Dean Blachford, Tax Litigation Lawyer
Valentine Gurfinkel, Law Student
With the Federal Government of Canada taking an increasingly aggressive stance against tax evasion and offshore investment, professionals advising foreign nationals doing business in Canada and Canadians doing business abroad need to make sure their clients comply with Canadian tax laws. Failure to properly report and pay taxes can often lead to significant fines, penalties, and even criminal charges.
Below are three tax issues that regularly affect foreign nationals doing business in Canada and Canadians doing business abroad—and one way to help your clients avoid tax disputes before they start.
1 Tax obligations depend on a taxpayer’s residency—not where the taxpayer lives or works.
Taxpayer residency is a frequently contested issue, for both individual and corporate taxpayers. Under the Canadian Income Tax Act (ITA), Canadian residents are required to pay tax on all of their world income, while non-residents generally only pay tax on income earned in Canada. An individual is a Canadian resident for tax purposes if he or she maintains significant residential ties to Canada during the tax year. Residential ties are distinct from an individual’s immigration or citizenship status. For corporate taxpayers, residency is based either on place of incorporation or the place of the corporation’s “central management and control.
2. Resident taxpayers are subject to the foreign property reporting requirements.
Failure to report foreign assets and investments can lead to severe penalties and even charges of criminal tax evasion.
Resident taxpayers owing “specified foreign property” totaling more than $100,000 CDN must annually file a T1135 form with their income tax returns declaring their holdings. “Specified foreign property” is defined broadly under the ITA and includes funds in bank accounts, real property, material goods, collectibles, stocks, shares, insurance policies, and more. A T1135 must be filed even if no income was earned from the foreign property in a given tax year. The penalty for not filing a T1135 is $2,500 per year, per taxpayer.
Resident taxpayers with foreign investments must also comply with the Foreign Accrual Property Income (FAPI) and the Offshore Investment Fund Property (OIFP) rules. Under the FAPI rules, codified in s.91 of the ITA, taxpayers must declare and pay tax on passive income (such as dividends, interest, rentals) earned abroad by a controlled “foreign affiliate,” that is, a non-resident corporation controlled by the taxpayer. As part of the reporting requirement, taxpayers must annually file a T1134 form identifying their foreign affiliates—both those they control and those they do not control. Taxpayers must also identify the value of shares they own in them and the amounts owing between the taxpayers and their foreign affiliates.
Similarly, the OIFP rules under s.94.1 of the ITA require tax to be paid on income earned from an offshore fund that derives its value primarily from portfolio investments where one of the main reasons for the taxpayer’s investment is to lower his or her tax obligations.
Canadian resident taxpayers can expect greater scrutiny of their foreign assets, as Canada and countries all over the world begin to automatically share banking information with each other using the Common Reporting Standard.
3. Transfer pricing is strictly regulated.
Canadian residents doing business with non-residents must abide by the ITA’s strict transfer pricing regulations. Transfer pricing is the price related parties charge each other to transfer goods or services. S.247 of the ITA requires Canadian taxpayers to charge arm’s length prices to their non-resident affiliates and to maintain detailed documentation of all transactions. S.247 also gives the Canada Revenue Agency the right to adjust a taxpayer’s transfer prices and to impose additional fines and penalties.
Canada’s recent agreement to exchange Country-by-Country Reports on the finances of multinational enterprises with the United States and over 50 other countries will make adherence to the above regulations that much more critical.
The Voluntary Disclosure Program offers relief from penalties and tax evasion chargers.
Taxpayers who have neglected to report foreign income should consider participating in the Voluntary Disclosure Program (VDP). The VDP grants taxpayers amnesty from interest, penalties, and even potential criminal charges associated with previously undeclared income, if they fully disclose and pay tax on it. The VDP is a highly effective and popular way to avoid costly disputes with the Canada Revenue Agency.
At HazloLaw – Business Lawyers we have extensive experience successfully representing individuals and corporations in tax disputes with the Canada Revenue Agency and at the Tax Court of Canada. We look forward to partnering with accountants and lawyers in helping their clients resolve any tax disputes they may have.
This article is for informational purposes only and does not constitute legal advice. If you wish to discuss your issue with a lawyer, contact Dean Blachford today. 613-747-2459 ext.310, [email protected]