How would the principal purpose test (PPT) in Art. 7(1) of the Multilateral Instrument (MLI) apply in the following situations?
Situation (a)
Canco is owned by a Foreign Entity (FE) and FE is owned by a foreign multinational (Foreign MNC). FE, whose only activity is holding shares of Canco and has no employees, is resident in a country that has a treaty with Canada (“Treaty 1” - a Covered Tax Agreement), which provides for a 5% withholding tax on dividends paid by Canco to FE based on FE owning sufficient Canco shares. The treaty between Foreign MNC’s country of residence and Canada (“Treaty 2”) would also have reduced the dividend withholding rate to 5% if Foreign MNC had held Canco directly.
Situation (b)
The same as Situation (a) except that a holding company (HC), resident in a non-treaty country, was interposed for non-tax reasons between Foreign MNC and FE – but with the funding for the acquisition of the Canco shares still having come from Foreign MNC, and with any dividends paid flowing up to Foreign MNC.
Situation (a)
CRA indicated that it wished to provide only general comments which, regarding Situation (a), included:
- Regarding the transaction-purpose element of the PPT, the OECD Commentary on Art. 29 in paras. 178-79 indicates that this is an objective/subjective determination which include an examination of the surrounding facts, with reasonable inferences therefrom.
- Here, the relevant factors were that FE is a pure holding corporation with no employees and that both treaties provided a 5% withholding rate.
- Regarding the “object and purpose” part of the PPT test, para. 174 of the OECD Commentary on Art. 29 gives some indications that the treaty is meant to provide benefits in respect of bona fide exchanges of goods and services, and movements of capital and persons, as opposed to arrangements whose principal objective is to obtain favourable tax treatment.
- Another element that might inform the object and purpose part of the test is whether FE is a genuine resident of the Treaty 1 country.
- Also relevant is that the Treaties provide a reduction to a 5% dividend rate.
Situation (b)
The same considerations as for Situation (a) would be relevant. The initial factors here might be the timing of the transaction (when was HC introduced into the structure), the non-tax reasons for the structure; and any other judicial doctrines, provisions or treaties might be relevant.