New Canadian payroll withholding tax exemption

Taxpayers must fulfil certain criteria to qualify for the new payroll withholding tax exemption, including stipulations on time spent working in Canada by non-resident employees each year

Canada generally taxes the employment income of a non-resident person that is earned in Canada. Under the Canadian domestic income tax legislation, every person (including a non-resident employer) who pays salary, wages or other remuneration is required to withhold and remit amounts determined in accordance with prescribed rules under the Income Tax Act (Canada) (the Act) and Income Tax Regulations (the Regulations). Pursuant to Regulation 104(2)(b), an employer does not have to withhold amounts from a payment in respect of an employee who was neither employed nor resident in Canada at the time of payment except in respect of remuneration reasonably attributable to the duties of any office or employment performed or to be performed in Canada by the non-resident employee.

Therefore, a non-resident employer is required to withhold and remit amounts on account of remuneration paid to any employee who performs employment services in Canada even if the employee is a non-resident of Canada. The withholding on account of potential Canadian income taxes is required even if the non-resident employee is exempt from Canadian tax under the provisions of an applicable tax treaty. For example, Article XV(2) of the Canada-US Income Tax Convention provides an exemption from Canadian tax on employment income earned by US resident employees. If the non-resident employee is exempt from Canadian tax under the provisions of an applicable tax treaty on his or her employment income earned in Canada, the amounts withheld and remitted are refundable to such employee by filing a Canadian income tax return.

An employer is not required to withhold and remit on employment income paid to a non-resident employee if the employer has obtained a waiver (commonly referred to as a 'Regulation 102 Waiver') from the Canada Revenue Agency (CRA). However, Canada's existing waiver system has been criticised as inefficient because waivers are granted only in respect of specific employees for a specific time period. The application process for receiving a waiver under the existing system is complex and can be time-consuming.

To deal with these inefficiencies and reduce the administrative burden on employers and the CRA, draft legislation has been introduced which provides a new exemption from the withholding and remittance requirements on payments of remuneration to non-resident employees. The proposed legislative amendments were released on July 31 2015; if enacted (as is largely expected), the proposed amendments will be effective for payments made to qualifying non-resident employees after 2015.

The exemption from the withholding obligation on employment income under the draft legislation is only available if the payments of remuneration are made by a 'qualifying non-resident employer' to a 'qualifying non-resident employee'.

An employee is a 'qualifying non-resident employee' in respect of a payment if the employee:

• is resident in a country with which Canada has a tax treaty at the time of the payment;

• is not liable to Canadian income tax in respect of the payment because of that tax treaty; and

• either: (i) works in Canada for less than 45 days in the calendar year that includes the time of payment; or (ii) is present in Canada for less than 90 days in any 12-month period that includes that time. For this purpose, days worked in Canada includes only days during which the employee is physically present in Canada and paid by his or her employer for the time spent in Canada.

With respect to condition (c) of the definition of 'qualifying non-resident employee', it is important to note that there is a disconnect between the number of days that the employee can be present in Canada for purposes of satisfying the test as a qualifying non-resident employee and the maximum number of days that the applicable tax treaty uses for purposes of being exempt from Canadian tax on employment income. For example, Article XV(2) of the Canada-US Income Tax Convention exempts an employee from Canadian tax on his or her employment income if he or she is present in Canada for a period (or periods) that is less than, in the aggregate, 183 days in any 12-month period. Thus, a non-resident employee that qualifies for the benefit of the Canada-US Income Tax Convention and is present in Canada for 100 days in a 12-month period may qualify for the exemption under the tax treaty but would not be considered a qualifying non-resident employee for the purposes of the newly-proposed domestic exemption. As a result, such employee's Canadian employment income would still be subject to Canadian payroll withholding taxes even though it is ultimately exempt from Canadian tax under the treaty. In these circumstances, the non-resident employee would have to apply for a Regulation 102 Waiver under the existing regime or would be subject to the payroll withholding and subsequently claim a refund, if any, on filing a Canadian income tax return.

To be a 'qualifying non-resident employer', an employer must:

• be resident in a country with which Canada has a tax treaty; and

• be certified by the CRA at the time of the payment to the qualifying non-resident employee.

For an employer that is a partnership, at least 90% of the partnership's income for the fiscal period that includes the time of the payment must be allocated to persons that are resident in a country with which Canada has a tax treaty.

An employer may choose to be certified for the new exemption. Even where all of the conditions would be met, a non-resident employer may choose not to apply for the certification and instead may choose to either withhold and remit Canadian payroll taxes or obtain waivers under the existing regime for its employees.

If an employer chooses to be certified for the new exemption, the employer must apply in prescribed form and satisfy the CRA that it is resident in a country with which Canada has a tax treaty and that certain other conditions established by the CRA on the form have been met. The CRA may revoke a certification issued to an employer if the employer no longer meets the conditions.

On January 12 2016, the CRA released the prescribed certification form, RC473 – Application for non-resident employer certification. The form requires information relating to the following:

• The non-resident employer's industry (for example, mining, oil and gas extraction, transportation);

• The type of services the non-resident employee will be providing in Canada (for example, installation of equipment, attending meetings with subsidiaries, consulting services); and

• Whether the non-resident employer is sending non-resident employees to Canada because of a service contract that the employer has in Canada.

The CRA notes the following important information on the new form:

• The application for certification should be received by the CRA at least 30 days before a qualifying non-resident employee starts providing services in Canada;

• A certification will be valid for up to two calendar years;

• The non-resident employer should track and record: (i) the number of days each qualifying non-resident employee is either working in Canada or is present in Canada; and (ii) the income attributable to those days (or any other criteria relevant to applying the treaty exemption); and

• The non-resident employer should make its books and records available in Canada for inspection by the CRA for the purpose of administering the certification and withholding requirements.

A non-resident employer should note that it will continue to be liable for withholding on Canadian payroll in respect of its non-resident employees performing employment services in Canada if, though certified, it does not meet the conditions set out above. However, no penalty will apply to a qualifying non-resident employer for failing to withhold in respect of a payment if, after reasonable inquiry, the employer had no reason to believe, at the time of payment, that the employee did not meet the conditions for being a 'qualifying non-resident employee'.

Additionally, the new waiver system does not exempt a qualifying non-resident employer from its reporting requirements under the Act with respect to amounts paid to its employees. For example, the non-resident employer should complete and file the T4 Summary and Information Return (subject to a $10,000 de minimis exception test being met) and the applicable Canadian income tax returns for the calendar years under certification. Further, the issuance of a certification by the CRA that an employer is a qualifying non-resident employer does not affect the final determination of the Canadian tax liability of any non-resident employee.

It is important to note that a non-resident employer may still be required to withhold Canada Pension Plan (CPP) and/or employment insurance (EI) premiums in respect of employment services performed in Canada by non-resident employees. Generally, CPP contributions should not be required if the employer does not have a permanent establishment in Canada or if the employee has a certificate of coverage under a social security agreement between Canada and the country of residence of the employer. Similarly, EI premiums are generally not required if the employee is covered under a similar programme in his or her country of residence while working in Canada.

Non-resident employers must allow the Canadian authorities to inspect their records

The definition of 'qualifying non-resident employee' indicates that the new Canadian payroll tax withholding exemption is intended to provide relief in circumstances where a non-resident employee is sent to Canada for a relatively short amount of time; that is, to qualify for the exemption, the employee has to work in Canada for less than 45 days in a calendar year or be present in Canada for less than 90 days in any 12-month period. While this requirement restricts the availability of the new exemption, the new exemption still may be beneficial to non-resident employers whose non-resident employees do not need to spend much time in Canada, as it may be easier and faster to be certified for the new exemption than it is to obtain a waiver under the existing system for the non-resident employees coming to Canada.

A non-resident employer who chooses to be certified for the new exemption is reminded that it must, among other things, track and record the number of days that each qualifying non-resident employee is either working in Canada or is present in Canada and make its books and records available in Canada for inspection by the CRA. It remains to be seen whether a non-resident employer making itself known to the CRA by applying for certification will result in closer audit scrutiny of the employer's own tax position in Canada, including withholding on service fees paid to it for services rendered in Canada.

Carrie Aiken Partner, Calgary Blake, Cassels & Graydon Direct: +1 403 260 9775 Fax: +1 403 260 9700 carrie.aiken@blakes.com Carrie practises income tax law, and her practice focuses on advising and planning the tax aspects of domestic and international transactions, including mergers and acquisitions, corporate reorganisations, divestitures and investments by private equity and pension funds. Carrie advises international companies and state-owned enterprises looking to invest, commence or acquire business operations in Canada. Carrie also advises public corporations, trusts and investment funds in connection with a wide range of public share and debt offerings, including cross-border financings. Carrie's practice includes advising on the settlement of tax disputes and tax litigation. Carrie is the past-president and a director of the Canadian Petroleum Tax Society. She presents at numerous national and regional conferences and has authored several articles. Carrie is recognised in International Tax Review's Women in Tax Leaders 2015.

Daniel Jankovic Associate, Calgary Blake, Cassels & Graydon Direct: +1 403 260 9725 Fax: +1 403 260 9700 dan.jankovic@blakes.com Dan practises income tax law. He advises on domestic and international tax planning matters, with a particular focus on mergers and acquisitions, complex reorganisations, debt and equity financings, divestitures and debt restructurings. Dan also frequently represents domestic and international clients in tax disputes with Canadian federal and provincial revenue authorities. As part of his practice, Dan advises public and private business organisations, including corporations, partnerships and joint ventures. Dan regularly presents and writes on domestic and international income tax issues. He has given presentations at Canadian Tax Foundation conferences and Canadian Bar Association tax meetings, and has written for various publications and organisations, including Corporate Structures and Groups and Tax Litigation (journals published by Federated Press), International Tax Review and CCH. Dan is an active member of the Tax and Economic Affairs Committee of the Calgary Chamber of Commerce, Canadian Tax Foundation, International Fiscal Association, Canadian Petroleum Tax Society, Law Society of Alberta, Law Society of Upper Canada, the Canadian Bar Association, and Calgary Bar Association. During his studies, Dan received many academic awards, including the McGill University MacKay Award for obtaining the highest academic standing in corporate taxation law and the SF Glass Gold Medal from the University of Western Ontario.