Under Canada’s domestic tax law (s. 212(13.1)(b) of the Income Tax Act (the ITA)), a partnership having one or more non-resident partners is deemed to be a non-resident person for Canadian withholding tax purposes.  This can, for example, result in 25% Canadian withholding tax on interest paid to such a partnership where the partnership legally controls the Canadian payer (Canco) – even though a non-resident partner of the partnership deals at arm’s length with Canco.  In 2014-0563781E5, recently released, the CRA confirmed that the Canada-UK tax treaty (the Treaty) can override this result.  Here are the brief technical points:

  1. The Treaty provides that interest paid by Canco is exempt from withholding tax in Canada if the beneficial owner of the interest is a resident of the UK and deals at arm’s length with Canco (see Article 11(3)(c) of the Treaty). 
  2. An Interpretive Protocol to the Treaty (the Protocol) looks through a UK limited liability partnership (the Partnership) to the UK partners if the Partnership is transparent for UK tax purposes (see Section 1 of the Protocol).   
  3. The Protocol further provides that s. 251(1) of the ITA applies for purposes of determining whether a particular UK partner deals at arm’s length with Canco (see Section 3(a) of the Protocol). 
  4. In the facts considered by the CRA: the Partnership controlled Canco; the UK general partner controlled the Partnership; and the UK limited partners were not related to one another or to the UK general partner.
  5. The CRA thus concluded: (a) that the UK limited partners were not ‘related’ to Canco for purposes of s. 251(1)(a) (see page 9); and (b) that a UK limited partner’s share of interest paid by Canco to the Partnership would be exempt from Canadian withholding tax if the UK limited partner factually dealt at arm’s length with Canco under s. 251(1)(c) (see page 10).