THE STANDING SENATE COMMITTEE ON FOREIGN AFFAIRS AND INTERNATIONAL TRADE
OTTAWA, Wednesday, December 5, 2018
The Standing Senate Committee on Foreign Affairs and International Trade, to which was referred Bill S-6, An Act to implement the Convention between Canada and the Republic of Madagascar for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income, met this day at 4:15 p.m. to give consideration to the bill.
Senator A. Raynell Andreychuk (Chair) in the chair.
The Chair: Honourable senators, we are meeting today to begin our examination of Bill S-6, An Act to implement the Convention between Canada and the Republic of Madagascar for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income.
We are pleased to welcome to the committee government officials from the Department of Finance Canada. Before I introduce them, I’m going to ask senators to introduce themselves.
Senator Coyle: Senator Mary Coyle from Antigonish, Nova Scotia.
Senator Boehm: Peter Boehm, Ontario.
Senator Bovey: Patricia Bovey, Manitoba.
Senator Cordy: Jane Cordy, a senator from Nova Scotia.
Senator Massicotte: Paul Massicotte from Quebec.
Senator Saint-Germain: Raymonde Saint-Germain from Quebec.
Senator Dean: Tony Dean, Ontario.
Senator Greene: Steve Greene from Nova Scotia.
The Chair: And I’m Raynell Andreychuk from Saskatchewan.
We welcome to the committee Mr. Ted Cook, Director General, Tax Legislation; and Ms. Stephanie Smith, Senior Director, Tax Treaties.
I’m sure you have testified at committees of this sort before. We want to know the procedure, the process and the reason we are entering into a double taxation agreement with Madagascar. Please go ahead.
Ted Cook, Director General, Tax Legislation, Department of Finance Canada: Thank you very much for the opportunity to appear before the committee today.
I have a few preliminary remarks to talk about the purposes of income tax treaties in general and the Madagascar treaty in particular. Canada has an extensive tax treaty network. We have 93 tax treaties currently in force. If Bill S-6 is passed, implementing a tax treaty with Madagascar, we will have 94 in force.
The tax treaty contained in Bill S-6 is modelled after the OECD Model Tax Convention on Income and on Capital, modified somewhat to take into account the particular elements of the Canadian tax system. Basing tax treaties on the OECD Model Tax Convention is consistent with the way most tax treaties in the world are now negotiated.
As indicated by the title of the tax convention, it has two main purposes. The first is to avoid double taxation, and that’s in order to promote bilateral trade and investment between Canada and Madagascar; and the second is to prevent tax evasion and tax avoidance, particularly by encouraging the exchange of information.
With respect to the first of these two purposes, to avoid double taxation to promote bilateral trade and investment, double taxation arises where a person is subject to potential tax in two jurisdictions. International double tax poses a barrier to trade. The treaty would seek to prevent double taxation by doing a number of things. First, it provides greater certainty to taxpayers as to when they’re going to be subject in each of the two jurisdictions. Second, it allocates taxing rights between Canada and Madagascar so it will be clearer that one country, often the country of residence of the taxpayer, has an exclusive right to tax. It ensures that there’s no discriminatory taxation in either jurisdiction; that is, it provides certain protections to nationals of both countries so that they’re not treated in a discriminatory fashion in the other jurisdiction.
Finally, it addresses what we call burdensome taxation, or the risk of burdensome taxation. What I mean by “burdensome taxation” is, under Canada’s domestic tax law, we impose withholding tax on certain types of passive income paid out to non-residents. If you think of amounts paid out of Canada to a non-resident in the form of interest, dividends or royalties, under the Income Tax Act, those are taxed at a rate of 25 per cent, and that 25 per cent is imposed on the gross amount of the payment. Most similar jurisdictions impose withholding tax in the same manner. A 25 per cent tax on a withholding basis can potentially be quite a high rate of tax because it’s just paid on the gross amount, not on the net amount of income, which is usually the way jurisdictions tax their own residents.
The treaty will represent an agreement between the two jurisdictions to each reduce their withholding tax rates, thus reducing the impediment that taxation imposes to the flow of investment. Under this particular treaty, rather than the 25 per cent withholding tax rate, certain types of dividends, if a certain threshold of ownership is met, will be taxed at 5 per cent and 15 per cent for the case of other dividends. Interest and royalties will generally be subject to a maximum withholding tax rate of 10 per cent; and for certain types of royalties that rate can be reduced to 5 per cent. This limitation on withholding tax rates that can be imposed by the two jurisdictions helps reduce the drag that tax can impose and is intended to improve bilateral trade and investment and improve Canada’s economic links between Madagascar and Canada.
The second main purpose of the tax treaty that I mentioned is to help prevent tax evasion and avoidance. The way the treaty does that is it provides provisions for the exchange of information between the two tax authorities that they can use for administering their domestic tax laws. As I’m sure the committee can appreciate, transparency and access to information are important tools for a revenue authority to ensure compliance with its own rules. The provisions in this tax treaty are consistent with the current international standard on exchange of information.
I would note that the way the treaty is structured is that bank secrecy laws would not provide a basis for not providing information to the other jurisdiction, and it does not contain what we call a domestic interest requirement. A domestic interest requirement is where the jurisdiction providing the information needs the information for its own purposes before it can be shared with the other jurisdiction. That’s not the case here.
In conclusion, the two main purposes are to prevent double taxation and to help address tax avoidance and evasion. Those are my initial remarks, and I thank you.
The Chair: Ms. Smith, will you add comments, or are you here for the questions?
Stephanie Smith, Senior Director, Tax Treaties, Department of Finance Canada: I’m here for the questions. Thank you.
Senator Massicotte: I have some technical questions, so maybe someone else wants to go first.
The Chair: I think you can start. The technical questions may help us all.
Senator Massicotte: Maybe I should ask Senator Greene. He’s the sponsor. Would you prefer I ask my question to you, Senator Greene?
The Chair: You can do so after the meeting.
Senator Massicotte: This is highly technical, as you can imagine. Let me start with some generic questions. This is a standard tax treaty, I understand, when you look at the rates and the application of income. In other words, my understanding is if you have a real estate gain, it is taxed in the country where the real estate is located. When I look at all these rules, is that pretty much standard? Are you applying internationally accepted rules in this treaty in particular?
Ms. Smith: Yes, this treaty is modelled very closely on the OECD model, as was mentioned earlier, so very closely on the Organization for Economic Cooperation and Development’s model tax treaty.
Senator Massicotte: Do we have a tax treaty with the Bahamas, for instance? Is it similar from a numbers sense? Five per cent, fifteen per cent. Are these numbers standard to a small country, big country? How about the United States? How does it compare to the rates we have with the United States?
Ms. Smith: The rates are very similar to what we have with the United States with the exception of interest, where there is an exemption from withholding on both arm’s-length and non-arm’s-length interest.
Senator Massicotte: Can I give you a couple of examples to make sure I understand this correctly? If you have a real estate gain from selling a property, it is only taxed in the country where that real estate is located irrespective of your residency from a tax point of view. Is that accurate?
The Chair: A generic question.
Ms. Smith: Yes, that is correct. The only exception would be because we do have departure tax rules in Canadian domestic law. If you had a Canadian resident who held a property and then moved to Madagascar, there could be some differences. But generally, if it’s real property that’s owned, it’s taxed in the state where the real estate is located.
Senator Massicotte: I understand that if a Canadian has a business in Madagascar, that Madagascar will be the only jurisdiction that will gain taxation from the profits of that business and none of it will be taxable in Canada. Is that accurate?
Ms. Smith: No, that’s not entirely accurate. If a Canadian carries on business in Madagascar, Madagascar would have the right to tax the profits of that business to the extent that there’s a permanent establishment located in Madagascar. It does raise a certain threshold, a certain level of activity that has to be undertaken in Madagascar before Madagascar would have the taxing right. If Madagascar does have the right to tax, in some instances, depending on what the income is and the form that it is paid back to Canada, there may be a right of taxation to Canada.
Senator Massicotte: Things have changed, but from memory, some time ago, if a certain organization has plants in Madagascar and Canada, we used to allocate the taxation based on a percentage of revenues and possibly a percentage of costs, given the establishment in each one. Is that the case? How do you do your transfer pricing? How do you allocate the profits from an organization that has multi-jurisdiction? It’s pro rata revenues, pro rata labour costs?
Ms. Smith: It’s unfortunately not quite that simple. The international standard for transfer pricing is on an arm’s-length basis; so you look at what kinds of transactions, and you price them what would take place between arm’s-length parties and then apply that to the situation where they are non-arm’s length, and it’s typically a transaction-by-transaction basis that’s priced.
Senator Massicotte: I’m not sure I understand, but I’ll go on.
If I look at another table, profits from the sale of shares or interest in a company, bonds or whatever, is taxable only in the jurisdiction of residence to the taxpayer. Is that accurate?
Ms. Smith: Yes, that would be accurate that it would be in the resident’s state, with the exception that I had started to explain before and then realized you had asked in respect to immovable property. Our departure tax rules may capture some of that gain.
Senator Massicotte: I agree, when you have a transition. On the share stuff, I can buy that. It makes sense to me if it’s a public company because you’re dealing with a commodity, and you are saying that the only point of reference can be where you reside. But let’s say you have shares in a private company, and you may be producing sugar or whatever, and it’s in Madagascar, and the owner is a Canadian. Will those profits from the sale of those shares of a private company only be taxed in Canada or vice versa?
Ms. Smith: Yes, they would be taxed in the state of residence of the person disposing of the shares.
Senator Massicotte: Irrespective of whether it is liquid or not liquid or public or private?
Ms. Smith: Public or private, that would not matter for the distinction. What would matter is if the shares derive their value primarily from real property. Then the state of source would retain —
Senator Massicotte: In this case, I’m talking about shares — not real property — in a corporation that may employ hundreds of people in Madagascar, but you’re saying that when I sell those shares, it’s only taxable by residence, which is, in this case, Canada?
Ms. Smith: With respect to the capital gain, yes.
Senator Massicotte: And I understand that if I ask the question about how it gets treated in this case, the vice versa applies; right?
Ms. Smith: Yes, it is.
Senator Massicotte: Madagascar is committed to the same terms and conditions.
If you look at the information we have, if we look at the relationship of imports and exports between the two countries, we are by far a beneficiary of that trade relationship. Therefore, I presume we must have significant Canadian companies in this economy in Madagascar, which means that while this tax treaty looks to be fair all around, in this case we as a country may be a significant beneficiary from this tax treaty because, for our Canadian companies, it takes away the issue of risk of uncertainty and it lowers the taxation significantly, given this parent company is probably bringing the money back to Canada. Am I correct in saying that?
Mr. Cook: The impact on any particular company or taxpayer will depend on their particular circumstances, but certainly, from a general perspective, the idea is it would be beneficial for Canadian taxpayers and companies to have the provisions of the treaty and the certainty it provides for them.
I think what you’re highlighting is the balance of trade between Madagascar and Canada in terms of the amount of exports from Madagascar to Canada. I think the last numbers we have were approximately $100 million per year, as opposed to the trade going the other way.
Senator Massicotte: Was that part of your motivation for doing this deal? In other words, as the Canadian government, are you trying to get the couple of companies doing significant business in Madagascar to bring their dividends back home? Is that part of the reason we struck a deal with them compared to many other countries we don’t deal with?
Ms. Smith: I think the history on this is, yes, if you look at a number of the places where we have treaties, oftentimes they represent jurisdictions where there are significant opportunities for Canadian businesses, so where there would be mining opportunities that would be available, and it would expand opportunities for Canadian businesses. That certainly plays into one of the decisions made by the government in terms of engaging in negotiations with a particular country, and I think it would apply here as well.
Senator Massicotte: Let me ask the other question I have.
It sometimes irks me. Obviously, retention is on the cash being transferred. Usually, the revenue is a gross number, not net. You mentioned that earlier. You realize that for dividends, which is really the net of all costs, for the person living in Madagascar, collecting dividends from a Canadian company is retention. That’s it, that’s all. In other words, he doesn’t have to pay any further tax for the retention on the minimums we imposed and, usually, that taxation rate is lower than for a Canadian owning the same shares in the public company. It always bothered me when I looked in the past if that’s the case, but I gather that’s the world standard and I presume governments do so because at least you’re attracting foreign capital into your capital markets. I’m not sure. Do you have any comments on that? It seems to be unfair to Canadians in that sense.
Mr. Cook: If there’s one thing I could clarify, I think you indicated there was withholding tax on dividends paid out.
Senator Massicotte: It depends on the circumstances.
Mr. Cook: It depends on the circumstances. In terms of the treatment of the recipient of the dividend in Madagascar, that will depend on Malagasy domestic law, and there may be an income inclusion or not, or a foreign tax credit being provided. I think, in terms of what the actual impact is on a recipient of those payments that are subject to withholding, that will depend on the tax situation of the particular taxpayer.
Senator Saint-Germain: I understand that the objective of the treaty is to avoid double taxation. So there is a principle of tax fairness or equity behind the treaty.
Ms. Smith, you said that the treaty is essentially based on the standard treaties that are signed with the Organisation for Economic Co-operation and Development. Does this treaty contain provisions that are different from other tax agreements entered into by Canada to date?
Ms. Smith: By and large, no. I think it’s consistent with all of the treaties that we have entered into in general.
Senator Saint-Germain: You know that Quebec also has its tax system and its revenue agency. When this treaty is ratified, will the Government of Quebec have been consulted with a view to federal and provincial tax harmonization?
Ms. Smith: No, there is no specific consultation with the provinces when a particular treaty is entered into. The treaty itself only covers taxes at the federal level and does not bind the provinces. For that reason, there are not specific consultations with the provinces.
Senator Dean: Ms. Smith, in responding to a question from Senator Massicotte, you mentioned that potential benefits to Canadian companies accruing from this treaty were one of the factors involved in the impetus for the treaty. What were the others? To put it another way, why Madagascar and why now?
Ms. Smith: I think, with respect to Madagascar, it is a nation where there were some opportunities for mining. Given that it’s also a member of the Francophonie and there are a number of bilateral relations otherwise with Madagascar, and given that Canada is a relatively small trading nation, there is a desire to look beyond Canada for other opportunities for Canadian companies.
Senator Dean: Anything else that veers over into the taxation world? In the sense of tax loss or tax gain for Canada on the fiscal side, is there anything else to add besides the private sector interest and involvement in the Francophonie? Is that it? I’ll accept that those are good reasons to do this treaty at this time, but were there any other factors that were taken into consideration?
Ms. Smith: I think the other factor that is taken into consideration is the fact that we also want to ensure that we avoid tax avoidance and evasion. Without this treaty, we do not have an exchange of information relationship with Madagascar so the Canada Revenue Agency would not have the ability to obtain information to apply the laws domestically. That is another advantage of this treaty with Madagascar.
Senator Dean: Thank you.
Senator Coyle: I’m not sure you can answer these questions, given you’re from the Department of Finance. You’ve actually answered a couple of my earlier questions. When we enter into a convention like this, one of the things we usually look for, I’m imagining, is an increase in trade between our country and the country that we’re entering into the convention with. I’m wondering if you can speak to anything you might know about the projected impact of this on our trade relationship with Madagascar. Also, if you are in a position to speak to the specifics around Canadian business involvement in Madagascar, please do.
Ms. Smith: I will take the last question first. We are aware that Sherrett International, which is listed on the Toronto Stock Exchange — a mining company — has engaged in the mining and refining of nickel. A number of years ago, they had made submissions with respect to business ventures in Madagascar. They still do operate in Madagascar, although I think, more recently, there was a slight decline in terms of their interest in the joint venture. I think that relates to some political instability a number of years ago in Madagascar. One would expect, hopefully, that as it becomes more stable for a longer period, that more opportunities would open up.
In respect of particular numbers with respect to increase in trade and investment, that’s not something we project with respect to tax treaties. It is a very difficult exercise, because obviously trade and investment tax barriers are only one aspect that plays into a decision for trade and investment. So it’s hard to attribute specific numbers specifically to the treaty itself.
Senator Coyle: Thank you.
The Chair: I just want to follow up. When we enter into this double taxation treaties — we’ve had them in this committee before — there’s an analysis done on political stability and also on stability with respect to rules and implementation of the rules. Somewhere, you must have made an assessment on that. Under the treaty, you just said there was an exemption for certain tax information. I didn’t quite understand what you meant by that. Ms. Smith, I think you said it. In this agreement, you said something about excluding tax information, but in a local sense. I would have to go back to the transcript. “Domestic interest.”
Mr. Cook: That was something I had referred to early on. There are exchange-of-information provisions contained in this treaty. Basically, the ones we’re using now are the current standard for exchange of information.
I was highlighting a couple issues with respect to tax authorities obtaining information. One is bank secrecy laws. Depending on the jurisdiction, sometimes bank secrecy can be an issue. In this treaty, there’s no exclusion for protecting information on the basis of bank secrecy.
The second element I referred to, which I think you’re talking about, is what we call a domestic interest requirement. In some cases, treaties will provide that the jurisdiction that’s being asked for the information will only go get that information from a taxpayer if they have use for that information themselves, so they need a domestic interest in the information in order to obtain the information and share it with the other jurisdiction. The way the Madagascar treaty is, that wouldn’t provide a barrier to Canadian tax authorities getting information.
The Chair: Why would it be a barrier in this case? In some cases, we don’t want information about Canadians being used beyond the tax treaty, and we’re not sure it will be held in confidence on the other side, or it may be some other reason. In this case, why was it negotiated out?
Mr. Cook: In that case, I think what you’re going to — and Ms. Smith can correct me if I’m wrong — is that, under the treaty, the information is provided for tax purposes only, so there’s an obligation on both parties that, if they get information, they just use it for tax purposes. So it has that protection with respect to the use of information that’s shared between the two jurisdictions.
The Chair: To do that, you would have to have some confidence in the other system that they would only use the information for that purpose, so there must have been some analysis on the stability of the country, the reliability of their undertakings and the firewalls they would have built around their tax system so tax information is not used for any other purpose. Is there any way you can oversee that and check it, or is it a situation of, once you sign the treaty, you hope it works the way you negotiated it?
Ms. Smith: I’ll respond to this one. There are two aspects that give us greater comfort in this area. The first is that while there is a commitment to exchange information, it is always Canada’s right, if they become aware of difficulties or problems in the other jurisdiction, to suspend the application of exchanging that information. That is still open to us under the treaty. Those are assessments the Canada Revenue Agency would take into consideration when information was requested.
Second, there is an international body called the Global Forum on Transparency and Exchange of Information. Canada is a member, as is Madagascar and over 150 other jurisdictions. As part of that process, countries are peer-reviewed. Madagascar will be peer-reviewed in the next couple of years. Part of that peer review includes an analysis of confidentiality rules in the particular jurisdiction. It is something that, internationally, is taken seriously by all of these jurisdictions and the very strict confidentiality provisions in the treaty are actually respected in all of these jurisdictions. The comfort that Madagascar is a member of this organization and will be subjected to a peer review and ongoing review of its processes helps increase the confidence in this jurisdiction and their ability to protect the information.
Senator Massicotte: Relative to that same question, you’re saying that Madagascar will be subject to a peer review in the next couple of years. What did the last peer review say about Madagascar relative to their reliability and integrity of their tax system? When was the last report, and what did it say?
Ms. Smith: This will be the first peer review of Madagascar. They’re a relatively new member of the global forum, so they have not previously been peer-reviewed. But by joining the global forum, they have committed that they will meet the standards and that they will take any changes on board and make those changes domestically if needed in terms of recommendations being made.
Senator Massicotte: Is it the same organization, or is it OECD that actually publishes a listing of their tax system and whether they cooperate or are reliable? Is that the same listing? Sometimes they publish a blacklist of certain countries that are deemed to be not worthy or reliable relevant to information. Where does Madagascar sit relative to that other list?
Ms. Smith: To my knowledge, Madagascar has never been on a blacklist put out by the OECD. The OECD actually doesn’t and hasn’t for a few years done a blacklist. The most recent listings are probably by the European Union. To my knowledge, Madagascar is not on that list. Also, the G20 has requested that the OECD, in conjunction with the global forum, develop a list of what they call uncooperative jurisdictions. In the first list that was provided, I think a year ago, Madagascar was not one of the jurisdictions.
Senator Massicotte: Relative to our taxation, as you know, some countries have decided, from a tax strategy, that they’re not going to charge income tax. Rather, they’re going to be predominantly import taxes, like the Bahamas, for instance. Because of that, they get no taxation based upon income. Do you have a little bit of knowledge of Madagascar and what their practice is? Is there a form of income tax on profits of organizations, employment income and so on?
Ms. Smith: Yes, there are. Madagascar does have income taxes that they apply, business income taxes on their resident companies as well as individual rates. They also tax capital gains.
Senator Massicotte: In significant numbers? It’s not 5 per cent or 2 per cent? It’s a significant percentage, I gather.
Ms. Smith: Yes. In general, the business income would be at a rate of between 20 and 33 per cent, depending on a couple of taxes.
Senator Massicotte: Thank you.
Senator Saint-Germain: I don’t see any provisions in Bill S-6 that would enhance international or bilateral cooperation and information sharing in an effort to address tax avoidance and evasion. Am I right? Would Bill S-6 have some impact on tax avoidance and evasion in Canada?
Ms. Smith: In Bill S-6, Schedule 1 is the text of the convention itself, and article 25 is the one with respect to the exchange of information. It’s this provision that would allow Canada to request information from Madagascar to be able to apply Canadian domestic laws. It’s through the exchange of information that we can help to counter tax avoidance and evasion.
Senator Saint-Germain: This would cover information needed for investigation with regard to tax evasion?
Ms. Smith: Correct.
Senator Saint-Germain: Thank you.
The Chair: There are no other questions, so we’ve concluded the hearings with you, Mr. Cook and Ms. Smith. Thank you for coming before us. It’s been helpful, not only regarding the double taxation but to learn a little bit more about the process.
Senators, we will adjourn this evening and return tomorrow at 10:30. If there are no further witnesses brought forward, I would entertain a motion to proceed to clause-by-clause, should the committee wish. We would then follow that with an in camera meeting to discuss the report on cultural diplomacy. Hopefully, we will be efficient and finish that this week.
(The committee adjourned.)