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  • Changes to the Taxation of Switch Funds

    Effective January 1, 2017, new rules will govern the taxation of mutual fund corporations structured as “switch funds”. Investors switching between funds will no longer be able to do so without incurring taxable capital gains. This article summarizes the impact of such changes. Description of “switch funds” under the current regime In Canada, most mutual funds are structured as trusts and some are structured as corporations (referred to as “corporate class funds”). The mutual fund trust is comprised of a single fund in which investors receive units of the trust, while the corporate class fund can hold several funds. Each fund is structured as a different class of shares, giving investors access to different investment portfolios of the corporation. Under the corporate class structure, investors have the advantage of being able to switch between funds without incurring capital gains or losses. This is because the current rules deem switches between funds not to be a disposition of shares of the corporation, resulting in a tax deferral which is not available to investors of mutual fund trusts. Capital gains tax will be paid later upon the future disposition of the corporation’s shares. Impact of the 2016 Legislative Proposals Effective January 1st 2017, taxpayers switching between funds will be considered to have disposed of their original shares at fair market value and will therefore immediately be taxed on capital gains. However, the 2016 Legislative Proposals provide for the following two exemptions, allowing tax deferral in these specific cases: If the exchange or disposition occurs in the course of a transaction covered by section 86 of the Income Tax Act (“ITA”) or an amalgamation under section 87 ITA, a shareholder will be entitled to a tax deferral provided that: i) all shares of the particular class are exchanged, ii) the original and new shares derive their value in the same proportion from the same property, and iii) the exchange was strictly done for bona fide reasons and not to obtain a tax deferral; or If shares of a class of the mutual fund corporation are exchanged for shares of the same class, provided that: i) the original and new shares derive their value in the same proportion from the same property, and ii) that class is recognized under securities legislation as a single investment fund. The above-mentioned changes will be implemented as of January 1, 2017. Therefore, investors wishing to switch shares within a mutual fund corporation have until December 31, 2016 to benefit from the current tax deferral rules.

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  • Use of “private” mutual fund trusts for employee’ investments through an RRSP

    An increasing number of employers are looking at the possibility of creating investment vehicles to allow their employees to make investments in the employer corporation or a portfolio managed by the employer that will qualify for inclusion in, inter alia, registered retirement savings plans (RRSP), registered retirement income funds (RRIF), registered education savings plans (RESP) and tax-free savings accounts (TFSA) (collectively referred to hereinafter as the “Registered Plans”). The following discusses the possible use of an entity that qualifies as a “mutual fund trust” (“MFT”) under the Income Tax Act (Canada) (“ITA”) for that purpose. There are multiple tax benefits that can be derived from MFT status, but the main advantage is that units of an MFT qualify for inclusion in, inter alia, the Registered Plans. This is why this structure is often used by managers of hedge funds or pooled funds that are raising capital from individuals. These conditions are summarized below. 1. Conditions for Mutual Fund Trust qualification a) The trust must be resident in Canada As a general rule, as long as the trustee(s) are resident in Canada and carry out their duties in Canada this should not be an issue. b) The trust must be a unit trust A trust can qualify as a unit trust in one of two alternate ways. First, not more than 10% of the trust’s property may be in bonds, securities or shares of one corporation and at least 80% of the trust’s property has to be in various securities, real property or royalties (closed-end unit trust). Second, interests of each beneficiary must be described by reference to units and the issued units of the trust must have conditions requiring the trust to redeem the units at the demand of the holder at prices determined and payable in accordance with the conditions. The fair market value of such units must not be less than 95% of the fair market value of all of the issued units of the trust (open-end unit trust). c) The trust’s only undertaking is the investing of its funds in property The rules for an MFT and for a unit trust restrict the trust to permitted activities. As a general rule, the trust must restrict its undertaking to investing of funds in property. The trust cannot carry on a business. A trust may own real property and is permitted to acquire, hold, maintain, improve, lease or manage real property as long as the real property is “capital property” of the MFT. d) The trust must comply with prescribed conditions relating to the number of its unitholders, dispersal of ownership of units and public trading Generally, the units must be qualified for distribution to the public or there must have been a lawful distribution of the units to the public in a province. There should be no fewer than 150 beneficiaries of the trust, each of whom hold not less than one block of units and units having an aggregate fair market value of not less than $500. A block of units normally means 100 units if a unit has a market value of less than $25, 25 if the value is between $25 and $100 and 10 units where a unit is $100 or more. e) It must be reasonable to conclude that the trust was not established primarily for the benefit of non-resident persons An additional qualification for MFT status is that it must not be reasonable having regard to all the circumstances that the trust is considered to be established primarily for the benefit of non-resident persons. It is generally accepted that the “primarily” requirement means more than 50% and the trust deed should contain provisions which allow the expulsion of non-residents if the threshold would otherwise be breached. 2. Mutual Fund Trust as investment vehicle in a private corporation The characteristics of an MFT make it an attractive vehicle to facilitate employee participation in a private corporation or in a portfolio to the extent that the number of employees interested in becoming shareholders of the employer corporation meet the minimum requirement of 150 unitholders. Since the units of an MFT qualify for inclusion in the Registered Plans, the employee may decide to invest in the private employer corporation or the portfolio through the Registered Plan. A direct equity investment in the private employer corporation or in a portfolio may not qualify for inclusion in the Registered Plans since the Income Tax Regulations (Canada) provide for strict conditions for the qualification of such an investment as a “qualified investment”. The interposition of an MFT whose units are “qualified investments” between the Registered Plans and the employer corporation or the portfolio managed by the employer would provide more comfort in that regard. An interesting question is whether each Registered Plan would count as a single unitholder for purposes of the minimum requirement of 150 unitholders described above. Since the ITA treats each Registered Plan as a trust under the ITA (and therefore as a distinct person from the beneficiary or annuitant), an argument could probably be made that each Registered Plan should count as a distinct unitholder for purposes of the 150 unitholders requirement. This position seems to be consistent with statements by the Canada Revenue Agency (“CRA”) to the effect that all qualified investments of a plan trust must be owned by the trustee of the plan trust and not by the annuitant, beneficiary or subscriber under the plan trust. In the case of a share or other security, registration of the security in the name of the trustee of the plan trust is proof of the trustee’s ownership.1 Moreover, the CRA has taken the position in the past that where a group RRSP is established and it “holds” the units of an MFT, the number of beneficiaries of the MFT will at least be equal to the number of annuitants of the group RRSP. Each participant in a group RRSP should therefore count as one unitholder. 3. Prohibited investments rules In structuring the participation of employees in the private employer corporation or the portfolio managed by the employer through an MFT, the rules governing “prohibited investments” under the ITA should be considered. Registered Plans holding prohibited investments are subject to severe penalties under the ITA. Units of an MFT will generally be “prohibited investments” for a Registered Plan to the extent that the unitholder’s interest in an MFT, either alone or together with non-arm’s length persons, is 10% or more. As a result, while each of the Registered Plans of a single unitholder could possibly count as distinct unitholders for purposes of the 150 unitholders requirement discussed above, the “prohibited investments” rules would impose a very strict set of limitations in terms of the threshold of ownership interest in units. 4. Securities Registration Requirements The employer managing the MFT must also ensure that it meets all of the registration requirements imposed by Canadian securities regulatory authorities. If the MFT will be used to invest in the employer corporation, there are likely to be circumstances allowing the employer not to have to register as an investment fund manager or adviser. However, if the employer instead offers a different portfolio for the employees to invest in (for example, a portfolio selected by it in connection with the management of the portfolio of the pension plans that are administered by it), it will likely have to register at least as an adviser and probably also as investment fund manager. Conclusion While the structuring of employees’ equity investments through the use of an MTF could be advantageous, various incidental rules must be considered in order to ensure that the units of such a “private” MFT can qualify for inclusion in a Registered Plan. Income Tax Folio S3-F10-C1, Qualified Investments-RRSPs, RESPs, RRIFs, RDSPs and TFSA.

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  • Significant amendments to the Act Respecting Duties on Transfers of Immovable following the 2016-2017 provincial budget

    The use of a nominee corporation The Act Respecting Duties on Transfers of Immovables (the “Act”) imposes transfer duties (also known as the “welcome tax”) on the transfer of immovables in Quebec. Since transfer duties are only payable from the time the transfer is registered in the land register (section 6 of the Act), some property structures make it possible, in practice, to avoid paying them. One of these ownership structures consists in registering a nominee corporation as the owner in the land register, while the real owner is the corporation’s shareholder. This way, upon the sale of the property, it is not the nominee corporation who is a party to the transaction, but rather its shareholder who sells the property and the shares of the nominee corporation. The name of the owner of the immovable remaining unchanged in the land register, this makes it possible to avoid paying transfer duties. These transactions deprive municipalities of significant revenues, as was the case for Quebec City when the Hotel Le Concorde was sold in 2014. The 2016-2017 budget tabled on March 17, 2016 by Minister of Finance Carlos Leitão (the “Budget”) provides for significant amendments to the Act to end this practice. Therefore, effective from March 18, 2016, the Act will be amended to provide that the payment of transfer duties will be due from the date an immovable is transferred, irrespective of whether or not the transfer deed is registered in the land register. In the case of a transfer which is not registered in the land register, the transferee will be required to file a notice of disclosure within 90 days from the date of the transfer, failing which he will be required to pay to the Minister of Revenue supplementary duties equal to 150% of the transfer duties payable in respect of the transfer, as well as interest. The Budget also announces other, more technical changes to the Act, which are summarized hereinafter. Although most of the changes announced in the Budget also apply from March 18, 2016, it must be noted that no bill has been tabled. Pending the adoption of the Budget and the tabling of a Bill, it is recommended to rely on what is provided for in the Budget. Tightening of some exemptions Transfer between a legal person and a natural person who controls the shares: clarifications as to the concept of “control” Until the Budget, there was an exemption from transfer duties when the transfer of an immovable was made between, on the one hand, a natural person and, on the other hand, a legal person, 90% of the issued fully voting shares of whom were owned by the natural person immediately before the transfer. The Budget specifies the conditions for the exemption as to the 90% percentage which must henceforth be established by calculating the number of votes attached to the issued shares of the share capital of the legal person, irrespective of the number of shares held. This amendment does away with the ambiguity that existed in the case of multiple voting shares. Transfer between “closely related legal persons”: reduction in scope of this definition An exemption is also provided for when the transfer of an immovable occurs between two closely related persons. Until the Budget, legal persons were considered to be closely related, particularly when one of them held either (i) more than 90% of the fully voting shares of the other legal person or (ii) at least 90% of the fair market value (FMV) of all the shares issued and outstanding of the other legal person. The Budget restricts the scope of the definition of “closely related legal persons” by deleting the criterion based on the FMV of the shares because it was difficult in practice to verify compliance. It is to be noted that for the purpose of this definition, the obligation to hold 90% of the voting shares will also be replaced with an obligation for one of the legal persons to hold 90% of the voting rights attached to the issued shares of the share capital of the other legal person, irrespective of the number of shares held. New obligation to maintain the conditions for exemption for a minimum period of 24 months following or preceding the transfer Furthermore, in order to eliminate some schemes, the sole purpose of which is to momentarily satisfy the exemption condition related to the percentage of voting rights, the Act will be amended to introduce a minimum period during which the condition for exemption of exempted transfers will be required to be maintained. Thus, in the case of the exempted transfer of an immovable by a natural person to a legal person or between two closely related legal persons, compliance with the condition for exemption pertaining to the percentage of voting rights must maintain for a 24 month period following the transfer. In the case of the transfer by a legal person to a natural person, the exemption will only be granted if the condition has been complied with for a minimum period of 24 months preceding the transfer. If the legal person which transferred the immovable to a legal person has been incorporated for less than 24 months prior to the transfer, the exemption from the payment of the transfer duties will be granted provided that the condition of exemption has been satisfied from the date of the incorporation of the legal person until the moment immediately preceding the transfer. In the case where a transferee ceases to be entitled to the exemption, he will be required to pay the transfer duties. In such a case, a notice of disclosure will be required to be provided to the municipality within 90 days from the date on which such condition ceases being met, failing which the transferee will be required to pay to the Minister of Revenue supplementary duties equal to 150% of the transfer duties payable in respect of the transfer, as well as interest. Beware of some provisions of shareholder agreements and other agreements Furthermore, when, during the 24-month period preceding or following, as the case may be, the date of transfer of an immovable which allowed the transferee to benefit from the exemption from transfer duties, a person acquires the right to acquire or control the voting rights or require the legal person to redeem, acquire or cancel shares of its share capital held by other shareholders, it will then be deemed to have acquired the shares on which this right applies, except for some exceptions which will be found in the amendments to the Act. New exemption for transfer between former common-law partners The Act will be amended to introduce an exemption from the payment of the transfer duties when the transfer of an immovable is made between former common-law partners within 12 months following the breakup. Common-law partners are two persons who have been living together in a marital relationship for a 12-month period or are the father and mother of a same child. This amendment will apply in respect of the transfer of an immovable made after March 17, 2016.

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  • Tax relief to stimulate commercialization of intellectual property made in Québec

    Inspired by a worldwide trend to encourage the growth of innovation, Québec has recently announced a new tax relief measure for innovative companies.  Thus, the Québec government is instituting an “innovative companies deduction” (ICD). The goal of this initiative is to “ensure that innovations developed by Québec businesses yield commercial activity in Québec.” As of January 1, 2017, the deduction will give manufacturing firms that market a patented product developed in Québec a 4% tax rate on revenue attributable to a patent (rather than 11.8%; conditions apply). The main conditions for eligibility set forth in the Economic Plan (see links below) are as follows: Eligible companies   Companies operating a business in Québec: with more than $15 million in paid-up capital; whose Québec activities primarily consist of manufacturing and processing activities. Eligible revenue        Revenue from an eligible patent included in a good manufactured in Québec. Eligible patent           A patent or patent application: held by a corporation with an establishment in Québec; protecting an invention developed with the help of Québec R&D tax credits; filed after March 17, 2016. Rate                            The effective tax rate on eligible income is 4%. The income attributable to the patent cannot exceed 50% of the revenue from the good manufactured in Québec. The 4% tax rate will be reversed and taxes paid back to the government if the patent application is not granted in five years from filing or the patent is invalidated. Goudreau Gage Dubuc, one of the leading intellectual property firms in Canada, joins Lavery Lawyers. The two firms have integrated their operations in order to offer their clients a complete range of legal services. The integration consolidates Lavery’s multidisciplinary approach. As the largest independent law firm in Quebec, Lavery is continuing to grow by adding the expertise brought by lawyers, patent agents and trademark agents specializing in intellectual property law, who belong to one of the most respected teams in the country. To learn more, visit www.YourIPLawyers.ca. --> In addition to the existing system of R&D tax credits, this new program appears to be an incentive to take such innovation to market: “Whereas R&D tax credits are an incentive for corporations to invest more in research, the ICD constitutes support for taking the results of the research through to the marketing stage.” This is certainly positive and encouraging news for many Québec companies. To benefit from this measure, companies will have to set up distinct accounting for revenue derived from the patented invention and will need to be approved for the lower tax rate. We can provide patent advice in relation to this new measure.  Please contact us for more details. See Section B – 5.2 of the Economic Plan at: http://www.budget.finances.gouv.qc.ca/budget/2016-2017/en/documents/EconomicPlan.pdf (particularly pages 172-176 of the .pdf document) See also Section  A – 2.5 of the Additional Information 2016-2017 at: http://www.budget.finances.gouv.qc.ca/budget/2016-2017/en/documents/AdditionalInfo.pdf (particularly pages 53-60 of the .pdf document)

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  • Loss of the capital gain exemption related to the disposition of qualified small business corporation shares: beware of the options for acquiring shares

    A recent decision of the Tax Court of Canada in the case of Line Durocher c. Sa Majesté La Reine1 illustrates the dangers of granting a simple option for acquiring shares in the specific context of the implementation of a shareholder agreement in respect of the Canadian-controlled private corporation status (CCPC) for the purposes of the Income Tax Act (Canada) (ITA) and the possibility of being eligible to the capital gain exemption upon the disposition of “qualified small business corporation shares” (QSBCS). BACKGROUND Aviva Canada Inc. (“Aviva”), a financial institution and a wholly-owned Canadian subsidiary of Aviva International Holdings Limited (“Aviva International”), a corporation which does not reside in Canada, acquired, in the context of a shareholder agreement entered into during fiscal year 2002, an option allowing it to acquire the shares of the financial holding corporation (“Holdco”), which indirectly controlled the Dale Parizeau corporation, which operated an insurance firm. This option, if exercised, gave control of Holdco and, indirectly, of Dale Parizeau. Beginning in 2002, due to the grant of the option for the Holdco shares to Aviva, Holdco’s shares and, accordingly, those of Dale Parizeau, could no longer qualify as QSBCS under the ITA since Aviva was controlled by Aviva International. Accordingly, these shares no longer met the conditions to be considered as QSBCS, with the result that the related capital gain exemption was lost. Holco’s shares were sold to Aviva during fiscal year 2008. The taxpayers unsuccessfully tried to claim the capital gain exemption from the disposition of the Holdco shares. Holdco’s shareholders, 15 in total, were denied the exemption by the Canada Revenue Agency, a decision which was upheld by the Tax Court of Canada. The ITA provides for an exception whereby granting an option or other right to acquire shares has no impact on the CCPC status for the purpose of the capital gain exemption. However, this exemption is only applicable if the rights are granted in the context of a purchase-sale agreement respecting a share of the share capital of a corporation2. The exception does not apply in the context of a shareholder agreement. It is to be noted that pursuant to section 148 of the Act respecting the distribution of financial products and services, not more than 20% of the shares of an insurance firm or the related voting rights may be held directly or indirectly by financial institutions, financial groups or legal persons related thereto. However, this prohibition does not apply to an option for acquiring shares. COMMENTS It is important to mention that the grant to Aviva of the option for acquiring Holdco’s shares in the context of entering into a shareholder agreement has had serious consequences for the 15 Holdco shareholders, that is, the loss of the capital gain exemption for each of them. Everything had been put into place to allow them, through family trusts, to multiply the exemption for the beneficiaries of the trusts. This obviously highlights the importance of retaining the services of tax experts in the context of conducting business transactions and establishing corporate structures, particularly with respect to the impact of entering into a shareholder agreement. It is to be noted that the above decision has been appealed before the Federal Court of Appeal.   2011-1393 (IT) G, dated December 9, 2015. 110.6(14)(b) ITA.

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  • Proposed changes to tax rules on stock options

    The election of a majority Liberal government last October 19 signaled that there would be numerous changes to Canadian tax policy, particularly for individuals. One of these changes which has made waves in the business community is the reform of the tax regime applicable to stock options. Under section 7 of the Income Tax Act (Canada) in its current form, the benefit realized by an employee on exercising stock options is treated as employment income. However, in most cases, the employee can claim a deduction equal to 50% of this benefit, meaning, from an economic standpoint, that the employee benefits from similar treatment to capital gains on this taxable benefit. As a general rule, the taxable benefit on stock options is taxed at the same time as the option is exercised, i.e. when the shares are acquired. However, the taxation is delayed until the shares are disposed of, where the corporation that issued the options was a “Canadian-controlled private corporation” at the time the stock-option plan took effect. The stock-option deduction granted to employees, which cost the federal government $750 million in 2014 according to the projections of the Department of Finance, was targeted by the Liberal Party because it considers that the deduction disproportionately favours high-income taxpayers. Moreover, the announced changes in this regard are aimed at increasing the federal government’s revenues in order to finance a reduction in the tax burden of the middle class. In their electoral platform, the Liberals stated that they intended to increase the tax on benefits from stock options issued to employees by setting a cap on the applicable deduction. However, in the same breath, they acknowledged that stock options are a useful compensation tool for start-up businesses. Therefore, employees that receive stock-option benefits of $100,000 or less per year will not be affected by the new cap. On the other hand, the Liberal program makes no distinction between options issued by public corporations and those issued by Canadian-controlled private corporations. Also, no details were provided on when this reform would come into force nor on the transitional measures that would apply to options that have already been issued. This uncertainty prompted some people to advise stock-option holders to exercise them as soon as possible to avoid the new unfavourable rules that could apply as soon as they are announced. The new federal Minister of Finance, the Honourable Bill Morneau, elaborated on the government’s intentions in this regard during a press conference held at the time the Update of Economic and Fiscal Projections was presented on November 20, 2015 The Minister indicated that he would continue his reflection on the tax treatment of stock options in the coming months, but provided an important clarification: any change will only apply to options issued on or after the date the decision is announced. Consequently, any option issued prior to that date will receive the current tax treatment. Mr. Morneau stated during the press conference that he wished to dispel any uncertainty and avert any hasty decision making by certain taxpayers. While these statements should be welcomed, some uncertainty remains on the precise amendments that will be made to the tax treatment of stock options. Given the statement by the Minister of Finance last November 20 that it is not necessary for stock-option holders to rush the exercise of their stock options in order to avoid the application of new less advantageous rules, it would be preferable for taxpayers to make reasoned decisions in this regard based on their tax situation as a whole and other expected legislative changes, such as the addition of a 33% tax bracket on taxable income exceeding $200,000. Bill C-2, which Minister Morneau tabled before the House of Commons on December 9, 2015, does not deal with the reform of the tax regime for stock options. That reform will possibly be announced in the 2016-2017 budget, which will be made public in the early months of 2016. In the meantime, opponents of these amendments will certainly make their voices heard, such as start-up companies, which do not often have the means to offer competitive salaries and that rely on a stock-option plan to attract and retain key employees. In this context, companies that have set up stock-option plans for their employees would be well advised to review them and ensure that their compensation policies remain adequate and competitive in light of the anticipated changes to the tax treatment of such options.

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  • The Helms-Burton Act and its implications for Canadian investors: where do we stand at the dawn of warmer relations between the U.S. and Cuba?

    CANADIAN INVESTMENTS IN CUBA The Helms-Burton Act and its risks for Canadian investors in Cuba Recommandations for investors Prospects in the face of the thaw in U.S. and Cuba relations Following the announcement of the restoration of diplomatic relations between the United States and Cuba, many Canadian business stakeholders have been solicited by promoters so that they may consider various investment projects in Cuba1. However, Canadian nationals who are evaluating whether to invest in Cuba must be aware that the thawing of diplomatic relations between U.S. and Cuban authorities has not (as of yet) been followed by the withdrawal of one of the main obstacles to the completion of Canadian investments in Cuba, that is, the Helms-Burton Act. Here is some background on the subject. In March 1996, the United States (U.S.) adopted the Cuban Liberty and Democratic Solidarity Act, better known as the Helms-Burton Act.2 This statute was enacted following an incident which occurred in the same year, where two U.S. civil planes belonging to an antiCastro organization were shot down by Cuba. The purpose of the Act was to reinforce and codify the economic embargo against Cuba in order to weaken and eventually remove the Castro regime in favour of a democracy. This Act has been vigorously contested by the international community since its enactment, particularly in respect of its Titles III and IV, its two most important sections, as violating international law and being at odds with the concept of national sovereignty. Title III – “Trafficking” in confiscat ed property Title III of the Act confers on U.S. businesses and nationals the right to sue on U.S. soil anyone who, since November 1, 1996, traffics or has trafficked in property confiscated from them by the Cuban State. The definition of “traffic” is very broad. A person “traffics” in confiscated property if, among other things, that person knowingly and intentionally sells, transfers, distributes, conducts financial operations or disposes in any other manner of confiscated property or purchases, receives, holds, controls, manages or holds an interest in confiscated property and engages in a commercial activity using or otherwise benefiting from confiscated property3. The Act provides that the U.S. President may suspend Title III for any 6month period. Until now, the implementation of Title III has always been suspended. There remains some risk for Canadian investors despite this suspension, especially if they hold property or have subsidiaries in the U.S. This is why we recommend to Canadian investors contemplating operations on Cuban soil to conduct precautionary due diligence to ascertain that their commercial activities and the Cuban corporations with whom they do business, if any, involve no operations which could be considered as constituting trafficking in confiscated property. Title IV – Exclusion of aliens from the U.S. territory Title IV of the Act excludes some aliens from the U.S. territory and provides for the refusal of entry visas to officers and directors of businesses who are involved in the trafficking of confiscated property and their family members. Title IV of the Act currently applies to any alien, Canadian or otherwise. Canada’s response In October 1996, to counter the Helms- Burton Act, Canada amended the Foreign Extraterritorial Measures Act.4 Section 7.1 of this Act provides that: “Any judgment given under the law of the United States entitled Cuban Liberty and Democratic Solidarity (LIBERTAD) Act of 1996 shall not be recognized or enforceable in any manner in Canada.” The Act prohibits Canadian nationals from communicating information in the context of the enforcement of the Helms-Burton Act (Section 3(1)). Moreover, under the Act, Canadian nationals against whom a judgment ordering to pay an amount has been rendered in the U.S. pursuant to the Helms-Burton Act are entitled to sue the plaintiff in Canada in order to recover amounts paid in the U.S., including all solicitor-client costs (Section 9). These two contradictory statutes continue to create confusion and uncertainty for Canadian businesses that conduct activities or have subsidiaries in the U.S. as they are faced with the dilemma of having to comply with only one of these statutes. Toward normalization of the relations between Cuba and the U.S. On July 20, 2015, Cuba and the U.S. restored their diplomatic relations with the reopening of their respective embassies. This recent warming of relations between the two countries paves the way towards the normalization of their economic relations. Lifting the economic sanctions will require that the Helms-Burton Act be repealed by the U.S. Congress since the U.S. President only can temporarily suspend the application of Title III of the Act. Conclusion Canadian investors have had to deal with the Helms-Burton Act for 20 years. They have had to manage the risks resulting from such Act as part of their investment in Cuba. Mining corporations have had to renounce conducting any commercial activity with U.S. businesses while their officers continue to be prohibited from entering the U.S. Although the thawing of relations between the U.S. and Cuba has not yet resulted in the repeal of the repeal of the Helms-Burton Act, it augurs well for a progressive lifting of the embargo. If such is the case, Canadian businesses will be able to continue, even increase their activities in Cuba while developing their commercial relations with the U.S. American investors will also be able to invest in Canadian businesses which are active in Cuba. That being said, new competition from the U.S. should provide Canadian businesses with incentives to maintain their competitiveness if they wish to retain their leading role as economic partners of Cuba. 1 See as an example: http://www.tradecommissioner.gc.ca/eng/document.jsp?did=159128. 2 Available online: http://www.treasury.gov/resource-center/sanctions/Documents/libertad.pdf. 3 Section 4(13) of the Helms-Burton Act. 4 R.S.C. 1985, c. F-29.

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  • Major changes enable registered charitable organizations to invest in limited partnership units

    The federal budget presented on April 21, 2015 (the “Budget”) contains important measures enabling registered charitable organizations and private and public foundations (hereinafter collectively referred to as “Registered Organizations”) to invest their funds in units of a limited partnership. Prior to announcing these measures, the Income Tax Act (Canada) (“ITA”) prohibited such investments by Registered Organizations because, by investing in a limited partnership, they were considered to be operating the limited partnership’s business. The consequence of making such a prohibited investment was that the Registered Organization’s registration could be revoked and, thus, that they could lose their income tax exemption and their ability to issue receipts for donations. According to the measures announced in the Budget, the ITA will be amended to provide that Registered Organizations are not considered to be operating the business of a limited partnership because they have invested in the units of such an entity. These changes will apply to any investment made by a Registered Organization in a limited partnership on or after April 21, 2015. It is important to note that the proposed changes only apply when a Registered Organization becomes a member of a limited partnership if the following conditions are met: The enabling legislation governing the limited partnership provides that the liability of members of the partnership is limited; The member deals at arm’s length with the general partner; and The total fair market value of the interests held by the member and by any persons or partnerships with whom it is not dealing at arm’s length, does not exceed 20% of the fair market value of all the interests held by all of the members of the partnership. --> 1. The enabling legislation governing the limited partnership provides that the liability of members of the partnership is limited; 2. The member deals at arm’s length with the general partner; and 3. The total fair market value of the interests held by the member and by any persons or partnerships with whom it is not dealing at arm’s length, does not exceed 20% of the fair market value of all the interests held by all of the members of the partnership. These changes will give Registered Organizations greater flexibility in the range of investments they can make.

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  • Intellectual property due diligence in an investment context

    A due diligence analysis of intellectual property rights is an important step when acquiring or making a significant investment in a business. It is particularly important in the case of a technology business, where IP rights are assets that account for almost all the value in a business. A due diligence analysis provides a more accurate picture of those assets and of any potential problems associated with them. Various types of intellectual property can be the object of a due diligence analysis. Most often it is trademarks, patents and trade secrets that are assessed, although copyrights can be involved as well, such as when a business has rights to the source codes of a computer program. However, it should be kept in mind that all forms of intellectual property require careful consideration. In Canada, trademarks can be assigned under the Trade-marks Act1, whether they are registered or not. It is therefore important to trace the trademark’s chain of title back to when it was first used. If the trademark is registered, it will also be important to determine whether the goods and services declared at the time of registration adequately match the operational reality of the business as well as whether the reported date of first use is correct. In fact, a registration can be invalidated if the actual date of first use is found to be later than the date that was declared. With respect to patents, a distinction must be made between pending applications and patents actually granted. If a patent application is pending, it is important to review any correspondence received from the patent offices, notably for any indication that the patent will not be granted or that its scope will be restricted. If the application was filed under the Patent Cooperation Treaty (PCT), it is advisable to analyse any preliminary opinions issued under the framework of this treaty. Since a patent application is predominately a technical document, it might be necessary to ask an expert in the field for his or her opinion concerning the scope of the invention. While a patent that has been issued is presumed valid, it remains essential to assess its scope in relation to the invention the business is exploiting commercially. Patent rights generally belong to the inventors, unless a written agreement provides otherwise. In consequence, any agreements signed with the inventors should be examined.2 In this regard, there are two situations that should be avoided. The first one is the situation where various inventors have assigned their rights to more than one business, thereby putting those businesses in a co-ownership situation that is difficult to manage. The second one is the situation where the inventors declared to governmental authorities that they are not, in fact, the true inventors. A patent obtained without designating the correct inventors could be impossible to enforce or perhaps even invalid altogether.3Lastly, if the patent or patent application is the subject of successive assignments, one must make sure that each assignment has been made in writing in accordance with the requirements of the Patent Act.4. The Copyright Act5 contains a presumption that any work (including source codes for computer programs) made in the course of employment are the property of the employer. However, there is no such presumption if the work was made by a subcontractor or a consultant, so more extensive verification is needed in such cases. In a noteworthy decision, the Ontario Court of Appeal recognized that an arrangement of computer program elements can be copyrighted even if the elements themselves cannot be protected individually.6 Furthermore, although it is not mandatory to register a copyright, any assignment of copyright or any licence granting an interest in a copyright will only be valid if made in writing by the copyright owner, which should also be subject to verification. As for trade secrets, a business cannot derive any economic benefit from the information unless it is truly secret. Hence the importance of verifying any confidentiality and non-competition agreements as part of the due diligence process. It could also be essential to verify which measures are in place to protect the secrets. Such measures can include IT restrictions that prevent employees who are not involved in a project from accessing certain files, or “need to know” restrictions that partition knowledge between various divisions or business units. Lastly, the purchaser or investor will need to verify that there are no administrative or judicial proceedings which could affect any intellectual property rights and that there are no third party infringement claims that have been made either verbally or in writing. At times the due diligence analysis might lead to the abandonment of the investment project altogether. In other cases, the due diligence allows for corrective measures which the vendor of the business will need to implement in order for the sale to proceed, or which the buyer of the business will want to put in place in order to protect its investment in the long term. 1 R.S.C. 1985, c. T-13. 2 For example, see Élomari c. Agence spatiale canadienne, 2004 CanLII 39806 (QC CS). 3 For example, see Ethicon, Inc. v. United States Surgical Corp. 135 F.3d 1456 (U.S. Fed. Cir. 1998) and Pannu v. Iolab Corp., 155 F.3d 1344, 1351 (U.S. Fed. Cir. 1998). 4 R.S.C. 1985, c. P-4. 5 R.S.C. 1985, c. C-42. 6 Delrina Corp. v. Triolet Systems Inc., 2002 CanLII 11389 (ON CA).

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  • Directors’ Liability

    CONTENTS Directors’ liability for payroll withholding taxes Due diligence: An evolving standard To what risks of liability or being found guilty are directors exposed? Environmental liability of directors and officers Directors’ liability for payroll withholding taxes Luc Pariseau and Audrey Gibeault Directors of a corporation may be held personally liable in cases where the corporation fails to withhold and remit federal or provincial payroll taxes on salary, wages and certain benefits. Directors may also be liable for amounts which ought to have been withheld on payments to a non-resident that are subject to withholdings under Part XIII of the Income Tax Act1 (herein referred to as the «Act»). This article reviews in more detail the potential exposure that directors face, and also briefly describes some of the possible remedies that are available in such cases. With respect to federal income taxes, the failure of a corporation to deduct, withhold or remit source deductions under the Act, the Employment Insurance Act2 or the Canada Pension Plan Act3 subjects its directors to personal liability for the unpaid and unremitted amounts. A similar principle applies in the province of Quebec for an amount that an employer was required to deduct, withhold or remit under the Tax Administration Act4 (hereinafter referred to as the “Administration Act”), the Act respecting the Québec Pension Plan,5 the Act respecting parental insurance,6the Act respecting labour standards,7the Act to promote workforce skills development and recognition,8 and the Act respecting the Régie de l’assurance maladie du Québec.9 The purpose of these rules is to make the directors liable for the payment of the employer’s contributions. Section 24.0.1 of the Administration Act and section 227.1 of the Act apply to directors holding office on the date on which the amounts were to be remitted, the date they were to be deducted, withheld or collected, and the date on which an amount was to be paid. In certain circumstances, a person not officially appointed as a director could be considered to be a “de facto” director and become liable if such person performs some of the functions that a director would normally perform. Before a director becomes liable under these provisions, the tax authorities have to demonstrate that they cannot recover the amounts directly from the particular corporate taxpayer. Additionally, the tax authorities must register a certificate for the amount of the corporation’s liability and establish that the amount remains unsatisfied. The director will need to establish that he exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.10 The case law on this point11 has shown that the issue is generally whether, at the relevant time, the director knew or ought to have known of the problem, and whether he took the action within his power under the circumstances to correct the situation. In addition, the tax authorities cannot assess a director for source deductions owing after the expiry of two years from the date on which the director ceased to be a director of the corporation.12 Directors may require the corporation to purchase insurance on their behalf to protect them and former directors against liabilities incurred due to their status as directors, provided that they have fulfilled their fiduciary duties. Directors may, in particular, seek the advice of tax specialists to ensure that they comply with their obligations relating to payroll withholding taxes. _________________________________________ 1  R.S.C. 1985, c. 1 (5th Supp). 2  SC 1996, c. 23. 3  RSC 1985, c. C-8. 4  R.S.Q. c. A-6.002. 5  R.S.Q., c. R-9. 6  R.S.Q., c. A-29.011. 7  R.S.Q., c. N-1.1. 8  8 R.S.Q., c. D-8.3. 9  R.S.Q., c. R-5. 10  227.1(3) of the Act and 24.0.1 of the Administration Act. 11  Soper v. Canada, [1998] 1 C.F. 124 and Peoples Department Stores Inc. (Trustee of) v. Wise, [2004] C.S.C. 68. 12  227.1(4) of the Act and 24.0.2 of the Administration Act.     Due diligence: An evolving standard Jean-Philippe Latreille and Emmanuel Sala Nobody is held to the impossible. This maxim is reflected in statutes that hold directors of a corporation liable, on a solidary or joint and several basis, for its failure to comply with certain tax obligations. Indeed, directors will generally be relieved from such liability if they can demonstrate that they acted with a degree of care, diligence and skill that is reasonable under the circumstances. This is commonly known as the “due diligence defence.” Naturally, the circumstances are specific to each case, and there are no hard and fast rules for determining whether a director can rely on the due diligence defence. We must therefore turn to the courts’ interpretation of this standard, which has fluctuated somewhat in recent years. For many years, an “objective-subjective” test prevailed. This meant that directors had to show they had exercised the skill that can be expected from a person with the same level of knowledge or experience. The fact that the director’s personal abilities were taken into account made it possible to apply the standard of due diligence with some flexibility. However, following the Supreme Court of Canada’s 2004 decision in Peoples,1courts have determined that the test for the due diligence defence should be objective, but must also include a consideration of the specific circumstances faced by the corporation and its directors. Although all directors have the same duty of diligence, it should be noted that the analysis of a director’s liability must take into account the very different contexts in which “outside” and “inside” directors operate. Inside directors play an active role in the corporation’s management and can influence the conduct of its business affairs. They are in a better position to become aware of a corporation’s financial difficulties soon after they arise, and to take such corrective measures as are possible. The reality for outside directors is very different: most often, they are completely dependent on the information they receive from the corporation’s management and on the opinions expressed by experts (such as the corporation’s auditors) though this does not give them licence to disregard outward signs of financial difficulty. Consequently, the distinction between outside and inside directors is a contextual factor to take into consideration as part of the “objective” analysis associated with the due diligence standard ordained by the Supreme Court. This means that instead of considering the skills, aptitudes or personal characteristics of a given director — an approach that would fit more closely with the “objective-subjective” analysis that used to prevail — one must consider the circumstances associated with the director’s role and position with the corporation. Furthermore, the obligation which tax statutes impose on directors is an obligation of means, not an obligation of result. Thus, a director will not be held liable if he or she implemented measures that a reasonably prudent person would have taken, even if those measures did not yield the desired results. In this sense, directors cannot be regarded as unconditional guarantors of a corporation’s tax liabilities. For example, a director will not be held liable for the failures of an employee of the corporation if that employee had the necessary training and was appropriately supervised. In conclusion, the decision to become a director of a corporation should not be taken lightly. Before accepting such an office, one should ensure that the corporation has sound governance practices in place and that these practices will be followed throughout one’s mandate. Directors should not hesitate to consult with their legal advisors in order to ensure that they act in accordance with their obligations and thereby limit their exposure to liability. _________________________________________ 1  Peoples Department Stores Inc. (Trustee of) v. Wise, [2004] xv3 SCR 461.     To what risks of liability or being found guilty are directors exposed? André Laurin Directors are subject to the legal liability regime provided in the incorporating statute of the legal person and possibly to that of its registered office and, in some respects, to the regimes in place in jurisdictions where the legal person carries out its activities. It is therefore important to have a good knowledge of the laws that apply to the legal person and directors. In the context of Quebec law, directors face two major types of potential liability, namely: contractual liability to the legal person of which they are directors or, by way of derivative action, to the persons who may step into the shoes of the legal person in certain circumstances (shareholders or creditors of the legal person); and extracontractual liability (delictual, quasi-delictual and penal) to third parties, but also to the legal person. Contractual Liability Civil contractual liability stems from the nature of the link between the legal person and its directors. Under Quebec law, directors are mandataries of the legal person. They may incur liability to the legal person if they do not discharge their duties (care and loyalty) to the legal person or if they exceed the limits of their mandate. Extracontractual Liability Extracontractual liability may be civil or penal in nature. A person seeking a civil liability judgement is required to prove that the director, in the course of discharging its duties, committed a fault which caused damages to such person. However, the person may in some circumstances rely on legal liability presumptions against the director. The court will assess the elements put before it according to the rule of preponderance of evidence. For instance, a director who would knowingly support the decision of the board to authorize the marketing of a product which he knows is hazardous or non-compliant with the regulatory standards of the industry and may cause damages to third parties may be ordered to pay damages to the victims who suffer such damages. In the same way, a director who votes in favour of a recommendation to the shareholders to approve a merger or accept a takeover bid which he knows or should have known that it is not fair or not in the interest of the legal person and its shareholders may be held liable to the shareholders. Failure by a director to exercise its duty of care or duty of loyalty to the legal person may in certain circumstances be considered by the courts as being a civil fault in the context of proceedings against the director by the legal person itself or third parties. Specific statutes identify certain behaviours as constituting penal or criminal offences. Some statutes also create presumptions of guilt. The evidence will be assessed on the basis of the “beyond a reasonable doubt” criterion. Furthermore, the Criminal Code (Canada)1, mainly in section 21, opens the door to the concept of complicity to or participation in a criminal or penal offence. A director who is found guilty may, according to the case and the nature of the criminal offence, be ordered to pay a fine, be imposed a limitation of his rights and even imprisonment. In most cases, a defence of due diligence may be made, even against a presumption, if the director has been in fact diligent. Furthermore, it is to be noted that the more the determination of the fault is objective, the less accessible becomes the defence of due diligence. For a more detailed analysis of the duties of directors and the nature of their potential liability, please refer to the document entitled “The Corporate Director: Questions and Answers”.2 Other remedies The oppression remedy and the application for an injunction complete the arsenal of means or remedies which may be brought against directors. _________________________________________ 1  Criminal Code (Canada) R.S.C. (1985), c. C-46. 2  “The Corporate Director: Questions and Answers”. lavery.ca/sme/corporate-governance.html     Environmental liability of directors and officers Katia Opalka Several federal and provincial statutes in force in Quebec make corporate directors and officers personally liable for offences of an environmental nature committed by the corporation. Corporations can face site assessment and clean-up orders. Subject to certain conditions, directors and officers of a corporation can be named to such orders. The environment ministry can also refuse to issue or renew environmental authorizations on the grounds that a director or officer of the corporation, of a related corporation, or of a lender of the corporation was found guilty of an offence or convicted on certain types of tax charges in the preceding five years. This article reviews sources of personal liability for directors and officers and then identifies measures that can be taken to manage these risks so that they don’t become an obstacle to recruiting and retaining talented people. Quebec’s Environment Quality Act (EQA or the Act) creates a presumption: when a corporation is convicted of an offence under the Act, its directors and officers are presumed to be guilty of that offence unless they can show that they exercised due diligence and took all necessary precautions to prevent commission of the offence. In the case of a partnership, all the partners, except for special partners, are deemed to be directors of the partnership, unless they can show that one or more of them, or a third person, manages the affairs of the partnership. Where a director or officer commits an offence, the minimum and maximum amounts of the fines prescribed in the Act for individuals (min. $1,000/max. $1,000,000) are doubled. When a corporation defaults on payment of an amount owed to the Minister under the EQA or its regulations, the corporation’s directors and officers are jointly and severally liable with the corporation for the payment of that amount, unless they can show that they exercised due care and diligence to prevent the breach which led to the claim. With respect to site assessment and clean-up orders, directors and officers may be the subject of such an order if they have had custody or control of the site, unless they can show that either: they were unaware of and had no reason to suspect the presence of contaminants in the land, having regard to the circumstances, practices and duty of care; once they became aware of the presence of contaminants in the land, they acted in conformity with the law, as to the custody of the land, in particular as regards the duty of care and diligence; or the presence of contaminants in the land is a result of outside migration from a source attributable to a third person. To guard against the risk of environmental liability, corporate directors and officers should make sure that the corporation has an environmental management system that works. They should also consider whether it would be worthwhile to take out pollution insurance, to address risks that are not normally covered in directors’ and officers’ liability insurance policies.

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  • Proposal for new TSX listing requirements for ETFs, closed-end funds and structured products: codification of existing practices

    On January 15, the Toronto Stock Exchange (the “Exchange”) published proposed amendments to the Toronto Stock Exchange Company Manual (the “Manual”). More specifically, a completely new section will be added to the Manual (Part XI) for determining the minimum listing requirements to be met by non-corporate issuers, i.e. exchange traded products (ETPs), closed-end funds and structured products. ENTITIES COVERED BY THIS PROPOSAL In their current version, the rules proposed by the Exchange provide definitions for the non-corporate issuers covered by these rules. However, the Exchange has given itself some level of discretion to decide that issuers not covered by this definition may still be subject to the obligations of non-corporate issuers. The three groups of issuers covered by these new rules are as follows: Exchange traded products, i.e. redeemable equity securities (“Exchange Traded Funds” or “ETFs”) and redeemable debt securities (“Exchange Traded Notes” or “ETNs”) offered on a continuous basis under a prospectus which give an investor exposure to the performance of specific index, sectors, managed portfolios or commodities through a single type of securities Closed-end funds, i.e. investment funds, mutual funds, split share corporations, capital trusts or other similar entities that are managed in accordance with specific investment goals and strategies Structured products, i.e. securities generally issued by a financial institution (or similar entity) under a base shelf prospectus and pricing supplement where an investor’s return is contingent on, or highly sensitive to, changes in the value of underlying assets, index, interest rates or cash flows. Structured products include securities such as non-convertible notes, principal or capital protected notes, index or equity linked notes, tracker certificates and barrier certificates --> 1) Exchange traded products, i.e. redeemable equity securities (“Exchange Traded Funds” or “ETFs”) and redeemable debt securities (“Exchange Traded Notes” or “ETNs”) offered on a continuous basis under a prospectus which give an investor exposure to the performance of specific index, sectors, managed portfolios or commodities through a single type of securities 2) Closed-end funds, i.e. investment funds, mutual funds, split share corporations, capital trusts or other similar entities that are managed in accordance with specific investment goals and strategies 3) Structured products, i.e. securities generally issued by a financial institution (or similar entity) under a base shelf prospectus and pricing supplement where an investor’s return is contingent on, or highly sensitive to, changes in the value of underlying assets, index, interest rates or cash flows. Structured products include securities such as non-convertible notes, principal or capital protected notes, index or equity linked notes, tracker certificates and barrier certificates RATIONALE FOR THIS PROPOSAL The Manual sets out the requirements enforced by the Exchange to all issuers as part of its mission to ensure a transparent, fair and orderly market for listed securities. These requirements were designed to recognize the specific features of various classes of issuers. However, the current version of the Manual does not take into account the specific features of ETFs and closed-end funds, which have become much more common in the Canadian market over the past 10 years. Indeed, according to the data provided by the Exchange, while there were only three ETF providers offering 84 products listed on the Exchange at the end of 2008, by October 31, 2014, there were nine providers offering 335 ETFs. In addition, every year over the past five years, an average of 35 closed-end investment funds have been listed on the Exchange, representing a market value of more than $26B. In the course of the elaboration of these proposed rules, the Exchange reviewed the listing requirements used by various recognized stock markets, including the New York Stock Exchange, NASDAQ, London Stock Exchange and, closer to home, the brand new Aequitas NEO Exchange. According to the Exchange’s analysis, the products listed on NASDAQ and NYSE are the most comparable to those listed on the TSX. PROPOSED MINIMUM LISTING REQUIREMENTS In the proposed amendments, the Exchange intends to set the minimum market capitalization to be met by non-corporate issuers wishing to be listed on the TSX, as follows: Exchange traded products must have a minimum market capitalization of $1 million Closed-end funds must have a minimum market capitalization of $20 million Structured products must have a minimum market capitalization of $1 million --> 1) Exchange traded products must have a minimum market capitalization of $1 million 2) Closed-end funds must have a minimum market capitalization of $20 million 3) Structured products must have a minimum market capitalization of $1 million In addition to the minimum market capitalization requirement, closed-end funds must also have issued a minimum of one million (1,000,000) freely tradeable securities held by at least 300 board lot holders. The Exchange also provides for certain requirements for calculating net asset value, as well as for governance. The net asset value must be calculated daily for exchange traded products and weekly for closed-end funds and structured products. In all cases, the net asset value must be posted on the issuer’s website. With respect to governance, as the Exchange does for issuers of other classes, it will assess the integrity of the directors and officers of non-corporate issuers. Issuers or managers of exchange traded products, closed-end funds and structured products must have a CEO, CFO, secretary, as well as an independent review committee (for exchange traded products and closed-end funds) or two independent directors (for structured products). However, this obligation does not apply to exchange traded products and structured products issued by financial institutions. REQUIREMENTS FOR MAINTAINING A LISTING Securities of a closed-end fund may be suspended or delisted if the market value of the securities listed on the Exchange is less than $3 million ($3,000,000) for 30 consecutive trading days, the fund has less than 500,000 freely-tradeable securities, or the number of security holders is less than 150. As for the securities of exchange traded products and closed-end funds, they will be delisted if maintaining their listing affects market efficiency. To do so, the Exchange will, among other things, consider the degree of liquidity and market value of the securities. CONCLUSION The proposed amendments were subject to a period of comments extending from last January 15 to March 16. The coming into force of these rules also remains subject to approval by the Ontario Securities Commission. As usual, if you are considering applying for a listing of your products on the Exchange, it is always preferable to obtain a preliminary opinion on eligibility for listing by filing an application to this effect with the Exchange.

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  • FATCA for investment funds – Be ready for May 1, 2015!

    The Foreign Account Tax Compliance Act, or FATCA, has been an integral part of Canada’s tax system for over a year. Originally legislated under U.S. law, FATCA allowed the Internal Revenue Service (“IRS”) to obtain information from financial institutions about the financial accounts of U.S. citizens and residents. This U.S. regime was introduced into Canada through the Intergovernmental Agreement for the Enhanced Exchange of Tax Information under the Canada-U.S. Tax Convention (“IGA”) and then through the enactment of Part XVIII of the Income Tax Act. Under Canada’s FATCA regime, Canadian financial institutions, including several investment funds, are required to file their first report on their U.S. reportable accounts by May 1, 2015. STATUS Under the FATCA, only Canadian financial institutions can have obligations to register and report the U.S. reportable accounts they maintain. Investment funds are generally considered a Canadian financial institution. An investment fund, its general partner, fund manager and holding companies are usually required to report under the FATCA rules. A fund’s limited partners may also have their own FATCA obligations. Most Canadian investment funds have addressed the issue of their FATCA status and obtained a global intermediary identification number (or “GIIN”) from the IRS. However, there is still some uncertainty which can cause market players to put off analyzing their obligations or registering. There are several reasons for this, including the fact that the rules are relatively new, the lack of formal administrative positions regarding their application, qualification and exception issues, etc. For an investment fund, these issues require an in-depth analysis of all entities forming part of its structure in order to come to an adequate determination. It should be noted that an investment fund that determines that it does not qualify as a financial institution for the purpose of FATCA could be considered a passive non-financial foreign entity and be required to report such information at the request of a financial institution and disclose more information about its beneficiaries in order to determine their status. DUE DILIGENCE A reporting Canadian financial institution is required to determine whether the financial accounts it maintains for its clients contain U.S. indicia (residence and citizenship of account holder, place of birth, mailing address, telephone number, etc.). This verification includes a review of available information about the account by the financial institution and a mechanism for requesting information. Such a request may be in the form of an IRS Form W-8, an official IRS document, or an equivalent document prepared by the financial institution, to be filled out by the account holder. A financial institution is required to collect this information for existing accounts and any new account it opens for a client. The financial institution’s verification obligations may be more or less strict depending on the account, the date it was opened and its value. REPORTING Canadian financial institutions are required to file an electronic report on their U.S. reportable accounts with the Canada Revenue Agency (“CRA”). The first such report covers financial accounts held by financial institutions as of December 31, 2014 and must be filed by May 1, 2015. Financial institutions must also complete, by June 30, 2015, a review of their high-value financial accounts, i.e. those worth one million dollars ($1M) or more, held as of June 30, 2014. After that, financial institutions will be required to file annual reports. EVOLUTION The FATCA rules are the precursor of a broad, evolving trend toward the exchange of information about taxpayers’ assets among the tax authorities of different countries. The United Kingdom has set up a similar although less wide-sweeping regime than the U.S. China is also looking at the possibility of setting up its own regime but has not released any details so far. The Organisation for Economic Co-operation and Development (“OECD”) has also set up a common standard for the automatic exchange of information regarding financial accounts, which Canada has committed to implement by 2018. This standard is expected to be similar to FATCA but involve all countries that have signed agreements involving the automatic exchange of information. In future we will certainly see greater transparency and increased reporting requirements regarding information about financial accounts to be provided to the tax authorities. Since investment funds are directly affected by these rules, they should make sure they have the tools they need to meet these requirements.

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  • Quarterly legal newsletter intended for accounting, management, and finance professionals, Number 26

    SOMMAIRE US Parent corporations sending employees into Canada to subsidiaries – General tax issues and remedy Business trips to Canada: Business visitor status or work permit? US Parent corporations sending employees into Canada to subsidiaries – General tax issues and remedy Emmanuel Sala, Carolyne Corbeil and Luc Pariseau Where a corporation is a resident of the United States (the “US”) for the purposes of the Convention Between Canada and the United States of America With Respect to Taxes on Income and Capital (“Treaty”) (the “US Parent”) and sends US-based employees (the “US Employees”) in Canada to perform services for the benefit of a Canadian corporate subsidiary (the “Canadian Subsidiary”) under a service agreement, all parties involved may become subject to Canadian federal and Quebec provincial tax obligations and the US Parent and the Canadian Subsidiary may become subject to federal and Quebec sales tax obligations TAX ISSUES Consequences to US Parent When the US Parent sends US Employees to work in Canada, it may be considered as carrying on a business in Canada for Canadian federal income and sales tax purposes, triggering the application of the following income and sales tax compliance obligations: Withholding of federal income tax source deductions, remittance thereof to the Canada Revenue Agency (“CRA”) and compliance with payroll filing obligations in connection with the portion of the remuneration paid to the US Employees attributable to duties performed in Canada. Registering for federal and Quebec sales tax purposes (“GST/QST”) and fulfilling compliance obligations in this regard, including charging to and collecting from the Canadian Subsidiary GST/QST on any fees charged by the US Parent to the Canadian Subsidiary in consideration for the work performed by the US Employees for the benefit of the Canadian Subsidiary (“Chargeback Fees”). Maintaining a business number together with a payroll and corporate income tax program accounts with the CRA. Filing a Canadian federal income tax return with the CRA within 6 months after the end of its taxation year Should the US Parent be carrying on this business through a “permanent establishment” (“PE”) situated in Canada, as this term is defined under the Treaty, liability for Canadian federal income tax obligations and Canadian payroll taxes and employer contributions could arise. Essentially, the US Parent may have a PE in Canada under the Treaty should it be determined that the US Parent has a Fixed Base PE, an Agency PE, a Construction Site PE or a Service PE, as such expressions are defined below. The following provides examples of situations where the CRA may argue that the US Parent has a PE in Canada under the Treaty An office space is made available to the US Employees in the premises of the Canadian Subsidiary – Fixed Base PE. Presence in Canada of the US Employees who exercise the authority to conclude contracts in the name of the US Parent – Agency PE. The US Employees perform planning and supervising activities at a construction site which will be in place for a period of more than 12 months – Construction Site PE. Services are provided in Canada by one or more US Employees for an aggregate of 183 days or more during a 12-month period – Service PE. Particular attention must be given to Construction Site PE and Service PE which have been given a broad interpretation by the CRA. A US Parent may be deemed to have a Service PE in Canada under the Treaty if the US Employees and, in certain circumstances, US subcontractors, enter into Canada to provide services to the Canadian Subsidiary. Under the Service PE rules, the US Parent would have a PE if the services provided in Canada, by one or many US Employees, continue for an aggregate of 183 days or more in any twelve-month period. However, the determination of a Service PE remains subject to the rules applicable to the Construction Site PE. In general, it is the CRA’s view that the Construction Site PE rules override the Service PE rules and that only services rendered in Canada, but away from the Construction Site PE, can be considered when making the determination of a Service PE. In other words, if the US Parent has employees or agents (including directors of the board of directors) in Canada for a total of more than 182 days in a 365-day period in connection with a project, excluding the days during which the US Parent’s employees, agents or subcontractors render services at the Construction Site PE of the US Parent, if any, the US Parent will be deemed to have a PE in Canada, and any profits attributable to that PE will be taxable in Canada. In computing the number of days for the purposes of the Service PE 183-day threshold, where the US Parent sends individuals simultaneously in Canada to provide services to the Canadian Subsidiary, their collective presence during one calendar day will count for one day only. From a Quebec provincial income tax perspective, should the US Parent have a PE situated in the Province of Quebec which constitutes an “establishment” for Quebec income tax purposes, the US Parent will also be liable for Quebec provincial income tax, Quebec income tax source deductions and Quebec payroll taxes/employer contributions. However, since the notions of Construction Site PE and Service PE do not exist for Quebec income tax purpose, the threshold for US Parent to have an “establishment” in the Province of Quebec is higher than at the federal level. Consequences for Canadian Subsidiary From the Canadian Subsidiary’s perspective, service agreements with the US Parent should not result in any significant adverse income and sales tax consequences other than the combined federal and Quebec 24% tax withholdings that will have to be withheld and remitted to the tax authorities with respect to the Chargeback Fee. GST/QST would also likely be payable by the Canadian Subsidiary to US Parent with respect to those amounts, but a corresponding GST input tax credit and QST input tax refund should generally be available to the Canadian Subsidiary. Consequences for US Employees To the extent that the US Parent has a Fixed Base PE, an Agency PE, a Construction Site PE or a Service PE in Canada, Treaty relief for Canadian taxes on Canadian-source income should not be available to the US Employees and their portion of income that will be derived from services rendered or duties performed in Canada should be subject to tax in Canada. Consequently, the US Employees will generally also be subject to Canadian income tax compliance obligations. REMEDY: SECONDMENT ARRANGEMENT To mitigate most of the foregoing PE issues and other tax issues associated with carrying on a business in Canada, the US Parent could enter into a secondment arrangement with the Canadian Subsidiary and the US Employees. A secondment arrangement generally consists in a written agreement where the legal terms of the secondment and the factual relationship between the seconded US Employees and the Canadian subsidiary are established. CONCLUSION In conclusion, careful consideration must be given at any time a US Employee or a US-based consultant enters Canada to render services or perform duties for the benefit of a Canadian Subsidiary. Efficient tax planning such as putting in place a secondment arrangement can, subject to US transfer pricing considerations, usually minimize the US Parent’s Canadian tax liability but the key is to plan any significant presence of US Employees and/or US-based consultants prior their entry in Canada.     Business trips to Canada: Business visitor status or work permit? Nadine Landry With the globalization of commerce, the number of people travelling for business purposes is on the rise. Many will think that a business trip does not have much to do with immigration given that it may seem as simple to enter Canada for business purposes as it is to enter as a tourist. However, there are important differences and the distinction between who qualifies as a business visitor and who is considered a foreign worker is not always clear. With the globalization of commerce, the number of people travelling for business purposes is on the rise. Many will think that a business trip does not have much to do with immigration given that it may seem as simple to enter Canada for business purposes as it is to enter as a tourist. However, there are important differences and the distinction between who qualifies as a business visitor and who is considered a foreign worker is not always clear. The main exemption category is the business visitor. To benefit from this exemption, the company in question’s main places of business and sources of income and profits must be situated outside of Canada. Theses activities include, but are not limited to, the following: Purchasing Canadian goods or services on behalf of a foreign business or government Taking orders for goods or services Attending business meetings, conferences, conventions and fairs Being trained by a Canadian parent company for which the person works outside Canada Training employees of a Canadian affiliate of a foreign company Being trained by a Canadian business that sold the visitor’s foreign employer equipment or services After-sales service is also exempt from the work permit requirement, subject to certain conditions. Maintenance or repair of specialized equipment purchased or leased outside of Canada is permitted only if the service was provided for in the initial contract of sale. It is important to note that manual installation of equipment is not included and normally requires hiring local employees or obtaining work permits. The North American Free Trade Agreement has broadened the scope of permissible activities for American or Mexican nationals to include, among others, certain activities related to research, marketing and general services. This same agreement will facilitate the obtaining of work permits for certain professionals as well as for individuals who have specialized knowledge or who hold management positions and who are transferred to a Canadian subsidiary. In conclusion, entering Canada for business purposes must not be taken lightly and businesses would be well-advised to make sure that their employees have the appropriate status based on the purpose of their trip when travelling to Canada for business. Border officials are strict and there is strong political will to protect the labour market and to crack down on offenders. Moreover, the federal government has announced the enactment of certain legislative amendments which provide for more severe penalties in cases involving false statements. More specifically, the period of inadmissibility to Canada will be five years instead of two. Considering that Canadian border officials have broad powers to search, a person would be very ill-advised to attempt to enter Canada under false pretenses. The classic business meetings scheduled over the next two weeks will not be very convincing if it is not adequately supported by sufficient evidence.

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