Finance Committee on Feb. 28th, 2013

[Mark Adler, Conservative, York Centre, ON]

Clearly, there were extensive consultations undertaken.

[Ted Cook]

As I indicated, there's been consultation on the vast, vast majority of the measures included.

[Mark Adler, Conservative, York Centre, ON]

During the course of these consultations, was the feedback on what you were proposing positive within the tax community?

[Ted Cook]

In terms of feedback, certainly the Senate committee and some of the witnesses before the Senate committee expressed concerns with respect to the specific aspects of the measures that are now included in part 1, so we've worked to address that.

We've talked about integrity measures. Obviously, integrity measures aren't always well accepted by some parts of the tax community. In overall terms, though, if I were to use a word as to how the tax community has reacted to this bill, it's “relief”.

[Shawn Porter]

I would just add, with respect to parts 2 and 3, the two international parts, part 2 was originally introduced in December 2009. There were consultations, it was re-released in August 2010, and it has generally been well received. There were no further sources of noise with respect to the measures introduced in that package.

On part 3, which involved hybrid surplus and upstream loans, originally released in August 2011, we received a number of comments, particularly around hybrid surplus and upstream loans, and so there were significant consultations. What has been re-released for the first time in Bill C-48 are amendments, further changes as a result of those consultations, to the upstream loan rules in particular, which, in the main, have been well received by the tax community.

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Adler.

Mr. Caron, you have the floor.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

I have two questions. The second one is for Mr. Harnish. So I will give him time to move up to the table while I ask the first question.

My question has to do with the process. If we go by the Auditor General's report in 2009, the agency was developing an electronic database that was supposed to be implemented at the end of 2009. Where are we in that regard?

[Ted Cook]

I'll respond to that question. In terms of the Auditor General's report, there are two parts to it. I'm talking about the recommendations just with respect to the Department of Finance.

One was to develop a comprehensive database and continue to use it for processing technical amendments. In fact, we did. We internally developed a database. The database has been completed. The database is used to log comfort letters and other technical amendments.

The database and our implementation of it, and in fact our implementation of the Auditor General's recommendations, were subject to a Department of Finance internal audit in the 2011-12 taxation year. That internal audit, which included things like cross-checking our entries in the database and making suggestions in terms of how we can manage the database, found that our view that we had fully implemented the Auditor General's recommendations was substantiated, and, with respect to dealing with the backlog—this is back before we had additional releases of technical amendments—that we had substantially implemented the other recommendations.

I guess what I'd say is that since we received the Auditor General's report and made our response to it, certainly it has been my brief—and certainly senior management has been very clear—to take the recommendations seriously and deal with them. We do have a database in place. We do track our comfort letters. We have a good handle on that. That's why I can talk about the number of comfort letters.

In terms of how many entries there are in the database, there are a lot. Now we're using it for blue-sky potential issues. We try to use it for our forward planning, so it's I think—

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

I have a technical question on clause 195 of the bill, which deals with restrictive covenants. I would like to put things in context by mentioning a decision of the Federal Court of Appeal. When there is a restrictive covenant between two businesses, the Court of Appeal held that the inflow of capital was not taxable.

Following that decision, John Manley, the finance minister at the time, issued a comfort letter stating that the legislative amendments in question would mean that the amount to be received under a restrictive covenant would be normal income for tax purposes, subject to the exception described further on. That comfort letter was included in the technical amendments that were published in 2004, and, if I am not mistaken, in 2006 and 2007.

However, Bill C-48 says quite the opposite. Basically, it says that income derived from restrictive covenants is no longer taxable.

Mr. Harnish, I am asking you to join us at the table because your signature was on the comfort letter as well as Mr. Manley's. In a nutshell, why was all goodwill in restrictive covenants excluded, when the intention seemed to be not to exclude it?

[Kerry Harnish, Special Advisor, Domestic Corporations and Resource Income, Department of Finance]

I'm not sure what you're referring to in “excluded from the clause”. The main clause in the provision provides that if you receive an amount for a restrictive covenant, that will be taxable as income.

The provision does have exceptions for when the covenant is given in the context of the sale of a business, including assets or shares. When there's a sale of a business or shares of a company, the provisions provide that the value of the covenant can be included in the proceeds received for the shares. That would result if the provisions complied with capital gain treatment.

The general thrust of the measure is that if you were to provide a restrictive covenant in the context of a sale of a business, the receipts or the value that relates to the covenant would receive capital gain treatment to the extent that it relates to share sale or asset sale. However, if there were no asset sale or no share sale, the value of the receipts would generally be included in the income as taxable income.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

A very quick yes or no answer...?

[The Chair, Conservative, James Rajotte]

Yes.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

In your opinion, does the content of clause 195 that I have just mentioned correspond to the comfort letter that you and Mr. Manley signed in 2003?

[Kerry Harnish]

I'm not familiar with the comfort letter you're referring to, you would have to bring that to my attention. I don't generally sign comfort letters. That's not my role at the Department of Finance. Other people would be responsible for that. There was a press release back in 2003.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

I am sorry; it was the media release that you co-signed, not the comfort letter.

[Kerry Harnish]

It's quite possible my name was on that press release.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

Thank you.

[The Chair, Conservative, James Rajotte]

Mr. Jean, please, for your round.

[Brian Jean, Conservative, Fort McMurray—Athabasca, AB]

Thank you, Mr. Chair.

I'm interested in a couple of things.

First, it appears that some of these amendments, obviously all technical in nature, have been some time in coming forward. Would that be fair to say? It's been years and years, with recommendations from the industry saying some changes should be made.

[Ted Cook]

I think the first release of technical amendments contained in this bill probably goes back to December 2002.

[Brian Jean, Conservative, Fort McMurray—Athabasca, AB]

In particular, you mentioned the anti-avoidance rules to prevent taxpayers from making upstream loans from foreign affiliates. What's the purpose of these upstream loan amendments in general?

[Shawn Porter]

In effect, it is for the Canadian resident corporation that owns shares in a foreign affiliate, which has earned surplus and is now at a stage where it's repatriating it to Canada. If it makes an upstream loan that remains outstanding to its Canadian corporate parent indefinitely, then the effect and the intent of the upstream loan rule is to treat it as a dividend distribution and the tax consequences follow from that. The exception to that is if the upstream loan is relatively short term, i.e., is repaid within a two-year period, then the tax policy and the rules would respect the loan as a loan.

Usually the tax consequences are to impose additional Canadian tax at that time to reflect the fact that the Canadian tax rate exceeds the foreign tax burden on the earnings that were repatriated. However, in circumstances where the reason for the upstream loan is driven by foreign tax and commercial implications and not Canadian tax planning, and there is underlying exempt surplus in the system, then the effect of the rule would be to treat the upstream loan, if it remained outstanding for more than two years, as a dividend distribution. There would be offsetting deductions, just as there are in the case of any Canadian multinational. When they receive exempt surplus back from their foreign affiliates, we don't impose any additional tax on that.

[Brian Jean, Conservative, Fort McMurray—Athabasca, AB]

So, in essence, it's to avoid what otherwise would be taxable dividends that are not fully offset by deductions under section 113.

[Shawn Porter]

That's correct.

[Brian Jean, Conservative, Fort McMurray—Athabasca, AB]

I see there are two time periods for those transitional relief loans. My understanding is that it's a new rule to collapse back-to-back loans into a new exemption loan between affiliates. Is that fair to say?