Would a private equity fund vehicle formed in your jurisdiction be subject to taxation there with respect to its income or gains? Would the fund be required to withhold taxes with respect to distributions to investors? Please describe what conditions, if any, apply to a private equity fund to qualify for applicable tax exemptions.
Limited partnerships are generally disregarded for Canadian income tax purposes, such that funds are generally not liable for income tax on income and gains earned by the fund. Instead, the income and gains of a partnership are allocated to its partners or investors and taxed in the hands of such partners or investors. There is no obligation on a fund constituted as a partnership to withhold taxes on account of distributions to its partners or investors.
A partnership with even a single non-resident partner or investor could be deemed to be a non-resident entity for purposes of assessing Canadian withholding tax from Canadian-source income (including most interest, dividends and royalties paid by Canadian-resident payers). Accordingly, it is customary to include a requirement in partnership agreements requiring all partners to maintain tax residency in Canada for the duration of their investment.Local taxation of non-resident investors
Would non-resident investors in a private equity fund be subject to taxation or return-filing requirements in your jurisdiction?
Private equity funds constituted as limited partnerships typically require all investors in the fund to maintain tax residency in Canada to avoid having Canadian-source income earned by the fund being subject to Canadian withholding tax. Non-resident investors seeking to invest in a Canadian fund will occasionally incorporate Canadian corporations to hold their partnership interest. Such a corporation would be a Canadian-resident taxpayer that was liable for Canadian income tax on its worldwide income (including income allocated to it by the fund) and would be liable to file an annual Canadian federal income tax return and, in certain circumstances, tax returns in selected provinces. US investors frequently constitute such a holding corporation as an ‘unlimited liability company’ in order to capitalise on the flow-through character accorded to such entities for US income tax purposes. Alternatively, private equity funds with international investors are often structured as two or more separate limited partnerships that act in parallel: one formed for Canadian investors and the other or others formed for non-Canadian investors.Local tax authority ruling
Is it necessary or desirable to obtain a ruling from local tax authorities with respect to the tax treatment of a private equity fund vehicle formed in your jurisdiction? Are there any special tax rules relating to investors that are residents of your jurisdiction?
It is uncommon to obtain a tax ruling from the Canadian tax authorities in connection with the formation of a private equity fund in Canada. Occasionally tax rulings will be sought to confirm the expected tax treatment of innovative financing or investment structures in which the fund is a participant.Organisational taxes
Must any significant organisational taxes be paid with respect to private equity funds organised in your jurisdiction?
There are no significant organisational taxes that are paid with respect to private equity funds formed in Canada.Special tax considerations
Please describe briefly what special tax considerations, if any, apply with respect to a private equity fund’s sponsor.
Sponsors of private equity funds in Canada are customarily compensated, directly or indirectly, with:
- a monthly investment management fee (typically calculated as a percentage of assets under management); and
- a participation in the profits of the fund through a special class of partnership units (ie, carried interest).
Investment management fees are customarily taxed in the hands of the sponsor and subject to value-added taxes that can range from a low of 5 per cent to a high of 15 per cent, depending on the applicable provincial rates that apply. The tax character of the payments allocated to the sponsor as carried interest will generally depend on the underlying nature of the partnership income.
Recent amendments to the federal excise tax regime now subject, in certain circumstances, a sponsor’s carried interest to value-added tax.Tax treaties
Please list any relevant tax treaties to which your jurisdiction is a party and how such treaties apply to the fund vehicle.
Canada has a robust network of income tax treaties and tax information exchange agreements with countries around the world. Depending on the nature and geographic scope of a fund’s investments, such treaties and information exchange agreements may entitle the fund to materially reduced taxes payable in respect of its investment activities. Of particular note, given both the geographic proximity and economic scale of the United States, the Canada-United States Income Tax Convention (1980), as amended, is a common feature of international investment by Canadian investment funds.Other significant tax issues
Are there any other significant tax issues relating to private equity funds organised in your jurisdiction?
A limited partnership in Canada typically comprises solely Canadian-resident investors. International investors can obtain economic exposure to Canadian funds by forming a Canadian corporation to hold the limited partnership interest in the private equity fund. US investors frequently constitute such a holding corporation as an ‘unlimited liability company’ in order to capitalise on the flow-through character accorded to such entities for US income tax purposes. Alternatively, private equity funds with international investors are often structured as two or more separate limited partnerships that act in parallel: one formed for Canadian investors and the other or others formed for non-Canadian investors.