April 13, 2012 No. 2012-18
	Transfer Pricing Adjustments May Trigger More Tax Canadian businesses that have had their transfer prices adjusted by the CRA may face higher withholding tax liabilities due to measures proposed in the 2012 federal budget. Although these changes generally codify the CRA’s existing administrative position, they may also create a higher than expected non-resident withholding tax burden in certain situations, such as where the non-resident company involved in the transaction (e.g., a foreign sister company) is not a direct shareholder of the Canadian company. Background — Transfer pricing adjustments When Canadian businesses carry out transactions with non-resident companies with which they don’t deal at arm’s length, the CRA may adjust the amount associated with the transactions to reflect arm’s length terms and conditions. Once this “primary” transfer pricing adjustment has been made, a “secondary adjustment” is generally required to account for the benefit conferred on the non-resident participating in the transaction, as the non-resident is considered to have been overpaid for the goods, services or intangible property the Canadian business received. Tax treatment of secondary adjustments Proposals in the 2012 federal budget clarify the tax implications of secondary adjustments in transfer pricing transactions. The budget proposals confirm that a secondary adjustment will be treated as a deemed dividend for purposes of non-resident withholding tax, with the result that the related withholding tax will apply. This measure applies to transactions on or after March 29, 2012. Because the secondary adjustment is a deemed dividend and not an actual dividend, any Canadian withholding tax will generally not be eligible for a foreign tax credit in the other jurisdiction. However, the withholding tax applied to the deemed dividend may be reduced by a tax treaty. Previously, there was ambiguity as to which treaty was relevant — the treaty of the parent company (who may direct the global intercompany arrangements) or the treaty of the other party to the transaction. The budget proposals clarify that the other party's treaty is the relevant one. Generally, this might result in higher withholding taxes, as the other party to the transaction (e.g., a foreign sister company) may not have sufficient share ownership in the Canadian entity to qualify for the most reduced treaty rate for dividends. In addition, no deemed dividend will arise if the non-resident is a controlled foreign affiliate of the Canadian corporation. In this instance, the benefit conferred on the non-resident is more akin to a capital contribution than a dividend. Repatriation of adjustment amount The 2012 budget also proposes to confirm that a non-resident is allowed to repatriate to a Canadian corporation its portion of the primary adjustment. If the repatriation is made by the non-resident with the CRA’s concurrence, no deemed dividend will be considered paid to that non-resident. On repatriation of the amount of the primary adjustment, a secondary adjustment will be avoided. However, repatriation can create potential foreign currency exchange complications for both the payer and the recipient, as the exchange rates may have changed since the initial transaction. Practical problems may also arise with repatriation, for example, if the original parties to the transaction have been wound up or sold to third parties. We can help Your KPMG adviser can help you assess the effect on your company of this and other tax changes in this year’s federal budget. We can also help you review your company’s transfer pricing policies and help you verify, support and document the existence of arm’s-length intercompany charges for transactions within your corporate group. For details, please contact your KPMG adviser.
	Information is current to April 12, 2012. The information contained in this TaxNewsFlash-Canada is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation. For more information, contact KPMG’s National Tax Centre at 416.777.8500. KPMG LLP, the audit, tax and advisory firm (kpmg.ca), a Canadian limited liability partnership established under the laws of Ontario, is the Canadian member firm of KPMG International Cooperative (“KPMG International”). KPMG International’s member firms have 140,000 professionals, including more than 7,900 partners, in 146 countries. The independent member firms of the KPMG network are affiliated with KPMG International, a Swiss entity. Each KPMG firm is a legally distinct and separate entity, and describes itself as such. KPMG's Canadian Web site is located at http://www.kpmg.ca/ © 2012 KPMG LLP, a Canadian limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved. The KPMG name, logo and “cutting through complexity” are registered trademarks or trademarks of KPMG International.