On November 13, 2007, draft legislation was released that, if enacted, will accelerate the effective date for the elimination of Canadian withholding tax on interest payments to arm’s length non-resident lenders. The new proposed effective date is January 1, 2008. It had previously been proposed that the new rules would take effect only upon ratification of the Fifth Protocol to the Canada-United States Income Tax Convention, 1980. It was widely expected that this would not occur until well into 2008.

The elimination of withholding tax will substantially improve access of Canadian enterprises to the international debt markets and open the way to an increased volume of international financing transactions, as non-Canadian lenders will no longer be restricted to lending into Canada on the basis of the existing withholding tax exemption – “5/25 rule” – where the borrower must not be obligated to repay more than 25% of the principal amount of the debt obligation within five years of the date of the advance (subject to certain exceptions). As a result, short-term debt, as well as many structured products, will become available to Canadian enterprises from foreign financing sources.

With respect to banking transactions (as opposed to capital market issuances), it should be noted that non-Canadian lenders will be subject to the regulatory requirement that any “foreign bank” which is not authorized under the Bank Act (Canada) must not engage in or carry on business “in Canada”. The location of client meetings, and of the negotiation, documentation and execution of transactions, and the other surrounding circumstances, will be relevant to this determination.

The Federal Government has not announced whether it will seek to have the draft legislation enacted before the end of 2007. If enactment is delayed until 2008, it is expected that the new rules will be given retroactive effect to January 1, 2008. In that case, the existing withholding tax rules would technically still apply during the period from January 1, 2008 to the date the new rules become law. However, the Canada Revenue Agency, which administers the tax law, has indicated it will administer the November 13th draft legislation as if it is in force on January 1, 2008, unless and until such time as Parliament indicates that it does not agree with the draft legislation (i.e., if the minority government is defeated on the draft legislation).