2023-0965771C6 Question 5 - Remote Work Arrangements

Principal Issues: Canadian tax issues for U.S. resident employers of Canadian resident employees under remote work arrangements.

Position: Subject to facts and circumstances.

Reasons: Application of section 253 and prior positions.

Author: Chan, Michael
Section: Section 253; Canada – U.S. Income Tax Convention

2023 IFA Annual Conference
CRA Roundtable

QUESTION 5: Canadian tax issues for U.S. resident employers of Canadian resident employees under remote work arrangements.

Traditional work arrangements between office-based employees and employers involved employers making offices available for the employee to work out of, and an expectation that employees would physically work from those offices on a full-time basis. However, well before the COVID-19 pandemic hit, employees and employers were exploring more flexible remote work arrangements (“RWA”) that would enable employees to work remotely and not have to work from the employer’s offices. COVID-19 accelerated the pace of change in this regard and RWAs became more common.

Given Canada’s proximity to the U.S., many Canadian resident individuals are employed by U.S. resident employers. Foreign companies are looking beyond their borders to find skilled labour.

Assume you are dealing with a U.S. resident corporate employer (“USco”) with Canadian resident individual employees. USco was formed under the laws of the U.S. as a C-corporation that is taxed in the U.S. as a separate taxpayer on a worldwide basis. USco is a resident of the U.S. for purposes of the Canada-U.S. Income Tax Convention (the “Treaty”) and is entitled to benefits under the Treaty (i.e., USco is a “qualifying person” for purposes of Article XXIX-A of the Treaty). We would like to hear the CRA’s thoughts around whether USco may be considered to be (i) carrying on business in Canada for purposes of the Income Tax Act (Canada) (the “Act”), and, if so (ii) earning income through a permanent establishment (as defined for purposes of the Treaty) in Canada if, for example, 50 of the 1,000 USco employees are Canadian residents. Assume that the employees are allowed, but not required, to work from home for two or three days a week.

CRA Response

There has been no change in CRA’s position regarding cross-border RWAs. Although the volume of remote work may have increased, neither the relevant legislation nor the Treaty has been altered.

Whether USco is carrying on business in Canada will depend upon what the employees are actually doing whilst working from home in Canada. Prior CRA positions stated that while the determination of the place where a particular business (or a part of the business) is carried on necessarily depends upon all the relevant facts, such place is generally the place where the profit-producing contracts are concluded, or profit generating operations take place (as opposed to where the profits are realized).

The CRA provides guidance regarding factors to consider when determining the location of the source of business income in Income Tax Folio S5-F2-C1. This publication also highlights factors that should be given consideration for particular types of businesses.

The location where employees perform their duties is relevant to the extent it impacts some general factors that may be relevant in determining whether USco is carrying on a business in a particular place for the purposes of the Act, such as:

* the location where decisions to purchase and sell are made;

* the place where the goods are produced or the services performed;

* whether activities in the jurisdiction are merely ancillary to the main business; and

* the place where a reasonable person would consider the business to be carried on.

The following additional factors could also be viewed as relevant:

* the degree of supervisory or other activity in Canada;

* the presence of a representative or resident expert in Canada.

The determination would depend on the type of activity performed in Canada.

Some activities performed by employees routinely working from home in Canada and providing internal support will not generally cause USco to be carrying on business in Canada. An accountant or a human resource professional providing services only to USco could be an example of this. However, if USco provides consulting services to its clients and the Canadian resident employee working from home is a part of the service team, the physical location of the individual performing the services might inform the determination of the place where the services are performed. If the clients of USco are also resident in Canada, that might be an additional factor in determining whether USco is carrying on business in Canada. Similarly, should the Canadian resident employees of USco act in a product development role, their activities may bring USco within the extended meaning of carrying on business in Canada under the Act. For example, paragraph 253(a) may be applicable if the product development role amounts to “creating or improving, in whole or in part, anything in Canada”. Paragraph 253(b) of the Act may be engaged if the employee “solicits orders or offers anything for sale in Canada”, which generally includes actively seeking and attempting to obtain customers in Canada, beyond “a mere invitation to treat” or advertisement.

Even if USco carries on business in Canada and is required to file a Canadian income tax return, it will be exempt from Canadian income tax unless its activities in Canada meet the threshold of carrying on business through a “permanent establishment” under the Treaty. Consistent with the Commentary on the OECD Model Income Tax Convention, a home office of an employee, in and of itself, does not create a permanent establishment for USco. In most situations, the home office of the employee will not constitute a fixed place of business through which the business of USco is partly or wholly carried on. That might be the case if USco has ready access to the employee’s premises, pays rent for the use of those premises or if there is evidence of an intention to establish the workspace in Canada as an office of USCo that is at USco’s disposal.

Whether or not USco may be viewed as having an “agency” permanent establishment, as provided for in Article V(5) of the Treaty, or a “services” permanent establishment, as provided for in Article V(9) of the Treaty, will again depend on the type of employment duties performed by the employees in Canada. Remotely working employees may create an “agency” permanent establishment in Canada if they routinely enter into contracts in Canada on behalf of USco. In that respect, the extent of the contracting authority granted to Canadian resident employees may be relevant. For example, if a contract entered into by a Canadian employee requires approval by the U.S. office to be binding, such contract would not necessarily be viewed as entered into in Canada, provided the approval by the U.S. office is not merely a formality.

USco may be deemed under Article V(9) of the Treaty to be providing services in Canada through a permanent establishment if Canadian resident employees working from their home in Canada are providing those services for an aggregate of at least 183 days in any 12 months period in respect of a single project, or connected group of projects for Canadian customers (this could include a non-resident that maintains a permanent establishment in Canada where the services are provided in respect of that permanent establishment).

On the other hand, Article V(6) of the Treaty reinforces the view that activities of a preparatory or auxiliary nature carried out by employees while working under an RWA will not normally create a permanent establishment for USco.

There are other Canadian income tax considerations which should be addressed by USco. Canadian resident employees create Canadian income tax withholding obligations for USco, regardless of where the services are rendered, but the amount of Canadian tax to be withheld may depend upon how much working time is spent in Canada versus outside of Canada. In the example provided, if the U.S. also taxes the Canadian resident employees on the employment income paid by USco, the employees would be entitled to a foreign tax credit in computing their Canadian taxes payable. The employees may be able to obtain a “letter of authority” from the CRA to authorize USco to reduce the Canadian deductions at source to take into account the foreign tax credit.

Michael Chan
2023-096577
May 17, 2023

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