House of Commons Hansard #172 of the 39th Parliament, 1st Session. (The original version is on Parliament's site.) The word of the day was income.

Topics

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Liberal

The Speaker Peter Milliken

There being no motions at report stage on this bill, the House will now proceed, without debate, to the putting of the question on the motion to concur in the bill at report stage.

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Conservative

Jay Hill Prince George—Peace River, BC

moved that the bill, as amended, be concurred in at report stage.

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Liberal

The Speaker Peter Milliken

Is it the pleasure of the House to adopt the motion?

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Some hon. members

Agreed.

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Liberal

The Speaker Peter Milliken

(Motion agreed to)

When shall the bill be read the third time? By leave, now?

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Some hon. members

Agreed.

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Conservative

Jay Hill Prince George—Peace River, BC

moved that the bill be read the third time and passed.

Income Tax Amendments Act, 2006
Government Orders

10:05 a.m.

Conservative

Mike Wallace Burlington, ON

Mr. Speaker, it is my pleasure this morning to talk about this income tax amendment bill, Bill C-33, taxation of non-resident trusts, NRTs, as the department likes to call them, and their beneficiaries and of Canadian taxpayers who hold interests in foreign investment entities, or FIEs.

The issue is that Canadians hold a significant portion of their investments abroad. In 2005 Canadians owned $282 billion worth of foreign stocks, bonds and money market instruments. In part, globalization and other factors, such as the need for portfolio diversification, explain this phenomenon.

Some foreign investments made by Canadian residents are, however, thought to be motivated by tax considerations. The use of foreign investment entities and non-resident trusts rather than Canadian-based investment vehicles can result in lower taxes for Canadian residents; an issue that we are dealing with at the finance committee.

The distribution of income from trusts, regardless whether the trust is located in Canada, is subject to Canadian taxes when the beneficiary is a Canadian resident. Furthermore, trusts that are resident in Canada must also pay Canadian taxes on undistributed income. Non-resident trusts, however, are generally not subject to Canadian taxes on their undistributed income.

If a non-resident trust is located in a jurisdiction that applies little or no taxes on undistributed income, the trust could potentially accumulate income and capital on a tax-free basis. As a result, Canadian investors in such non-resident trusts could benefit from deferred taxes as long as their funds are kept in trust.

Distributions made out of the initial capital of a trust, regardless whether the trust is located in Canada, are not subject to taxes in Canada. When a trust is located in a jurisdiction that does not apply taxes to undistributed income, taxes could be avoided altogether by transforming accumulated income into the capital of the trust, which would then be transferred to Canadian investors on a tax-free basis.

As we can see, this bill really deals with a number of issues in terms of Canadians paying their fair share of taxes.

In a manner similar to trusts, investment funds located in Canada are subject to Canadian taxes on income and capital gains accumulated in the fund on a yearly basis. Furthermore, investors in investment funds are subject to taxes on income and capital gains allotted to them.

FIEs, however, are not subject to Canadian taxes. If a foreign investment entity faces little or no taxes in the country of residence, investors in the fund could benefit from deferred taxes on undistributed income and capital gains.

Furthermore, upon the disposition of their interest in the fund, investors in FIEs may be able to transform income into capital gains, which have a 50% inclusion rate in Canada.

It is a tax avoiding system. This bill does its share in terms of trying to end some of those small loopholes that have been brought to our attention, mainly by those who are in the tax preparation business.

The current legislation, which has existed since 1972, the Income Tax Act, has contained provisions that are meant to limit the use of FIEs and NRTs for tax avoidance purposes. Section 94 of the act deals with NRTs, while section 94.1 deals with FIEs.

Section 94 of the Income Tax Act sets out conditions under which a NRT would be subject to Canadian taxes. Generally, two conditions must be met: there must be a Canadian beneficiary and there must be a Canadian contributor.

The beneficiary condition is satisfied if any of the following have a right, directly or indirectly, to any income or capital associated with the NRT: a person resident in Canada, a corporation or trust with which a person resident in Canada is not dealing at arm's length, and/or a controlled foreign affiliate of a person resident in Canada.

The contributor condition is satisfied if the NRT acquired property, directly or indirectly, from a person who meets each of the following requirements: the person is a beneficiary, as I have described before, a person related to that beneficiary or the uncle, aunt, nephew or niece of that beneficiary; the person is resident in Canada at any time during an 18-month period before the end of the NRT relevant taxation year; and finally, in the case of an individual, he or she has resided in Canada for an aggregate period of more than 60 months before the end of the NRT relevant taxation year.

Once these two conditions are met, the manner in which Canadian taxes are applied depends on whether the NRT is a discretionary trust, that is, a trust where the trustee has discretion regarding how much of the trust income or capital is paid to beneficiaries.

In the case of a discretionary trust, the NRT is deemed a resident of Canada for the purpose of part 1 of the Income Tax Act. Its taxable income is generally the total of its taxable income earned in Canada and what its foreign accrual property income, that is, passive income earned by a foreign subsidy, would be if it were a corporation.

In the case of a non-discretionary trust, if the Canadian beneficiary holds at least 10% of the market value of interests in the trust, the trust is deemed to be a corporation that is a controlled foreign affiliate of that beneficiary. The beneficiary is then required to include, in income, his or her pro rata share of the trust's foreign accrual property income. If the Canadian beneficiary holds less than 10% of the market value of all interests in the trust, the beneficiary may be subject to Canadian taxes under the rules governing FIEs.

As we can see, this is rather technical in its nature and has been around for a little while, which I will talk about near the end of my speech. I wanted to make sure everybody understood that this is a technical bill with some needed minor changes to make the system work more appropriately.

According to the Department of Finance, these rules are not fully effective and relatively little income is taxed in Canada. We need to make some changes and that is what this bill does. Several tax haven jurisdictions, which we have been studying in the finance committee, have trust laws that make it relatively easy to disguise the fact that a NRT has a Canadian resident beneficiary. Without a known Canadian beneficiary, current laws to limit the use of NRTs for tax avoidance purposes are difficult to enforce.

I will now discuss foreign investment entities or FIEs. Section 94.1 of the Income Tax Act is intended to prevent taxpayers from using FIEs to defer or eliminate taxes. This section applies if a Canadian taxpayer holds an interest in a foreign entity that derives its value, directly or indirectly, from portfolio investments in specified properties, such as shares or real estate.

Furthermore, for section 94.1 to apply, it must be shown that one of the main reasons for the investment in FIE is to reduce or defer tax liability that would otherwise be incurred if the income accrues directly to the taxpayer. If the conditions specified in section 94.1 are met, a notional annual allocation of income is imputed to the taxpayer and is subject to taxation. The amount of income imputed to the taxpayer is determined by multiplying the cost of the taxpayer's interest in the fund by a prescribed interest rate as calculated in the income tax regulations.

As mentioned in budget 1999, and I will make the point later on that this actually began in 1999 under a previous Liberal government, this provision has rarely been applied because, and this is why we are making changes, Canadian authorities often lack the relevant data and challenges exist with establishing that the acquisition of the interest in the FIE is motivated by tax avoidance purposes.

We had this criteria that one had to be in a tax avoidance which was very difficult under the current act to make that happen. The bill makes some minor changes to the Income Tax Act to assist our bureaucracy, which looks after the tax issues, and make it a little easier for them to calculate and find out whether people are actually avoiding taxes in this method.

Furthermore, when the provision is applied the amount computed to the taxpayer's income is sometimes criticized that it is arbitrary and not necessarily correlated to actual income generated by the FIEs. Therefore, it was hard to determine what that actual income level was.

What are the legislative proposals contained in Bill C-33? Part 1 of Bill C-33 would create a new taxation regime for investors in non-resident trusts, NRTs, and foreign investment entities, FIEs, in order to respond to perceived gaps in the current provisions of the Income Tax Act.

Bill C-33 would make it harder for Canadian resident investors in non-resident trusts and foreign investment entities to avoid or eliminate Canadian taxes on their income from their investments.

The proposed rules are more complex, of course, as the tax system seems to get that way. They are lengthier and more far-reaching than the current rules. The senior levels of the finance department and the tax department said at the committee that these rules were needed for them to be actually effective.

The proposed regime was first introduced in budget 1999. Let us say it is 2007 now and we have the bill in front of us. There has been a number of announcements from 1999 and June 2000, September 2000, August 2001, October 2002, December 2002, October 2003, February 2004 and July 2005. Therefore, the department and the previous government had made a number of announcements but we really did not get it into law. Not everything needed to be in law but a number of the provisions must be to be effective and that is what we are doing today under this bill.

To be frank, we had some limited discussion at committee on this as all the opposition parties were very supportive of moving this forward, which is why Bill C-33 is in front of us today.

For non-resident trusts, in general, Bill C-33 would, for tax purposes, treat non-resident trusts as if they were trusts resident in Canada. Therefore, a contribution, whether a loan or transfer of funds for property, was made to the NRT by an entity resident in Canada or there is an entity that is resident in Canada and is a beneficiary under the NRT. We are trying to make some changes there. If the NRT fails to pay Canadian taxes, each Canadian resident contributor or each resident beneficiary would be jointly liable for the Canadian tax.

What we are saying is that if one meets those two criteria, someone will be paying the tax, either the beneficiary or the one who is contributing to make that happen or they can split that tax burden and pay it that way.

The amount of tax liable for the beneficiary of the trust would, however, be limited to the beneficiary recovery limit and the relief would be available to the contributor whose contribution to the NRT is insignificant. Therefore, there is some flexibility when we discover that one needs to be paying Canadian taxes on these non-residential trusts but who makes the actual payment can be split but it will depend on what that individual's liability is.

On foreign investment entities, the purpose of foreign investment entity rules under Bill C-33 would apply to all Canadian taxpayers except for new immigrants to Canada. I did ask at committee what the words “new residents” to Canada meant and I was told by the officials that this law needed be fair to our new Canadians. People who have come to Canada in the last little while may have trusts and other investments that would apply to these rules and that they would bring with them. The rules that would apply are that they would be tax free and not subject to these new rules under Bill C-33 for a period of five years of their residency. I think that was fair and I am glad t we were able to put that in the bill. That was an issue that I did not have an answer for and they were able to find it. I appreciate that clarification.

Also, partnerships with members resident in Canada would be required to allocate FIE income to those members. Taxpayers would be taxed based on their equity participation, for example, a participating interest or a particular interest in a trust or other specified type of entity, in a FIE, on their investment in an entity if the investment return from the entity tracks the investment return on certain properties or on their interest in certain foreign insurance policies. We are basically looking at what level of participation individuals have in these FIEs and that would determine their liability.

However, taxpayers would not be taxed on their participation if an “exempt interest”. An exempt interest of a taxpayer in a non-resident entity would generally include, but not be limited to, an interest in: a non-resident entity that is a controlled foreign affiliate of the taxpayer or a partnership; certain property held by financial institutions; and a widely held FIE listed on a prescribed foreign stock exchange if it is reasonable to conclude that the taxpayer had no tax avoidance motives. We must remind ourselves that that is what we are trying to overcome. It is tax avoidance and if a taxpayer can show that was not the purpose of an investment. these rules would not apply.

A FIE that is governed, formed and organized under the laws of the country with which Canada has entered into a tax treaty, and there are some other issues with that. We have tax treaties with a number of countries around the world. We also have tax treaties with the U.S. It would be up to the taxpayer to show that it is the case and that it was not a tax avoidance motive again, and that is the issue.

In most circumstances, and in particular when the taxpayer has insufficient information to use other options, the taxable income of the taxpayer in respect of a participating interest in a FIE would be determined annually by multiplying the cost value of the taxpayer's interest by a prescribed interest rate. If the taxpayer has sufficient information to company, he or she would be able to elect to compute taxable income in respect of a participating interest in a FIE based on the annual movement in the fair market value of that interest. Provided that conditions are met, taxpayers would also be able to elect to treat a non-resident entity as a controlled foreign affiliate, in which case they would be required to include their annual share of the non-resident entity's income on their taxable income for that year.

I know that was exciting for everybody in the House today and those watching at home. This is a very technical bill and it is fairly large. It has lots of wording changes and so on but, in a nutshell, it includes changes to non-residents trusts and foreign investment entities, as well to be consistent with the Income Tax Act. All we are looking for and all we have been dealing with, not just with this part but with other studies that the finance committee is doing, is fairness in the tax system in terms of making sure that those who are required to pay Canadian taxes are paying their fair share of taxes.

I am very supportive of the other opposition parties on this particular tax issue. The changes to NRTs and FIEs would tighten the tax rules around tax havens and respond directly to concerns raised by the Auditor General. We did not come out with this on our own. The Auditor General in her reports indicated that this was an area that needed to be looked at and we did. The previous Liberal government made attempts to get it here but we are actually getting it done. We are at third reading, which is excellent. What needed to become law will become law. We will be tightening the offshore tax havens as viewed positively by taxpayers and the Auditor General. Some stakeholders will likely be not pleased because they have money in these tools but it is important that every taxpayer pays his or her fair share.

These proposals have been released for over a year. We did make some new changes. Obviously, as time passes we find new issues, and the response has been relatively positive. Those who are intimately familiar with this are normally tax lawyers and tax accountants who deal with individuals who have this and they have indicated to us in terms of what needed to be tightened up and what did not and how to clarify the system. The bill is quite technical, but it is an important piece of legislation.

Mr. Speaker, do I have some time left?

Income Tax Amendments Act, 2006
Government Orders

10:25 a.m.

Liberal

The Speaker Peter Milliken

No, the hon. member really does not have any time left but I know he will get some when he gets questions and comments.

Income Tax Amendments Act, 2006
Government Orders

10:25 a.m.

Conservative

Mike Wallace Burlington, ON

I can continue to speak if you like, Mr. Speaker.

Income Tax Amendments Act, 2006
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10:25 a.m.

Liberal

The Speaker Peter Milliken

I would like that, of course, but the time has expired. If the hon. member has concluded his remarks, I will call for questions and comments and give him another chance.

Questions and comments. The hon. member for Jeanne-Le Ber.

Income Tax Amendments Act, 2006
Government Orders

10:25 a.m.

Bloc

Thierry St-Cyr Jeanne-Le Ber, QC

Mr. Speaker, I would like to thank my colleague for his energetic and exciting presentation on the thrilling subject before us today.

This subject was discussed at length during meetings of the Standing Committee on Finance. This is a very technical, long and complex bill. We are all in agreement about this bill and about something else that happened in the Standing Committee on Finance, which was the series of very complex amendments to a complex bill that were introduced at the last minute. In order to do their job well, the members of the Standing Committee on Finance decided to wait a while before completing their review of this bill. They wanted to take the time to examine the series of amendments introduced by the government in greater detail.

I would like my colleague, who is a member of the governing party, to tell me if he is now quite sure that this bill needs no further amendment and that it is now complete. Now that it is about to be passed, have they made up their minds about all of the issues surrounding this bill?

Income Tax Amendments Act, 2006
Government Orders

10:25 a.m.

Conservative

Mike Wallace Burlington, ON

Mr. Speaker, I thank my colleague who sits on the finance committee representing the Bloc party and who does an absolutely fabulous job. I do not always agree with the member but he represents his constituency well by actively participating in all the meetings.

On the actual amendments he asked about, he is right. A number of amendments were presented at committee, and rightly so. Committee members told the finance staff that we wanted a different method. We were sending a message that even though these were technical amendments, that they were important to all Canadians and that it was important as committee members that we understood that. The finance staff did their homework and put this together.

I can stand here and say that, based on the input from the committee members and the staff at the finance department, I think this is the end of the amendments on this. I do not believe there are any more. However, I do want to caution that as time changes and new financial tools are developed, and in this case around the world, that there may be changes in the future that will need to be addressed based on the creativity of the finance markets to find other ways to avoid tax.

This bill is really about trying to fill some gaps and loopholes, and I do not like using that word, but opportunities that people have found through the tax system that allow them to avoid tax. These amendments go directly to that. We on the government benches are not planning any further amendments to the bill at this time but I cannot say that will never happen as the times change and new opportunities present themselves to investors. In my view, with these new opportunities, the tax department would need to find ways to ensure we are not taken advantage of.

Income Tax Amendments Act, 2006
Government Orders

10:25 a.m.

Liberal

Paul Szabo Mississauga South, ON

Mr. Speaker, the member uses the phraseology “paying a fair share of taxes”. I think the member is quite right when he says that the marketplace is very creative. We tend to lag behind in being able to respond quickly to marketplace changes.

The member is probably aware of one of these things we have seen, although I am not sure if Bill C-33 touches on it. Quite honestly, I have not examined the bill in its fullness, but the member is aware that as a consequence of the change in government policy with regard to the taxation of income trusts, there have been, I understand, about 10 income trusts which have been purchased by foreign private equity. As a consequence, they have been able to structure their affairs so that they no longer pay Canadian taxes.

In fact, it is estimated that about $6 billion of revenue that the Government of Canada formerly had collected from them will be lost each and every year because of this structuring of foreign private equity investors. Is the member satisfied that we have been able to identify and respond to some of the emerging financial techniques that have come forward, such as stapling of debt and equity, et cetera?

I believe this poses a serious threat to the taxation revenue of Canada. It may be fair, but it is not really in the best interests of Canada to lose $6 billion of revenue.