Author: Kathryn Walker

The Unified Approach: Another COVID-19 Casualty?

The COVID-19 pandemic has revealed the fault lines of the globalized economy and triggered a rise of protectionist trade policies.  The latest chapter in this trend away from a multilateralism is the U.S. withdrawal from OECD negotiations over the tax challenges of the digitalisation of the economy, which in turn has provoked European nations to retreat to unilateral solutions.

The Globalized Economy and COVID-19

In the period between the end of the Second World War and the on-set of the COVID-19 pandemic, the globalization of production created deep economic interdependencies, binding domestic economies to a global supply chain. Consequently, when the COVID-19 pandemic broke, the structure of global trade was such that a disruption in one link of the supply chain created effects all down the line.

In March 2020, the six nations hit hardest by COVID-19 were the U.S., China, Korea, Italy, Japan, and Germany.  At the time, these six nations accounted for 55 percent of world supply and demand, 60 percent of world manufacturing and 50 percent of world manufacturing exports.[1]  China, where the virus first emerged, was largest contributor to global trade, the “workshop of the world,” making up 41 percent of world manufacturing exports and 20 percent of global trade in manufacturing intermediate products.[2] Due to the globalization of production, when the pandemic decreased production in these six nations, and China in particular, the effects reverberated globally.

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A new global taxing right: Report on the “Statement by the OECD/G20 Inclusive Framework on BEPS on the Two-Pillar Approach to Address the Tax Challenges Arising from the Digitalisation of the Economy”

In January 2020, the OECD/G20 Inclusive Framework on BEPS, a group of 137 countries including Canada, endorsed a statement, which affirmed their commitment to build a global solution to the tax challenges created by the digitalisation of the economy.  This work has been underway since 2015 and is slated to be finalized by the end of 2020.

The statement, itself a political expression of on-going commitment, was accompanied by additional documents which, provide an outline of the “architecture” of the currently agreed upon Unified Approach under Pillar One, a programme of work descriptions, details on the multinational enterprises (“MNEs”) that will be impacted by the initiatives under Pillar One, and a progress report on Pillar Two work (collectively the “January 2020 Statement”).  The biggest development presented in this set of documents is the architecture of the Pillar One solution, including a clarified explanation of a new taxing right for market jurisdictions.

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Work From Home Tax Relief – $500 Non-Taxable Reimbursement for Personal Computer Equipment

On April 22, 2020, the Canada Revenue Agency (“CRA”) indicated that it would allow special favorable tax treatment to employees working from home during the COVID-19 crisis.[1]  

In particular, the CRA will accept that the reimbursement of an employee, for amounts spent on personal computer equipment to enable the employee to work from home, mainly benefits the employer. As a result, the reimbursed amount will not be a taxable benefit to the employee.  This relief is to apply for amounts up to $500 and only in respect of amounts for which the employee provides receipts.

In the normal course, an employer can provide an employee with an allowance for home office expenses, which is a taxable benefit for the employee.[2]    Alternatively, the employer can decide to reimburse an employee expense upon presentation of an invoice, in which case the reimbursement will be a taxable benefit if it primarily benefits the employee rather than the employer.[3]  Usually if an employee receives a reimbursement for home office equipment, it is characterized as a personal expense, primarily for the employee’s benefit, and therefore a taxable benefit.

The CRA’s announcement does not change the tax consequences for employers.  An employer providing an employee with reimbursements for home office expenses, even certain capital expenses such as the acquisition of tools, will normally be entitled to deduct the full amount of the reimbursements as a business expense, provided the amount is reasonable in the circumstances.[4]


[1]       CRA Views 2020-0845431C6: Taxable benefit – telework / Taxable benefit – Section 6 (1) a), 6 (1) b), April 22, 2020.

[2]       See CRA Interpretation, 2011-0402581I7 — Allowance for workspace in the home, July 12, 2011. See also, CRA, Interpretation Bulletin, IT-352R2 — Employee’s Expenses, Including Work Space in Home Expenses, August 26, 1994.

[3]       See CRA, Tech Interp, 1999-0013955 — Construction and expenses — workspace, February 3, 2000.

[4]       Ibid.

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Employee Home Office Expenses – Allowances, Reimbursements and Deductibility

With the increase in working at home arrangements due to current events, employers and their employees may have questions about the tax treatment of home office expenses for these employees.

Generally, an employer can compensate an employee for home office expenses by way of an allowance or a reimbursement. An employee can also be given an “accountable” advance which is treated as a reimbursement assuming that the employee can provide itemized receipts and the balance is returned to the employer.

If an employee receives an allowance or if he or she pays for the expenses out-of-pocket, then the expenses may be deductible subject to certain requirements discussed below. If an allowance or reimbursement is considered a taxable benefit and not deductible to the employee, the employer can mitigate the cost to the employee by compensating the employee for the additional tax but will have to do so on a “gross up” basis as paying an employee’s tax is also itself a taxable benefit.

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Alta Energy: FCA Confirms that Treaty Shopping is not Abusive (for now …)

On February 12, 2020, in Canada v Alta Energy Luxembourg S.A.R.L. (2020 FCA 43), the Federal Court of Appeal (“FCA”) unanimously held that the general anti-avoidance rule (“GAAR”) did not deny a capital gains exemption claimed by a Luxembourg holding company under the Convention between the Government of Canada and the Government of the Grand Duchy of Luxembourg for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and on Capital (the “Treaty”) following a disposition of “taxable Canadian property” that consisted of shares of a wholly-owned Canadian subsidiary that principally derived its value from “Canadian resource property”.

Although the formation of the Luxembourg holding company and its subsequent acquisition of the subsidiary’s shares were tax-motivated, the FCA stated that treaty shopping, in itself, does not trigger the application of the GAAR. It found that the text, context and purpose of the relevant Treaty provisions,[1] as mutually chosen by Canada and Luxembourg, were not frustrated by the avoidance transactions at issue. It concluded that the tax-free result was therefore appropriate in the circumstances.

Background Facts

Alta Energy Partners, LLC (“Alta US Holdco”), a Delaware limited liability company, formed Alta Energy Partners Ltd. (“Alta Canada”) for the purpose of developing shale oil and natural gas properties in Alberta.

A restructuring was implemented after it was discovered that the US holding company structure exposed foreign investors to Canadian income tax. To fix this, ownership of Alta Canada was transferred to a newly-formed Luxembourg holding company, Alta Luxembourg S.A.R.L. (“Alta Lux”).[2] A year later, Alta Lux sold the shares of Alta Canada to a third party at a substantial gain.

It was not disputed that the shares of Alta Canada principally derived their value from Canadian resource property and, as a result, were “taxable Canadian property”. However, Alta Lux took the position that the capital gain was not taxable in Canada due to the exemption set out in Article 13(4) of the Treaty, which provides as follows:

4. Gains derived by a resident of a Contracting State from the alienation of:

(a) shares (other than shares listed on an approved stock exchange in the other Contracting State) forming part of a substantial interest in the capital stock of a company the value of which shares is derived principally from immovable property situated in that other State; […]

may be taxed in that other State. For the purposes of this paragraph, the term “immovable property” does not include property (other than rental property) in which the business of the company […] was carried on; and a substantial interest exists when the resident and persons related thereto own 10 per cent or more of the shares of any class or the capital stock of a company.

The Canada Revenue Agency reassessed Alta Lux on the basis that the Treaty exemption did not apply and raised the GAAR in the alternative.

Tax Court of Canada

At the Tax Court of Canada, the Crown argued that the Treaty exemption did not apply because Alta Canada did not carry on activities in its shale property, as it was generally set aside for future drilling and extraction. Failing that, it argued that the exemption should be applied on a licence-by-licence basis[3], with the exemption only qualifying for those sections of the resource reserve that had drilling and extraction activities.

The Court dismissed these arguments, largely on the basis of a government position paper that contradicted the Crown’s restrictive interpretation, and the commercial reality of resource exploration and development. Accordingly, it held that Alta Lux was entitled to claim the exemption under Article 13(4) of the Treaty.

With respect to the GAAR, the parties agreed that the restructuring of Alta Canada under Alta Lux resulted in a tax benefit and was an avoidance transaction in the sense that it could not be said to have been reasonably undertaken or arranged primarily for a bona fide purpose other than to obtain a tax benefit. The only dispute was whether the restructuring resulted in a misuse or an abuse of the Income Tax Act (Canada) (the “Act”) and/or the Treaty.

The Crown argued in the affirmative because Alta Lux (i) was created for the sole purpose of avoiding Canadian income tax on the capital gain; (ii) was merely a conduit used to pass on the tax exemption to its ultimate shareholders who were not entitled to claim Treaty benefits themselves; and (iii) paid no tax in Luxembourg.

The Court ruled that there was no misuse or abuse of the Act because, having found that the Treaty exemption applied, the Act operated as intended (i.e., the Alta Canada shares were “treaty-protected property” and therefore not taxable in Canada).

The Court also held that the Treaty provisions were not misused or abused. It stated that there could be no misuse or abuse of the Treaty exemption in Article 13(4) if Alta Lux was a resident of Luxembourg for the purposes of the Treaty (which the Crown did not challenge) and all of the other requirements of the exemption were met. The Court also stated that the absence of foreign tax paid was not relevant to the GAAR analysis, and there was no evidence to support the Crown’s claim that Alta Lux was acting as agent (i.e., a conduit) for its ultimate shareholders.

Federal Court of Appeal (“FCA”)

The only issue before the FCA was whether the GAAR applied to Alta Lux’s use of the Treaty exemption.

The FCA rejected the Crown’s suggestion that there had been an abuse of the Treaty, on the basis that the purpose of the Treaty exemption was to encourage entities who have the potential to realize income and have commercial and economic ties in Luxembourg to invest in Canada.

First, it did not accept that a Luxembourg taxpayer must make an investment in a Canadian company in order to claim the exemption. Second, the FCA did not accept that a taxpayer may only access the exemption if it actually pays tax on the relevant capital gain in its country of residence. And third, the FCA did not accept that the exemption should only benefit Luxembourg residents who have commercial or economic ties to Luxembourg.

The FCA held that the object, spirit and purpose of the Treaty exemption are no broader than its text, such that a Luxembourg entity will qualify for the exemption if: (a) it is a resident of Luxembourg for the purposes of the Treaty, (b) it holds a “substantial interest” in the corporation the shares of which are disposed of, and (c) the value of the corporation’s shares is principally derived from immovable property (other than rental property) situated in Canada in which the corporation’s business is carried on. Alta Lux having met all of these conditions, the FCA dismissed the Crown’s appeal.

Of equal importance, the FCA also commented on the Crown’s perceived abuse of Alta Lux’s treaty shopping. Although it acknowledged that the Department of Finance has signalled that it would take steps to curb this practice, it found that no such steps had been formally taken during the period in dispute. The FCA further stated that treaty shopping is not, in itself, abusive. In this regard, it cited with approval the TCC’s decision in MIL (Investments) S.A. (2006 TCC 460, aff’d by 2007 FCA 236), which said in part that “[t]here is nothing inherently proper or improper with selecting one foreign regime over another” and “the shopping or selection of a treaty to minimize tax on its own cannot be viewed as being abusive”. Instead, “[i]t is the use of the selected treaty that must be examined.” Having found that Alta Lux used the Treaty (and, in particular, the exemption under Article 13(4)) as the contracting states had intended, the FCA Court concluded that the application of the GAAR could not be justified in the circumstances.

Commentary

Although this decision is nothing short of a resounding victory for the taxpayer, its long-term practical impact is questionable.

Importantly, this decision was made without reference to the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the “MLI”) and its principal purpose test (“PPT”), neither of which were in effect at the time of the transactions in question.

The PPT is a broad anti-avoidance rule which provides that a benefit under a tax treaty shall not be granted if it is reasonable to conclude that obtaining the benefit was one of the principal purposes of the relevant arrangement or transaction, unless it is established that granting the benefit would be in accordance with the object and purpose of the relevant provisions of the treaty.[4]

Furthermore, the MLI provides that all “Covered Tax Agreements” will be amended to include the following text (which expressly prohibits treaty shopping) in their preamble:[5]

“Intending to eliminate double taxation with respect to the taxes covered by this agreement without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance (including through treaty-shopping arrangements aimed at obtaining reliefs provided in this agreement for the indirect benefit of residents of third jurisdictions),”. [Emphasis added.]

The MLI became effective for Canada’s tax treaties with many countries, including Luxembourg, (a) for withholding taxes on January 1, 2020, and (b) for other taxes (including capital gains taxes), for taxation years beginning on or after June 1, 2020 (which, for calendar year taxpayers, would be January 1, 2021).

The MLI raises questions about its impact on the outcome of the FCA’s decision and beyond, including the following:

  • If the MLI had been in effect at the time of the Alta Canada sale, would the result have been the same?
  • If not, what if the Luxembourg holding company structure had been implemented from the outset?
  • Will foreign courts and tax authorities apply the PPT in a consistent manner across a common set of facts?

Although the FCA’s decision may significantly curtail the Minister’s ability to challenge treaty shopping under the GAAR moving forward, the same cannot be said with respect to the PPT. The impact of the MLI, however, may not be known until many years from now, once tax assessments make their way through court systems in Canada and abroad.[6] In the meantime, taxpayers may need to rely on rulings and other administrative positions for guidance.


[1]       Article 1 (Persons Covered), Article 4 (Resident) and Article 13 (Capital Gains).

[2]       The transfer was taxable but when it occurred there was no accrued gain on the shares of Alta Canada.

[3]       Each licence gave Alta Canada rights to specific sections of the resource reserve.

[4]       MLI, Article 7(1).

[5]       MLI, Article 6(1).

[6]       The GAAR, which was introduced in Canada in 1988 and was first adjudicated by the Supreme Court of Canada in 2005 in Canada Trustco Mortgage Co., may offer a useful timeline in this regard.

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