December 02, 2011
The Canada Revenue Agency (“CRA”) recently released Form NR302 to help calculate the effective rate of non-resident tax on payments of Canadian-source investment income to partnerships with non-resident partners. On its face, this form represents a significant change to long-standing tax policy. However, until this change of policy is confirmed, taxpayers should not rely upon this form.
The issue is as follows. A partnership with even just one non-resident partner is not a “Canadian partnership”. Such a partnership is, therefore, a “non-resident person” for the purposes of Part XIII of the Income Tax Act (Canada). This is so no matter how many Canadian-resident partners there may be. As a result, all payments of investment income (dividends, rents, royalties, interest, etc.) to such a partnership are subject to non-resident tax at a rate of 25%. Strangely, because tax treaties override domestic law, that part of such payments allocable to non-resident partners benefits from treaty-reduced rates or exemptions while that part of such payments allocable to Canadian-resident partners remains subject to the full 25% rate. Canadian-resident partners must then wait to claim rebates in their annual income tax returns. Strange and indefensible though it is, this is the law of Canada. Now we have a form that purports to correct the situation. But can we rely on it?
Worksheet A to Form NR302 (http://www.cra-arc.gc.ca/E/pbg/tf/nr302/nr302-10e.pdf) is meant to help calculate the “effective rate” at which non-resident tax is to be withheld. This form is not mandatory and is not to be filed. It does not have the force of law and cannot be relied upon if the CRA disagrees with the calculation. Part I of Worksheet A appended to Form NR302 calculates the effective rate of tax applicable to non-resident partners entitled to a reduced treaty rate. Part II does the same for non-resident partners in non-treaty jurisdictions. Part III then applies a 0% rate to Canadian-resident partners. The total effective rate of withholding is then the sum of the foregoing. This intention to relieve Canadian-resident partners of withholding is supported by the CRA’s news release of April 19, 2011. This is good news for Canadian-resident partners ... if true.
Unfortunately, the CRA does not make the law. Even if the law permits such an interpretation, the CRA has not amended its own contrary policy set out in paragraph 7 of Interpretation Bulletin IT-81R or stated an intention to do so. Furthermore, in a phone call to the department of the CRA which administers Part XIII tax and non-resident withholding accounts, we were advised that the CRA is not aware of any change of policy. Only when directed to this form did the CRA concede that there “may” be a change of policy. We have therefore submitted a request for clarification to the CRA’s Rulings Directorate. Until this matter is clarified, taxpayers would be unwise to rely upon this form.