Outbound Corporate Structuring for Canadian Parent Companies Investing in the US – Effective Tax Rates

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Outbound Corporate Structuring for Canadian Parent Companies Investing in the US – Effective Tax Rates

Leading Tax Advice

Call Nicholas Kilpatrick



In an increasingly globalized and digitized world, small and medium-sized enterprises can grow and compete internationally to an extent that was not previously possible. These same economic realities have also forced many small and medium-sized enterprises to expand outside of Canada or attract investment from outside of Canada in order to adapt and survive. Whether voluntary or involuntary, cross-border expansion and investment leads to international tax issues that may not be familiar to a private enterprise’s advisors.[1]

When determining the optimal corporate structure to use when investing in the US, and the vehicle to contain that business in (ie: U.S C-corp, LLC, or LP), consideration must be given to the effective tax rate realized upon repatriation of that income to the Canadian individual taxpayer.  Such a calculation is necessary in order to determine in viability of the U.S investment.  Such a determination is facilitated via the calculation of the effective tax rate (ETR) realized by the Canadian taxpayer upon full repatriation of the U.S income.

3 Alternative corporate cross-border structures are analyzed below:

  1. wholly owned Canadian corporation wholly owning a US LLC,
  2. wholly owned Canadian corporation wholly owning a US corporation,
  3. Canadian individual owning a US Corporation.


The  alternative structures presented here are likely to be the most common that a Canadian investor would consider in developing a strategy for investing in, and exiting from, the United States. In all cases, the ultimate recipient of the income distributed through the structures analyzed is a Canadian individual who is a resident of Canada and not a resident or citizen of the United States.[2]

In the alternatives that include a Canadian corporation, that entity is a CCPC for Canadian income tax purposes. The models generally consider only controlled US entities that qualify as CFAs for Canadian income tax purposes.   For each structure, we compute the ETR by assuming that structure derives US-source income that is from "income from an active business" for Canadian tax purposes.

For US income tax purposes, the models reflect income that is US-source effectively connected income (ECI) and US-source capital gains, unless otherwise noted. They reflect both long-term and short-term

[1] Byron S. Beswick and Michael Dolson, "International Tax for Owner-Managers," in 2020 Definitive Guide to Owner-Manager Taxation Virtual Conference, (Toronto: Canadian Tax Foundation, 2020), 10: 1-121.

[2] Tim Barrett and Kevin Duxbury, "Corporate Integration: Outbound Structuring in the United States After Tax Reform," in Report of Proceedings of the Seventieth Tax Conference, 2018 Conference Report (Toronto: Canadian Tax Foundation, 2019), 18:1-76.



capital gain scenarios. Additionally, for the sake of simplicity, the capital gain scenarios assume that there is no recapture of tax deprecation.

Canadian tax liability generally turns on whether a person is a resident or a non-resident of Canada. A person who is resident in Canada during a tax year is subject to Canadian income tax on his or her worldwide income from all sources, which includes income from an office, employment, property, or business. Accordingly, an individual who is a resident of Canada is subject to Canadian tax on any income earned directly from a source outside Canada. This includes dividends received on shares of non-resident corporations, which would generally be characterized as income from property and included in a taxpayer's income for the year in which the dividends are received (or in which the taxpayer becomes entitled to receive the amount).

Subsection 91(1)  is an exception to the general rule that income is recognized in the year in which it is received or receivable by a taxpayer. Canadian taxpayers are subject to current taxation on FAPI earned by closely held corporations (CFAs)  regardless of whether the FAPI is repatriated to Canada in the year income or profits are realized by the CFA. Specifically, in computing taxable income for a taxation year, taxpayers are required to include their "participating percentage"  of the FAPI earned by each of their CFAs pursuant to subsection 91(1).  The amount corresponding to the taxpayer's FAPI inclusion for the year is added to the adjusted cost base (ACB) of its shares in the CFA.

Under new rules applicable to taxation years beginning after 2018, a CCPC will be entitled to a dividend refund for refundable tax paid on FAPI included in a CCPC's income only when the CCPC pays out non-eligible dividends.  These new rules can adversely affect ETRs on US outbound structures in certain limited circumstances.


Limited Liability Companies and Anti-Hybrid Rules


This discussion summarizes the availability of Canadian deductions and credits for US tax paid in respect of income earned by an LLC that is fiscally transparent for US tax purposes. We also touch briefly on the application of the Canada-US treaty to LLCs where it affects the integration tables. For the purposes of this discussion, it is assumed that the LLC interest is held directly by a Canadian-resident individual ("individual member") or a corporation resident in Canada ("corporate member"). Structures 3, 5, 7, and 8 in the integration tables in the appendixes summarize the integrated rates for investing through different LLC structures.


Nature of an LLC


Unless an LLC elects to be treated as a corporation, a single-member LLC is disregarded as an entity separate from its member, and a multiple-member LLC is treated as a partnership for US federal income tax purposes. Since the United States does not impose tax on fiscally transparent LLCs, Canadian residents that invest directly in LLCs (or indirectly through other transparent entities) are subject to US tax on their income attributable to or allocable from the LLC.

ECI earned by a non-resident individual or a foreign corporation through a disregarded LLC is generally subject to estimated tax payments and reporting requirements similar to those that apply to US individuals and corporations, respectively. If an LLC that is treated as a partnership has ECI, and if any


portion of that ECI is allocable to a foreign partner, the LLC must withhold tax at the highest rate applicable to individuals (37 percent) or corporations (21 percent), as applicable. The LLC must remit the withholding tax regardless of the relevant foreign partner's ultimate US tax liability, and regardless of whether the partnership makes a distribution. The relevant foreign partner must file a US tax return in respect of its allocable ECI.

By contrast, Canada views LLCs as corporations for tax purposes. For the purposes of the Act, LLCs are treated as having share capital, and therefore can qualify as an FA or a CFA of a taxpayer, with the attendant tax consequences including computing and tracking surplus pools and recognizing FAPI under subsection 91(1).  Distributions of income or profit from an LLC are treated as dividends for Canadian tax purposes.


US Taxes Paid on Income of a Foreign Affiliate LLC


US tax paid by Canadian residents in respect of income allocated from an LLC is considered non-business-income tax for Canadian tax purposes.  Although for US tax purposes members of an LLC are considered to carry on the business of the LLC, this treatment is not recognized for Canadian tax purposes. Accordingly, taxpayers are considered to have paid US tax in relation to, or in respect of, the holding of the LLC interest and not the LLC's activities. This treatment determines the availability of credits and deductions under Canadian tax law for US tax paid by a Canadian-resident member.

C corp

Although more complicated to operate, a C Corporation provides the most personal liability protection for shareholders in a company. The IRS considers a C Corporation an independent taxpayer and associates its income and expenses with the business, not its owners (shareholders). Ownership of a C Corporation is established through issuing shares of stock, either held privately or publicly.

A C Corporation (unless it files for the S Corporation election) must pay federal income tax on company profits at the corporate tax rate. In some circumstances, the corporate tax rate may be lower than paying the individual tax rate on business profits (as with an LLC). As a C Corp, your company may be eligible for tax deductions not available to other business structures.

Unlike with a sole proprietorship (and in the case of some LLCs), a C Corporation will survive beyond its owners’ life spans.




Calculation of Effective Tax Rates (ETR):






As can be seen from the ETR analysis, combined US-Canadian tax rates can differ depending on corporate structures selected.  The optimal combined Canadian-US corporate structure will ultimately depend on the preferences of the Canadian taxpayer as they relate to tax minimization, liability protection, and estate planning preferences.


Nicholas Kilpatrick is a partner with the accounting firm of Burgess Kilpatrick and specializes in tax structuring and business development for his small and medium business sized clients.  Please visit our website at www.burgesskilpatrick.com.


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