On January 1, 2011, new US reporting requirements applicable to issuers of certain securities came into effect under Section 6045B of the Internal Revenue Code of 1986, as amended (the Code). The rules require issuers of “specified securities” to file an information return for any organizational action affecting the US tax basis of such securities. These rules can apply to Canadian public and private issuers. The new rules are part of a broad statutory scheme intended to provide the US Internal Revenue Service (IRS) and US taxpayers with greater information about tax basis to facilitate proper reporting of taxable gains and losses.
Who must report?
Generally, any issuer of a “specified security” is required to report all organizational actions affecting the US tax basis of that security. The reporting obligation for specified securities is being phased in over a three-year period:
- Effective January 1, 2011, reporting was required in respect of the stock of a corporation (or any interest treated under the Code as a share, such as an American Depositary Receipt) other than a “regulated investment company” (RIC).
- Effective January 1, 2012, reporting is required in respect of certain stock of a RIC, in addition to stock of a corporation as described above.
- Effective January 1, 2013, or such later date as the IRS determines, reporting will be required in respect of: (i) notes, bonds, debentures or other evidence of indebtedness of any corporate or non-corporate issuer, and (ii) where the IRS determines adjusted basis reporting to be appropriate, commodities, contracts or derivatives with respect to commodities, or any financial instrument.
Canadian issuers of specified securities are subject to these US reporting rules unless all security holders are “exempt recipients,” as described below.
Exception for exempt recipients
An issuer is required to furnish an information return to each holder of a specified security, other than certain “exempt recipients.” Exempt recipients are generally defined to include foreign (that is, non-US) holders, corporations (and other entities treated for purposes of the Code as a corporation) and entities exempt from US tax for purposes of the Code. Accordingly, a Canadian issuer whose securities are held solely by non-US holders will have no reporting obligation under Section 6045B of the Code. Moreover, an issuer wholly owned by one or more corporate shareholders will not be required to report organizational actions.
To rely upon the exception, issuers are generally required to obtain completed exemption certificates from security holders or, in certain limited circumstances, rely upon presumption rules.
What must be reported?
An issuer is required to report, using Form 8937, any organizational action that affects the US tax basis of its specified securities. The term “organizational action” is not defined in the Code, but may include transactions such as mergers, acquisitions, stock splits, stock redemptions, distributions in excess of US earnings and profits, and similar transactions and events.
The issuer must include in Form 8937, among other things, the nature and date of the organizational action and the quantitative effect of the organizational action on the basis of the specified security as an adjustment per share or as a percentage of old basis.
The quantitative effect information must include a description of the calculation of the change in basis, the applicable Code section upon which the tax treatment is based, the data supporting the calculation, and any other information necessary to implement the adjustment, including the reportable taxable year, and whether any resulting loss may be recognized.
Issuers are entitled to make reasonable assumptions where relevant facts cannot be determined before the due date. In these circumstances, the issuer must file a corrected return within 45 days of determining facts that result in a different quantitative effect on basis.
How does an issuer report?
Issuers can satisfy their reporting obligations either by:
- filing a completed Form 8937 with the IRS and mailing a copy of the completed form to each security holder (other than exempt recipients); or
- posting a completed Form 8937 on their primary public website and keeping the form accessible for 10 years.
For administrative simplicity, many issuers will prefer to post the required information on their websites. However, this may not be a feasible option for private issuers who do not have public websites, or who wish to keep such information private.
Issuers that choose option one must file the completed form with the IRS within 45 days of the organizational action (or by January 15 of the following calendar year, if earlier), and mail a copy to each security holder by January 15 of the following calendar year. Issuers choosing option two must post the completed form on their website within 45 days of the organizational action (or by January 15 of the following calendar year, if earlier).
What are the consequences of a failure to report?
An issuer that fails to file the information return may be subject to a penalty of US$100 per return, up to an annual maximum of US$3 million. The penalty may be increased to US$250 per return, with no annual maximum, where the reporting obligation is intentionally disregarded. The penalty is based on the number of security holders, other than exempt recipients, to whom a return was required to be provided. Accordingly, the potential exposure to Canadian issuers from a failure to report may be large.
An issuer may use an agent to fulfil its reporting requirement, but will be liable for any penalties unless it can show that the failure is due to reasonable cause and not wilful neglect. A company that acquires or is a successor to an issuer is jointly and severally liable for any penalties resulting from the issuer’s failure to comply with its reporting obligations.
The IRS may seek assistance from the Canada Revenue Agency with collecting any penalties from Canadian issuers with no US-based assets or business activities, pursuant to the Canada/US Tax Treaty.
In light of the new reporting requirements, Canadian issuers should develop and implement procedures for identifying transactions that could affect the US tax basis of their securities, thereby triggering a reporting obligation. As the effect of a transaction on US tax basis will not always be apparent, appropriate advice must be sought. Issuers should be prepared, if necessary, to obtain completed exemption certificates from security holders, or rely upon the presumption rules for “exempt recipients,” and to complete and distribute the information return within the applicable time limits.