Withholding tax

How BC law treats it

Withholding tax is federal. It comes from the Income Tax Act, RSC 1985, c 1 (5th Supp), not from any BC statute. Payroll deductions for income tax, Canada Pension Plan and Employment Insurance are a separate system usually called source deductions. Part XIII of the Income Tax Act imposes a 25% tax on dividends, rents, royalties, management fees and certain interest paid by a Canadian resident to a non-resident (s. 212). A tax treaty often reduces the rate, for example on dividends paid to a qualifying US shareholder. The Canadian payer must withhold and remit the tax (s. 215) and is liable for it if it fails to do so. Separately, Regulation 105 of the Income Tax Regulations requires a payer to withhold 15% from fees paid to a non-resident for services performed in Canada. Section 116 applies when a non-resident sells taxable Canadian property, such as BC real estate or shares of a private company that derive most of their value from Canadian real estate. Unless the seller obtains a clearance certificate from the Canada Revenue Agency, the buyer is liable for tax, unless after reasonable inquiry it had no reason to believe the seller was a non-resident. Buyers therefore hold back 25% of the price for capital property, and 50% for depreciable property (such as a building) or inventory such as land held for resale, until the certificate issues. In a BC share or asset purchase, the purchase agreement should include a residency representation from the seller and a holdback mechanism if the seller is, or may be, a non-resident.

What it means for your business

A BC buyer that pays a non-resident seller in full without a clearance certificate can end up paying the seller's tax out of its own pocket. A BC company that pays dividends, royalties or service fees to a foreign owner or contractor without withholding becomes liable for the unremitted tax plus penalties and interest. These rules affect cross-border acquisitions, foreign investors in BC companies, licensing deals with foreign IP owners and the hiring of non-resident consultants. Example: A Vancouver company buys a warehouse from a seller who lives in Hong Kong. The buyer's lawyer holds back 25% of the price allocated to the land and 50% of the price allocated to the building, which is depreciable property, until the seller delivers a section 116 clearance certificate, then releases the funds.

Risks and common mistakes

Treating withholding tax as a BC provincial tax or as ordinary employee payroll deductions. Accepting a seller's verbal assurance of Canadian residency instead of a written representation and statutory declaration. Releasing the full purchase price on closing before the section 116 clearance certificate is received. Paying dividends or royalties to a foreign shareholder or licensor without withholding Part XIII tax or applying the correct treaty rate. Forgetting Regulation 105 withholding when paying a non-resident contractor for work done in Canada.