Edited by Laura L. Monteith and Henry Chong

Paragraph 212(1)(a): The Perils of an Obsolete Tax Provision

By: Jim Wilson, Helena Plecko, Pierre Alary and Thomas Mann

Tax is constantly evolving, and sometimes obsolete provisions need to be pruned. While the Federal government regularly amends the Income Tax Act (Canada) (the "Act") in an effort to preserve the tax base and curb abuse of the Act by taxpayers, impetus for changing or abolishing provisions of the Act may come from taxpayers and their tax advisors who perceive such provisions to be obsolete, outdated or unfair.

Paragraph 212(1)(a) of the Act1 is a section that is obsolete, outdated and unfair and has lost its "raison d'être" with the introduction of the transfer pricing and other anti-avoidance rules. In fact, as will be illustrated further below, with no judicial limits imposed on the application of the section, the Canada Revenue Agency ("CRA") feels entitled to take a rather cavalier approach to applying this paragraph to tax payments made by a resident of Canada to a non-arm's length non-resident party.


Paragraph 212(1)(a) generally imposes Part XIII withholding tax at a rate of 25% of the gross amount of "management or administration fee or charge" paid or credited by a Canadian resident to a non-resident.  Subsection 212(4) excludes certain payments for services performed by an arm's length service provider. Also excluded are reimbursements of specific expenses incurred by a service provider (whether arm's length or non-arm's length).  The key factor rendering a fee for services taxable is the fact that the foreign recipient does not deal at arm's length with the Canadian payor - regardless of whether the recipient is otherwise in the business of providing the very services to third parties and whether the price charged to the Canadian payor reflects an arm's length arrangement. 

The arm's length carve-out in subsection 212(4) excludes from "management or administration fee or charge", for purposes of paragraph 212(1)(a), amounts paid to a non-resident for services performed in the ordinary course of a business so long as the parties were dealing with each other at arm's length and the amount was reasonable in the circumstances. This would support the notion that paragraph 212(1)(a) was intended to target tax avoidance schemes involving non-arm's length transactions, rather than legitimate business dealings. Also of note is that paragraph 212(1)(a) generally only applies to non-treaty countries. Management or administration fees are not specifically covered in most of the modern tax treaties negotiated between Canada and other countries2.  Where Canada has a treaty with another country which does not contain a specific article on management or administration fees, any such fees paid to a resident of that country will, to the extent they are reasonable, be considered to be covered by the treaty article dealing with business profits.  Pursuant to that article, business profits of a non-resident are exempt from Canadian tax unless they are attributable to a permanent establishment ("PE") in Canada.  We submit that it is sufficient for management or administration fees to be subject to Canada's transfer pricing regime rather than both the transfer pricing regime and Part XIII withholding tax.3

Paragraph 212(1)(a) was introduced in the old Act in 1963, long before the arrival of the Canadian transfer pricing rules found in section 247 of the current Act. At the time, there was a weak transfer pricing regime in Canada consisting of then subsections 69(2) and (3).  The rationale behind the introduction of paragraph 212(1)(a) in 1963 was to prevent and discourage undue distribution of profits amongst related parties using management fees as a "façade".  It is the authors' opinion that, under the current Canadian tax regime, paragraph 212(1)(a) has lost its purpose and its application may, in fact, lead to unfair and somewhat absurd results. In addition to our modern transfer pricing rules, there are now other provisions contained in the Act that preserve the Canadian tax base, such as the foreign affiliate and foreign accrual property income ("FAPI") regime and the general anti-avoidance rule ("GAAR").  Canada's ever-expanding network of double tax agreements and tax information exchange agreements ("TIEAs") provides further safeguards.

Canadian Tax Regimes that Protect the Canadian Tax Base

Canada's current transfer pricing regime provides significant deterrence to multinational corporations by way of severe penalties in the event that the transfer pricing provisions of the Act are not respected.  Thus, deterring the abuse of shifting profits to related companies by excessive inter-company charges is now provided for adequately in the Act.  Despite this fact, at the moment, a taxpayer could fully comply with Canada's transfer pricing rules and still be subject to a 25% withholding tax on gross payments pursuant to paragraph 212(1)(a). If the foreign jurisdiction in which the non-resident resides has foreign tax credit legislation similar to Canada, it will not even be able to afford the non-resident full relief by way of a foreign tax credit4.  These excessive tax results are embarrassing to Canada.  Canada's tax system is currently taxing non-resident companies a 25% withholding tax on gross income for services physically performed by non-residents outside Canada for a price consistent with the arm's length principle.  To make matters worse, the Act does not allow the non-resident taxpayers to deduct expenses related to these amounts. From CRA's perspective, there may be a need for such a provision, so as to spare CRA from having to invest significant resources to conduct transfer pricing and FAPI audits on small non-arm's length intercompany transactions involving non-treaty countries.  However, surely such administrative concerns cannot justify, in policy terms, the existence of a 25% withholding tax.

As alluded to above, not only does the transfer pricing regime provide a comfortable level of protection, but it receives reinforcement through GAAR and Canada's comprehensive foreign affiliate and FAPI regimes. With respect to Canada's foreign affiliate and FAPI regimes, where service fees are paid to a foreign affiliate in the context of an outbound structure, one only needs to look at the impact of paragraph 95(2)(b) of the Act as an example of adequate protection against the Canadian tax base.

Non-Resident Investment Service Providers

To illustrate the absurdity to which the application of 212(1)(a) may lead in practice, as recently as earlier this year, CRA utilized paragraph 212(1)(a) to assess a Canadian resident corporation for failure to withhold and remit Part XIII tax with respect to fees paid to a related non-resident entity for the provision of stock advisory services performed in the foreign jurisdiction.

To support its position that a "management or administration fee or charge" pursuant to paragraph 212(1)(a) of the Act includes stock advisory fees, the CRA relied heavily on the 1991 case of Peter Cundill & Associates Ltd.5  However, the Cundill case predates the modern transfer pricing regime, and can easily be distinguished on the facts from the recent 212(1)(a) stock advisory cases we have encountered. In addition, the post-Cundill jurisprudence irrefutably confirms that the precedential value of the Cundill case is derived from the Court's non-arm's length analysis only and not the analysis of the scope of the phrase "management or administration fee or charge".

In Cundill, the plaintiff B.C. corporation (e.g. the Canadian payer of the fees) managed the portfolios of two investment funds and contracted with a Bermuda corporation to provide the necessary investment counselling and transaction skills. Mr. Cundill owned 50% of the B.C. company and 100% of the Bermuda company, and his personal expertise was the driving force behind both enterprises. The Federal Court of Appeal ("FCA") held that the fees paid by the B.C. company to the Bermuda company were management fees for purposes of paragraph 212(1)(a). The Court's reasoning was essentially that, in the case of a company whose business is portfolio management, investment decisions are management tasks. Of note is that the Canadian taxpayer in Cundill did not have its own management or expertise to conduct its core business, so it depended on a non-resident party to manage and control its business. Further, the Federal Court (Trial Division) did not engage in a thorough analysis of the meaning of "management or administration fee or charge" for purposes of paragraph 212(1)(a).  Rather, the Court very generally stated that a management fee is "... an amount paid in respect of managerial services in connection with the direction or supervision of business activities."

Unfortunately, the CRA has been applying the Court's ruling to cases with vastly different circumstances and scenarios than that in Cundill. As alluded to above, in the cases of which we are aware, the entities in question are large multinational corporations and the payments in question are legitimate intra-group payments for stock advisory services.  The Canadian taxpayers in these cases do not solely rely on their investment planning to generate revenues, and investment decisions are not the only relevant consideration regarding the future direction and operation of their companies, as was the case in Cundill. Rather, these taxpayers operate completely different business models than Cundill where client recruitment is the main profit driver.  All of the business, corporate management and administrative operations of these taxpayers are undertaken by their own directors, officers and employees. It is our opinion that stock advisory services do not amount, under these circumstances, to "management or administrative" services, as contemplated by paragraph 212(1)(a).

The authors' position on the dangers of the continued existence of 212(1)(a) in the Act is also supported by recent case law.  In Canadian Medical Protective Assn. v. R,6 the Tax Court of Canada ("TCC") held that the words "management or administrative service" in the Excise Tax Act (Canada) ("GST Act") refer to management of a business and not an asset management service.  The FCA agreed with the TCC and held that discretionary investment management services were not "management or administrative services" for this purpose. As a result of the decision of the FCA in Canadian Medical Protective Assn., Parliament amended the GST Act to extend the term "management or administrative service" to include "asset management services" and "investment advisory services".  No such amendment to the meaning of "management or administration fee or charge" in subsection 212(4) has been made.  Without such a specific statutory amendment, an investment advisory service should not be considered a management or administrative service for purposes of paragraph 212(1)(a).  Subject to subsection 212(4), the phrase "management or administrative service" should take its ordinary meaning7, which has been held by a lower court not to include an asset management or investment advisory service.

TIEAs and Canada-US Anti-Hybrid Rules

As a consequence of TIEAs and the new anti-hybrid rules in the Canada-US treaty (the "US Treaty")8, the impact of paragraph 212(1)(a) is only going to get worse.  TIEAs are bilateral agreements used to promote international co-operation in tax matters through the exchange of information. TIEAs are an option for Canada with respect to countries and jurisdictions with which they do not have or are not considering the negotiation of a comprehensive tax treaty.  With the signature of several TIEAs over the past four years, CRA may be better equipped to monitor profit shifting arrangements that run afoul of transfer pricing principles, FAPI or GAAR.  However, this also means that, from the taxpayer's perspective, paragraph 212(1)(a) could become an even bigger concern as many corporate structures will be incorporating subsidiaries in TIEA countries which will not be able to rely on treaty exemptions.  While this will have an impact for non-resident investment service providers, the impact will be even larger on those everyday management and administrative services that require a mark-up and are not simply a reimbursement of expenses9. With no limits on CRA's ability to determine what is included in the term "management or administration fee or charge," we anticipate numerous 212(1)(a) casualties.

A further facet is added to the present discussion if we consider the new anti-hybrid rules in the US Treaty. Where a U.S. resident would qualify for treaty protection (e.g., PE protection under Article VII), but CRA considers the arrangement with the Canadian payor to offend the anti-hybrid rules, CRA may be able to deny treaty benefits and draw on 212(1)(a) to impose the 25% withholding tax. The anti-hybrid rules themselves are subject to further clarification and, while confusion reigns, the continued existence of 212(1)(a) may lead to unfair results.


In summary, there is ample, overwhelming evidence that paragraph 212(1)(a) must either be repealed or the judiciary or Parliament must place brakes on CRA's ability to designate legitimate, market priced services between related parties as "management or administration fees or charges" for purposes of 212(1)(a). Fundamentally, profits in accordance with the arm's length principle arising from services performed outside Canada by non-residents of Canada should not be subject to Canadian tax. Canada should not require a tax treaty to achieve this tax exemption. From the perspective of investment services and stock advisory services, it perplexes the authors how under section 115.2 of the Act, a non-resident fund which utilizes the services of a Canadian investment service provider is generally exempt from Part I tax while, under paragraph 212(1)(a), a non-resident providing investment services outside of Canada directly to residents of Canada is subject to 25% withholding tax on gross payment amounts. Canada's current transfer pricing and FAPI regimes protect the Canadian tax base from excessive Canadian expenditures pertaining to the provision of services. The resources required by CRA to conduct transfer pricing audits or FAPI audits, on smaller transactions should not be a basis for maintaining a provision that results in such excessive taxation, assuming that is a tax policy tactic for maintaining such a provision.

The consequence of a reassessment under paragraph 212(1)(a) which is not protected by the Business Profits Article of a tax treaty is an excessive 25% withholding tax, which is applied to the gross payment amount, rendering these intra-group service arrangements unprofitable and thus discouraging legitimate business activity. The application of a Part XIII tax of this nature without the opportunity or election for the non-resident taxpayer to at least file a Canadian tax return and pay Part I taxes on a net profit basis is economically disastrous to the non-resident.10  Furthermore, as there is no statute of limitations in Part XIII for CRA to raise a failure to withhold assessment CRA is free to go back as many years as they want in assessing the Canadian taxpayer for failure to withhold.11

In closing, a non-resident service provider who does not physically provide services in Canada should not be taxed in Canada, and certainly not at such excessive rates. The authors respectfully suggest that Canada needs to revisit this issue. With CRA not prepared to revisit or distinguish the Cundill case from other non-arm's length investment service contracts; with Canadian operations starting to expand to non-treaty countries because of TIEAs; and with the introduction of anti-hybrid rules that could effectively deny the benefits of the US Treaty to certain transactions, one thing is for certain: the status quo can no longer be an option.


1. All subsequent references to statutory provisions are to provisions of the Act.

2. See Article XIII of the Canada-Barbados Income Tax Agreement for an example of an Article that strictly deals with management fees.

3. Canada's Part XIII system generally applies to passive investment received by non-residents from Canadian source income and only in exceptional circumstances does it include compensation for services rendered by a non-resident.

4. For example, in a reverse situation, Canada would consider the services rendered in Canada by a Canadian resident service provider to a non-resident to be Canadian source income. Subsection 20(12) would prevail and only a tax deduction would be allowed in Canada in respect of foreign taxes paid.

5. [1991] 1 C.T.C. 197 (F.C.T.D.); aff'd [1991] 2 C.T.C. 221 (F.C.A.) ("Cundill")

6. Canadian Medical Protective Assn. v. R., 2008 TCC 33, and case on appeal [2009] G.S.T.C. 65 (F.C.A.) (see Brief, at tab 4).

7. Subsection 212(4) of the Act excludes certain fees but does not say what should be included in the phrase "management or administrative service".

8. Paragraph 7 of Article IV of the US Treaty, introduced in the 5th Protocol.

9. See the carve out in 212(4)(b) for reimbursements of specific expenses (e.g. head office wages for the benefit of the Canadian subsidiary).

10. Compared to section 216 and 217 elections which both recognize the excessive taxation element of a 25% withholding tax on the gross revenue.

11. In our recent experience, CRA went back seven years in raising a paragraph 212(1)(a) failure to withhold assessments on stock advisory service payments.

Federal Court of Appeal upholds Lower Court Decision Regarding Application of Non-Discrimination Article

By: Jim Wilson, Pierre Alary and Lindsey Laframboise, Student-at-Law

The Federal Court of Appeal recently upheld the January 2011 Tax Court of Canada ("Tax Court") decision in Saipem UK Limited v. The Queen1, which was the first substantive decision by a Canadian court to discuss the application of the non-discrimination article of a Canadian tax treaty. The statutory framework and the Tax Court's findings was discussed in a previous issue of Canadian Tax @ Gowlings.2

More particularly, the decision dealt with whether subsection 88(1.1) of the Income Tax Act (Canada) ("Act")3 was discriminatory and should be overridden by Article 22 of the Canada-United Kingdom Tax Convention ("Treaty").4

In Saipem, the appellant ("Saipem UK"),  was a resident of the UK, and had carried on an active business in Canada through a permanent establishment ("PE") from 2004 to 2006. Saipem UK's subsidiary, Saipem Energy International Limited ("SEI"), also a UK resident, carried on an active business in Canada through a PE from 2001 to 2003. In 2003, SEI was wound up into Saipem UK, and from 2004 to 2006, Saipem UK claimed the losses incurred in SEI from the previous years in calculating its tax payable.  In short, in claiming these losses, Saipem UK ignored the restrictions in subsection 88(1.1) of the Act on the basis they were discriminatory and were in contravention of Article 22 of the Treaty.  Subsection 88(1.1)  would have otherwise denied the carryover of SEI's losses because the two corporations were not "Canadian corporations" as that term is defined in subsection 89(1) of the Act.  

The Tax Court concluded that subsection 88(1.1) does not discriminate on the basis of nationality, but does discriminate on the basis of residence.  The Tax Court found that this was permissible, given the explicit language of paragraph 1 of Article 22 of the Treaty.  Angers J. noted that the requirement that a comparative group be "in the same circumstances"5 required that residence be a factor to be considered when deciding whether a taxpayer is being discriminated against.  The Tax Court also held that, with respect to paragraph 2 of Article 22 of the Treaty, the equal treatment principle only applies to the taxation of the PE's own activities and does not therefore extend to provisions that take into account the relationship that the entity may have with other enterprises which would allow the transfer of losses.

More recently, on September 6, 2011, the Federal Court of Appeal upheld the Tax Court's decision.6  The Federal Court of Appeal held that, with regard to paragraph 1 of Article 22 of the Treaty, the provisions of the Act discriminate based on residency and not based on nationality and therefore do not constitute discrimination against Saipem UK under the Treaty.  The Federal Court of Appeal also held that, with regard to paragraph 2 of Article 22 of the Treaty, the provisions at issue did not constitute less favourable treatment of Saipem UK.

The Federal Court of Appeal rejected the argument that Canada should be precluded from discriminating against a taxpayer on the basis of residency, stating that there is nothing in the Treaty to support this view.  The appeal was dismissed with costs.

Given that the timeline has lapsed within which Saipem UK would be able to appeal its decision to the Supreme Court of Canada, it appears as though the Tax Court's decision with respect to non-discrimination and the residence requirement is here to stay until another case makes its way through the courts.   


1.Saipem UK Limited v. The Queen, 2011 TCC 25 (decision rendered on January 14, 2011).

2. Jim Wilson and Pierre Alary, TCC Rules on First Canadian Non-Discrimination Treaty Case: Saipem UK Limited v. The Queen, Canadian Tax @ Gowlings, Volume 8, Number 2 (May 3, 2011). 

3.Income Tax Act, RSC 1985, (5th Supp), c 1.

4.Convention Between the Government of Canada and the Government of the United Kingdom of Great Britain and Northern Ireland for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital Gains, as amended.

5. As found in paragraph 1 of Article 24 of the Organisation for Economic Co-operation and Development's Model Tax Convention on Income and on Capital and Canada's treaties in general.

6.Saipem UK Limited v The Queen, 2011 FCA 243.

Income Allocation Methodology for Non-Residents Working in Canada: Price v. The Queen

By: John Sorensen


The allocation of a non-resident pilot's income for duties performed in Canada, previously considered in Sutcliffe v. The Queen,1 was recently revisited by the Tax Court of Canada ("TCC") in Price v. The Queen.2  Although the TCC substantially followed the reasoning in Sutcliffe, the Price case is worth reviewing since it recaps how taxable income may be allocated for non-residents performing duties in Canada.

Before Sutcliffe, income earned by a non-resident pilot employed by a Canadian airline for flying from Canada to an international destination was not taxed in Canada, while the entire amount earned for domestic flights was taxed in Canada.  In both situations, the amount of time the plane was in or outside Canadian airspace was irrelevant.  In Sutcliffe, the TCC concluded that this income should be taxed based on time in Canadian airspace and non-flying income should be allocated pro-rata. 

Facts, Issues and Analysis

Mr. Price was an Air Canada pilot resident in Bermuda.  All of his flights for Air Canada originated in Canada and primarily departed from Toronto.  Like Mark Sutcliffe, Mr. Price received remuneration for time spent flying back to Canada on Air Canada for work (so-called "deadheading"), pre-flight and piloting duties, standby duty, training, disability, sickness and vacation and other incidental matters. Mr. Price sought to distinguish his case from Sutcliffe on the basis that he was a much more senior pilot with different duties, he flew longer distances, spent more time abroad and conducted more duties while abroad. 

The most substantial income allocation issue in Price concerned whether income from domestic flights should be solely taxable in Canada, regardless of whether the flights crossed into U.S. airspace.3  The second most substantial issue was the allocation of income for time between flights, which the taxpayer estimated as comprising 70% of his time away from home.

To establish his preferred income allocation method, Mr. Price proposed an example of a typical international flight involving 48 hours of time away from home of which 5 hours involved working in Canada, to conclude that only 10.4% of his international flight income should be allocated to Canada.  In Mr. Price's opinion, if he was required to be away from home for 48 hours in the course of his work for Air Canada, his compensation was for the 48 hour period, regardless of the amount of time he was piloting the plane.

To the contrary, the respondent proposed that if specific overseas flight duties took 10 hours, of which 5 involved working in Canada, the allocation should be 50%, regardless of the amount of time the pilot was away from home.

Ultimately and unfortunately for Mr. Price, the TCC rejected his income allocation method, because it did not accord with the agreement between Air Canada and the pilot's union, which established that pilots are paid for flights based on time "on duty"4 and not for time in between flights.  The TCC stated that although being away from home was a condition of employment, it was a condition for which the pilot was not remunerated.  The TCC further noted that it was appropriate to rely on the terms of a taxpayer's contract, which is consistent with the Court's decision in Austin v. The Queen,5 a case concerning a non-resident CFL football player. 

In terms of choosing a preferred income allocation method, the TCC again relied on Sutcliffe, which in turn had relied on the "reasonableness" test established by the TCC in Sumner v. The Queen.

6  In Sumner, the TCC held that the party relying on the more reasonable income allocation method would prevail.  In this regard, it is not sufficient for a taxpayer to point out that the Minister's allocation method is not accurate.  Rather, the taxpayer must provide the Court with a more reasonable income allocation method to win an appeal. 

It is worth noting that at paragraph 38 of Price, the TCC adopted a position between the taxpayer's position and that of the Minister on the basis that it was a more reasonable income allocation than was proposed by either party.  The TCC's allocation confirmed the holding from Sutcliffe that 31% of Mr. Price's income for the Vancouver-Toronto route and 49% of his income for the Toronto-Vancouver route was earned outside Canada.  Consequently, the TCC's assessment of a reasonable position may be more than simple "baseball arbitration" and may allow for the judge to find middle ground between the positions.


Price and its predecessor cases have established that when a non-resident taxpayer is reassessed to reallocate income to Canada, the taxpayer must establish not only that the Minister's allocation method is unreasonable but must also provide the Court with a more reasonable allocation method upon which to rely.  The cases further establish that the terms of an employment agreement will be given significant weight in determining the most reasonable allocation method, to the extent that the employment agreement confirms precisely the work for which the employee is receiving remuneration.  Consequently, it may be concluded that residents of low tax jurisdictions who work in Canada would benefit from employment contracts that tend to minimize the extent to which remuneration is attributable to work in Canada, albeit on a reasonable basis.  Of course, Price and its predecessor cases have ramifications for workers other than pilots, and offer guidance for all non-residents who work in Canada.


1. 2005 TCC 812 ("Sutcliffe").

2. 2011 TCC 449 ("Price").

3. Mr. Price argued that 90% of his Toronto to Vancouver return flights were over the U.S., a contention rejected by the Minister of National Revenue ("Minister").

4. "On duty" time is defined as beginning an hour before a flight and ending thirty minutes after the flight ended.

5. 2004 TCC 6 ("Austin").  In Austin, the issue was whether the player's income should be calculated and allocated based on the number of days he was in Canada or the number of games he played in Canada.  Since the player was paid on a per game basis pursuant to his employment contract, the Court held that his income should be calculated on that basis.

6. 2000 DTC 1667 ("Sumner").  The taxpayer in Sumner was the rock musician better known as "Sting".

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.