Corporations that carry out significant transactions with foreign corporations under common control cannot avoid the question of transfer pricing because it encompasses tax compliance, risk management and international tax planning.
The issue of transfer pricing is constantly evolving in Canada and internationally, particularly as a result of the Organisation for Economic Co-operation and Development’s (“OECD”) base erosion and profit shifting (“BEPS”) project. Being aware of transfer pricing rules and applying them correctly is therefore crucial.
Transfer pricing rules in Canada
Generally, in Canada, transfer pricing is governed by Section 247 of the Income Tax Act (“ITA”). The Canada Revenue Agency (“CRA”) generally refers to the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations in applying transfer pricing rules.
The underlying rule in Canada is the arm’s length principle, which Canadian residents must apply for transactions with non-arm’s length non-resident parties. This principle requires that arrangements between the non-arm’s length parties be the same as those with arm’s length parties in similar circumstances. under this principle, Canadian residents involved in cross-border transactions with non-arm’s length parties should report essentially the same income as they would have with arm’s length parties.
If the CRA considers that the arm’s length principles is not applied, it can adjust the transfer prices and impose a penalty. The penalty could apply if total CRA upward adjustments (capital and income) are greater than $5,000,000 or 10% of the entity’s gross income and will be 10% of the adjusted amount. This penalty can, however, be avoided if the taxpayer is able to demonstrate that it has made reasonable efforts to determine and use arm’s length transfer prices.
Reasonable efforts by the taxpayer can be demonstrated if the taxpayer has maintained transfer pricing documentations that complies with ITA 247(4). It must provide this documentation within three months of receipt of a CRA request. In addition, such documentation must be timely, i.e., prepared or obtained on or before the filing deadline for the taxpayer’s tax returns for the tax year in which the transaction was entered into.
Audit
As part of a tax audit, the CRA will request transfer pricing documentation at an early stage of the process. This request will be made in writing and the taxpayer will have 90 days to provide the documentation. If documentation is not provided, the taxpayer has no protection against the transfer pricing penalty. The absence of documentation also shifts the burden of proof to the taxpayer.
It should be noted that the limitation period for a transfer pricing audit in Canada is three years longer than the usual period, and can therefore extend up to seven years.
In the event that a taxpayer is issued a transfer pricing adjustment, the taxpayer has 90 days following receipt of a reassessment to file a notice of objection. This notice of objection is necessary to protect the taxpayer’s right of appeal to the CRA’s Appeals Branch and to the Canadian courts.
In the event that the transfer pricing adjustment is upheld, the taxpayer will be in a situation of double taxation, as taxes will have already been paid on the income in the foreign country. The taxpayer will be able to seek assistance from the appropriate Canadian and foreign authorities to avoid double taxation if the tax treaty between the two jurisdictions provides for such a mechanism.
It’s important to note that the CRA is one of the most aggressive tax authorities in the world when it comes to auditing transfer pricing. Unlike its U.S. counterpart, the CRA audits medium and large corporations and is prepared to issue a notice of reassessment for amounts as little a few hundred thousand dollars.
These audits have resulted in taxpayers spending considerable time and money objecting to the notices of reassessment, requesting the assistance of the appropriate Canadian and foreign authorities to avoid double taxation and appealing decisions in Canadian courts. In many cases, this could have been avoided had the transfer prices been properly determined and documented. Having well-prepared documentation with all the necessary supporting documents often determines the parameters considered during an audit.
Corporations subject to applying transfer pricing rules are legally obligated to document their intercompany transactions. Missing documentation translates into a significantly higher risk of a reassessment, non-deductible penalties and interest payable in unpaid taxes. However, transfer pricing rules also provide all of the requisite tools to efficiently manage a multinational’s international tax burden. Transfer pricing rules should be known and applied.
Don’t hesitate to call on your Raymond Chabot Grant Thornton advisor who can help answer your transfer pricing questions.
10 Aug 2017 | Written by :
Marie-Pierre Pelletier is a taxation expert at Raymond Chabot Grant Thornton. Contact her today!
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Your SME has experienced considerable growth in recent years. It’s ready to expand by making an acquisition beyond Quebec’s borders.
Your analyses indicate that this is the most beneficial and least risky option. Provided, of course, that the price is right. However, this is not the only consideration. During the analysis, ask yourself whether the target business:
- Has a solid management team.
- Sells high potential products or services.
- Operates in a market with strong growth opportunities.
- Would provide synergies that will add value to your business and be beneficial for all stakeholders.
Note that it’s usually more advantageous to acquire a business that is less profitable than yours since there will be a higher potential to grow its earnings based on the transaction cost.
Team work
Here are a few considerations for a successful transaction:
- Make sure you have a competent team you can rely on, with experience in cross-border acquisitions and the market where you want to set up. You will likely have to call on the support of financial, tax, legal, environmental and other specialists.
- Involve various managers (production, human resources, etc.) in the acquisition project right from the start and in preparing the integration plan.
- Prepare the integration very carefully and apply it diligently. Integration should not take more than two years, otherwise, you won’t reap the benefits of the expected synergies.
- However, be flexible in the integration plan. Adapt it to the circumstances and review certain actions as necessary.
- Send head office staff to the new location to oversee the integration process. They will also ensure that the new employees adopt your corporate culture and rules.
- Don’t underestimate the cost of integrating the other company: it is often more than you’d expect.
The human side, a key component
The human component is particularly important when acquiring a business outside Quebec. Your ability to have the new employees engage fully into your company’s growth is essential to your project’s success. You need to:
- Be aware of cultural factors (language, values, customs, etc.) that may be quite different from those in Quebec.
- Give the acquiree’s managers a lot of autonomy. They know how it works, its business environment, local laws and regulations, etc.
- Let them know their contribution is key to your success. Give them the opportunity to rise up the ladder within the group, by giving them international responsibilities, for example.
- Invite some managers to your head office so that they can get a better understanding of your culture, work methods, etc.
- Keep an open mind and take the time to analyze their way of doing things. Who knows? You might find that some of their practices are better than yours and should be adopted across the board.
There are several factors at play for a successful international expansion. Don’t hesitate to contact us. We are available to help with planning and carrying out your project.
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Updated on July 11, 2023
For several years now, the Internal Revenue Service (IRS) has been engaged in a vigorous campaign against international tax fraud and failure to declare bank accounts outside the U.S., including Canada.
IRS streamlined filing compliance allows US citizens living in Canada to update their tax obligations without incurring penalties.
As a U.S. citizen or tax resident (including green card holders) residing in Canada, what are your U.S. tax obligations and what solutions are available to you? To answer your questions, we have called upon the contribution of tax experts from the Raymond Chabot Grant Thornton network.
Q: What are the income tax compliance requirements for U.S. citizens living in Canada?
A: U.S. citizens and resident aliens residing outside the United States are required to annually file a U.S. income tax return and declare worldwide income to the IRS, insofar as this income is equal to or greater than the personal exclusion amount and the applicable basic deduction.
Q: In addition to filing a tax return, are there any other requirements to meet?
A: In addition to filing an income tax return annually, U.S. citizens and resident aliens are required to file form FinCEN 114 (Report of Foreign Bank Accounts) to disclose their interest in certain financial accounts held outside the U.S., if such interest exceeds US $10,000 at any given time during the year.
Furthermore, U.S. citizens and tax residents must also report certain information to the URS on their registered education savings plan, tax-free savings account, foreign trusts, and may need to file form if they hold an interest in a foreign corporation.
Q: What are the applicable penalties if these requirements are not met?
A: U.S. citizens and tax residents who have not or have only partially met their tax obligations become exposed to significant penalties and the risk of legal proceedings. For example, if you omit to file a U.S. income tax return, the IRS can tax you up to 25% of the amount due.
Additionally, if you omit to file the FinCEN 114 report without a valid reason, you may be subject to a civil penalty up to $10,000 per unintentional violation. For intentional violations, penalties may amount to the higher of $100,000 and 50% of the value of the foreign account.
Q: What can I do to adjust my situation?
A: To encourage taxpayers to take action and adjust their tax file, the IRS introduced a voluntary disclosure program in September 2012. This program, named Streamlined Foreign Offshore Procedures for Taxpayers Outside the U.S., applies to U.S. taxpayers residing outside the U.S. who have omitted to file income tax returns or information forms, as well to those who omitted to declare certain income.
The disclosure consists in performing all of the following:
- Filing income tax returns (including all information forms) for the last three years;
- Filing the FinCEN 114 bank account reports for the last six years;
- Paying taxes due plus interest (all penalties are withdrawn under this program).
We can help lighten your burden!
The rules surrounding tax obligations for U.S. citizens and resident aliens are numerous and complex. If you are a U.S. citizen or resident alien and have not met your tax reporting or other obligations with the U.S. tax authorities, consult a Raymond Chabot Grant Thornton specialist who will help you find the best solution for your situation.
Do you have questions relating to U.S. tax issues? The tax experts of Raymond Chabot Grant Thornton can help you!
31 May 2017 | Written by :
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In 2008, the Ministère des Finances du Québec (MFQ) created the tax credit for the development of e-business (CDAE) program.
The CDAE is to support information technology (IT) providers offering services to improve the productivity of management and manufacturing operations (based on an excerpt from the 2008-4 bulletin *Page 2, paragraph 5, FRENCH ONLY ).
Consistently vague and restrictive definition
Since the program was introduced, several amendments have been made to better adapt it to the reality of IT businesses which, in the eyes of the MFQ, met this goal. In 2015, the MFQ added new, more restrictive rules for IT businesses developing software integrated into equipment in connection with their solution delivered to clients. These new rules are raising questions in the industry and several cases are being very actively discussed with various Investissement Québec (IQ) representatives with regard to the interpretation of software concepts such as “ results of such activities are incorporated into a product intended for sale” (based on the 2015 budget document).
The definition is becoming more specific and the trend leads us to believe that these changes will most likely result in excluding IT businesses from the program that mainly target the manufacturing market – a sector that requires an array of IT solutions to automate procedures.
Two markets, two realities
The rules of the CDAE program are based on a detailed analysis of a corporation’s revenues. In fact, businesses must prove that the different activities included in revenue relate mainly to IT services (system design, software edit, etc.). The MFQ relaxed the rules on several occasions, at the start of the program, to take into account the reality of businesses and their service delivery to clients.
Businesses proposing a computer application to improve operations management are often equipped with different computer equipment and related services, which the MFQ has taken into account when reforming the program. Currently, for a business targeting the services sector (insurance, financial institutions and others), the rules are quite appropriate. But what about those relating to manufacturing businesses where procedures need to be automated? This is the issue. Let’s take a closer look.
It goes without saying that the same IT service delivery provided to a manufacturing business that wants to improve its productivity requires more than just computer equipment. An IT solution is implemented in a hostile environment that requires industrial facilities, better adapted electric systems for improved insulation, etc.
Furthermore, special accessories are also required for reading data in the manufacturing process, which is not the case for implementing IT in a service organization since data to feed an information system is added by users (i.e., a keyboard) and not by data acquisition! Before the introduction of the new rules for software integrated into equipment, this type of automation was already penalized. Diversifying products and services to provide the solution is often no longer considered in the program as an IT activity and excludes the service provider from the program.
With the implementation of the new rules in 2015, a restriction applies to embedded software which undermines the expansion of certain businesses. It should not be forgotten that software incorporated into equipment is becoming increasingly more necessary in the automation of processes and is now specifically excluded from revenues to determine whether a business is eligible for the program. As such, if the MFQ wanted to improve productivity in management and manufacturing operations, as stipulated in the 2008 bulletin when the CDAE was created, it is not doing so but rather, with this course of action, it is cutting out the manufacturing aspect that was part of the program’s initial objective.
The solution
At a time when the Quebec government is currently focussing on innovative manufacturers, it would be very wise, in our opinion, to make the CDAE as accessible as possible to IT providers targetting manufacturers specifically, such that Quebec businesses can benefit more from innovative, high-performance products in keeping with their ambitions.
To do this, we believe that the approach should be reviewed so it is more global and based on the CDAE’s fundamental objective, instead of simply removing the rule for integrated software, which hinders innovation. Does the IT solution contribute to improving a manufacturing business’s productivity? Yes, it fully contributes and we believe that this is what should be guiding the eligibility analysis for Quebec IT providers.
30 May 2017 | Written by :
Pascal Grob is a SR&ED expert at Raymond Chabot Grant Thornton.
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