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Non-resident trust and foreign investment entity legislation: Update

By Paul R. LeBreux, LLB, LLM, TEP (friend of Moodys LLP and principal of Global Tax Law Professional Corporation)

It has been almost 10 years to the day that Canada’s then Minister of Finance proposed new tax measures aimed at overhauling the method for taxing “non-resident trusts” and “foreign investment entities”.  These new tax measures were said to be needed to combat what the government had long perceived as an abuse of the Canadian tax system.  Since the introduction of the controversial initiative, the implementation of the legislation has been delayed numerous times and the Draft Legislation has been released, each time with substantial amendments, no less than six times.  Although the Draft Legislation continues to have an effective date of January 1, 2007, it would seem that the likelihood of these proposals being proclaimed as law has significantly diminished.

As part of Canada’s March 19, 2007 Federal Budget, Canada introduced certain international tax measures to address both international tax avoidance and international tax evasion issues. These measures were contained in the Federal Budget “International Tax Fairness Initiative”. To support these initiatives, the Government of Canada created the Advisory Panel on Canada’s System of International Taxation: the Panel’s mandate being to make recommendations to guide the government in establishing an international tax policy framework with respect to investment abroad by Canadian businesses as well as investment into Canada by foreign businesses. Although the Panel was not given the specific mandate of evaluating the NRT and FIE legislation, it was clear that their views would carry significant weight in determining the future direction of this legislation.

The Panel released its Final Report “Enhancing Canada’s International Tax Advantage” on December 8, 2008. Amongst a number of recommendations made by the Panel, the Panel concluded, as follows, with respect to the NRT and FIE proposed rules:

4.103 The Panel believes that our recommendation to adopt a broader exemption system raises questions about the scope and interaction of Canada’s existing anti-deferral regimes. In particular, the Panel believes that the proposed FIE and NRT rules should be reconsidered to ensure that their need and scope are consistent with the Panel’s recommendations and the principles in Chapter 3 regarding the international taxation of outbound investments by Canadian businesses.

4.104 The Panel has concluded that the government should undertake a fresh review to coordinate the FAPI, FIE and NRT regimes. This review should aim to ensure all passive income is taxed on an accrual basis and to focus the scope of these rules so they do not impede bona fide commercial business transactions.

4.105 Also in line with the Panel’s principles, any proposed change to the scope and interaction of the anti-deferral regimes should undergo full consultation.

The conclusion to reconsider the proposed NRT and FIE rules and to undertake a fresh review of Canada’s anti-deferral regimes will hopefully now be the impetus to abandon the NRT and FIE proposals, in their current form, and hopefully pave the way for a system that better addresses the concerns and recommendations put forward by international tax practitioners for nearly a decade.