Now’s the time: Steps for addressing cross-border tax changes starting January 1, 2020

Now that we know when the Organisation for Economic Co-operation and Development’s (OECD) multilateral instrument (MLI) will apply, taxpayers should be planning for its potentially significant impacts.

Timing

The MLI comes into force, and then becomes effective, a predetermined period after Canada deposits its domestic legislation (i.e., Canada’s instrument of ratification) with the OECD. Canada deposited its legislation with the OECD in August 2019 and as a result, the MLI will enter into force in Canada on December 1, 2019, and will modify treaties for countries with which Canada has matched (and which have also passed their own domestic implementing legislation and notified the OECD on or before August 31, 2019), effective January 1, 2020, for withholding taxes, and for taxation years starting on or after June 1, 2020, for all other taxes.

What are the next steps?

Taxpayers that rely on a Canadian bilateral tax treaty have a limited window to address the potential consequences of the MLI before it applies. Specifically, taxpayers should consider:

• Which tax treaties are being relied upon in your particular circumstances? The MLI will only modify tax treaties between Canada and countries that have “matched” with Canada and also passed necessary legislation and provided timely notice to the OECD. Taxpayers should determine whether a particular tax treaty being relied upon is one of Canada’s “covered tax agreements” (CTA). The OECD tracks the status of the MLI in all countries that are signatories to the MLI on its website. While many of Canada’s treaties are CTAs, certain treaties, such as the treaties between Canada and each of the United States, Germany and Switzerland are not CTAs and will not be affected by the MLI. 
• Which provisions of the MLI are applicable? The MLI contains two different sets of provisions – the required “minimum standards” that every signatory country must apply, and optional provisions that a signatory country may reserve on. For all optional provisions, each CTA may operate differently, depending on whether both signatory countries have elected to have a particular optional provision apply. For example, while Canada’s current treaties with Luxembourg and the Netherlands are very similar, once the MLI is effective, there will be differences in certain dividend withholding rates and the taxation of capital gains. Therefore, any relevant CTA should be reviewed to determine which specific MLI provisions are applicable and which have been reserved. Countries can subsequently remove reservations but cannot make subsequent reservations once the country has agreed to the provisions.
• What are the new withholding obligations? Taxpayers that pay amounts to non-residents (for example, dividends, interest and royalties) should consider whether treaty withholding rates that have previously been relied upon remain applicable. Consideration should be given to what further information may be required from recipients to determine whether reduced treaty rates continue to be available. This information, for example, could include whether recipients can satisfy the new principal purpose test for treaty benefits and details regarding holding periods for the availability of reduced dividend withholding rates. 
• What proactive steps can be taken? Taxpayers should consider whether there are appropriate restructuring or reorganization steps that can be undertaken prior to the MLI’s effective date to improve the tax efficiency of their structure following the MLI’s effective date.
• Ongoing Review. Even if the particular tax treaty relied upon is not currently a CTA, or the other country has reserved on the relevant provisions, it is important to continue to monitor the status of CTAs and reserved provisions as these will continue to change and may have future impact.

Summary

Implementation of the MLI could have significant impacts on parties that currently rely on the provisions of a bilateral tax treaty between Canada and one of its treaty partners. It is important for taxpayers to consider the MLI and its potential impact to their particular circumstances before its application on January 1, 2020.