Removing uncertainty stemming from the Pangaea decision

The Joint Committee on Taxation of the Canadian Bar Association and Chartered Professional Accountants of Canada wrote to Finance Canada asking again for action on impacts on the Income Tax Act of the Pangaea decision to avoid adverse effects on market dynamics surrounding the restructuring of debt instruments issued by Canadian issuers.

In August 2020 the Joint Committee expressed concerns that a broad reading of Pangaea “could result in the imposition of Canadian withholding tax under Part XIII of the Income Tax Act (Canada) (the “ITA”) to commitment fees paid to arm’s length non-resident lenders and to consent fees and restructuring payments made to arm’s length non-resident holders of debt.”

Canadian businesses rely upon the public and private debt markets to finance their operations. Eliminating withholding tax on arm’s length interest allows Canadian issuers to access foreign sources of debt capital at competitive rates.

The Joint Committee gave examples of actual market implications of the court decision. “A review of the publicly available Canadian tax disclosure on Debt Restructuring Transactions indicates that the majority of such transactions disclose a ‘risk factor’ relating to the potential imposition of Canadian withholding tax on restructuring or consent fees paid to arm’s length holders of debt,” reads the Joint Committee’s letter.

This is assuming Pangaea will be read narrowly. However, the “uncertainty generated in the public markets by such a position is not, in our respectful view, consistent with Parliament’s desire to remove obstacles to Canadian businesses accessing foreign capital markets,” it adds.

To remove this uncertainty, the Joint Committee again recommends that “the ITA be amended to treat payments of the sort described herein as deemed payments of interest (other than participating interest) under the related debt for Part XIII purposes,” and for Finance Canada to issue a comfort letter of that intent in the interim.