NON-RESIDENT PASSIVE COMMERCIAL INVESTMENT in CANADA

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For non-residents investing in Canada, contact our law firm at Chris@NeufeldLegal.com - 403-400-4092 / 905-616-8864

Canada provides robust and diverse opportunities for international investors seeking passive commercial returns, whether these stem from financial assets like debt and equity instruments, or physical assets such as commercial real estate, which require appropriate tax and legal advice to optimize returns. For a non-resident individual or foreign entity, accessing these returns requires a comprehensive understanding of Canada's unique territorial tax regime, as governed by the Income Tax Act (Canada). Non-residents are specifically taxed only on income sourced within Canada. This core principle, however, is implemented through a series of specific withholding requirements and compliance obligations that necessitate careful up-front planning to ensure administrative efficiency and optimal net returns on the Canadian investment.

The primary mechanism for taxing passive Canadian-source income flowing to non-residents is the Part XIII non-resident withholding tax. This tax is generally applied at a statutory rate of 25% on the gross amount of certain income streams. Key examples of income subject to this gross tax include dividends paid by Canadian corporations, passive rents from Canadian real property, and royalties. It is crucial to note that the legal responsibility for deducting and remitting this 25% withholding tax rests solely with the Canadian payer, rather than the non-resident recipient. For the investor, this withholding often acts as a final tax liability to Canada on that specific income, typically eliminating the need to file a formal Canadian income tax return, unless an elective filing is subsequently made.

A significant opportunity for minimizing the impact of the 25% withholding tax lies in leveraging Canada's extensive network of bilateral tax treaties. These international agreements often override the domestic Canadian rate, providing for a reduced withholding tax rate, frequently lowered to 15% or 10% on payments like dividends, non-arm's length interest, or royalties, depending on the specific treaty and the nature of the payment. The immediate reduction in tax from 25% to a lower treaty rate can materially enhance the investor's cash flow and overall after-tax yield. To benefit from these lower rates, the non-resident must formally establish their status as a resident of the treaty country and confirm beneficial ownership of the income to the Canadian payer, usually requiring the submission of prescribed declaration forms to satisfy the Canadian tax authority.

Commercial real estate ownership in Canada introduces a critical tax planning decision point. While gross rental income is, by default, subject to the 25% Part XIII withholding tax, the Income Tax Act offers a valuable election under Section 216. This provision allows a non-resident to opt to be taxed on the net rental income rather than the gross amount. By filing a special annual Canadian tax return, the investor can deduct all eligible expenses, such as property taxes, management fees, maintenance costs, and interest on related mortgages. Electing to file a Section 216 return is often financially beneficial, transforming a potentially punitive tax on gross revenue into a more reasonable tax applied to the true economic profit, though it comes with the administrative requirement of submitting an annual return to the Canada Revenue Agency (CRA).

Finally, managing the eventual sale of Taxable Canadian Property, which notably includes direct interests in Canadian real property, requires rigorous compliance under Section 116 of the Income Tax Act (Canada). Upon disposition of Taxable Canadian Property, the non-resident seller is required to notify the CRA and secure a Certificate of Compliance. The purpose of this mandatory certificate is to establish the calculated tax on the capital gain. Without this certificate, the Canadian buyer is legally obliged to withhold a substantial portion of the gross sale proceeds (e.g., 25% of the gross proceeds) and remit it to the CRA as a pre-payment against the seller’s potential tax liability. Therefore, proactive management of the Section 116 application process is essential to minimize the amount of sale proceeds withheld at closing and ensure the prompt settling of the final Canadian tax on the capital gain.

For knowledgeable and experienced tax, investment and corporate law representation for non-residents looking to invest in Canada, whether through active business enterprises, passive income investments or real estate investments, we welcome you to contact our law firm for strategic legal advice to optimize your commercial interests in Canada at Chris@NeufeldLegal.com or call 403-400-4092 / 905-616-8864.

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