Changes have been made to Canada's double tax agreement with the United Kingdom to implement the minimum standards on tackling tax base erosion and profit shifting (BEPS) proposed by the OECD.
The changes have been implemented following the entry into force of the BEPS Multilateral Instrument (BEPS MLI) in Canada on December 1, 2019, and the entry into force of the MLI for the UK from October 1, 2018. The treaty amendments – included in a recently released “synthesised text” of the UK-Canada double tax agreement – are explained here.
The Purpose of DTAs
Double tax agreements assign taxing rights to the two signatory countries, to ensure that the cross-border income of businesses and individuals is not taxed twice. Often DTAs also reduce or exempt from tax certain types of passive income, such as dividends, royalties, and interest income.
The BEPS MLI was developed to simplify the process of introducing, into double tax treaties worldwide, the key recommendations emanating from the OECD’s work on tackling tax base erosion and profit shifting (BEPS).
Much of the OECD's work in this area revolved around ensuring that treaty benefits are not derived in inappropriate circumstances (through the proposed adoption of limitation on benefits (LOB) clauses) and the adoption of new anti-avoidance rules in countries’ tax treaties (typically effected through the adoption of the OECD’s proposed principle purposes test (PPT)).
The BEPS Minimum Standards
Measures included in the MLI address the four BEPS minimum standards:
• tackling hybrid mismatch arrangements (recommended in BEPS Action 2);
• tackling treaty abuse (BEPS Action 6);
• tackling strategies to avoid the creation of a "permanent establishment" (BEPS Action 7); and
• enhancing dispute resolution mechanisms (BEPS Action 14).
As members of the BEPS Inclusive Framework, both Canada and the United Kingdom have committed to adopting these minimum standards.
Beyond these minimum standards, countries were afforded the flexibility to decide which other provisions of the MLI they would include in their network of tax treaties. These positions and reservations are set out by each country when they ratify the BEPS MLI, whereupon the OECD publishes details on such.
For optional provisions, a provision is added to the text of a double tax agreement only where two countries agree on its adoption.
Thousands of treaties worldwide are now being revised as a result of the adoption of the BEPS MLI. To support taxpayers to come to terms with how tax treaties have been affected, the OECD launched its MLI Matching Database, which makes projections about how the MLI modifies a specific tax treaty by matching information from signatories' MLI positions.
However, some countries have gone further and have begun releasing synthesised texts of their double tax agreements where the BEPS MLI has entered into force for both signatories – as is the case for Canada and the UK.
With the release of a synthesised text from UK authorities, taxpayers and their agents can now review in one place the textual changes that have been made to the Canada-UK double tax agreement.
Canada-UK had a relatively robust double tax agreement before the adoption of the BEPS MLI. Relatively few changes have therefore been made to the agreement.
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Canada-UK Treaty Amendments
The agreement includes provisions to deny treaty benefits where it is reasonable to conclude, "having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit unless it is established that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of [the] Agreement.”
The agreement includes a new preamble text that sets out the object and purpose of the agreement as being to eliminate double taxation but not create opportunities for non-taxation or reduced taxation through tax evasion or avoidance (including through treaty-shopping arrangements aimed at unlocking reliefs for the indirect benefit of a resident of a third jurisdiction).
Specific provisions have been added to articles 10 through 12 to preclude treaty benefits for dividends, interest, and royalties income where the main purpose, or one of the main purposes of an arrangement, is to derive a tax benefit.
New provisions will provide greater certainty for taxpayers, including provisions committing Canada and the UK to cooperate on determining the fiscal domicile of a taxpayer, including in the case of dual-resident entities.
The DTA already includes provisions enabling adjustments to ensure arm’s length results in relation to related-party transactions. There have also been no changes to the provisions of the agreement on what constitutes a permanent establishment, with some other countries having previously decided to broaden the scope of these provisions following the OECD's work in this area
The modifications made by the MLI are effective in respect of the 1978 Canada-UK Double Taxation Convention for:
- taxes withheld at source on amounts paid or credited to non-residents, from January 1, 2020;
- Corporation Tax, from April 1, 2021;
- Income Tax and Capital Gains Tax, from April 6, 2021; and
- all other taxes levied by Canada, for taxable periods beginning on or after June 1, 2020.