Mr. CA Goes To Tax Court

Years ago, the Tax Court of Canada introduced its informal procedure, a type of “small claims” court for tax cases. I was intrigued at the time, because it allowed for non-lawyers such as myself to represent taxpayers, under certain conditions. So, I did some research and wrote an article on the topic which was published by CA Magazine. At the time, I hadn’t ever been to Tax Court (I’m confessing this now, years later, having successfully represented 3 clients since). My article was based strictly on research, and some anecdotes from a colleague. Anyhow, I thought I’d reprint an abridged version of that article for old times sake, so here it is:

Entering the courtroom I was less than impressed. It was smaller than I had imagined. And although there was a generous amount of oak trim surrounding me, it somehow felt cold and clinical. Perhaps my expectations were too high. I’ll admit to being a bit zealous. After all, here I was, about to plead a case in the Tax Court of Canada, and I was not even a lawyer.

As a chartered accountant, I was within my rights to represent my client in a tax case. The Informal Procedure Rules were established in 1991 to provide a “small claims court” environment where an individual taxpayer could represent himself without the need to adhere to strict rules of procedure and evidence. A lawyer or an agent, such as an accountant, may also represent an individual in an Informal Procedure case.

Under the rules of the Tax Court, the Informal Procedure may be invoked in an appeal where, for each assessment, the amount of federal tax involved, plus applicable penalties, is equal to or less than $12,000. In the case of a loss determination, the amount in dispute must not be more than $24,000, and where the dispute is in respect of an amount of interest only, the threshold is $12,000.

I explained to my client that the objective of these rules was expediency. Her case would be heard relatively quickly, within a few months of her application. The hearing would be short and a decision would be rendered quickly, usually in the same day, but generally not later that 90 days after the hearing. She would not be subjected to examination by the opposing counsel prior to the hearing. Her risk in the case of an unfavourable judgement would be reduced by the fact that costs could not be claimed against her by the Crown.

After our objection was denied, I had filed a timely Notice of Appeal on behalf of my client with the Registrar of the Tax Court. Since I was a layman, the strict rules of format regarding such a document were relaxed. The court had accepted my Notice, which was prepared in a letter style. However, I had still made certain that the letter contained all the necessary elements. Similar to what you might find in a Notice of Objection, the letter indicated the name of the taxpayer, the details of the assessment and the issues surrounding the appeal.

The judge gave me a curt nod and asked me to begin. I rose from my seat, thanked him respectfully, and gave my opening statement. I tried to avoid showing my anger at the injustices heaped on my poor, suffering client by the cold-hearted tax department. I would be better off, I figured, with a brief and logical summary of my case.

I guided my client logically through the sequence of events, ensuring that she stayed to the point at all times. As we went along, I introduced documents to support the testimony. In the Informal Procedure, the rules governing the introduction of evidence are markedly relaxed.

After cross-examination, I was asked to give my closing argument. I reviewed the evidence and referred to a court case as an authority to support our position. I came to a conclusion based on the facts and the law surrounding the issues, and I once again concluded with a request to have the Minister’s assessment altered. I thanked the court and sat down, hoping no one had seen me sweat.

I was done. I had presented a concise and forceful case. Although I was feeling exhilarated, I wasn’t sure whether I would give up my accounting practice just yet to pursue a law degree. The judge had been lenient with me, knowing I was a layman. The Informal Procedure was designed with non-lawyers in mind…

What’s Your Tax Issue? Home Built By Company

The Tax Issue

I recently built our “dream” home for 2.50M$. However, not having sufficient funds personally, my professional corporation financed the construction of the house for me, writes off the maintenance, utilities and taxes, and I rent the house from my company at a market value rent, having researched comparable rents in the neighbourhood. Apart from forgoing the principal residence exemption – are there any other detriments to this strategy?

The Answer

Could be. I’m assuming, since you are paying rent, that you’re aware of the shareholder benefit rules. That is, by virtue of the fact that the company has financed your house and pays expenses on your behalf, you are exposed to tax on the value of the benefit you are receiving from the company.

What you may not be aware of is how the CRA might establish the value of the benefit. It could be the market value rent as you have researched, and if so, the rent you’re paying would be enough to offset the taxable amount completely.

In your case, however, it may not be so simple. There is a line of jurisprudence, starting with the case of Youngman v. The Queen, that suggests that the benefit or advantage conferred on you is not merely the right to use or occupy a house; it is the right to use or occupy a house that the company, at your request, had built specially for you in accordance with your specifications. How much would you have had to pay for the same advantage if you had not been a shareholder of the company?

So what is this “alternative” calculation? Generally, the value of the benefit could be calculated by reference to the income the corporation would have earned if its capital had been productively employed and not based on the fair market rental value (which might be considerably lower).

As an example, on a $2.5M capital outlay, the company could have been expected to earn interest in a relatively risk-free investment of, say anywhere from 2% to 5%. This would mean an annual rent of $50,000 to $125,000, plus expenses. If you are paying any less than this in rent, despite what the market rents are in the area, then you could be exposed to a greater taxable benefit than you thought.

Harassment, Conflict and Litigation – Part Three

In the final instalment of this series on what creates the most HCL with the CRA in our SAS (“harassment, conflict and litigation” with the “Canada Revenue Agency” in our “self-assessment system”), we cover the granddaddy of disputable expenses – automobile costs. Any tax auditor worth his salt will zero right in on auto expenses like my tee shots to water. Why? Because everybody loves to drive and everybody loves to deduct car expenses. The problem is that the rules in this area are so onerous and complex, few taxpayers under investigation ever come out of it with no HC or L. It’s the record-keeping burden that gets most people into the HCL zone. So heed the following, and minimize your grief.

First, let’s summarize the basic rules for deductibility. As with any expense, the costs deducted must be in connection with your business. So how do we identify the business portion of the cost of something we regularly and continuously use for both personal and business purposes?

Kilometres.

Anyone who uses a car for business should keep track of the total amount of kilometres driven during the year, and a detailed account of which of those kilometres were driven in the performance of their business or employment functions.

Keep receipts and a detailed account of all your auto expenses, such as gas, repairs and maintenance, insurance, licence, registration, car loan interest and leasing costs. If you own your car, you may be able to claim depreciation (CCA).

Now you’re almost there, but you should be aware of certain limits that apply. If you lease your vehicle, deductible payments are restricted to $800 per month (or less, based on a formula, if the value of the car exceeds $30,000).

If you’ve borrowed to purchased your car, loan interest is limited to a maximum of $300 per month. For CCA purposes, there is a maximum on the capital cost of $30,000.

Finally, if you receive a non-taxable per-kilometre allowance from your employer, then you are not entitled to claim any auto expenses personally.

These rules are fairly detailed and objective, so where does the HCL come in? Problems normally arise in two areas – record-keeping, and what constitutes business mileage.

Most people by nature do not keep records as meticulously as the CRA would love to see. If you are audited, and need to justify the amount of kilometres you drove in a year for business purposes, the best evidence you could have would be a logbook where you keep track of where you drove, the number of kilometers, and the business purpose. Compare that to the total kilometres driven for the year, and you have pretty well justified your calculation. In most cases, however, a logbook does not exist, and the taxpayer is left to plead, cajole, regale and negotiate with mostly unsympathetic auditors to have them accept his ad-hoc percentage of business use.

In Quebec, the law requires that you keep a logbook if you drive a company car. Employees must provide their employer with a logbook within ten days after the end of the year, or face a fine of $200.

The second issue of concern is that sometimes it is not clear whether a trip qualifies as business use. Some taxpayers are unaware that travel from home to the place of work does not constitute business travel. However, here’s a tip: if you start out at home, make a stop for business purposes, say at a client’s premises, then proceed from there to your office, then the entire trip would qualify.

What about the case where home is the regular head office and work is carried out at remote sites, such as in the case of a self-employed contractor? If you can establish that your home is your center of operations, then all travel to a work site should be considered for business.

In this series of posts, we touched on some of the most common areas where taxpayers find themselves in hot water with the CRA. Our SAS requires good record-keeping and knowledge of the law. Hopefully, these articles have helped you with the SAS and your HCL level should go down from here.

Harassment, Conflict and Litigation – Part Two

This series of articles deals with a topic that often gets taxpayers into conflict with the taxman, what a client of mine described as “harassment, conflict and litigation”, which I have shortened to the easy-to-spell HCL. In our self-assessment system (SAS) of tax reporting, we are required to be aware of the rules, and honestly provide the CRA with correct information about our taxes. Most often, tax auditors like to zero in on those deductions that are most easily “miscalculated” by us SAS-ers. That’s because of the strict rules surrounding them, and their potential personal component. I am speaking, of course of meals and entertainment, and automobile expenses (MENTA). This article will discuss the rules surrounding meals and entertainment expenses.

Taking a client out for a meal is a long-standing and acceptable business practice. Traditionally, business-related meals have been deductible in our system. However, there is a 50% restriction on the deduction, in recognition of the fact that there is at least one person (you) enjoying a personal benefit from the arrangement. (In Quebec, there is a further restriction based on a percentage of gross sales.)

What constitutes a business meal to a taxpayer may not always pass muster with the CRA, and here’s where the HCL comes in. For example, there are some tax auditors who simply make the assumption that any meal consumed on the weekend is non-business related and automatically disallowed. Evidence that a meal is business related should include a copy of the restaurant bill, the name of the guest and the business reason for the meal. The burden is on the taxpayer to prove his case on a balance of probabilities.

There are similar rules for entertainment expenses. Sports and theatre tickets are good examples. If you purchase season tickets to a sporting event, for example, you must show the business purpose for the purchase by keeping track of who uses them and their business relationship to you.

Golf is pretty popular in the business world, and the CRA has always known this. That’s why there is a special rule for golf and other such club dues and fees. It’s a simple one: they are not deductible.

But what about business meals at a golf club? Back in 1997, the CRA came up with a policy that meals consumed at the club in conjunction with a game of golf were not deductible. So, as long as you weren’t playing golf, you could go there for a meal. If you played, you had to go somewhere else afterwards to enjoy a nice tax deduction with your meal. The CRA has since seen the silliness of this policy and now allows business meals at a golf club to be deductible (subject to the 50% restriction). Club dues and green fees, however are still off limits.

The meals and entertainment rules have been great fodder for HCL for many years. In one case, the CRA applied the 50% restriction to an investment advisor who routinely gave donuts to his clients to thank them for referring business. The Tax Court of Canada held that donuts did not constitute a “meal”, and allowed the deduction in full. Personally, I can’t imagine the staggering number of Timbits it would take to justify the cost of going to court over this issue, but at least the judge was able to show he was familiar with the basic food groups 🙂 .

In another case, a food critic, whose sole job it is to eat meals at restaurants was told by the CRA that the 50% restriction applied to her. This illustrates that there are no exceptions to the 50% rule (except, of course the exceptions, which include employee parties and charitable events – but I digress).

In our next article, more HCL with automobile expenses.

Harassment, Conflict and Litigation – Part One

I took a client to lunch the other day and he made an interesting observation. He thinks the income tax system in this country is based on harassment, conflict and litigation (what I will hereafter refer to with your permission as the HCL of Canadian tax). I felt obliged to point out to him that although HCL is a dominant feature, the actual basis of our tax mechanism is quite the opposite. In fact it relies at its core on the “self assessment system” of taxes by the taxpayer himself (Let’s call it the SAS). If a taxpayer practices accurate and honest SAS, then he will completely avoid the HCL. Well, that’s what our government (the CRA) tells us anyway, and I guess that would be true, at least in a perfect world (APW). Of course we don’t live in APW, and in our constant efforts to SAS, we might inadvertently cross the line, receive a friendly visit from the CRA and get into some stressful HCL.

The next three articles will deal with what I believe to be among the most common causes of HCL in our system: meals and entertainment, and automobile expenses (MENTA). When MENTA are related to the process of earning taxable income they may be deducted from income for tax purposes. Therefore, I should have been allowed to write-off the cost of that lunch as well as the gas and other car expenses for my trip downtown, right? True, but what about the personal element to my expenses? Arguably, I had to eat anyhow, and what about my little side trip to Golf Town on the way back to the office?

Now you’ve got the picture, right? These business expenses will invariably contain some personal element and it is this problem that not only causes a great deal of HCL, they have led to constantly changing sets of rules developed and refined over the years that are so difficult to understand and comply with, that only The Tax Issue could be relied upon to explain them to you, kind reader.

Before we get into the actual details of what can be deducted, let’s talk about who can take these deductions. For the purposes of our discussion, let’s divide the world into two types of taxpayers: those who are employed and those who are in business. If you are in business, then you generally have no restrictions on what you can deduct as an expense as long as it relates to your earning of income. All you have to do is follow the specific rules relating to the MENTA as we will discuss later.

One more general note about business (and forgive the digression) – the calculation of deductible expenses is generally the same, whether the business is run by an individual (sole proprietor), partnership or corporation. So please don’t ask again.

Employees are not so lucky. In fact, they are treated in an opposite fashion. In general, they are allowed no deductions from income unless specifically provided for them under the law. In the case of MENTA, luckily, such provisions do exist, but there are certain conditions.

The most common MENTA deductions allowed to employees are automobile expenses. In order to claim auto expenses, employees must meet strict conditions. They must have a contract (verbal or written) with their employer providing that they are required, as part of their employment duties to travel, and that they must bear the cost of their auto expenses. As evidence, they must have their employer complete and sign a prescribed form stating the terms of their employment and whether auto expenses are reimbursed either directly or through an allowance.

Generally, you cannot deduct meals and entertainment costs if you are an employee. The only exception to this rule is if you earn commissions. A commissioned employee is generally treated similar to a person earning income from a business. That is, there is a general rule allowing the deduction of expenses relating to the earning of that income. The only restriction is that the deductions are limited to the amount of commission earned in the year.

Next time, we’ll be discussing the deduction of meals and entertainment expenses and the HCL that goes along with it!

What’s Your Tax Issue? 69 Problems

The Tax Issue:

As we speak, I’m studying for my corporate tax midterm and my teacher has told me something that doesn’t make much sense.

According to section 69, if a transaction with a non arms length person occurs at below fair market value (FMV), the adjusted cost base (ACB) to the purchaser will be the actual amount paid.

OK, fine.

Then, under subparagraph 13 (7)(e)(iii), the undepreciated capital cost (UCC) to the purchaser will be the FMV and the cost base will be the same ACB of the vendor, the difference between the two being deemed capital cost allowance (CCA)…

Say what?

Here’s an example of a building:

Capital cost to vendor: $325
FMV: $200
Actual sale price: $180.

Under section 69, the ACB of the purchaser will be $180; OK fine.

Now, under section 13 (7)(e)(iii), the UCC will be $200 with a capital cost of $325, the $125 being deemed CCA…

Don’t these provisions contradict themselves?

The Answer:

Since you are studying for your midterm, I’ll try to answer quickly.

Section 69 has been discussed in a previous post. It makes only a one-way adjustment to the proceeds to the seller in a non-arm’s length sale below FMV. It remains silent on the consequences to the purchaser. In a normal case of non-depreciable property, therefore, the cost to the purchaser remains the price paid as you have stated.

However, special rules for the purchaser kick in when he has purchased depreciable property. Subparagraph 13(7)(e)(iii) is there to ensure that a non-arm’s length purchaser does not turn a future recapture of depreciation (fully taxable) into a capital gain (half taxable).

First of all, if you read the preamble in paragraph 13(7)(e) it applies “notwithstanding any other provision of the Act”, so it overrides section 69.

Next, it doesn’t change the cost of the property to the purchaser, it simply designates it as UCC, and tacks the seller’s original capital cost on top so that a future sale triggers a recapture of depreciation to the extent that the original vendor would have a recapture, thus preserving the original tax treatment of capital cost.

In your example, the UCC will be the actual cost to the purchaser, being $180. This is true under both section 69 or under 13(7(e)(iii). The effect of 13(7)(e)(iii) is to deem the capital cost to be $325, so if the property is eventually sold for, say $400, there will be a recapture of $145 (325-180), which is fully taxable and a capital gain of only $75 (400-325), which is 50% taxable.

Good luck on your mid-term!!

Loophole Repairs, Part Two

In this post, we continue our list of loophole repairs made by the federal government in recent months.

Loophole #3 – Flow-Through Share Donations

In an effort to encourage charitable giving, the law was changed a few years ago to allow a person to donate publicly traded stock to a registered charity without having to recognize and pay tax on any capital gain on the disposition of the stock.

In an effort to facilitate the funding for the exploration of natural resources, tax laws have for many years provided for the existence of “flow-through shares”. Essentially, a resource company issues shares to a taxpayer and then allocates, or “flows through” its exploration expenses, which can be fully deductible to the shareholder. This deduction has its consequences – it reduces the tax cost of the share so that a capital gain will apply if it is sold.

A loophole was created when tax planners found a way to combine the two incentives described above. A taxpayer purchases a flow-through share, receives the related resource deductions, then donates the share to a registered charity, claiming a donation credit, without having to recognize the gain on the disposition of the share. This strategy effectively reduced the cost of making a donation to near zero.

The Fix:

The 2011 federal budget proposes to eliminate the above loophole by restricting the capital gain exemption on donation of shares to the amount by which the value of the donated share exceeds the amount that was originally paid for it (as opposed to the reduced cost), thereby reinstating the tax on the gain attributed to the deductions allowed.

Loophole #4 – Interest on “Adjustable” Loan

Generally, a corporation or partnership records transactions on an accrual basis for tax purposes. When interest is payable on a loan, but remains unpaid at year-end, a deduction is available for “accrued interest” on the loan.

In the case of Collins, a partnership accrued interest on a loan where the principal could be reduced at the borrower’s option by making a final payment before a certain date. Interest, however, continued to accrue on the original principal amount until the option was exercised. The interest was never paid, but the accrued deductions were allowed.

The Fix:

The proposed legislation now provides that in cases where a taxpayer has a “right to reduce” an amount in respect of an expenditure, it cannot make a deduction in respect of that expenditure in excess of the reduced amount.

Loophole #5 – Arm’s Length Interest Payments

Historically, interest paid to non-residents of Canada are subject to withholding tax which can be as high as 25%. There are certain exemptions, one of which now applies to all interest paid to arm’s length parties.

In the case of Lehigh Cement Limited, a company was paying interest to a related foreign person, and was required to deduct withholding tax. In order to circumvent this requirement, the interest portion of the payments were sold to an arm’s length bank. Guarantees were given, and the bank was duly compensated for its trouble, and a loophole was created.

The Fix:

The government has now changed the wording of the withholding tax exemption. Rather that applying to interest paid to a non-arm’s length person, the withholding tax will now also apply to interest paid in respect of a debt owed to a non-arm’s length person.

Loophole Repairs, Part One

Years ago, when I was first introduced to a tax practitioner, I was compelled to ask him for a list of loopholes I could use in preparing my tax returns so I would pay little or no taxes. After all, that’s what they did, right?

I later learned, of course, that you can avoid paying some taxes all of the time, you can avoid paying all taxes some of the time, but you can’t avoid paying all taxes all of the time. (I think Bob Dylan said that).

Which brings me to the subject of this two-part post – you guessed it – tax loopholes. Rather, the federal government’s recent assault on some tax planning strategies that it has finally seen enough of.

Loophole #1 – Tax Deferral Using Partnerships

Once upon a time a self-employed person starting up a new business could defer income tax by simply choosing an off-calendar fiscal period. While individuals report their taxes every calendar year, the income they reported from a business was based on the earnings for the fiscal period ending in the calendar year. For example, an attorney with a fiscal year end of January 31, 1991 would not have to pay taxes on income for that year until April of 1992, even though 11 months of that income was earned in 1990.

In 1995 the rules were changed to force any individual or partnership with individuals as partners to report their income on a calendar year basis.

That change, however, did not apply to corporations. Nor did it apply to partnerships, all the members of which are corporations. Therefore, a common tax planning tool for a company would be to enter into a partnership with another corporation. The partnership could establish a year-end that was different from the company’s fiscal year, thereby deferring tax on income earned through a partnership.

The Fix:

The 2011 federal budget proposes to eliminate the deferral for corporations earning income through a partnership where the company has a significant interest in the partnership. Partnership year-ends will now have to coincide with the fiscal period of the corporation.

Loophole #2 – Kiddie Capital Gains

In the early 1990’s, family trusts were all the rage. Income splitting with your children was possible by placing shares of a company in a trust. The beneficiaries of the trust could be your children, and dividends paid to the trust were allocated to the beneficiaries. Children with no other sources of income could earn up to $30,000 of dividends without paying any tax!

In 1995, the government eliminated this benefit by introducing the “kiddie tax”. Essentially, now, any dividends paid to a minor child will be taxed at the highest tax rates for individuals.

The above rule, however, does not apply to capital gains. Therefore, a trust could, for example, sell a portion of its shares to a related person and allocate the capital gain to a minor child, thereby skirting around the kiddie tax.

The Fix:

Proposals in the 2011 federal budget take aim at the above loophole by extending the kiddie tax to any capital gain earned by a minor child on a sale to a non-arm’s length party where a dividend on the share would have been subject to the tax. The capital gain will be treated as a dividend, and will not be eligible for the capital gains exemption.

In our next post, more loophole repairs!!

How CRA Reviews Your Taxes

The Canada Revenue Agency (CRA) today posted a note on its web site, explaining its personal tax review procedures. I thought this was worth reproducing here:

The CRA wants to make sure you are paying the correct amount of taxes—not too much and not too little.

Each year, more taxpayers file their income tax and benefit returns online using NETFILE or EFILE. Although electronic filers do not have to send their receipts to the CRA, they should make sure to keep the receipts and relevant documents that support their claims. When the CRA reviews returns, it will ask taxpayers for receipts or specific supporting documentation.

Completing your individual return can sometimes be complex. The CRA does several reviews to make sure that income, deductions, and credits are accurately reported and filed. These reviews promote taxpayer education by identifying areas of misunderstanding.

Four review programs

There are four main review programs:

  • Pre-assessment Review Program
  • Processing Review Program
  • Matching Program
  • RRSP Excess Contribution Review Program

Canadians file about 27 million individual income tax and benefit returns each year, and all are electronically analyzed. Based on this analysis, certain returns are selected for review because they are high-risk. Other returns are selected as part of a random sample used to measure non-compliance for all taxpayers.

Under the Pre-assessment Review Program, the CRA electronically analyzes returns to identify situations that represent a higher risk of tax loss. Various deductions and credits are reviewed, and contact with the taxpayer may be made by mail before a notice of assessment is issued.

After a notice of assessment is issued, returns go through the Processing Review Program where they are reviewed to make sure that certain claimed deductions and credits are accurate and are supported by appropriate documentation. The CRA may also ask a taxpayer for proof of payment. In specific instances, a taxpayer may be asked to send more information to support his or her claim, such as cancelled cheques or bank statements. If a review identifies an error, the taxpayer will receive a new notice of assessment.

The Matching Program makes sure that information slips filed by a third party, such as an employer or a bank, correspond to the information the taxpayer reported. Payers and financial institutions submit to the CRA a copy of all slips they issue to taxpayers, which the CRA cross-references with returns after notices of assessment are issued.

All returns are matched to third-party information slips. If there is a discrepancy between the income reported by a taxpayer and the income reported by a third party, the CRA may contact the taxpayer or a representative by mail or telephone for clarification. If the CRA determines that an adjustment is required after completing the review, it will send a new notice of assessment to the taxpayer.

The RRSP Excess Contribution Review Program makes sure that taxpayer records are correct and that any required T1-OVP, Individual Tax Return for RRSP Excess Contributions forms are filed by the taxpayer. Through this program, the CRA identifies taxpayers with potential registered retirement savings plan (RRSP) excess contributions and communicates with them to review their situation.

More information

For more information on the Pre-assessment Review Program, the Processing Review Program, and the Matching Program, go to www.cra.gc.ca/reviews.


What’s Your Tax Issue? Withholding on Interest

The Tax Issue:

I’m a Canadian real estate investor. My mortgage is up for renewal and I have a friend who is not a Canadian resident (lives outside of Canada) who’s going to fund the mortgage payment. I’m going to pay him interest on an annual basis. I’m keeping the money for 5 years but I may be selling the current property that I’m holding now within a year. At which point I will reinvest that money in another property. What are the withholding tax rules that apply?

The Answer:

Well, you’re in luck, because I just got back from the UK, and I’ve been suffering from jet lag for the last week, so I haven’t had the energy to post for a while, but your question is a quick one, so I thought I’d quickly answer.

The answer is, most likely, there will no withholding tax. In 2008 withholding tax on interest paid to any arm’s-length non-resident was eliminated. Assuming your friend is not related to you, and that he is charging you a fair interest rate, the relationship should be considered at arm’s length, and no withholding will apply.

Even if the relationship is deemed to not at arm’s length, if your friend is a U.S. resident, the Canada-U.S. Treaty will kick in, and again, no withholding will apply since it was phased out completely as of 2010.

So, generally, the only way you may have a withholding obligation for interest is if it is paid to a person with whom you do not deal at arm’s length and who does not reside in the U.S. In such cases, the withholding rate is 25%, but could be reduced by a Treaty with Canada.