholding tax are: management fees,251
interests,252 estate or trust income,253 rents, royalties,254 timber royalties,255 alimony,256 patronage dividends,257 pension benefits,258 Canada Pension Plan benefits,259 retiring allowances,260 Supplementary
Unemployment Benefit Plan payments,261 RRSP,262 Deferred
Profit Sharing Plan payments,263 Income Averaging Annuity
Contract payments,264 other annuity payments,265
Registered Home Ownership Savings Plan payments,266
Deferred Retirement Income Fund payments,267 Registered
Education Savings Plan payments,268 Home Insulation or
Energy Conversion Grants,269 Dividends,270 and other 70 forms of income as laid down in sec. 212 I.T.A.
The Income Tax Act allows the payment of interest to non-residents free of witholding tax in many circumstances.2 71
With respect to corporations resident in Canada, there is generally no witholding tax where the payor corporation is not obliged to repay more than 25% of the principal amount of the obligation within five years from the date of issue of the obligation.272 This exemption was to expire at the end of 1985, but the 1986 budget proposed an extension of this exemption for such debt obligations issued before 1989. In addition, an exemption from the non-resident witholding tax is being provided for interest paid to the Bank for International
Settlements.2 7 3
The obligation to withold the taxes is imposed on all those who are going to make payments which are subject to witholding tax according to Part XIII I.T.A. I will give just some examples: tenants have to withold tax from rent payable to a non-resident landlord; banks have to withold tax from interest payable to non-resident customers; customers have to withold tax from interests payable to a non-resident bank; corporations have to withold tax from dividends payable to non-resident shareholders, etc. Where a person has failed to withold taxes, that person is liable to pay the tax on behalf of the non-resident.27" 71
6.3 EVALUATION
Both the instrument of prepayment of taxes and witholding tax are technical instruments to safeguard Revenue Canada against non-payment of taxes or, at least,against possible difficulties arising when taxes are to be collected. In itself both instruments are necessary to provide an equal treatment of residents and non residents. While a resident has to pay taxes on real estate transactions (capital gains), it is fair to say
that non residents should not have an advantage by walking away. As far as no capital gains tax is to be paid, e.g. under the principal residence exception, both are treated the same way too, since the Department of
National Revenue is to issue the said certificate without any payment for non residents as well. The difference
between residents and non residents in respect of the tax
rate is based on the assumption that the non resident has
to pay at least a minimum tax in Canada. On the other hand it is to be assumed that the non resident is taxed
on the basis of his world wide income in his home
country. If those general assumptions will fit depends on
the countries involved as well as on the personal tax
situation of the non resident taxpayer. Looking at
witholding taxes to be paid on rents, a Canadian would
pay taxes on those rents only if he makes a profit. If he
runs a loss with his property, he would not pay any tax
on his income at all. For the non-resident the witholding 72 tax is to be calculated on the gross annual income.
Therefore even 10% of the gross may effect the calculation of that particular property a lot, if the rents do not cover the expenses. Looking at West Germany, there is no capital gains tax to be paid on the disposition of real estate, if it is kept more than two years.275 A prepayment of 25% capital gains taxes therefore would be similar a tax burden a Canadian would face.
We also find some strange consequences in this context. Let's take an example:
An investor likes to take up a loan in Germany to finance an investment in Canada. His interest payment to the bank is subject to witholding tax of 25% according to sec.
212(1)(b) I.T.A. or 15% according to Art. 11(2) of the
Canadian-German Double Taxation Convention, respectively.
This applies to loans given by any bank being a legal entity outside of Canada. If we take the Royal Bank AG276 in Frankfurt/Main, West Germany, financing an investment in Canada, interest payments from Canada to the bank would be subject to 15% witholding tax. Interest payments for a loan given for the same amount by the Canadian
Imperial Bank of Commerce, Frankfurt/Main, which is only a branch of the Canadian banking corporation and not a subsidiary, would not be subject to any witholding tax.
Since the financing bank has to include the witholding tax on interests in its calculation, loans given by 73 subsidiaries of Canadian banks abroad for investments in
Canada have to be more expensive than loans given by branches of Canadian banks abroad.277 Consequently, whenever a branch of a Canadian bank abroad would change into a subsidiary,278 the loans for investments in Canada would.be more expensive than before. However, under certain circumstances it is possible to obtain a certificate of exemption from the Minister of National
Revenue according to sec. 212(14) I.T.A..2 7 9
I don't know the reasons for this. One reason seems to be that foreign creditors should pay taxes on interests derived from Canada as domestic one have to do too. As a principle this is not a bad idea, since a foreign bank doing financing in Canada by giving loans from outside Canada would not be subject to Canadian tax at all. On the other hand, any witholding tax on interests to be paid by Canadians for loans taken abroad is technically imposed on Canadians and not on the foreign creditor. Therefore one would ask for the overall benefit for Canada resulting out of this provision. It could be to promote business for Canadian banks and, by imposing witholding tax on interests to be paid abroad, giving incentives to get financing through one of the
Canadian banks. In this case the provision would be
"legitimate" in terms of protection of the Canadian banks. Assuming,that subsidiaries of Canadian companies are supposed to repatriate their profits (as one of the 74 reasons for a different tax treatment for foreign investors in Canada was ought to be), it is still surprising to explain the different tax treatment of interests for loans given by Canadian banks abroad, depending upon their legal•set-up. Taking the political reason of promotion and protection af Canadian banks as given, the provision should exempt loans from any branch and any subsidiary of a Canadian bank abroad from being subject to witholding tax. On the other hand, if this reason does not justify the provision, and the main reason is to be seen as safeguarding an equal taxation of domestic loans and of international ones, a witholding rate of 10% to 25% on interests seems to high. Let us look at the taxation of interests for domestic loans: If one of the "Big Five" charges interests, they are likely to refinance it. In their overall tax burden they will have to pay taxes on the profit derived from that loan.
The same idea should be implemented for international loans given by banks abroad and, since the gross up between refinancing and the rate for the loan is unlikely to be 10% to 25%, but something between 1/4 and 1 libor,280 the witholding tax for those loans should be adjusted accordingly.
On the other hand, comparing the tax treatment of residents' interest income with that of non residents, the residents would have to pay a tax rate according to the progessive rate structure, while the non residents 75 are paying between 10% and 25%.281 For Germans having bank accounts in Canada the rate would be 15% according to Art. 11(2) of the Canadian-German Double Tax
Convent ion. In this case, even if the foreign interests are included in the domestic tax calculation, the German taxpayer would have to pay only a relatively small "gross up" on top of his other german taxes because of the german system of the "Progressionsvorbehalt." Given the highest tax bracket in Germany, as a result he would be better off deriving intersts from Canada and paying witholding tax there as well as including those interests and the witholding tax in his german income tax return than deriving the same amount from German sources. 282
6.4 ELECTION OF FILING A RETURN
In certain circumstances, the most important case being
income from real estate (rental income), a non-resident may elect to file an income tax return283 and pay tax under Part I I.T.A. instead of under Part XIII I.T.A. The tax is calculated as if the taxpayer were a resident but without effecting his liability for tax otherwise payable under Part I I.T.A.2 8 4 In this case a non-resident may be better off in terms of taxes:
As a general rule it is cheaper for a non-resident
to pay Part I tax than Part XIII tax, because the 25% witholding tax is calculated on the gross payments or credits without deductions for expenses,285 whereas Part 76
I tax is calculated on profits or net earnings.286
If a non-resident elects to pay taxes under Part I by filing a return287 the taxes will be calculated by the department. Witholding taxes already paid are to be considered. The taxpayer will receive a refund if too much tax has been witheld or prepayed. So, depending on the tax situation a non resident may be better off by filing a Canadian income tax return or by leaving it. In most cases, where non resident taxpayers are deriving rents from Canada, they are better off by filing a return.
But contrary to the taxation of residents, non-residents are not allowed to carry losses forward or backward.288
About the reasons being I can just guess that as a
kind of tax policy Revenue Canada does not like to
finance low equity real estate holdings as well as other
investments of the same kind.
The aspect one might be concerned about would be that non residents try to build up an investment by
saving Canadian taxes. But looking at the situation of
residents, one would not have any difficulty to allow to carry losses forward and backward. So the only reason for
this distinction I can guess might be the expectation
that non residents are to be producing losses in their books, escpecially by depreciation, while there is still
some economic advantage for them, whereas residents 77
"deserve" this kind of tax relief. Therefore this distinction is "illigitimate"in the terms described before.
6.5 CONCLUSION
In the overall scheme the instruments of prepayment of taxes as well as the instrument of witholding tax as they are set up in the I.T.A. fit a need resulting out of technical difficulties whenever non residents are subject to Canadian taxation. Since non residents are eligible filing a return, in general they are not in a worse position than residents. They are even better off sometimes, because they can use the low rate of witholding tax (compared with the Canadian 50% bracket and the German 56% bracket) to reduce their overall tax burden. However, there are circumstances where it is hard to understand a different treatment as pointed out in connection with international loans and, as I showed, there are no reasons justifying it. There is also the provision not allowing to carry losses forward or backward for non residents. This provision is not justified either. 7. NON-CANADIAN CONTROLLED COMPANIES
There is a difference between Canadian and non-Canadian controlled companies in the Canadian Income
Tax Act. A non-Canadian controlled corporation is defined in sec. 125(7)(b) I.T.A.2 8 9 as a corporation where the majority of shares is owned by non-residents. Therefore a
50:50 ownership between residents and non-residents means that there is still a Canadian controlled private company
(CCPC), wheras a 49:51 ownership in favour of non-residents makes the company a non-Canadian controlled private company (NCCPC). Canadian and non-Canadian- controlled companies are treated differently in the following areas of taxation.
7. 1 INTERCORPORATE DIVIDENDS
Intercorporate dividends between Canadian corporations are taxfree.290 So it is common to see a flowthrough of dividend payments between companies and no negative tax consequences are triggered. In the result this allows a tax deferral up to the time when the dividends are extracted from the company. For companies, which are controlled by non-residents, no intercorporate dividends can be paid taxfree and there is no way of tax deferral by paying dividends out to the non-Canadian controlled company. The same situation is given for intercorporate dividends to be paid by a Canadian company to a foreign company. The reason for the distinction between the
78 79 taxation of intercorporate dividends between Canadian and foreign companies is obvious, since dividend payments to a foreign corporation do not have any positive impact on investment in Canada and the financial situation of no
Canadian corporation is improved. Therefore there is no reason to give a tax deferral on those dividends. A reason for the distinction between Canadian controlled and non-Canadian controlled corporations is not that easy to see, since both corporations are incorporated in
Canada, have the centre of their management and control in Canada and the tax deferral by allowing taxfree intercorporate dividends does actually improve the financial situation of those companies in Canada.
7.2 SMALL BUSINESS
Only the Canadian controlled companies are eligible for a favourable tax treatment such as the small business abatement.291 In general terms the small business abatement effects the first $200,000 of net income from a
Canadian controlled private company, carrying on an active business as specified in sec. 125 I.T.A., reducing the tax on this amount to about 25%.292
This favourable tax treatment was restricted to
"active" businesses only before January 1, 1985. There was also an overall limit of Can $1,000,000 accumulated profits in order to limit tax benefits to small companies. The policy was to help them build up their 80 business, and the accumulative capital account was to implement a fixed limit for those hidden subsidies. Over the years all kinds of professionals, especially lawyers,
CA's, physicians and other self employed persons not carrying out an active business, started to set up management companies providing them with some kind of secretarial services etc. in order to qualify for the tax benefits under the small business abatement. Even people dealing in real estate could split their income into their "normal" income which was taxed at the normal rate and up to Can $200,000 resulting out of an active business, set up in the manner that I just explained, were taxed only with half the rate. On an income range of total Can $300,000 p.a. therefore the first Can $200,000 were taxed in B.C. only with now 27%, and only for the remaining Can $ 100,000 the top marginal rate of now 50% were applied. Only the accumulative capital account was limiting this scheme, but the calculation was rather time consuming, not clear in practice and for real small businesses which never made much profit it was questioned
if it was appropriate at all. To make a long story short,
in the 1985 budget the Canadian government gave up on the
formal restriction of the abatement, which never worked, and since January 1, 1985 almost everybody is eligible
for the small business abatement if he receives income
from a Canadian controlled private company. The accumulative capital account was dropped, and thousands 81 of medical incorporations of physicians, surgeons, dentists took place in 1985 in order to qualify for the abatement. Now we find, that people who are usually taxable at the top marginal rate, are receiving tax benefits and are only taxed at half the rate for the first Can $200,000 each year. So the objective of the small business abatement to allow growth for small
Canadian businesses changed to a general tax benefit for the first Can $200,000 p.a., if there is any chance to incorporate.293 And if there are chances to get some familiy members involved in the company, this favourable tax rate might be applied for Can $400,000 , Can $600,000 or even higher amounts every year for a family unit. In order to keep up the idea that there should be at least some link between the economic benefit out of the operation and the tax benefit, some minor restrictions exist. As an example for an investment corporation there is only an abatement, if there are five employees. For further details I will refer to sec. 125 and the following sections I.T.A.
7.3 THIN CAPITALIZATION
Under the thin capitalization rules interest payable on debts to non-resident shareholders is disallowed as a deduction for Canadian tax purposes to the extent that it relates to the debt which exceeds three times the shareholders' equity of the Canadian company.29" Sec. 82
18(4) I.T.A. restricts the interest expense deduction which would otherwise be allowed where the greatest amount of the debts owing by a corporation in the year to
'specified non-residents' exceeds three times the shareholders' equity.295 Such specified non-residents are defined to be those persons296 who are shareholders in the corporation and who, either alone or with persons with whom they do not deal at arm's length, own at least
25% of any class of the issued capital of the corporation and other non-residents who do not deal at arm's length with such shareholders. This 'thin capitalization' is limited to a prohibition of deductions of interest and does not go further to assimilate principal repayments to dividends. The calculation of the interest disallowance may be expressed by the following formula:
(a/b)c=d where: a=greatest amount outstanding to specified non-residents minus three times equity b=greatest amount outstanding to specified non-residents c=interest paid or payable on debts owing to non-residents d=interest disallowance
Only interest bearing debt is taken into account in the calculation of the amount of the interest di sallowance.2 9 7 83
Speaking frankly, I do not know the reasons for the thin capitalization rules. I could imagine that the restriction of interest expense deduction was introduced in order to prevent low equity financing where "specified non-residents" are shareholders of companies and to discourage non-resident shareholders from extracting profits out of a corporation in terms of interests instead in terms of dividends. Apart from the consideration that corporate financing by shareholders' loans does not give as much security for creditors than equity financing and that in general there is a higher risk of insolvency, obviously income in form of interests is a guaranteed return for the shareholder and therefore a chance to extract moneys out of the company even if no or low profits are made. The shareholder will be taxed on his interest-income in terms of witholding tax, 298 whereas dividends would be taxed at the company's level as all other dividends. To disallow the deduction of interests hits the company, the witholding tax effects the shareholder. The reason I might guess for implementing the thin capitalization rules on top of the
Part XIII tax is to build up disincentives for non-resident shareholders' loans. Compared to resident shareholders' loans the situation of low equity financing seems to be the same, as well as the guaranteed return. A reason for the distinction might be the assumption that non-resident investors always like to extract and 84 re-patriate as much money from Canadian companies as they can.299 But even if they would do so, the witholding tax and the taxation of dividends would seem to be appropriate. For an assumption that non-residents are likely to extract moneys in terms of guaranteed interests voluntary by pushing (simulated) loans and interest payment over an economic sound limit, there is no indication. And as I feel, non-resident investors as well as resident ones are interested in a healthy profit of the company. As I do not see any other negative indications of non-resident shareholders' loans contrasting resident shareholders' loans I do not see much of a difference for the Canadian economy if they are extracting profits by dividends or by interests.
7.4 INVESTMENT THROUGH A CORPORATION
Another issue is the taxation of investment of non-Canadian controlled companies. Private corporations are subject to tax at maximum rate on their worldwide
"investment income," comprising non-dividend property income and taxable capital gains. But then, under sec.
129 I.T.A. one sixth of the corporation's Canadian investment income300 is refunded to the corporation when it pays taxable dividends. The same goes for foreign investment income.301
Prior to 1980, all private corporations were entitled to the refundable tax in respect of their 85
investment income. A first limitation was introduced in
October of 1973, whereby corporations other than
Canadian-controlled-private corporations were denied any
refundable tax in respect of income from real property
for taxation years commenced after 1979. Finally as a
result of the November 12, 1981 budget, for taxation years commenced after that date, investment income no
longer "earns" refundable tax unless the corporation was a Canadian-controlled-private corporation throughout the
relevant taxation year.
Assuming a corporate tax rate of 50%, this
limitation had the effect of increasing the Canadian
effective corporate tax rate from 33-1/3% to 50%. In addition, the Canadian witholding tax applies upon the
distribution of the corporation's after-tax income to its
non-resident shareholders in the form of taxable
dividends. Thus, the amendment has effectively increased
the overall Canadian rate of tax on investment income
from 50% to 62.5% in the absence of any tax treaty,302
and from 43-1/3% to 57.5% in situations where a treaty
reduces the witholding tax to 15%.
For example, these rates apply with respect to the
net rental income from Canadian real estate which a
non-resident holds through a Canadian corporation. By
contrast, if the non-resident holds the property directly
and elects to pay tax in Canada on his net rental income
pursuant to sec. 216 I.T.A., the Canadian tax is only 46% 86 in the case of a corporation, and a maximum of 50% in the case of an individual.303
Each private corporation has a "capital dividend account" to which is credited the other (non-taxable) one-half of capital gains realized by it. The private corporation may then, upon making the appropriate election, declare and pay a "capital dividend" from such account. Capital dividends are not included in the income of a resident Canadian shareholder and are therefore not subject to tax. However, non-resident shareholders receiving a capital dividend are liable for witholding tax thereon, just as for taxable dividends.
If instead, the non-resident were to use a Canadian private corporation to hold the property, taxable capital gains realized by that corporation would be treated as investment income. Not only would he suffer Canadian tax at higher rates on such taxable capital gains,30" but he would also become liable to the Canadian witholding tax of 25% or 15%, respectively, upon the distribution of the non-taxable one-half of the capital gains by way of dividends. In the absence of any treaty, the overall Canadian tax burden now is 43.75% of the total capital gain.305 Where there is a treaty rate of 15% on dividends, the overall Canadian tax burden becomes 36.25% of the capital gain.306 87
7.5 OIL AND GAS As I pointed out before, especially in the area of taxation for oil and gas companies the Canadian government tried to give incentives for Canadians. Therefore numereous tax benefits, especially in the form of write offs, are granted for Canadian and Canadian controlled oil and gas corporations, exploration wells and drilling undertakings. It would be to far for the purpose of this thesis to go into the technical details, and whoever is interested might look them up in the I.T.A. Here it is enough to see the concept of taxation policy for oil and gas, and to realize the economical and political background as I explained it for this area of the Canadian economy.307
7.6 EVALUATION OF THE TAXATION OF NON-CANADIAN CONTROLLED COMPANIES In order to evaluate the taxation of non-Canadian controlled companies I would like to refer to the different areas of taxation mentioned above and to compare the circumstances for Canadian and non-Canadian controlled companies. As we could see there is a totally different situation for intercorporate dividends flowing between Canadian companies compared to the payment of dividends from a Canadian to a foreign corporation. In the first case the moneys remain in Canada and a Canadian corporation is given some tax deferral in order to 88
improve the financial situation.In the second case the moneys are paid abroad and do not have any positive
stimulus on investment in Canada. Therefore it is
legitimate to treat both cases different in taxation.
Comparing intercorporate dividend payments between
Canadian and non Canadian controlled companies there is
no difference, since in both of those cases the tax deferral is advantageous for a Canadian company and a positive impact will be achieved on the financial
situation, allowing to stimulate business activity. For
the purpose of intercorporate dividend taxation, to allow a tax deferral for Canadian companies and to improve
their financial situation, it does not make a difference
if the Canadian company is actually controlled by
Canadians or not. Therefore the distinction in taxation
of intercorporate dividends for Canadian and non-Canadian
controlled companies is not justified and the
discrimination of non-Canadian controlled companies is
illigitimate.
For a different treatment of Canadian and
non-Canadian companies in the area of small businesses
there were sound reasons when the provisions were
implemented. Over the years the taxation policy for small
businesses included not only low bracket and low income
businesses, but the small business abatement was changed
towards a tax shelter for the first Can $200,000 p.a. for
almost everybody. Even if the situation for Canadian 89 controlled companies was somehow different some years ago, now it is not different to the situation of non-Canadian controlled companies. Therefore it is not longer justified to restrict the small business abatement only to Canadian controlled private companies.
Referring to the thin capitalization rules the factual circumstances of low equity financing and the deduction of shareholders' loan interests are the same for Canadian and non-Canadian controlled companies. Since the payment of interests to non-resident shareholders is subject to witholding tax and the payment of those taxes is guarateed, there is no reason to limit non-resident shareholders' loan interest deduction on top of it.
Therefore the thin capitalization rules are discriminating non-resident shareholders' loans and effect non-Canadian controlled companies without a legitimate reason.
If investments are undertaken by non-residents through a Canadian corporation, disadvantages accumulate to amounts which work out as an increase of tax around
1/3, wheras it does not make a major difference for residents. This negative impact can be explained by the system of the dividend tax credit in respect to non-residents up to a certain degree, by the trigger for witholding tax up to another degree, but to some degree by resentment against foreign investment. It is appropriate to adjust those rules, leaving no different 90 treatment other than the ones which are necessary because of technical reasons as described in chapter 4 and 5.
In the area of oil and gas the Canadian government implemented government aid into the tax law, giving subsidies to Canadian oil and gas companies and to promote exploration and exploitation of natural resources. To restrict subsidies to domestic companies is one of the common principles of economic policy in every country. Here the tax benefits are not restricted only to
Canadian corporations, but to Canadian controlled corporations. Looking at this distinction, it might be doubtful what the reasons for the distinction are and if they justify a different set of rules in tax law..As we saw before, the principle of non-discrimination in tax law does not allow a different treatment of companies only because of the reasons that the shareholders are non-residents. A limitation of tax benefits to Canadian controlled companies in the area of oil and gas which is in the same factual situation as a non-Canadian controlled oil and gas company is not based on a reason other than discrimination. Therefore it is illigitimate.308
It is therefore concluded that the discriminating taxation of non-Canadian controlled companies is illigitimate, if there are not different circumstances allowing for different tax treatment in a particular case. 8. NON-RESIDENT-OWNED INVESTMENT CORPORATION
A non-resident-owned investment corporation (NRO) is defined in sec. 248(1), I33(8)(d) I.T.A. as a corporation which fulfills the following requirements:
It has to be incorporated in Canada,
must have been an NRO continuously from June 18, 1971
or, if incorporated later, from its incorporation
until the end of the relevant taxation year and
must have made an election as a NRO.
All issued shares, all debentures, and other funded
indebtedness must be beneficially owned by
non-residents, by trustees for the benefit of
non-resident persons or their unborn issues, or owned
by a NRO.
The income of a NRO may only derive from the
ownership of or trading or dealing in bonds, shares,
debentures, mortgages, bill, or notes; lending money,
rents, hire of chattels, charterparty fees or
renumerations, annuities, royalties, but only up to
the maximum of 10% of the total gross revenue;
interests or dividends; estates or trusts, or
disposition of capital property.
According to sec. 134 I.T.A. a NRO is deemed not to be a Canadian or private corporation.
Generally, an NRO pays a 25% rate of tax. This tax is refunded to the NRO when it pays dividends and the dividends in turn are subject to witholding tax under
91 92
Part XIII I.T.A. If the recipient of the dividends is resident in a treaty country, the witholding tax on the dividends will be reduced to the treaty rate, generally
15%. In these circumstances, unless an NRO's income is distributed in the year it is earned by way of dividends, the result is an immediate 25% tax rate on types of income (i.e., interest, rentals, royalties, dividends) which, if paid directly to the non-resident shareholder of the NRO, would be subject to a lower rate of Canadian tax.
One of the purposes of non-resident-owned investment corporations should be to offer an acceptable degree of tax neutrality to a non-resident wishing to hold investments through a Canadian corporation as compared to holding those investments directly. Under sec. 212(1)(b)
I.T.A., a non-resident may receive certain interest payments free of Canadian witholding tax. If such interest payments are received by an NRO, they are subject to a 25% tax.
A non-resident is not subject to tax, inter alia, on capital gains realized with respect to capital property not situated in Canada. Similarly, an NRO is not subject to tax on such capital gains. However, distribution of such capital gains by an NRO by way of dividends results in Canadian witholding tax.309
Therefore non-resident-owned investment corporations are not a useful vehicle for investment and are not often 93 used. Since the concept of taxation of non-resident owned
investment corporations was planned to offer an acceptable degree of tax neutrality and as a tax neutrality as for Canadian-controlled companies is not achieved,310 those provisions just do not fit the idea behind them, we can neglect them for the evaluation of legitimate or illigitimate discrimination. Saying it more
in detail, the concept was proper and legitimate because
it was intended to implement an equal treatment for equal circumstances. But as it is now, the actual taxation of non-resident owned investment corporations is
illegitimate. Implementing the goals of those provisions
into a technical proper legislation would fit the
intention of the legislator and eliminate the discrimination. 9. FOREIGN COMPANIES OPERATING IN CANADA (BRANCH TAX)
Part XIV I.T.A. provides for an additional tax on corporations, other than Canadian corporations, carrying on business in Canada.311 The purpose of sec. 219 I.T.A.
is to impose a special tax on the profits derived by non-resident corporations312 from the carrying on of business through a branch instead of a subsidiary corporation. The tax so imposed is roughly equivalent to the tax that would be payable under Part XIII I.T.A. if the operations in Canada had been conducted through a
Canadian subsidiary and if the subsidiary had returned all its net profits313 to its parent company abroad in the form of dividends.31" The branch tax is normally thought of in the context of non-resident corporation.
However, Part XIV I.T.A. is applicable to all corporations other than Canadian corporations, and it may
therefore apply to some resident corporations.
Specifically, a corporation incorporated in a foreign
jurisdiction but resident in Canada could be liable for branch tax if it has not been continuously resident in
Canada since June 18, 1971.315 The rate of tax payable is
25%.316
The amount on which the branch tax is computed depends on whether the non-Canadian corporation was or was not resident in Canada during the year.317
No branch tax under Part XIV I.T.A. is payable by a
branch of a corporation318 which is in the transportation
94 95
business,319 in communications,320 in the mining of ore,321 or is a non-resident insurance company.322
The intention of the branch tax is to ensure that
approximately the same overall Canadian tax is eligible
whether a non-resident carries on business in Canada
through a Canadian corporation or through a Canadian
branch.323 Since dividends paid to shareholders by a
non-resident corporation carrying on business in Canada
are not subject to the witholding tax provisions of the
Act, even though the income from which the dividend is
paid is earned in Canada, there would, without further
tax liability, be a decided advantage in carrying on
business in Canada by means of a branch rather than a
subsidiary. Therefore, the Act provides that where a
non-Canadian corporation carries on business in Canada,
it is required to pay a tax of 25% on what may generally
be described as its after tax taxable income earned in
Canada for that taxation year.32" This tax is in addition
to the normal Canadian corporate tax that would be
payable. The rate of branch tax is normally reduced to
the same rate applicable to the payment of dividends with
respect to corporations which are residents of countries
with which Canada has entered into a comprehensive tax
treaty. The effect of the imposition of this branch tax,
therefore, is to render the total tax on income earned in
Canada by a non-Canadian corporation approximately the
same as the tax that would be payable if that income had 96 been earned by a Canadian corporation, tax paid thereon and then distributed by way of dividend to the foreign shareholder. However, by imposing a branch tax on current income, whether or not distributed back to the head office, the utilization of a Canadian subsidiary may be more attractive since the witholding tax on the dividend distributions can be postponed until such time as dividends are actually paid. Since the Canadian branch tax is based on the unrealistic assumption that all profits are going to be cashed out each year, it is more expensive than the Canadian taxes imposed on Canadian susidiaries.3 2 5
Another reason, why Canada imposes disincentives for branches of foreign companies is the assumption that subsidiaries, incorporated in Canada and therefore being a Canadian legal entity, would be easier to control. Each
Canadian company under the CBCA3 2 6 has to have a majority of Canadian citizens as directors. For a B.C. company327 at least one director has to be a resident of B.C.328 and the majority of the directors shall be persons ordinarily resident in Canada.329 Even if it seems obvious that the
Canadian influence in Canadian subsidiaries would be stronger than in branches of foreign companies, in my understanding, "Canadian influence" depends more on the factual set up than on the legal structure. The way most international companies operate today is more likely to determine the decisions for the whole company by 97 decisions of the central board of the mother company or the divisional headquarters.330
Disencouragement of having Canadian branch operations seems to have worked pretty well as an
incentive to establish a Canadian subsidiary. Still, where the Canadian operation is a sales department of a
foreign company, we would have to compare the disadvantage of the witholding tax against the advantage of the subsidiary tax-treatment over the branch
tax-treatment.
9.1 EVALUATION OF THE BRANCH TAX
The operation of branches of foreign companies in Canada and its legal set up is based on a set of facts which are different from any operation that a Canadian corporation
is determined by. The Canadian government has to ensure
that profits resulting from a branch operation in Canada
are not transferred abroad taxfree, and since payments
within the same legal entity are not subject to
witholding tax there have to be some special tax
provisions. The intention of the branch tax, as stated,
was to achieve a comparable taxation of foreign
subsidiaries and foreign branch operations. In order to
determine if the branch tax provisions are legitimate, we
would have to compare the taxation of domestic
enterprises and foreign branches in Canada as it turned
out in fact. The main differences are, as pointed out,331 98 that the branch operations are taxed on the assumption that all profits are cashed out. Since this does not apply in most circumstances, the assumption is not realistic. In order to treat equal as equal it would be appropriate to adjust the branch tax according to the amounts paid from the Canadian branch to the foreign corporation or to its shareholders. On the other hand, this would ask for the implementation of a kind of paid up capital account for branches in respect to their
"income", and it may be questioned if this system is practical. As a conclusion, the branch tax is justified and legitimate because it follows a different legal and factual situation. However, it could be worked out in even greater detail in order to get rid of smaller anomalies. 10. ECONOMIC CRITERIA FOR INVESTMENT DECISIONS
When we look at the considerations and the economical assumptions leading toward the taxation policy for non-residents, NCCPC's and Canadian branches of foreign corporations, we should have a look at the practical consequences for investment in Canada. Each investment decision has different elements: commercial, legal, political, and psychological. I'd like to talk about these different criteria in order to determine the importance of taxation.332 Since the tax policy is part of the general economic policy, taxation of non residents' investment has to be seen in the context of the general Canadian situation. Obviously the Canadian government intended to influence the economic behaviour by giving incentives and disincentives for foreign investment. For investment decisions taxation is not the most important factor. But it is one of the major factors and has to be considered together with other ones. I just like to concentrate on the aspects of German investment.
10.1 ECONOMICAL CRITERIA INCLUDING TAX CONSEQUENCES FOR
INVESTMENT DECISIONS IN FAVOUR OF CANADA
Especially for German investments in Canada it turns out that under an economical point of view there are not many areas worthwhile to do business or investment in Canada.
99 100
10.1.1 MAIN AREAS OF GERMAN INVESTMENT IN CANADA
The German investment in Canada is in general divided into three almost equal amounts: real estate, manufacturing industry and portfolio.333 The portfolio investment is investment in bonds and shares etc., but gives no active control of business. Investment in the manufacturing industry we find mainly in the East of
Canada, especially in Ontario. Real estate investment is spread out all over Canada with an emphasis in Ontario and B.C. In B.C. there is almost no manufacturing industry. So German investment in B.C. is concentrated in real estate.334
10.2 GENERAL ECONOMIC CRITERIA AND TAX IMPLICATIONS
10.2.1 STABILITY
Most companies prefer political and economical stability of the host country as factor number one for a decision of where to go ahead with direct foreign investment. This is the reason why despite high wages and salaries, trade unions and some other disadvantages335 and together with some of the following criteria many companies still prefer investment in North America and
Europe over investment in LDC's.
Canada is one of the political most stable countries of the world. Therefore it qualifies for investment.
However, the economy is not that stable sometimes.336 101
10.2.2 RESOURCES INCLUDING HUMAN RESOURCES
Companies dealing with natural resources always have
to find, evaluate and exploit these wherever they are, or more specific, wherever it is profitable. Depending on
the kind of resources it is likely to have at least some
sort of processing at the location of the materials or
nearby. So, in my evaluation, these companies don't
really have a free choice where they are going to do
their investments. Other companies, especially those
involved in manufacturing and processing, have more of a
choice of the location of their production. Besides the
natural resources, the human resources, manpower, seem to
be the most determining factor. The higher the skills and
the education337 of the people are, the easier and the
more reliable the production can take place.338
Canada has a lot of natural resources.339 The human
resource situation is good. People have a good education,
in general. Professional skills are at a fairly high
standard, and the work mentality is not bad either. On
the other hand, wages and salaries are fairly high and,
especially in some areas of the economy, the trade unions
have a very strong position.340
10.2.3 TRANSPORTATION
Another big item is the ease and costs of
transportation. Especially the infra-structure, existing
transportation companies, access to sea-harbours, access 102 to international shipping lines, etc. are important.341
The infrastructure and the transportation system in general is good. There are a lot of good highways and roads and there is access to the Atlantic and Pacific oceans with harbours on both coasts. The train system is developed in the East, while in the West it is not developed that much.342 Because of the large distances transportation is a major concern, even if costs are reasonable. Just by looking at the geography one would assume a lot of trade North-South instead of East-West.
But since the political borders are cutting the United
States and Canada into parts in an East-West direction, there are geographical disadvantages with respect to transportat ion.3 4 3
10.2.4 MARKETING/SALES
Marketing and sales forecast are other factors which have a strong impact. Depending on the "product"344 the definition of the relevant market will be different; but whichever market will be defined, the investor would want to have an access to it as easy as possible under the c ircumstances.3 4 5
The relatively small population, at least in relation to the large area, makes marketing and sales somehow difficult.346 But since the East is more densely populated and people are living almost exclusively within a 200-mile limit of the U.S. border, the situation is 1 03 actually not too bad. Even, mass production could be worthwhile in respect to the States.
10.2.5 TAXES
Taxation is the criterion I am interested in most in this thesis. But even if it is the topic of this thesis, under an economic evaluation of an investment decision it is only one of several criteria. Since Canada has large land-masses, a high living standard and a relatively small population, there are already some disadvantages for investment.347 Therefore it seems to me that taxation is, especially for a decision to invest in Canada, one of the important factors.
The taxation is fairly high compared to tax heaven countries. Compared to other western countries it is fairly reasonable, in general. However, there are a lot of disincentives for foreign investment. Non-residents and non-Canadian controlled companies are taxed more than residents and Canadian controlled companies. So non-Canadian controlled companies are not eligible for the so called small business abatement.348 Tax disincentives exist also for non-resident owned investment companies.349 The thin capitalization rule350 restricts the interest expense deduction for debts owing by a corporation to 'specified non-residents'.351 There is no inter vivos transfer for non-residents352 at cost base. 1 04
As a conclusion I see an investment in Canada under economic criteria as not very attractive. The tax implications, discriminating non-residents and their companies, make it even worse. However, Canada is one of the politically most stable countries in the western world and it is close to the United States. So I would like to have a look at a comparable investment in the
States.
10.3 COMPARISON TO INVESTMENT IN THE UNITED STATES
If we have a look at "comparable" investments in the
United States with rather advantageous taxes, it becomes obvious why there is almost no German investment in
Canada during the last years and why there is a lot of new business from Germany going to the States. Speaking in general, under general economic criteria like stability, resources, human resources, transportation and marketing/sales, the U.S. is better off than Canada and therefore more interesting for foreign investment. The minimum wages are lower than in Canada.353 A production in the U.S. would give a direct access to the market without passing the border.354 In taxation there is no disadvantage for small companies, since under the IRC even non-American controlled companies get a favourable tax treatment for the first $100,000 each year. Also, the taxation of company profits, in general, is more generous in the U.S., if the money remains in the company. Some 105
states exempt foreign investors totally from capital gains taxes, if they are willing to re-invest the money.
After January 1, 1987 the U.S. taxation system changed a
lot.355 The big tax incentives for real estate
investments are gone by now, and we already see a different attitude towards real estate investment in the
U.S. So compared with Canada one can say that the tax
implications of investment until the end of 1986 were more favourable than in Canada, whereas the situation changed - especially in real estate - after January 1,
1 987.
10.4 STATISTICS ON INVESTMENT IN CANADA AND IN THE U.S.
Let's look at some statistics on German investment
in North America over the last years. While German
investments in North America were relatively weak a
couple of years ago, there is a trend towards North
America again in the last few years. Because of the
political climate and because of investment incentives in
the United States many German investors were and still
are willing to turn more to North America. While
investment incentives are very strong in the United
States, things are going slow in Canada.356
But let's see some numbers:
The following table shows the development of German
investment in the U.S. and in Canada from 1975 to
1984.357 106
Development of German Investment in the U.S. and in Canada from 1975 to 1984
US Canada
1 975 748.3 254.9 1 976 1 , 138.4 316.9 1 977 1 ,338.8 371 .0 1 978 1,885.8 407.7 1979 3,692.6 407.5 1980 3,380. 1 421 .5 1981 3,402.8 479.0 1 982 3,274.5 382.3 1 983 2,748.8 -14.2 1 984 3,257.5 208.0
Total from 24,867.6 3,234.6 1975 - 1984
For Canada these figures show a slow down of German investment from 1981 to 1982, a total breakdown from 1982 to 1983 and a tendency to recover in 1984. In the U.S. the development of German investments is more continuous with minor changes. The slow down from 1982 to 1983 made
(only) 500 million German Marks,358 while in Canada it dropped from 382 to minus 14 million.
The next schedule refers to German investments in
Canada and the U.S. by the end of 1983 in terms of total assets.359 107
Direct and Indirect German Investment in the U.S. and in Canada from 1976 to 1983
End of US Canada
1 976 6630 1830 1977 8247 1580 1978 1 0842 1 479 1979 1 4840 1764 1980 18260 231 6 1981 25721 2752 1982 28078 3460 1 983 34518 3967
While total German investment assets in the U.S.
increased about five times over the years, those in
Canada increased by less than two and a half times.
Similar relations will become obvious when we look
at the number of German companies360 doing business361 in
Canada and the States, the annual gross of those
companies and the number of their employees.362
Number of German Companies Involved in Investment in the U.S. and in Canada from 1976 to 1982
US Canada
1976 629 360 1 977 713 40 1 1 978 854 419 1979 1113 461 1980 1 406 489 1981 1 639 526 1982 1 752 513 108
While the number of companies doing investment in the
U.S. almost tripled, those in Canada didn't even double.
Annual Gross of those Companies363
US Canada
1 976 27.8 3.3 1 977 33.0 3.0 1978 46.7 3.3 1979 71 .8 4.8 1980 85.4 5.4 1981 118.1 7.1 1 982 121.9 7.5
The differences here are similar to the differences in
the increase of assets: The annual gross went up about
five times in the U.S., while it didn't reach two and one
half times in Canada. 109
Employees of those Companies 3 6 4
US Canada
1 976 78 1 1 1 977 100 1 2 1 978 216 1 3 1 979 349 1 5 1980 376 1 7 1981 391 1 6 1982 355 18
Given the fact that most employees of those companies are
U.S. or Canadian residents, respectively, the economic benefit from foreign investment should not be overlooked.365
The conclusion of the comparison to the investment
in the U.S. is that Canada does not provide a favourable
investment climate. While in former times investments in
favour of Canada had reasonable chances of giving a good return, there are only some high risk areas left nowadays. The Canadian taxation of foreign investment and of foreign investors causes disincentives on top of the economic situation. Therefore I am proposing to consider changes in the Income Tax Act in a way that prevents
Canadian taxation from discriminating against foreign
investment, but instead creates some incentives. 11. PROPOSALS FOR AN ALTERNATIVE APPROACH AND SOME
CHANGES IN THE INCOME TAX ACT
Background for the proposals following is the belief that a supply-side oriented policy and a concept of open market policy are going to lead to net benefits for
Canada. As we could see there are only few areas where no discrimination is practised. Looking at the non-discrimination clause and its main implications, an important tax incentive for foreign investment in
Canadian tax law would be to get rid of some of its disincentives. Speaking in general, Canada should wave its reservation regarding Art. 24 O.E.C.D. Model
Convention and introduce a non-discriminating and equal treatment for non-residents and non-resident controlled companies.
11.1 CANADA AND ART. 24 OECD MODEL DOUBLE TAX CONVENTION
It is apparent why Canada has reserved: for example, paragraph 6 of Article 24 of the O.E.C.D. states in effect that Enterprises of one Contracting State, the capital of which is wholly or partly owned or controlled by residents of the other Contracting State, shall not be subjected to more burdensome tax than one would by residents of the other. Canada's branch tax, thin capitalization rules and denial of deduction for advertising in certain non-resident-owned media, are examples of provisions which would appear to violate such
1 1 0 111
provisions.3 6 6
It is understood that the objections Canada gets most frequently in the discrimination area pertain to
areas such as previously mentioned: non-universal thin
capitalization rules, small business deduction and
particularly Canada's refusal to give non-residents
credit against tax on dividends for corporate tax paid as
it does for residents through the dividend tax credit. It
is plain to see, as with restriction of the small
business deduction to Canadian-controlled private
corporations, that one man's incentive is another's
discrimination. As I understand it this is essentially
Canada's view, that giving an incentive to residents
should not be construed as discriminating against
non-residents. It is probably fair to say that Canada
discriminates against all non-residents regardless of
race, creed, colour or nationality. Canada, therefore,
can take the position that it does not discriminate
against nationals of "the other" Contracting State.
As pointed out by Robertson and Bissett,367 Canada's
tax policy makers and draftmen have been very skilful in
some areas — to a point where it is difficult to conclude
whether there is discrimination. For example, Canada
deems certain non-residents to be residents, as in sec.
214(9) and 212(13.2) I.T.A. It would be difficult for a
non-resident to complain that he is being discriminated
against when he is required to perform the same 1 1 2 witholding obligations as residents in certain cases.368
Canada has in the past changed its course to avoid the appearance of discrimination. In 1963 the Budget called for an extra 5% witholding on dividends from resident corporations where share ownership was less than
25% Canadian. To avoid the appearance of discrimination, the provision as finally enacted provided for a 5% reduction in witholding tax for corporations achieving the 25% Canadian ownership.
It is also understood the non-discrimination provision in the Canada-U.S. treaty was considered when the branch tax was brought in.369 However, the treaty provision speaks of citizens rather than nationals, as in the O.E.C.D. Article. As I understand, Canada took the position that citizens could refer only to individuals and not to corporations and therefore there was no breach of the provision.370 Nationals, by the O.E.C.D. definition, include corporations.371 The O.E.C.D. paragraph includes not only "more burdensome" taxation but also taxation "which is other" than the taxation of nationals in the other State. The O.E.C.D. paragraph is, therefore, wider because it appears to apply to any inequality of tax treatment, whether or not more burdensome.3 7 2
The new Canadian-German Double Tax Convention follows the 1977 O.E.C.D. model convention in providing that nationals of one of the contracting States will not 1 1 3 have a more burdensome tax load in the other State than nationals of that State (non-discrimination clause).373
According to para. 2, the term "nationals" does not only
include individuals but also partnerships and corporations deriving their status from the law in force
in one of the contracting states. Also following the
O.E.C.D.-model convention, para. 3 provides that a permanent establishment of an enterprise resident in the
other state will not have a more burdensome tax load in
the state where the permanent establishment is located
than enterprises resident in that state. Paragraphs 5 and
6 of Art. 24 of the O.E.C.D.-model treaty have not been
adopted. This is because Canada would discriminate in its
thin capitalization rules374 and its lower rate of tax
for Canadian controlled private corporations,375 and
would have to surrender these points. Therefore, a rule
different from that contained in the O.E.C.D.-model
treaty was adopted in para. 4 of Art. 24. Enterprises of
one state, the capital of which is wholly-owned,
partly-owned or controlled by residents of the other
state, will not be subject to tax more burdensome than a
similar enterprise the shareholders of which are resident
in a third state. In the O.E.C.D.-model treaty, reference
is made to the shareholders resident in the state in
which the enterprise itself is located, which — as
mentioned above — would not be in accordance with the
existing Canadian law. Should Canada soften on the 1 14 discrimination provision in other any treaty, German residents will also benefit.
11.2 SOME PROPOSALS
For the Income Tax Act I would like to propose to eliminate disincentives for non-residents and non-Candian controlled corporations, including the change of all sections providing unequal treatment between residents and non-residents throughout the act. The provisions which just make sure that tax will be collected from non-residents like witholding tax and the prepayment of taxes should be kept as technical instruments. But the content and extent of those provisions should be revised.
Differences in the taxation of residents and non-residents like:
no capital gains tax exemption as in the 1986
budget,376
no carry forward or backward of losses,377 and
no inter vivos transfer at cost base to spouse,
minors, or trusts as in sec. 74, 75, and 75(2)
I.T.A.378 should be straightened out.
The witholding tax provisions should exclude
interests payable for financing from sources outside
Canada, in order to get easier and cheaper access to
international financing.379 1 15
For Canadian companies there is the concept of tax neutrality.380 For non-resident controlled corporations this concept doesn't apply. The following proposals are intended to remedy situations where this neutrality is not achieved:
The distinction between Canadian-controlled and other
private corporations should be eliminated, and
accordingly all private corporations, regardless of
the residence of their shareholders, should be
entitled to the dividend refund in respect of all of
their investment income, including income from real
property.
Private corporations (regardless of control) should
be allowed to declare and pay capital dividends to
their non-resident shareholders free of any Canadian
witholding tax.381
The small business abatement should be applicable not
only for Canadian-controlled companies and, since all
investment in Canada is likely to leave net benefits
for the country, all incentives given to Canadian-
controlled companies should be offered to
non-Canadian-controlled companies as well.
Any interest payments received by an NRO on which
there would be no witholding tax if received by a
non-resident should be excluded from the computation
of an NRO's income. Also, distribution of such
interest income by an NRO by way of dividends should 1 16
not be subject to witholding tax.
The Income Tax Act should permit an NRO to distribute
such capital gains free of Canadian witholding tax.
An NRO's income should be subject to a rate of tax
equal to the rate of witholding tax that would be
payable if such income were paid directly to its
non-resident shareholders.
The provisions for the Part XIV tax ("Branch Tax")
should be changed to have no different taxation of
branches and subsidiaries of foreign companies.
The proposed changes would contribute to make the
Canadian tax system more neutral as regards the use by non-resident investors of Canadian corporations to hold taxable Canadian properties and earn Canadian investment income.3 8 2 12. CONCLUSION
The Canadian government changed some of the Canadian policy towards foreign investment. Part of this general policy is the Canadian tax law. Even if the taxation is not the most important part of an investment decision, it
is one of the main elements. At least in terms of this thesis, dealing with the implication of Canadian tax law on foreign investment, taxation seems to be worth considering when talking about the general approach towards foreign investment within Canada. Therefore it
seems fair to say, that the current Canadian tax treatment of non-residents and non-Canadian-controlled companies imposes a tax burden on foreign investment which is unequal to the tax burden imposed on residents and Canadian controlled companies. Even if.the Canadian definition of discrimination excludes unequal treatment, an equal tax treatment including tax incentives should be achieved between residents and non-residents including corporations. Furthermore, changes would eliminate what
is perceived as a significant and vexatious bias. They also would help to overcome some inconsistency in
Canadian policy. The new program "Investment Canada"383 and the federal and provincial entrepreneur programs try
to give incentives for foreign investment, while the tax
law is likely to impose diadvantages on the foreign
investor.384 As a part of the overall scheme for foreign
investment in Canada, a different approach in the
1 1 7 1 18
Canadian Income Tax Act would be appropriate. 1 19
FOOTNOTES
1 In older days the import of capital came mainly from
the United Kingdom. In the 1960's there was a series of
government reports which criticised foreign investment in
Canada. So at the end of the 1960's and the beginning of
the 1970's the concerns had reached a level which finally
resulted in the legislation of the Foreign Investment
Review Act (December 12, 1973). Both the Watkins and the
Gray reports concluded that existing controls on foreign
investment were insufficient, and went on to consider
possible extensions to limit the control of foreign
ownership. By this time foreign investment accounted for
10% of the total national wealth, and one-third of total
business activity in Canada was controlled by foreign
interest.
Since the Canadian economy got into trouble over the
last few years, foreign investment seems to be needed
more than ever. As the Watkins Report indicated, foreign
investment seems to be not so much the cause of Canada's
economic malaise, but a victim of it.
2 see Bakken; Beck; Fisher; Hughes; Graeme; Nixon/Burns;
O'Sullivan; Spence/Rosenfeld
3 See Bibliography. 1 20
4 See chapter 6.
5 See chapter 7.
6 See chapter 9.
7 The idea laid out shall apply between industrialized countries. General considerations with respect to less developed countries (LDC's) shall not be an issue of this thesis.
8 To deal with all of them would be too broad for this thesis.
9 See the discussions in economics over the last 100 years or so, where the concepts of more or less governmental influence in the economy were discussed. See
F.A. Hayek, Milton Friedman and the so called Chicago
School.
10 See in detail below.
11 I'm convinced, that despite other tendencies found in
the tax-, investment-, and trade-policies of many countries, we have to consider these principles on the way towards more economical co-operations between
industrialized countries. In a way, the situation today 121 is not different from the situation a couple of hundred years ago, when the domestic economies were so afraid of cheaper and/or better products imported from abroad that they implemented heavy trade barriers. Even after a general agreement on free trade (GATT) we see so many restrictions and imposed disadvantages, that the situation is - in a way - schizophrenic. Even in communities like the EEC, where the written and declared goal is to get rid of the restrictions, we actually find them, just in a more sophisticated form. The US report on restrictions of foreign trade etc., listing all of them, is 9000 pages!
12 Like Canada.
13 so the USA and the Philipines.
14 see sec. 2(3)(a) I.T.A.
15 see sec. 2(3)(b) I.T.A.
16 as defined in sec. 248(1) and 115(1) I.T.A., see sec.
2(3)(c) I.T.A.
17 they are subject to witholding tax, Part XIII I.T.A.; see chapter 6.2. 1 22
18 means: country where he is usually taxed on his worldwide income, see above.
19 see. Schaumburg, p. 5.
20 ibid
21 in terms of taxation. In Canada the definition of residency is different in tax law and in immigration law; this is different in the United States, where these are linked.
22 According to international law, theoretically both countries, Canada and the United States, could tax him on his worldwide income.
23 Therefore, depending on every country, we find some concepts to avoid double taxation, especially the concept of Foreign Tax Credits, the concept of Tax Exemptions and the concept of Exemptions with Progression. In most cases we find double tax conventions.
24 see sec. 2(1) I.T.A.
25 see: Keyes
26 see Part I and XIII I.T.A.; Sec. 2(3) I.T.A. reads: 1 23
Sec. 2(3) ,
(3) Tax payable by non-residents persons. Where a person who is not taxable under subsection (1) for a taxation year
(a) was employed in Canada,
(b) carried on a business in Canada, or
(c) disposed of a taxable Canadian property,
at any time in the year or a previous year, an income tax
shall be paid as hereinafter required upon his taxable
income earned in Canada for the year determined in
accordance with Division D.
27 see Art. 14 Canadian-German Double Tax Convention.
28 see Art. 7 Canadian-German Double Tax Convention.
29 For the definition of permanent establishments see
chapter 3.2.
30 for the US and Canada see Art. V, Canada-U.S. Income
Tax Convention (1980).
31 see: Hansen
32 The section reads:
Sec. 250(3)
(3) Ordinarily resident. In this Act, a reference to a person resident in Canada includes a person who was at the relevant time ordinarily resident in Canada.
33 [1980] CTC 2117; 80 DTC 1118 (T.R.B.)
34 (1904), 5T.C. 101
35 (1928) 13 T.C.511; [1928] A.C.234
36 [1949] C.T.C. 13; 4 DTC 536
37 (1964), 35 Tax A.B.C. 420; 64 DTC 449
38 (1958), 2 Tax A.B.C. 63; DTC 232
39 [1980] CTC 2845; 80 DTC 1749
40 [1928] A.C.217
41 [1981] CTC 2429; 81 DTC 366
42 For more information see IT-221 12, shown below:
"INTERPRETATION BULLETIN IT-221R (May 26, 1980)
Determination of an Individual's residence status
1. The purpose of this Bulletin is to explain the
Department's position concerning the
determination of an individual's residence status for income tax purposes.
General Comments
2. The term "resident" is not defined in the
Income Tax Act. The courts have held that an individual is resident in Canada for tax purposes if Canada is the place where he, in the settled routine of life, regularly, normally or customarily lives. In making this determination, all of the relevant facts in each case must be considered.
Leaving Canada
3. Where an individual leaves Canada after the date of this bulletin, the following factors will be taken into consideration in determining whether the individual will remain a resident of
Canada for tax purposes while abroad:
(a) permanence and purpose of stay abroad,
(b) residential ties within Canada,
(c) residential ties elsewhere, and
(d) regularity and length of visits to Canada.
Permanence and Purpose of Stay Abroad
4. In order for an individual to become a non-resident of Canada, there must be a degree of permanence to his stay abroad. Where a Canadian
resident is absent from Canada (for whatever
reason) for less than 2 years, he will be presumed to have retained his residence status while abroad, unless he can clearly establish that he severed all residential ties on leaving
Canada. If there is an evidence that his return to Canada was forseen at the time of his departure (e.g., a contract for employment upon return to Canada), the Department will presume that he did not sever all residential ties on leaving Canada.
5. Where an individual is absent from Canada for
2 years or longer, he will be presumed to have become a non-resident of Canada, provided that he satisfies the other requirements for non-resident status outlined in 6 to 12 below.
Residential Ties Within Canada
6. The primary residential ties of an individual are his
(a) dwelling place (or places),
(b) spouse and dependents, and
(c) personal property and social ties.
7. An individual who leaves Canada, but ensures that a dwelling place suitable for year-round occupancy is kept available in Canada for his occupation by maintaining it (vacant or otherwise), by leasing it at non-arm's length, or by leasing it at arm's length with the right to terminate the lease on short notice (less than 3 months) will generally not be considered to have severed his residential ties within Canada.
8. If a married individual leaves Canada, but his spouse or dependants remain in Canada, the individual will generally be considered to remain a resident of Canada during his absence. An exception to this may occur where an individual and his spouse are legally separated and the individual has permanently severed all other residential ties within Canada. The residential ties of a single person are frequently of a more tenuous nature and, in the majority of cases, if such a person leaves Canada for 2 years or more and establishes residence elsewhere, it is likely that he will be a non-resident of Canada during his absence, unless other important ties within
Canada indicate that he is not. For example, where a single person is supporting someone in a dwelling maintained and occupied by him in Canada and, after his departure, he continues to support that person in the dwelling, he will not be considered to have severed his ties within
Canada.
9. Generally speaking, an individual who leaves
Canada and becomes a non-resident will not retain any residential ties in the form of personal property (e.g. furniture, clothing, automobile, bank accounts, credit cards, etc.) or social ties (e.g. resident club memberships, etc.) within
Canada after his departure. Where such ties are retained within Canada, the Department may examine the reasons for their retention to determine if these ties are significant enough to conclude that the individual is a continuing
resident of Canada while absent. Other ties that may also be relevant in this determination are the retention of:
(a) provincial hospitalization and medical
insurance coverage,
(b) a seasonal residence in Canada,
(c) professional or other membership in Canada
(on a resident basis), and
(d) family allowance payments.
Residential Ties Elsewhere
10. The Courts have held that:
(a) everyone must be resident somewhere, and
(b) it is quite possible for an individual to be
resident in more than one place at the same time
for tax purposes.
Accordingly, where a resident of Canada goes abroad, but does not establish a permanent
residence elsewhere, there is a presumption that
he remains a resident of Canada. Also, the fact
that an individual establishes a permanent
residence abroad does not, in any part and by itself, mean that the individual has become a
non-resident of Canada.
11. Where an individual is resident in Canada
and, at the same time, resident in another
country by its laws, reference should be had to
any tax convention or agreement that Canada may
have with the other country.
Regularity and Length of Visits to Canada
12. Where an individual leaves Canada and
purports to become a non-resident, his tax status
as a non-resident will not generally be affected
by occasional return visits to Canada, whether
for personal or business reasons. However, where
such visits are more than occasional,
particularly where the visits occur on a regular
basis, this factor together with other
residential ties that exist (as set out in 9
above) will be examined to determine whether they
are significant enough in total to conclude that
the individual is a continuing resident of Canada.
43 see above
44 see also Art. IV Canada-U.S. Income Tax Convention
(1980) .
45 see: Farnsworth; Pyrcz; Stapels; Wang; Ward 1 30
46 [1906] A.C.455; 5T.C. 198; 95L.T.221 (per Lord
Loreburn). Being a mere question of fact, it is to be determined upon a scrutiny of the course of the business and trading and not according to regulations or by-laws.
47 1929 AC 1
48 sec.250(4)(a) I.T.A.)
49 For the taxation of non-Canadian controlled companies
see chapter 7.
50 see: Spence
51 Article 5 of the Canadian-German Double Tax Convention
reads:
Article 5
Permanent Establishment
(1) For the purposes of this Agreement, the term
"permanent establishment" means a fixed place of business
through which the business of an entreprise is wholly or
partly carried on.
(2) The term "permanent establishment" includes
specifically:
a) a place of management;
b) a branch; 131 c) an office; d) a factory; e) a workshop; and f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources.
(3) A building site or construction or installation project constitutes a permanent establishment only if it lasts more than twelve months.
(4) Nothwithstanding the preceding provisions of this
Article, the term "permanent establishment" shall be deemed not to include: a) the use of facilities solely for the purpose of storage, display or delivery of goods or merchandise belonging to the enterprise; b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display or delivery; c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise; d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise or for collecting information, for the enterprise; e) the maintenance of a fixed place of business solely for the purpose of carrying on, for the enterprise, any other activity of a preparatory or auxiliary character; f) the maintenance of a fixed place of business solely 1 32 for any combination of activities mentioned in subparagraphs a) to e) provided that the overall activity of the fixed place of business resulting from this combination is of a preparatory or auxiliary character.
(5) Notwithstanding the provisions of paragraphs 1 and 2, where a person - other than an agent of an independent status to whom paragraph 6 applies — is acting on behalf of an enterprise and has, and habitually exercises, in a
Contracting State an authority to conclude contracts in the name of the enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to those mentioned in paragraph 4 which, if exercised through a fixed place of business, would not make this fixed place of business a permanent establishment under the provision of that paragraph.
(6) An enterprise shall not be deemed to have a permanent establishment in a Contracting State merely because it carries on business in that State through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business.
(7) The fact that a company which is a resident of a
Contracting State controls or is controlled by a company which is a resident of the other Contracting State, or which carries on business in that other State (whether 1 33 through a permanent establishment or otherwise), shall not of itself constitute either company a permanent establishment of the other.
52 see: Green; Noble
53 [1978] C.T.C. 539 (Fed. ct. — T.D.)
54 Canadian Tax Paper No. 39, 1964 at p.38.
55 De Beers Consolidated Mines Ltd. v. Howe [1906] A.C.
455.
56 Under this test, a corporation may have a dual residence for tax purposes.
57 21 Can. Tax J. 217 (1973).
58 supra
59 The issue in the Thibodeau case was whether a capital gain realized by the Thibodeau Family Trust was subject to tax on the basis of Canadian residence. Two trustees were resident in Bermuda, a third trustee resident in
Canada. The Canadian trustee had the sole power to appoint new trustees. The trustees could only act by majority decision, all meetings of the trustees were held 1 34 in Bermuda, and the trust assets and their administration were located in Bermuda.
60 He reiterated his view that the statute provided no
"statutory formula to determine the residence of the
Thibodeau Family Trust" and that therefore he would employ "a judicial formula applicable to the facts of the case alone".
"As to the submission that the Court in this case
... even if it also finds that the trust has a
residence in Bermuda, it should find that it has
residence in Canada in that part of the paramount
or supreme authority in relation to the
management of this trust was carried on in Canada
applying by analogy the principles in the cited
cases of determining residence for income tax
purposes of corporations, in my view, such
submission is also not valid. The judicial
formula for this respecting a corporation, in my
view, cannot apply to trustees because trustees
cannot delegate any of their authority to
co-trustees. A trustee cannot adopt a "policy of
masterly inactivity" as commented upon in
Underhill on the Law of Trusts and Trustees ...
and on the evidence, none of the trustees did
adopt such policy. Therefore it is not possible
for a trust to have a dual residence for income 135
tax purposes, and therefore it is not possible to
find that part of the paramount or "superior and
direct authority" of a trust is and was in two
places. In any event, a finding of dual residence
of this trust is not made in this case."
The logic of the above passage is unclear and has been highly criticized. It seems that the non-delegation rule is not relevant to the question of dual residence.
However, it is relevant to the question of whether or not residence in the trust context is a de facto or a de jure concept.
61 However, in many instances a trustee will refer to the judgment and expertise of his co-trustee, even though this is technically a breach of his duty.
62 After rejecting the submissions of the Crown, Gibson,
J. then identified a number of factors which he considered relevant to the determination of the residence of the trust: 1) the majority of the trustees were resident in Bermuda; 2) the trust document permitted a majority rule; 3) the Canadian trustee did not control the trustees resident in Bermuda; 4) the trust res was located in Bermuda; 5) some beneficiaries resided outside of Canada; and 6) no trust business was done in Canada.
On the basis of the first two factors enumerated, the
Court held that the trust was not resident in Canada. 136
See also Flannigan, 1985 Estates and Trusts Quarterly, p.83; D.B. Morris, [1979] CR. 414; L. Amighetti, [1979]
CR. 652.
63 This Bulletin reads:
[Interpretation Bulletin No. IT-447]
Residence of a trust or estate.
1. The residence of a trust or estate (hereinafter referred to as a trust) in Canada or in a particular province or territory within Canada, is a question of fact to be determined in each case. However, a trust is generally considered to reside where the trustee, executor, administrator, heir or other legal representative (hereinafter referred to as the trustee) who manages the trust or controls the trust assets resides.
2. The trustee who has management and control of the trust, while he may not have physical possession of the trust assets, will be the person who has most or all of the following powers or responsibilities:
(a) control over changes in the trust's investment
portfolio,
(b) responsibility for the management of any business
or property owned by the trust,
(c) responsibility for any banking, and financing 1 37
arrangements for the trust,
(d) control over any other trust assets,
(e) ultimate responsibility for preparation of the
trust accounts and reporting to the beneficiaries
of the trust, and
(f) power to contract with and deal with trust
advisors, e.g., auditors and lawyers.
3. In certain cases, more than one trustee may be involved in exercising the management and control over the trust. If one such trustee clearly exercises a more substantial portion of the management and control than the others, the trust will reside in the jurisdiction in which the trustee resides. Where two or more trustees exercise relatively equal portions of the management and control of the trust, and trustees exercising more than
50% of such management and control reside in one jurisdiction, the trust will reside in that jurisdiction.
4. In some cases it may not be clear who has management and control of the trust and in these situations the
Department will examine other factors relating to the trust to determine residence. The most important of these factors are:
(a) the location where the legal rights with respect to
the trust assets are enforceable, and
(b) the location of the trust assets.
The residence of the beneficiaries of a trust and domicile of the settlor are not considered to be relevant 1 38
except in situations as described in 5 below.
5. Normally residence of a trust is dependent upon
residence of the trustee or trustees who can exercise management and control of the trust. In some situations
the facts may indicate that a substantial portion of the management and control rests with some other person such
as the settlor or the beneficiaries. In these situations
the residence of this other person may be considered to
be the determining factor of the trust regardless of any
contrary provisions in the trust agreement.
6. Where an individual exercises the management and
control of a trust, the residence of that individual is
determined based on the normal factual tests for
determining the residence of an individual.
7. Where a corporation exercises the management and
control of a trust, the residence of that corporation is
determined based on the normal factual tests for
determining residence of a corporation. An exception to
the general rule may be encountered where the management
and control of a trust is exercised by a branch of a
trust company. In these circumstances, the trust may be
determined resident in the juridiction where the branch
office is located even though the corporation itself is
outside that jurisdiction.
8. In some situations, after examination of all factors,
it may be determined that a trust is resident in Canada
notwithstanding that another country may consider the 1 39 trust to be resident in that country.
9. Pursuant to paragraph 94(c) a trust not otherwise resident in Canada may be deemed to be a resident in
Canada for the purposes of Part I of the Act if the trust is such that the amount of the income or capital to be distributed at any time to any beneficiary of the trust depends upon the exercise by any person of, or the failure by any person to exercise, any discretionary power.
10. Subsection 75(2) provides that, where property is transferred by a person to a trust created after 1934 on condition that the property, or property substituted for it, may revert to that person or pass to persons designated by him or that during his lifetime the property may be disposed of only with his concurrence, any income or loss or taxable capital gain or allowable capital loss from the property, or property submitted for it, is attributable to that person during his lifetime while he is resident in Canada. In such situations attribution applies whether or not the trust is resident in Canada.
11. The foregoing are the considerations viewed as relevant in determining the residence of a trust or estate in ordinary situations. Regard may be had to other factors where the purported residence of a trust or estate appears to have been motivated by reasons of tax avoidance. 1 40
64 see below, chapter 6.2
65 see below, chapter 6.1
66 see below
67 It will be shown later that there are certain disadvantages resulting out of the dividend tax credit for non-residents.
68 I will refer to some anomalies later.
69 like people who are living in Canada, but are residents of Germany according to the definition of the
Convention, or German companies which have a permanent establishment in Canada and therefore being here actually without being a resident corporation.
70 source: Fischer Weltalmanach 1986, s. 343
71 The U.S. garment industry and its lobby are fighting imports from Hong Kong, Taiwan, South Korea.
72 see also Olsen
73 It is not my intention to cover all of them nor to go 141
into a very detailed discussion. Most of them are not eligible for non-residents, as for example, the oil
incent ives.
74 see the Canadian MURB -Programs, where a 5% and in some cases 10% depreciation for multiple unit residencial buildings (MURB) was deductible against other sources of
income; see Reg. Sch. II, Class 31, 32.
75 see sec. 37 I.T.A.
76 sec. 65, 66 I.T.A.
77 Reg. 1208; Reg. Sch. II, Class 10
78 Even so called "quick flips" were in the beginning of
this tax program within the policy of the government.
79 see Reg. Sch. II, Class 10, 12 and Reg. 1104(2)
80 Watkins Report, Gray Report
81 In Canada the Income Tax Act proposes tax neutrality.
As a result there is the same tax burden for profits
derived from a corporation in means of dividends compared
to profits earned personally. In the U.S. dividends are
taxed at the company level and in the hands of the 1 42 shareholders, without having a dividend tax credit allowing for total tax neutrality as it is in Canada. As a consequence it is cheaper to do investment in the U.S. if one expects to re-invest profits made by a company.
82 see below
83 After the U.S. Tax Reform Act 1986, investment losses from real estate are limited to income.
84 For the first year only, half the rate, equals 2.5%, applies.
85 insert from me
86 Bode, p. 4; Zimmermann, p. 29; Jaenicke,
Diskriminierung, p. 387; Kipp, p. 137
87 Langenscheid's Taschenworterbuch Lateinisch-Deutsch;
Schmidt, Grundfragen, p. 12; Zimmermann, p. 29
88 Larousse du XXs siele, Vol. 2, "discriminer"; Bertaux-
Lepointe, "discrimination"; von Ackermann, p. 3 and ibid;
Schmidt, Grundfragen, p. 12; Le grand Larousse
Encyclopedique 1960 "discrimination"
89 Das grosse Dudenlexikon, Vol. 2, "diskriminieren," 143
"Diskriminierung"; Mackensen, "diskriminieren,"
Diskrimination"
90 Loerke, p. 15
91 Zimmermann, p. 29 Fn. 35; Learner's Dictionary "to discriminate"; Schindler, p. 67; Herbst, Worterbuch, Vol.
1, "discrimination"
92 Staatslexikon, Vol. 2, p. 990, "Diskriminierung"
93 Grundsatz der Gleichberechtigung
94 Bode, p. 5; Kruse, p. 279, 530 f., 518f
95 IMF: Annual Report 1965, p. 4; Sannwald-Stohler, p. 65
96 Bode, p. 5
97 In order to stress it the term "discrimination" has
supplements as "injuste," "malveillant," "injust,"
"unlawful," "unfair." It also results from supplements
like "against," "au detriment" or "au prejudice."
98 Zimmermann, p. 29f, defines the term discrimination in
the legal sense as: "disapproved by law, unjustified or
unlawful discrimination." 1 44
99 In this sense Jaenicke, Begriffe, p. 32 f, 86 defines the term of discrimination "inadmissable treatment"
100 see Hesse, p. 170 f, 187, 211
101 Schmidt, Grundfragen, p. 13
102 see Ipsen, Equality, p. 113 for the status of equality in the public law; Berber, volume 1, p. 210 for the international law.
103 Jaenicke, Discrimination, p. 390; Zimmermann, p. 51;
Schmidt, Grundfragen, p. 13/14, p. 62; Kipp, p. 143;
Zerr, p. 16 f; A. Loerke, p. 19
104 Jaenicke in: Strupp-Schlochauer, volume 1, p. 392;
Berber, volume 1, p. 210 ff; Schwarzenberger, volume 1, p. 229 f.
105 Jaenicke, supra; the same term. p. 145;
Schwarz-Lieberman, von Wahlendorf, p. 19; Zerr, p. 109;
Guggenheim, volume 1, p. 164 f; Oppenheim-Lauterpacht, volume 1, p. 238 ff, Schwarzenberger, p. 26 f, Dahm, volume 1, p. 163.
106 see Erler, p. 141, 159 and see Verdross, p. 229 1 45
107 Berber, volume 1, p. 179, 221 f.
108 Berber, volume 1, p. 179-184; see also Schaumann, p.
148 f; Kiss: L'abus de droit en droit international,
1953.
109 see Erler, p. 159
110 Jaenicke, Begriff, p. 143 ff; Schaumann, p. 3
111 see Guggenheim, volume 1, p. 309; Berber, volume 1, p. 397
112 see Jaenicke, Discrimination, in: Strupp-Schlochauer, p. 388; Schwarzenberger, Standards, in: QIL 2 (1948), p.
409, 412; Dahm, volume 1, p. 505, Berber, volume 1, p.
189, 377; Schindler; see also Erler, p. 49
113 see Thieme, p. 13ff, 73-77; Ipsen, Equality, p. 135;
Kipp, p. 149; Schindler, p. 54
114 Jaenicke, Discrimination, supra, p. 392; Leibholz, in: Strupp-Schlochauer, volume 1, p 694 ff, Elsbernd, p.
47
115 Based on his precise examination of the principle of 1 46 discrimination, Kiss, p. 80 ff, 85; see also Jaenicke,
Terms, p. 11 f; the same, Discrimination, p. 387; the same, Equality, p. 690 ff; Schwarzenberger, volume 1, p.
231 f; Held, p. 12; Elsbernd, p. 47; Dahm, volume 2, p.
580 f; Ipsen, Equality, p. 132; Kipp, p. 143; Ross, p.
154 f; Thieme, p. 13 ff, 69; see also the judgement of the administrative court of the province Baden of the
29.11.1952; DVBl. 1953, p. 242
116 see Schwarzenberger, Standards, p. 402-418; the same, volume 1, p. 229 ff, 240; Scheuner, p. 54
117 Zimmermann, p. 39
118 Zimmermann, supra; Schwarzenberger, volume 1, p. 229
f
119 Zimmermann, supra
120 Rittershausen, p. 259; Schwarzenberger, Standards, p.
410
121 see Schwarzenberger, volume 1, p. 24 f; the same,
Most-favoured nation treatment, p. 96-114; Guggenheim,
volume 1, p. 99 f; Dahm, volume 2, p. 593, 595
122 Dahme, volume 2, p. 593 147
123 see Erler, p. 131 f and also Article II GAT
124 see Scheuner, p. 56; Schwarzenberger, Standards, p. p. 410
125 see Erler, p. 52 f, 72
126 Schwarzenberger, supra; the same, volume 1, p. 232
127 Kipp, p. 144; Schwarzenberger, supra, p. 409 f
128 Zimmermann, p. 40; Jaenicke, Equal Treatment, p. 691;
Schwarzenberger, volume 1, p. 231 f, 240
129 Kipp, p. 137; Jaenicke, Discrimination, p. 388-390
130 see Kipp, p. 143
131 Schwarenberger, Standards, p. 408 ff
132 Schwarzenberger, supra; see also Erler, p. 53 f
133 see Jaenicke, Discrimination, p. 388
134 Schwarzenberger, supra 1 48
135 see Article 2 of the declaration of human rights of the U.S.A.: "... without distinction of any kind." See also the general prohibition of discrimination of Article
7 of the declaration: "All are equal before the law and are entitled without any discrimination in violation of this Declaration and against any incitement to such discrimination." See for the activity of the UN
Commission for the Prevention of Discrimination and for the Protection of Minorities, supra, p. 389
136 see: Erler, p. 99; Zimmermann, p. 38.
137 see Article 22 cipher 5 of the League of Nations for
the B-mandates in the scope of Treaty of Versailles;
Article 76 letter d) of the Principle of the U.S.A. for
the trust-areas; further examples: see Erler, p. 71 f.
138 RGB1. 1919, p. 687 ff.
139 Article 104, cipher 5; see also Article 33 of the
Danzig-Polish-Treaty of November 9, 1920
140 Article 265 of the Treaty of Versailles
141 Article 323 of the Treaty of Versailles
142 LNTS volume 97, p. 391; see also Article 45 of the 1 49
Havana Charter, Art. 20 of the GATT; Art. of the
Convention establishing the European Free Trade
Association (TEFTA-Treaty) in: UNTS 5 (1960), p. 370 ff.
143 see Art. 4, 20 of the Railroad-Act, Art. 6, 7 of the Seaport-Act.
144 see Martens, N.R.G. 3, volume 19, p. 19, p. 240
145 UNTS 2, p. 39 ff.
146 see Art. 44g of the agreement about the International Civil Aviation Organization (ICAO) of December 7, 1944; Art. I GATT (LNTS 55 I, p. 196) the new version in: Arch VR 7 (1958-59), p. 424 ff; Art. 7a of the codex of the liberalization of the OEEC in the edition of March 5, 1959 in: Supplement of the BAnz. No. 78 of April 24, 1959; Article 1(c) of the agreement of the Organization for Economic Co-operation and Development (OECD) of December 14, 1960-BGBl 1961 II, p. 1151-1158; Article VII of the Statutes of the International Monetary Funds (IMF) of July 1 and 22, 1944 - BGB1. 1952 II, p. 631-646.
147 UNTS 2, p. 39 ff.
148 Art. I GATT 1 50
149 see Article 22, 23 Havana Charter; Article XVII GATT;
Article 14 EFTA-Treaty
150 Article 29 of the Havana Charter; Article XVII of
GATT; Article 14 of the EFTA-Treaty.
151 Art. 3(e), 7(a), 8, 9, 10, 20(e), 22(a), 23 of the codex.
152 Of April 29, 1952 - BGBl. 1952 II, p. 445
153 Zimmermann, p. 22, 26, 27
154 Zimmermann, p. 23
155 see Art. 86 MUV; Zimmerman, p. 27
156 BGBl. 1957 II, p. 1014
157 see von Ackermann, p. 28-31
158 Kipp, p. 143
159 see Jaenicke, Discrimination, supra, p. 390f;
Zimmermann, p. 41; Kipp, p. 140 ff
160 see Jaenicke, supra 151
161 see Zimmermann, p. 41
162 Kipp, p. 143; Jaenicke, Begriffe, p. 22
163 Kipp, 142, 144
164 Zimmerman, p. 43
165 see Zimmermann, p. 43
166 Ausweichklauseln, Ausnahmeklauseln, Riicktrittsklauseln and waivers
167 Zimmermann, p. 42; Jaenicke, Equal Treatment, p. 692 f .
168 Zimmermann, p. 43
169 see European Commission of Human Rights, Documents and Decisions 1955, 1956, 1957, p. 199; Kipp, p. 144
170 Schwarzenberger, volume 1, p. 240f
171 see Article I GATT combined with the lists of concession 172 Kipp, p. 144
173 see Zimmermann, p. 44f
174 see Schwarzenberger, Standards, p. 408 f.
175 see Kipp, p. 146 f; Zimmermann, p. 44
176 Kipp, p. 147; Scheuner, p. 44
177 Jaenicke, Begriffe, p. 86f, 102, 1l0f; Schindler,
143; Kipp, p. 147
178 see p. 7
179 see Advocate General Largange, closing argument i the Re SA 13/63 - Sa IX, p. 409 f
180 Kipp, p. 148
181 Lagrange, supra; see CPJI, Arrets et Avis consultatifs, serie A/B, No. 64, p. 19 -
"Minderheitenschulen in Albanien"
182 see also Kipp, p. 148
183 see Belgium: Article 6 paragraph 2 of the 153
Constitution of February 17, 1831; Federal Republic of
Germany: Art. 3 paragraph 1 of the Constitution (the
German "Grundgesetz") of the May 21, 1949; France: the
preamble and Art. 2 paragraphs 1 and 2 of the
Constitution of the October 4, 1958; Luxembourg: Art. 11
paragraph 2 of the Constitution of October 17, 1968;
Italy: Art. 3 paragraph 1 of the Constitution of the
December 27, 1947
184 Art. 4 of the Federal Constitution of Swiss of 1874;
see Leibholz, p. 79 Anm. 1 and 2
185 because of the 14th amendment in 1868 ("equal
protection of the laws")
186 Donner, p. 201 ff, 203f; Van der Pot, p. 443,
Vegting, p. 154; Zerr, p. 95-98
187 Art. 5 of the Dutch Constitution
188 Art. 4 paragraph 1 of the Dutch Constitution
189 For the same protection for the association of
churches see: Art. 175 of the Dutch Constitution
190 Stellinga, p. 154; Kranenburg-Vegting, p. 186 1 54
191 see Stellinga, p. 254
192 Zerr, p. 98; De Laubadere, p. 205 ff; see also
Jeanneau, p. 7 ff; Letourneur, p. 27 ff; Waline, p. 430
193 The principle of equality in the economic administration, lecture, Baden-Baden 1961
194 Jeanneau, p. 7-39; Loerke, p. 23f.
195 see Zerr, p. 99; Ipsen, p. 196f; Loerke, aaO.
196 see CE 29.6.1951; CE 12.2.1960; see Loerke, p. 24
197 see also the special prohibitions of discrimination relating to the constitution in Art. 37 (principle of the same salary for men and women for the same work) and Art.
51 (principle that every citizen can take up public offices)
198 see Mortati, p. 714
199 see Bescaretti di Ruffia, p. 233; d'Eufemia, p. 131
200 see Zerr, p. 105
201 see Art. 6 and 112 of the Belgium Constitution; the 1 55 summary of jurisdiction in Sarot, p. 107 f.; also Zerr, p. 100; Vigny p. 37; Buttgenbach, Manuel, p. 82 ff.; the same, Theorie, p. 84ff.
202 see Art. 3 of the "German Constitution"
203 see Art. 11 paragraph 1 and 2 of the Constitution of the October 17, 1868
204 see BVerfGE 1, p. 321 (327); 5, p. 334 (338); 1, p.
208 ff
205 BVerfGE 1, p. 208 ff., 233
206 see Cereti, p. 117
207 see Leibholz, p. 239-243; Ipsen, Equality, p. 139 f.; von Mangold-Klein, 2. edition Art. 3 Anm. Ill
208 see Decisions of the Federal Court of Switzerland volume 6, p. 178, volume 32, p. 637; Leibholz, p. 48
209 see Zimmermann, p. 33; Constitution of the United
States of America. Annotations of cases decided by the
Supreme Court of the United States to June 30, 1952, p.
1142 f . 156
210 see Zimmermann, p. 34
211 Zimmermann, supra
212 see Ipsen, p. 180
213 Raiser, Principle of Equal Treatment, p. 91: "The equality in the sense of law is always based on selecting and valuing equalization"; see Hueck, p. 172
214 see Art. 3 paragraph 3 of the German "Grundgesetz"
215 Ipsen, p. 184
216 see Zimmermann, p. 35, 36
217 The Advocate General Lagrange referred to this in his final plea ReSa 13/63 Sa. IX, p. 409; Hueck, supra
218 Lagrange, supra
219 see H.J. Rinck in: DVBl. 1961, p. 1; BVerfGE 2, p.
281; 4, p. 155; BGHZ 13, 265; BVerwGE 2, 1953; 257 f.
220 see BVerfGE 4, p. 155
221 see Zimmermann, p. 37; see BVerfGE 4, p. 155 222 BVerfGE aaO.; 1, p. 52; H.J. Rinck, supra.
223 BVerfGE aaO.
224 BVerfGE 9, p. 349; see also Radbruch, p. 157-176;
Coing, p. 118 ff; Stratenwerth.
225 see the indication of Leibholz, p. 80; Zimmermann
36, Fn. 55.
226 see Zimmermann, p. 37; Leibholz, p. 215
227 see BVerfGE 8, p. 51, 64
228 DStZ 1970, p. 130 referring to Jaenicke,
Diskriminierung p. 391; Neumeyer, Internationales
Verwaltungsrecht 1936, Vol. IV p. 432
229 Debatin, ibid
230 Constitution ("Basic law") for the Federal Republ of Germany
231 BVerfGe 1, 14 (15, 52)
232 ibid 1 58
233 Klein, Gleichheitssatz und Steuerrecht, Koln 1966, p.
130; Debatin, DStZ 1970, 130
234 Draft Double Taxation Convention on Income and
Capital from July 30, 1963, OECD-Doc. C (63) 87; see also
Debatin, AWD 1963, p. 289
235 OEEC-Doc. C (59)147 from July 3, 1959; see also
Debatin DStZ 1970, 130
236 to be translated as "limited" and "unlimited" obligation to pay taxes
237 unlimited
238 Sass, Zur Auslegung der in Doppelbesteurungsabkommen ubernommenen OECD-Klausel uber Nichtdiskriminierung von
Betriebsstatten, AWD 1965, p. 106
239 Contrary: Raupach, Der Durchgriff im Steuerrecht,
Munchen 1968, p. 88
240 SEE: HUGGETT
241 Art. 14 Canada-German Double Tax Convention 1 59
242 sec. 2(3)(c), 115, 116 I.T.A. The $500,000 capital
gains exemption implemented by the 1985/86 budget provides only for Canadian residents.
243 see: Walker
244 It reads:
SEC. 116. Dispostion by non-resident person of certain
property.
(1) Where a non-resident person proposes to dispose of
any property that would, if he disposed of it, be taxable
Canadian property of that person (other than depreciable
property or excluded property), he may, at any time
before the disposition, send to the Minister a notice
setting forth
(a) the name and address of the person to whom he
proposes to dispose of the property (in this
section referred to as the "proposed purchaser"),
(b) a description of the property sufficient to
identify it,
(c) the estimated amount of the proceeds of disposition
to be received by him for the property, and
(d) the amount of the adjusted cost base to him of the
property at the time of the sending of the notice.
Sec. 116(2)
(2) Certificate in respect of proposed disposition. Where
a non-resident person who has sent to the Minister a 1 60 notice under subsection (1) in respect of a proposed disposition of any property has
(a) paid to the Receiver General, as or on account of
tax under this Part payable by him for the year,
25% of the amount, if any, by which the estimated
amount set forth in the notice in accordance with
paragraph (1)(C) exceeds the amount set forth in
the notice in accordance with paragraph (l)(d), or
(b) furnished to the Minister security acceptable to
the Minister in respect of the proposed disposition
of the property, the Minister shall forwith issue to the non-resident person and the proposed purchaser a certificate in prescribed form in respect of the proposed disposition, fixing therein an amount (in this section referred to as the "certificate limit") equal to the estimated amount set forth in the notice in accordance with paragraph
(D(c).
Sec. 116(3)
(3) Notice to Minister. Every non-resident person who in a taxation year has made a disposition of any taxable Canadian property of that person (other than depreciable property or excluded property) shall, not later than 10 days after the day on which the disposition was made, send to the Minister, by registered mail, a notice setting forth
(a) the name and address of the person to whom he 161
disposed of the property (in this section referred
to as the "purchaser"),
(b) a description of the property sufficient to
identify it, and
(c) a statement of the proceeds of disposition of the
property and the amount of its adjusted cost base
to him immediately before the disposition, unless the non-resident person has, at any time before the disposition, sent to the Minister a notice under subsection (1) in respect of any proposed disposition of that property and
(d) the purchaser was the proposed purchaser referred
to in that notice,
(e) the estimated amount set forth in that notice in
accordance with paragraph (1) (c) is equal to or
greater than the proceeds of the disposition of the
property, and
(f) the amount set forth in that notice in accordance
with paragraph (l)(d) does not exceed the adjusted
cost base to the non-resident person of the
property immediately before the disposition.
Sec. 116(4)
(4) Certificate in respect of property disposed of.
Where a non-resident person who has sent to the Minister a notice under subsection (3) in respect of a disposition of any property has
(a) paid to the Receiver General, as or on account of 162
tax under this Part payable by him for the year,
25% of the amount, if any, by which the proceeds of
disposition of the property exceed the adjusted
cost base to him of the property immediately before
the disposition, or
(b) furnished to the Minister security acceptable to
the Minister in respect of the disposition of the
property,
the Minister shall forwith issue to the non-resident person and the purchaser a certificate in prescribed form
in respect of the disposition.
Sec. 116(5)
(5) Liability of purchaser in certain cases. Where
in a taxation year a purchaser has acquired from a
non-resident person any of that non-resident person's
taxable Canadian property (other than depreciable
property or excluded property),
(a) the purchaser, unless after reasonable inquiry he
had no reason to believe that the non-resident
person was not resident in Canada, is liable to
pay, as tax under this Part for the year on behalf
of the non-resident person,
(i) 15% of the cost to the purchaser of the
property so acquired, if no certificate has
been issued under subsection (2) in respect
of the disposition of the property by the
non-resident person to the purchaser, or 1 63
(ii) in any other case, the lesser of
(A) 15% of the cost to the purchaser of the
property so acquired, and
(B) 25% of the amount, if any, by which the
cost to the purchaser of the property
so acquired exceeds the certificate
limit fixed by the certificate issued
under subsection (2) in respect of the
disposition of the property by the
non-resident person to the purchaser,
and is entitled to deduct or withold from any
amount paid or credited by him to the non-resident
person or otherwise recover from the non-resident
person any amount paid by him as such tax;
(b) at such time, if any, as any certificate under
subsection (4) is issued to him by the Minister in
respect of the property, the purchaser ceases to be
liable under this subsection to pay any amount as
tax under this Part for the year on behalf of the
non-resident person; and
(c) the purchaser shall, within 30 days after the end
of the month in which he acquired the property,
remit to the Receiver General the tax for which he
is liable under paragraph (a).
Sec. 116(5.1)
(5.1) Idem. Where a non-resident person has disposed of or proposes to dispose of a life insurance policy in 1 64
Canada, a property described in paragraph 59(2) (a), (c), or (d) or any property that is or would, if he disposed of it, be taxable Canadian property of that person other than
(a) excluded property, or
(b) property that has been transferred or distributed
on or after his death and as a consequence thereof to any person by way of gift inter vivos or to a person with whom he was not dealing with at arm's length for no proceeds of disposition or for proceeds of disposition less than the fair market value thereof at the time he so disposed of it or proposes to dispose of it, as the case may be, the following rules apply:
(c) the reference in paragraph (1)(C) to "the proceeds
of disposition to be received by him for the
property" shall be read as a reference to "the fair
market value of the property at the time he
proposed to dispose of it",
(d) the references in subsections (3) and (4) to "the
proceeds of disposition of the property" shall be
read as references to "the fair market value of the
property immediately before the disposition";
(e) the references in subsection (5) to "the cost to
the purchaser of the property so acquired" shall be
read as references to "the fair market value of the
property at the time it was acquired"; and
(f) the reference in subsection (5.3) to the "amount 165
payable by the taxpayer for the property so
acquired" shall be read as a reference to "the fair
market value of the property at the time it was
acquired".
Sec. 116(5.2)
(5.2) Certificate in respect of dispositions. Where a non-resident person has, in respect of a disposition or a proposed disposition to a taxpayer in a taxation year of a life insurance policy in Canada of the non-resident person, a property described in paragraph 59(2)(a), (c), or (d) of the non-resident person or depreciable property that is or would, if he disposed of it, be taxable
Canadian property of the non-resident person,
(a) paid to the Receiver General, as or on account of
tax under this Part payable by the non-resident
person for the year, such amount as is acceptable
to the Minister in respect of the disposition or
proposed disposition of the property, or
(b) furnished to the Minister security acceptable to
the Minister in respect of the disposition or
proposed disposition of the property, the Minister shall forthwith issue to the non-resident person and to the taxpayer a certificate in prescribed form in respect of the disposition, proposed proceeds of disposition or such other amount as is reasonable in the c ircumstances.
Sec. 116(5.3) 166
(5.3) Liability of purchaser in certain cases. Where
in a taxation year a taxpayer has acquired from a non-resident person property referred to in subsection
(5.2) ,
(a) the taxpayer, unless after reasonable inquiry he
had no reason to believe that the non-resident
person was not resident in Canada, is liable to
pay, as tax under this Part for the year on behalf
of the non-resident person, 50% of the amount, if
any, by which
(i) the amount payable by the taxpayer for the
property so acquired exceeds
(ii) the amount fixed in the certificate, if any,
issued under subsection (5.2) in respect of
the disposition of the property by the
non-resident person to the taxpayer
and is entitled to deduct or withold from any
amount paid or credited by him to the non-resident
person or to otherwise recover from the
non-resident person any amount paid by him as such
tax; and
(b) the taxpayer shall, within 30 days after the end of
the month in which he acquired the property, remit
to the Receiver General the tax for which he is
liable under paragraph (a).
Sec. 116(5.4) 167
(5.4) Presumption. Where there has been a disposition by a non-resident of a life insurance policy in Canada by virtue of subsection 148(2) or any of subparagraphs 148(9)(c)(i) to (iii) and (iv.1), the insurer under the policy shall, for the purposes of subsections (5.2) and (5.3) be deemed to be the taxpayer who acquired the property for an amount equal to the proceeds of disposition as determined under section 148.
Sec. 116(6)
(6) Definition of "excluded property". For the purposes of this section, "excluded property" of a non-resident person means
(a) property described in subparagraph 115(1)(b)(ix);
(b) a share of the capital stock of a public
corporation, or an interest therein;
(c) a unit of a mutual fund trust;
(d) a bond, debenture, bill, note, mortgage, hypothec
or similar obligation; or
(e) any other property that is prescribed to be
excluded property.
245 see sec. 116(5)(a) I.T.A.
246 see Holmes
247 see CTS 212-11 248 The Carter Commission recommended a general witholding tax of 30%, see Vol. IV p.488 No. 6. For
specific items the Commission recommended (Vol. IV p.502/503):
"Payments of property income by residents to
non-residents of Canada are subject to witholding
taxes as follows:
(1) Dividends of a company owned to the extent
of 25 per cent or more by Canadians (with a
variation in this rule if the shares are listed
on a stock exchange) — 10 per cent; all other
dividends — 15 per cent.
(2) Interest — 15 per cent with certain
exceptions, the most important being the
exemption for interest payments on bonds issued
after April 15, 1966, by the federal,
provincial, and municipal governments, and for
interest payments to organizations exempt from
tax in their country (conditional on
certificates of exemption being provided).
(3) Rentals — 15 per cent, but in the case of
realty rentals a non-resident may elect to pay
tax at the applicable Canadian tax rates after
filing an income tax return of net Canadian
rental income.
(4) Royalties — copyright royalties are not
subject to witholding tax; film and tape royalties - 10 per cent; all other royalties —
15 per cent. A recipient of timber royalties
may elect to be taxed on his net Canadian
income by filing a return as in the case of a
recipient of real estate rentals.
(5) Estate and trust income and patronage
dividends — 15 per cent.
(6) A 15 per cent tax in lieu of any other tax
(including the witholding tax on dividends and
interest paid) is imposed on the income of a
non-resident-owned investment corporation — a
corporation substantially owned abroad whose
income is substantially from investments."
249 e.g. Canada-Germany, see Art. 10(2) for dividends;
Art. 11(2) for interest.
250 e.g. Canada-Germany Art. 12(2) for royalties.
251 sec. 212(l)(a) I.T.A.; see also sec. 212(4) I.T.A.
252 sec. 212(1)(b) I.T.A.
253 sec. 212(1)(C) I.T.A.
254 sec. 212(1)(d) I.T.A. 1 70
255 sec. 212(1)(e) I .T. A.
256 sec. 212(1)(f) I .T. A.
257 sec. 212(1)(g) I .T. A.
258 sec. 212(1)(h) I .T. A.
259 sec. 212(1 ) (i) I • T.A .
260 sec. 2 1 2 (1 ) (1 j ). I . T.
261 sec. 212(1)(k) I .T. A.
262 sec. 212(1)(1) I .T. A.
263 sec. 212(1)(m) I .T. A.
264 sec. 212(1)(n) I .T. A.
265 sec. 212(1)(o) I . T.A .
266 sec. 212(1)(p) I .T. A.
267 sec . 212(1)(q) I • T.A .
268 sec. 212(1)(r) I .T. A. 171
269 sec. 212(1)(s) I.T.A.
270 sec. 212(2) I.T.A.
271 So interest paid by a non-resident-owned investment corporation to a non-resident is generally exempt from witholding tax by virtue of sec. 212(1)(b)(i) I.T.A.; capital gains dividends paid by a non-resident-owned
investment corporation are exempt by virtue of sec.
212(2)(a) I.T.A.; See MacDonald, Vol. 4, No. 68444.
272 see sec. 212(1)(b)(vii) I.T.A.
273 CCH, Budget Message, p.13; Prentice Hall, Budget
Message, p.11:
Non-Resident Witholding Tax
An exemption from the non-resident witholding tax is
currently allowed for interest payments on certain
long-term debt obligations of corporations and on debt
obligations of Canadian governments, provided these are
issued by the end of 1985. The budget proposed an
extension of this exemption for such debt obligations
issued before 1989. The extension was to ensure that
corporations have continued access long-term debt
financing at competitive rates. In addition, an exemption
from the non-resident witholding tax was being provided 1 72 for interest paid to the Bank for International
Settlements. The government also proposed to examine over the coming year the extent to which the current exemption on witholding tax on foreign currency deposits held in banks can be broadened to include other financial institutions. To ensure that the exemption is not effectively applying to foreign currency used to finance domestic lending, to the detriment of other lenders, the issue of appropriate safeguards was intended to be part of the review.
274 see sec. 215(6) I.T.A. It reads:
Sec. 215(6)
(6) Liability for tax. Where a person has failed
to deduct or withold any amount as required by
this section from an amount paid or credited or
deemed to have been paid or credited to a
non-resident person, that person is liable to pay
as tax under this Part on behalf of the
non-resident person the whole of the amount that
should have been deducted or witheld, and is
entitled to deduct or withold from any amount
paid or credited by him to the non-resident
person or otherwise recover from the non-resident
person any amount paid by him as tax under this
Part on behalf thereof. 1 73
275 sbgenannte Spekulationsfrist
276 Short form of "Aktiengesellschaft", which means joint stock company.
277 See example given by Dart/Brown, XXIV Can. Tax J.
(1976), 151, Fn. 18, where they are actually calculating the bank's gross-up in respect to Canadian witholding taxes on interest payments to a foreign bank.
278 - and there may be different economical and legal reasons for this -
279 It reads:
Sec. 212(14)
(14) Certificate of exemption. The Minister may,
upon application, issue a certificate to any
non-resident who establishes to the satisfaction
of the Minister that
(a) an income tax is imposed under the laws
of the country of which he is a resident;
(b) he is exempt under the laws referred to
in paragraph (a) from the payment of
income tax to the government of the
country of which he is a resident; and
(c) he is
(i) a person who is or would be, if he 1 74
were resident in Canada, exempt from tax
under section 149,
(ii) a trust or corporation established
or incorporated principally in connection
with, or the principal purpose of which
is to administer or provide benefits
under, one or more superannuation,
pension, or retirement funds or plans or
any funds or plans established to provide
employee benefits, or
(iii) a trust, corporation or other
organization constituted and operated
exclusively for charitable purposes, no
part of the income of which is payable
to, or is otherwise available for, the
personal benefit of any proprietor,
member, shareholder, trustee, or settlor
thereof.
280 the London rate of gross up between banks
281 depending if there is a Double Tax Convention
282 This does not take into account the risk of foreign currency transactions, which is to be seen as an economic risk in itself. 175
283 The Carter Report suggested the possibility for non-residents to file a return:
7. "A witholding tax of up to 10 percent should be
imposed on payments for services that were deducted
in the computation of business or property income and
were not already subject to a witholding tax. These
services might well be rendered outside Canada but
the benefit from them would be obtained in Canada.
This witholding tax should not apply to amounts paid
in reimbursement of expenses.
8. In certain specific cases non-residents should be
entitled to elect to be taxed as residents of Canada,
reporting their world income from all sources and
deducting foreign tax credits on the present basis
for foreign taxes paid on income from foreign
sources. This election should be available in the
following cases:
a) where a Canadian resident became non-resident and
elected to be taxed as a Canadian resident for each
year after the change of residence; or
b) where a non-resident received certain kinds of income
from Canada, including gifts, inheritances, the
income portion of pension and annuity payments and
employment income.
The implementation of these recommendations would,
we believe, confer the following important advantages:
1. Substitution of a 30 percent gross-up and credit for 1 76 the section 28(1)(d) exemption: a) Removal of the exemption under section 28(1)(d)
for foreign dividends received by a Canadian
corporation from a company in which it held at
least a 25 per cent interest would eliminate a
major loophole in the present tax system through
which some Canadians have in effect avoided the
payment of their full Canadian tax on Canadian
source income which has been diverted through
companies in tax havens. b) The use of an arbitrary flat-rate tax credit
would reduce, to a great extent, the significance
of the tax mix of the source country. Thus, the
balance between income taxes and witholding taxes
would be unimportant and the extent to which
other taxes (e.g., sales taxes) were utilized in
the foreign jurisdiction would be less important. c) Once it was decided that a broad exclusion like
section 28(1)(d) was not appropriate, the use of
an arbitrary rate would simplify the computations
and remove much of the uncertainity. Both of
these advantages would be particularly important
to ensure that Canadian corporations were not
discouraged from establishing foreign operations.
Although the procedure would require the
measurement of underlying foreign source income
from most countries, this would not generally 1 77
apply to income derived from the United States or
the United Kingdom (from which over three
quarters of the foreign source dividends of
Canadians are derived). This special treatment
could perhaps later be extended to other
countries after experience has been gained in
administering the provisions. In any case, the
adjustments required for the other countries,
although arbitrary, would be relatively simple.
Because property gains would be taxed in full to
Canadians on realization, full Canadian tax would
be collected in the long run. Arbitrary
procedures to compute the annual tax liability
therefore would not be as inequitable as they
might otherwise be. d) A flat-rate gross-up and credit would result in
the progressive rate schedule being applied to
foreign source direct investment income. e) Adoption of a rate of 30 per cent for the
gross-up and credit would have two advantages:
Canada would derive some (albeit small) net
revenue from foreign source dividends, and most
shareholders in Canadian companies with foreign
direct investments would pay no more Canadian tax
.on foreign source dividends than they do at
present. f) The gross-up rate could be adjusted from time to 1 78
time to meet particular circumstances. A
reduction in the rate might be necessary if over
time the expected before-tax rates of return on
corporate assets in Canada declined following the
adoption of the integration proposal."
See Carter Report pp. 488-490.
284 see sec. 216 and 217 I.T.A.
285 See Barki v. M.N.R., [1975] CTC 2300; PPG Industries
Ltd. v. M.N.R., [1978] CTC 2055; 78 DTC 1062 (T.R.B.)
286 As an example let's take real estate investments: If all tenants are witholding 25% of the rent, this will usually end up being more expensive than taxation of the profit, which means gross rent minus all expenses.
287 see above
288 See IT-393R para. 9. This limits the feasibility of all different kinds of investment which usually have some losses, at least in the beginning.
289 sec. 125(7)(b) I.T.A. reads:
Sec. 125(7)(b)
Canadian-controlled private corporation. "Canadian- controlled private corporation" means a private 179 corporation that is a Canadian corporation other than a corporation controlled, directly or indirectly in any manner whatever, by one or more non-resident persons, by one or more public corporations (other than a prescribed venture capital corporation) or any combination thereof.
290 see sec. 112(1),(2) ITA
291 see sec. 125 I.T.A.
292 The exact percentage differs from province to province. In B.C. it is set at 27%.
293 Lawyers in B.C. are not allowed to incorporate, which is a pity for them under tax aspects, but in Alberta it is possible.
294 see: Falcone
295 excluding share capital or contributed surplus provided by persons other than specified non-resident shareholders of the corporation
296 including corporations and trusts
297 formula taken from Ward, in: Forry (Ed.), Thin
Capitalization 180
298 see above
299 see above
300 i.e., approximately one-third of the tax payable thereon
301 Subject, however, to certain adjustments on account of the foreign tax credit allowed under sec. 126 I.T.A.
302 i.e., at the normal witholding tax rate of 25%
303 i.e., the maximum rate of 34%, plus the 47% surtax
304 see above
305 i.e., 50% of 62.5%, plus 50% of 25%
306 i.e., 50% x 57.5%, plus 50% x 15%
307 see chapter 7
308 Direct subsidies as under APIP or FPIP may be
restricted easier, but this would be a separate issue.
309 see definiton of "capital gains dividend account" and 181
"Canadian property" in sec. 133(8)(b) and (c) I.T.A.
310 Looking at the situation before the I.T.A. (S.C.
1970-71, c.63, formerly C-259), the treatment of NRO's seems worse than it was under the old I.T.A.
311 see Cochrane
312 or, under certain limited circumstances, by resident corporations
313 after corporation taxes and the retention of some amount for capital formation
314 see CTS 219-108B
315 MacDonald, Vol.4, No. 68325
316 unless reduced by treaty
317 Non-Canadian corporations which were resident in
Canada at any time in the year will pay a tax under this
Part on an amount equal to the aggregate of the following:
the corporation's total taxable income, plus
taxable dividends deducted under sec. 112 or 115(1)
I.T.A., plus 182
any resource allowance deducted under sec. 20(1)(V.1)
I.T.A., plus
the amount claimed by the corporation in the
preceding year as an allowance in respect of its
investment in property in Canada, plus
the amount claimed under sec. 219(1)(i) I.T.A. (see
below) for the preceding year (sec. 219(1)(a), (a.1),
(b), (c) I.T.A.), plus
amounts referred to in sec. 219(1)(a.4) I.T.A., minus the aggregate of
the total federal income tax and non-deductible
provincial income taxes paid for the year (sec.
2l9(l)(e) and (f) I.T.A.),
the foreign tax credit taken against the tax
otherwise payable under Part I (sec. 219(1)(g)
I.T.A.),
half the lower of the taxable income or the aggregate
of its net foreign source income and taxable capital
gains (sec. 219(1)(g) I.T.A.),
if the corporation was carrying on business in Canada
at the end of the year, an allowance for the year in
respect of investment property in Canada, not
exceeding the maximum prescribed by sec. 808(1) of
the Regulations (sec. 219(1)(h) I.T.A.),
the excess of the aggregate of the dividends paid by
the company since it last became resident in Canada
over the aggregate, for each taxation year ending 183
after it last became resident in Canada, of half of
the lesser of (1) its taxable income and (2) its net
foreign source income and taxable capital gains (sec.
219(1)(i) I.T.A.),
the amount by which any direct or indirect provincial
royalties added to income or disallowed as a
deduction under sec. 12(1)(o) or I8(l)(m) I.T.A. or
under sec. 69(6) or (7) I.T.A., and any taxes or
other amounts paid or payable to the Crown under the
Petroleum and Gas Revenue Act which are disallowed as
a deduction under sec. 18(1)(1.1) I.T.A., exceeds the
amount, if any, deductible in respect thereof as
provincial income tax under sec. 2l9(l)(f) I.T.A. or
by way of an investment allowance under sec.
219(1)(h) I.T.A. (see above) (sec. 219(1)(J) I.T.A.),
and
amounts referred to in sec. 219(1)(k) I.T.A..
The investment property in Canada concept, referred to in sec. 219(1)(b) and (h) I.T.A., is designed to provide some leeway for the formation of working capital in Canada on the same assumption that a subsidiary company would retain part of its profits rather than distributing them as dividends.
Non-Canadian corporations, in the technical sense of the term referred to above, which are not resident in
Canada throughout the year must pay the branch tax on the aggregate of the following: 184
the corporation's taxable income earned in Canada
(sec. 2l9(l)(a) I.T.A.), plus
the amount of any resource allowance deducted under
sec. 20(1)(V.1) for the year, plus
the allowance claimed for the preceding year in
respect of investment property in Canada (sec.
219(1)(b) I.T.A.), plus
amounts referred to in sec. 2l9(1)(a.4) I.T.A. minus the aggregate of:
the aggregate of the net taxable capital gains from
dispositions of "taxable Canadian property" (see sec.
M5(l)(b) I.T.A.) not used in carrying on business in
Canada (limited to the amount of the net taxable
capital gains from the disposition of all taxable
Canadian property, whether or not used in carrying on
the business in Canada) (sec. 219(1)(d) I.T.A.),
the federal income tax and the non-deductible
provincial income taxes for the year except to the
extent that such taxes apply to the net capital gains
referred to immediately above (sec. 219(1 He) and (f)
I.T.A.),
if the corporation was carrying on business in Canada
at the end of the year, an allowance for the year in
respect of investment property in Canada not
exceeding the maximum prescribed by sec. 808(1)
I.T.A. of the Regulations (sec. 219(1)(h) I.T.A.),
the amount of any direct or indirect Crown royalties 185
added to income or disallowed as a deduction under
sec. 1 2 (1 ) (o) or I8d)(m) I .T.A. or under sec. 69(6)(
or (7) I.T.A., and any taxes or other amounts paid or
payable to the Crown under the Petroleum and Gas
Revenue Tax Act which are disallowed as a deduction
under sec. 18(1) (1.1), to the extent that such
amounts are not deductible as provincial income tax
under sec. 219(1)(f) I.T.A. or by way of an
investment allowance under sec. 219(1)(J) I.T.A.),
and
amounts referred to in sec. 219(1)(k) I.T.A. [CTS
219-108C-E].
More detailed information can be obtained through
IT-137R2 and IT-227.
318 see sec. 2l9(2)(a) I.T.A.
319 see sec. 2l9(2)(b)(i) I.T.A.
320 see sec. 219(2)(b)(ii) I.T.A.
321 see sec. 219(2)(b)(iii) I.T.A.
322 see sec. 219(4) I.T.A.
323 see MacDonald No. 68325; Ward, in Forry (Ed.): Branch
Tax. 186
324 minus certain amounts invested in the year in business assets in Canada
325 see Bonzanigo, p.56. So a company is likely to keep a branch in Canada only as long as this branch produces losses. Those losses could be offset against profits in the company's home country. Whenever the Canadian branch operation starts making profits, it is likely that it would be changed into a subsidiary. See hereto: Ward, in
Forry (Ed.), p.77/78
326 Canadian Business Corporation Act
327 according to the B.C. Company Act, RSBC 1979, chapter
59
328 see sec. 133(1) BCCA
329 see sec. 133(1) BCCA
330 According to Newman, p.277. in the mid-70s, Howard
Urquhart, then president and CEO of Rayonier Canada, a susidiary of ITT, had to get approval from the US for any expenditure of more than $25,000.
331 in chapter 9 1 87
332 See Robinson, Motivation on Flow of Private Foreign
Investment.
333 see Powrie
334 We also have German exploration firms looking for minerals — mainly in the northern part of the provinces and in the territories. German chemical and oil processing firms are involved especially in Alberta.
335 like more competition, higher expenses to acquire land and higher taxes
336 Interest rates of up to 25% and an almost equal
inflation rate made business almost impossible some years ago.
337 including all kinds of education, especially education on the job
338 This is another reason, why a lot of production is not being transferred to low-salary countries.
339 However, resource companies usually don't have too much of a choice where they like to do investment. They have to go wherever the resources are. 188
340 especially in mining, fishing, and the lumber industry.
341 In this sense Canada has some difficulty, since the geography causes fairly high costs for east-west trade, which means for trade within the country.
342 A new track is just going to be built through the
Rocky Mountains, enlarging a single track to a double track line between B.C. and Alberta.
343 On the other hand, there are possibilities of putting up some investments in Canada, close to the U.S. border.
I will come back to this.
344 This means any kind of product, not only in physical
form.
345 Sometimes lower production costs will be possible in an area further from the "market".
346 One of the problems of doing investment in Canada is
that there is only a small market for consumer goods. So
unless Canada opens up for more people to come into the country there is barely a chance to improve this
situation. By going this way Canada could get away from 189
selling resources and change towards more manufacturing and processing.
347 I will point this out in more detail later.
348 see sec. 125 I.T.A.
349 see Part V I.T.A., Reg. 500
350 see sec. 18(4) I.T.A.
351 see above
352 see sec. 74 I.T.A., sec. 75 I.T.A. and sec. 75(2)
I.T.A.
353 see e.g., the difference between B.C. and Washington.
354 So it might be better to go directly to the States
than exporting from Canada.
355 I, therefore, will refer to some of the changes.
CORPORATE TAXES
The corporate tax rate for the U.S. was reduced from
46 % to 34%. On the other hand the investment tax credit
is gone. (This was 10% of the purchase prize. It was used 1 90 especially in the steel industry, in the heavy machines
industry etc.) This only does apply for the normal corporate rate. There is also a new system introduced, an alternative minimum tax (AMT) of 20%. This is laid down
in sec. 55 to 59 of the new Code. In order to determine
it, basically a company has to compare the AMT and the corporate tax rate allocable under the normal rules. Then we have to take the difference, split it by two (or multiply it by 50%) and add the AMT. On that amount the company has to pay another 20% taxes. So the minimum tax
is 50% of the AMT times 20% taxes. This system of AMT,
which is really complicated in practice and in my
understanding will cause a lot of problems for the
accountants and give work to tax lawyers is only
implemented for the time from 1987 to 1989. Afterwards
the US will change the corporate taxation to a taxation
of taxable earnings and profits.
BRANCH TAX
For foreign companies having a branch in the U.S.
there is a 30% witholding tax on portfolio income. Under
the U.S.-German Double Tax Convention it is reduced to
15%. In this context we have to look at the effectively
connected income. There is also a secondary witholding
tax on dividends which are paid by a german corporation
to foreign stockholders, if 50% of the gross income of
the german corporation (over a three year period) is 191 derived from the U.S. This tax now is 25%. After 1986 the
U.S. created a "branch profit tax", triggered by the re-patriation of profits. If we compare this to the equity position of the branch p.a., this ends up at 30% of the difference. Under the U.S.-German Double Tax
Convent ion a subsidiary is taxed 15%, and it prohibits a branch tax. But there are different exemptions which the
U.S. implemented. (The details are not important to lay down for the purpose of this thesis.)
FOREIGN INVESTORS AND PARTNERSHIPS
For distributions from a U.S. partnership to foreign partners there is a witholding tax of 20%. This will be
included in the tax payable by the specific partner or
investor.
DEPRECIATION
Under the 1981 Act the US gave inventives for
investments by implementing fast write offs (ACRS). There were categories of 3,5 and 10 year assets. In real estate
it was 19 years. Therefore real estate investment in the
U.S. was very interesting and a lot of German money was
invested in U.S. real estate and all kinds of develeopments. In the 1986 U.S. Tax Reform Act in real
estate we now find two different categories: residential
and non-residential ( = commercial) real estate. The
period for the write off on residential real estate now 192
is 27 1/2 years, and for non residential real estate acquired after 1986 it is 31 1/2 years. The investor has to use the straight line method for depreciation.
For other than real estate the categories now are
3,5,7,10,15 and 20 year assets. For the 3,5,7 and 10 year assets we find a 200% declining balance depreciation. For example, looking at a 5 year depreciation of a $100 asset, we would have a depreciation of $20 p.a. straight
line. With a declining depreciation we would have: In the
1st year $40, in the 2nd year there would be a rest of
$60 left, so the depreciation would be $24, and so on.
Later we could switch to the straight line depreciation.
For the 15 and 20 year assets we have a 150% declining
balance depreciation. For all assets other than real
estate we have a half year convention for the first year.
For real estate we have a 1/2 month convention. If
someone buys more than 40% of his assets in the last
quarter of the year, we have a 1/4 month convention. For
assets which are placed in service after 1986, there is
an alternative depreciation system electable, which is
the straight line depreciation. For real estate a
depreciation for 40 years is elective. The system is
mandatory in three cases:
a) if a U.S. taxpayer buys assets outside of the U.S.
and uses it first outside of the U.S.;
b) if a U.S. taxpayer acquires property and issues bonds
for it, which leases it; 1 93 c) when the alternative minimum tax (AMT) is calculated.
Another rule is the uniform capitalization rule for real estate and intangible personal property: Sales costs, marketing costs including taxes and interests have to be capitalized as well as similar costs. For long term projects there was the alternative to use a percentage of completion method or to report after completion. Now: if at least 40% are completed, one has to use the percentage of completion method.
With the new U.S. Tax Reform Act especially the real estate lobby in the U.S. was hit right on their head.
356 Since the beginning of 1985 it appears that it's going better in eastern Canada, while western Canada is still "in the hole".
357 in million German Mark; cited from Bundesministerium fur Wirtschaft, April 1985, Anlage 1.
358 in relation to the yearly investments not too bad.
359 and not, as before, in investment activity per year.
Units again in Million German Mark. Cited from: Deutsche
Bundesbank, Die Kapitalverflechtung 1976-1982, p.6/7, und: Die Kapitalverflechtung'1978-1983, p.23.
360 without holding companies 1 94
361 in the sense of investment
362 The following figures were only available for
1976-1982; cited from: Deutsche Bundesbank, Die
Kapitalverflechtung 1976-1982, p.6/7.
363 in Billion German Marks
364 numbers in thousands
365 The Gray Report, as well as the Carter Report, admitted net economic benefits for Canada resulting from
foreign investment.
366 Some of the treaties specifically provide for
Canada's imposition of a branch tax.
367 in: IFA, Non Discrimination, Art. 24, p.304/305.
368 Futhermore, where a treaty is negotiated on the basis
of a particular set of statutory provisions, it would be difficult later for a national to complain that any such
provisions discriminate against him. The time for
objection would be during negotiations, or when a new
provision is enacted which appears to a Contracting State
to discriminate. While for the most part the 195 non-discrimination articles may appear to be window dressing, they do, on ocassion, cause over-eager legislators to pause before enacting clearly discriminatory provisions.
369 see: IFA: Special Analysis
370 see: IFA: Special Analysis
371 Non-discrimination clauses in some of the Canadian double tax convent ions(1ike Finland, Germany, Sweden and the U.S.) depart markedly from the O.E.C.D. Model in that they are contained in only one brief paragraph.
Article XVII of the Finland Convention refers to
"citizens" rather than to "nationals" of the Contracting
States. "Citizens" is not a defined term. In addition, the Finland Article refers only to taxation which is
"more burdensome".
Article XIX of the old German Convention also referred to "citizens" rather than to "nationals" as in the O.E.C.D. paragraph. Paragraph 3 of the German
Article, however, defined "citizens" and the definition is equivalent to that of "nationals" in paragraph 2 of the O.E.C.D. Article 24. It reads:
Germany (Federal Republic of) Convention
Proclaimed in force January 1, 1958.
Article XIX 196
(3) The citizens of one of the contracting States shall not, while residents in the other contracting State, be subject therein to other or more burdensome taxes than are the citizens of such other contracting State, which are residents in its territory. The term "citizens" includes all juridicial persons, partnerships and associations created or organized under the laws in force in the respective contracting States.
372 This makes a big difference if we look at some of the
Canadian ways, see above.
373 Art. 24 Canadian-German Double Tax Convention
374 sec. 18(4) I.T.A.
375 sec. 125 I.T.A.
376 allowing a $500,000 capital gains exemption only for residents; see also Laffer
377 see IT-393R para.9; for the consequences for real estate investment see Boidman, 1981; Canadian Tax
Foundation, Corporate Management Tax Conference 1983;
Crawford; Hughes, G.A.; Smith
378 allowing transfer to spouses without realization of 1 97 capital gains; see Barbeau; Cohen;
Cooper/Crawford/Gratias; Cullity; Goodman; Sakari
379 and in order to avoid the strange situation under the current law, described above.
380 Which basically means that profits received through a corporation should not be taxed worse than those received directly by the taxpayer.
381 As a corollary to this, sec. 89(1.1) I.T.A. should be
repealed: the capital dividend account of a private corporation should no longer lapse upon ceasing to be controlled by one or more non-resident persons.
382 In order to stimulate investment it might be
appropriate to create some incentives. In particular,
there does not seem to be any compelling reason for
restricting the refundable tax to Canadian-controlled-
private corporations only, or at least no explanations
were offered when the limitations were introduced in 1979
and in 1981.
I do not want to enter into any detailed discussion
of appropriate and feasable proposals, because this would
lead into a longer essay about the link between tax law
and economic growth in general. Some of the research in
this field has been done by Aaron/Boskin; Aaron/Pechman; 198
Arrow; Bliss; Bracewell-Milnes;
Bracewell-Milnes/Huiskamp; Groenewold; Gupta/Gupta;
Hermann; Koskela/Kannianen; Kwon; Paul; Robinson.
383 Even if the language of the new act is not much different from FIRA, the ideas behind it are.
384 A tax free period for provincial taxes, which is granted sometimes is inconsitent with the policy of the
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INTERPRETATION BULLETINS ON THE TAXATION OF NON-RESIDENTS, NON-CANADIAN-CONTROLLED COMPANIES AND RELATED ISSUES
IT-59R3 Interest on debts owing to specified non-residents (Thin Capitalization)
IT-68R Exemption from income tax in Canada — Professors and teachers from other countries
IT-76R2 Exempt portion of pension when employee has been a non-resident
IT-81R Partnerships — Income of non-resident partners
IT-122R United States social security tax and benefits
IT-137R2 Additional tax on corporations, other than Canadian corporations, carrying on business in Canada
IT-150R Taxable Canadian property — Acquisition from non-resident by death or mortgage foreclosure
IT-155R2 Non-resident tax — interest on bonds, debentures, notes, hypothecs or similar obligations of, or guaranteed by, the Government of Canada
IT-161R3 Non-residents — Exemption from tax deductions at source on employment income
IT-163R Election by non-resident individuals on certain Canadian source income
IT-171 Taxation of non-residents — Determination of taxable income earned in Canada
228 229
Captial gains by non-residents — Canada-United States Tax Convention
Taxable Canadian property
Permanent establishment of a corporation in a province and of a foreign enterprise in Canada
Foreign tax credit — Part-time residents
Determination of an individuals's residence status
Determination of residence for individuals leaving Canada
Losses of non-residents and part-time residents
Additional tax on corporation carrying on business in Canada, other than Canadian corporations and non-resident insurance companies — Effect of income tax agreements and conventions
Non-resident-owned investment corporation — Meaning of principal business
Canada-U.S. Tax Convention - Number of days "present" in Canada
Know-how and similar payments to non-residents
Exemption from tax on interest payments to non-residents
Election re tax on rents and timber royalties — Non-residents 230
Non-residents — Income earned in Canada
Residence of a trust or estate
Deemed disposition and acquisition on ceasing to be or becoming resident in Canada
Canadian-controlled private corporation
Non-resident beneficiaries of trusts
Management or administration fees paid to non-residents
Hire of ships and aircraft from non-residents APPENDIX B
INFORMATION CIRCULARS ON THE TAXATION OF NON-RESIDENTS,
NON-CANADIAN-CONTROLLED COMPANIES AND RELATED ISSUES
72-17R2 Procedures Concerning Disposition of Taxable Canadian Property by Non-Residents of Canada and Potential Tax Liabilities of Purchasers of Such Property
75-6 15% Tax Witholding from Amounts Paid to Non-Resident Persons Performing Services in Canada
76-12R2 Applicable Rate of Part XIII Tax on Amounts Paid or Credited to Persons in Treaty Countries
77-16R2 Non-Resident Income Tax
231 232
INDEX OF CASES
Barki v. M.N.R., [1975] CTC 2300, 178 Cooper v. Cadwalader, (1904), 5T.C. 101, 6 De Beers Consolidated Mines Ltd. v. Howe. [1906] A.C.455; 5T.C. 198; 95L.T.221, 10 Egyptian Delta Land & Investment Co. Ltd. v. Todd, 1929 AC 1 , 11 Erickson v. M.N.R., [1980] CTC 2117; 80 DTC 1118 (T.R.B.), 5 I.R.C. v. Lysaght, (1928) 13 T.C.511; [1928] A.C.234, 6 Levene v. I.R.C. , [ 1 928] A.C.217, 7 Mallon, (1964), 35 Tax A.B.C. 420; 64 DTC 449, 6 Meldrum, (1958), 2 Tax A.B.C. 63; DTC 232, 6 PPG Industries Ltd. v. M.N.R., [1978] CTC 2055; 78 DTC 1062 (T.R.B.), 178 Russell, [1949] C.T.C. 13; 4 DTC 536, 6 Shpak and Shpak v. M.N.R., [1981]CTC 2429; 81 DTC 366, 7 Thibodeau v. The Queen[ 1"978 ] C.T.C. 539, 14 York v. M.N.R., [1980] CTC 2845; 80 DTC 1749, 6