The Tax Court has once again considered the meaning of the phrase “beneficial owner” for purposes of the tax treaty between Canada and the Netherlands (the “Treaty”). It has also once again ruled in favour of the taxpayer in determining that a Dutch holding company was the “beneficial owner” of amounts received from a related Canadian company.
On February 24, 2012, the Tax Court of Canada released its eagerly-anticipated decision in Velcro Canada Inc. v. Her Majesty the Queen, which addresses the applicable Canadian withholding tax rate in respect of cross-border royalty payments within a multinational corporate group. The decision comes almost four years after the Tax Court of Canada released its landmark decision in Prévost Car Inc. v. The Queen, which dealt with the identical treaty interpretational issue in the context of cross-border dividend payments. The decision of the Tax Court was affirmed by the Federal Court of Appeal.
Both the Prévost Car Inc. and Velcro decisions are relevant to any multinational enterprise using a foreign holding company as an investment/financing vehicle and provide considerable comfort concerning the tax effectiveness of such structures.
The issue in Velcro was whether a Dutch holding company was the “beneficial owner” of royalties paid by a related Canadian company, and therefore entitled to a reduced rate of Canadian withholding tax under the Treaty in respect of the royalties. Pursuant to the “beneficial owner test” described in Prévost Car Inc., this required that the Tax Court consider the following issues:
- Did the Dutch holding company enjoy possession, use, risk and control of the amounts it received from the Canadian corporation?
- Did the Dutch holding company act as a “conduit”, an agent or a nominee in respect of the amounts it received from the Canadian corporation?
The CRA’s position was that Dutchco was not the beneficial owner of the royalties generally because Dutchco was contractually required to remit a specific percentage of all amounts received from the Canadian corporation to its parent company located in the Netherlands-Antilles (which does not have a comprehensive tax treaty with Canada). If the Canadian company had paid royalties directly to the Netherlands-Antilles company the royalty payments would have been subject to a 25% Canadian withholding tax. In the CRA’s view, Dutchco was merely a collection agent for the Netherlands-Antilles company.
The Court rejected the CRA’s arguments and concluded that Dutcho was indeed the beneficial owner of the royalties. The basis for the Court’s conclusion was that, even though Dutchco may have been contractually required to pay money onward to the Netherlands-Antilles company, it retained some discretion as to the use of the royalties while in its possession. Dutchco therefore possessed sufficient indicia of beneficial ownership while it held the royalties and could not be considered a conduit based on the “beneficial ownership test” outlined in Prévost Car Inc., which requires a lack of all discretion.
It is unclear at this time whether the CRA will appeal the Tax Court’s decision in Velcro to the Federal Court of Appeal. The tax community will continue to watch the progress of this case (if any) with great interest.
Please open the attached PDF for further information about the Velcro case.
Please visit the FMC website for prior coverage of Prévost Car Inc.