Withholding tax on reimbursements and remunerations from non-residents – Tax
Canada: Withholding tax on reimbursements and remunerations from non-residents
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Introduction – Provisions relating to withholding tax for non-residents
The Income Tax Act establishes whether income is taxable. In addition, the Tax Act contains numerous provisions intended to facilitate the administration and enforcement of tax obligations. Paragraph 153 (1) (g) of the Tax Act is one such provision and reads as follows:
- article 153 (1) Anyone who pays at any time during a tax year …(g) fees, commissions or other amounts for services … deduct or withhold from payment the amount determined in accordance with the prescribed rules.
As an administrative provision, paragraph 153 (1) (g) requires a payor to withhold tax to ensure that funds will be available to meet a recipient’s possible future tax liability. Whether a beneficiary ends up with a positive tax debt is determined by completing a tax return. You can compare this to an employer who levies income tax on the salary paid to an employee. Although the amounts are withheld in advance, when filing a tax return, the employee may in fact discover that they are entitled to a tax refund.
In the case of non-residents, paragraph 153 (1) (g) is supplemented by Regulation 105 of the Income Tax Act which states:
- 105 (1) Anyone who pays a non-resident person a fee, commission or other amount in respect of services rendered in Canada, of any kind, must deduct or withhold 15% of that payment.
Weyerhaeuser case clarifies Regulation 105 of the Tax Act
In Weyerhaeuser Company Limited v The Queen, the taxpayer company appealed to the CRA Tax Court of Canada regarding withholding tax on its payments to non-resident contractors. Weyerhaeuser Company Limited (“Weyerhaeuser Co.”) was a Canadian forestry company which engaged non-residents for services rendered to it in Canada. In the tax year, Weyerhaeuser Co. made payments to these non-residents totaling $ 14.3 million, but withheld only 15% tax on the portion of the payments that , according to her, fell under regulation 105 of the tax law. For example, Weyerhaeuser Co. did not withhold tax from reimbursements of non-resident disbursements such as travel, telephone, and postage. The CRA’s position was that these amounts were “in respect of” services rendered in Canada, as described in Regulation 105 of the Tax Act. Therefore, since Weyerhaeuser Co. these amounts.
The Tax Court disagreed with the CRA and allowed Weyerhaeuser Co.’s appeal. The Tax Court noted that the language used to describe when withholding is different between paragraph 153 (1) (g)
[“for services”] and regulation 105 [“in respect of
services”]. The CRA argued that “with respect to services” in Regulation 105 should be as broad as possible. However, as argued by the Canadian tax litigation lawyer acting for Weyerhaeuser Co., this was contextually incorrect. The Tax Court noted that Regulation 105 of the Tax Act could not “go beyond the enabling authority contained in the Act itself”. On this basis, the CRA’s interpretation of Regulation 105 of the Tax Act conflicted with the purpose of paragraph 153 (1) (g) because it would extend withholding obligations beyond what the Income Tax Act requires. The purpose of paragraph 153 (1) (g) was to collect a tax reserve which could be applied to future tax payable. Therefore, withholding was only triggered for payments which have the character of income in the hands of a non-resident beneficiary. Here income meant income. When Weyerhaeuser Co. reimbursed non-residents for personal expenses such as travel expenses, it paid the amounts the non-resident had incurred “out of [Weyerhaeuser Co.]on behalf of “, failing to pay a portion of the service charge. This characterization of certain payment amounts as disbursements was corroborated by invoices issued to Weyerhaeuser Co. by non-residents. The Tax Court found that it would be against the interests of the Canadian economy to reimburse non-residents only 85% of their disbursements. As a result, Weyerhaeuser Co. was exempt from taxes, interest and penalties because it was correct not to hold back.
CRA Perspective – Prepayments to a Non-Resident Contractor under Regulation 105 of the Tax Act
In 2019, the CRA recently responded to a question from a taxpayer regarding the application of Regulation 105 of the Tax Act to a specific scenario involving a non-resident contractor and various non-resident sub-contractors. The taxpayer, a Canadian company, entered into a contract with a non-resident contractor who would supply and install boilers in Canada (“original contract”). The contractor did an about-face and subcontracted the work to various subcontractors. Then, before the work was completed, the contractor experienced financial difficulties which led the subcontractors to wonder if they would be paid. To facilitate completion of the Work, the Canadian Company entered into a second set of contracts with the Contractor (the “Payment Agreements”). Under these agreements, the Canadian company paid the contractor in advance the sums that the contractor had promised to pay to its subcontractors. As the sub-contractors completed the work, they were paid from a dedicated account upon authorization of withdrawals by the Canadian company and the contractor.
The position of the Canadian company in its investigation with the CRA was that payments to the non-resident contractor under the payment agreements did not fall within the scope of Regulation 105 of the Act. tax, so that no withholding tax applied. They argued that advance payments were akin to disbursements in the Weyerhaeuser Company Limited case and did not have the character of income. The CRA responded by stating its position that Regulation 105 was applicable. According to the CRA, the advance payments made to the contractor under the payment agreements simply reduced the amount owed by the Canadian company under the original contract, all of which was income in the hands of the contractor. It did not matter that amounts paid under payment agreements were ultimately payable to subcontractors.
Is the CRA Right? We can start by looking at past CRA positions even though they are not part of the law. In a 2008 investigation into similar circumstances, the CRA stated that “withholdings would generally not be required in respect of amounts paid by [Canadians] To
[non-residents] as reimbursement of [the non-resident’s]expenses, including subcontractor fees and travel expenses. “
The point made by the CRA is that there must be a clear distinction between reimbursements and remuneration. The CRA is right to focus on this distinction in light of the Weyerhaeuser Company Limited. A comparison of the 2008 and 2019 CRA surveys reveals some points of interest. First, the reimbursement-remuneration distinction must be documented in writing – in the 2008 document, the non-resident’s invoice to the Canadian details the subcontractor’s fees as a reimbursable expense separate from their own remuneration. Second, and arguably more importantly, there is a timing issue – in the 2008 document the subcontractor had already been paid by the contractor and only then did the contractor billed the Canadian. In the case of 2019, it is difficult to say that the amounts in the payment agreement were refunds. This is because they were of the nature of prepayments towards the original contract. In the hands of the beneficiary contractor, the amounts were initially income and did not become an expense of the subcontractor until a later time, when the subcontractors completed the work. This is the reverse of the 2008 situation. Since the amounts in the payment agreement at the time of payment were income and Regulation 105 of the Tax Act attaches to income, the tax should have been withheld. The entrepreneur should file a tax return to claim the expenses and clarify their true tax liability.
Pro Tax Advice – Have a Tax Lawyer Review Your International Contracts for Non-Resident Withholding Exposure
Tax law is often described as having an ancillary character. The nature of the transactions from a corporate or contract law perspective, and even their sequence, can affect how the Income Tax Act is applied. If you are a non-resident who will receive payments from Canada, or a Canadian taxpayer who will make these payments, you should consult with one of our top Canadian tax professionals who can review your proposed transactions and advise you on how you can minimize your exposure to withholding tax under Regulation 105 of the Tax Act.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.
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