Tax probe in Canada could hit GPs

Buying a target company in Canada may become more difficult if the government strikes down too hard on non-resident Canadians who abuse the country's tax treaties. 

The government issued proposals designed to clampdown on non-residents who set up entities abroad as a way of capturing tax treaty benefits they would otherwise not have access to. For private equity, the concern is that the probe will capture intermediate acquisition vehicles setup in offshore jurisdictions for legitimate tax purposes. 

If enforced strictly, the tax code could deny private equity firms using offshore investment vehicles from tax treaty benefits, meaning they would be exposed to a higher tax bill in Canada.

“There has always been this controversy. Where does tax planning end and blatant treaty shopping begin?” said one tax lawyer speaking to PE Manager.

The lawyer added that she advises private equity firms to be extremely careful when using holding companies, especially in domiciles such as Luxembourg or the Netherlands. She said firms need to take measures to ensure the holding company is in fact the “beneficial owner” of the target company, meaning fund capital is held overnight before being channeled into Canada and pays any due interest.

The proposals are also relevant to private equity firms with existing investments in Canada as the discussion paper is silent on whether existing investment structures will be grandfathered. Comments on the consultation paper are due by December 13, 2013.

Other jurisdictions may follow Canada’s lead with reciprocal arrangements, legal advisors warn. “As countries continue to change their legislation, and as the OECD [Organisation for Economic Co-operation and Development] continues to look into the issue firms need to be alive to the changes. This does highlight what is a global trend and other countries will follow suit,” the attorney said.