Foreclosures and Non-Resident Withholdings under the Income Tax Act
This article addresses a particular challenge that a purchaser of real property in a foreclosure scenario faces with respect to its potential liability for tax (non-resident withholding tax) under section 116 of the Income Tax Act (Canada) (the “ITA”).
Section 116 of the ITA makes a purchaser of real property liable to pay tax to the Canada Revenue Agency (the “CRA”) in an amount of 25% or 50% of the purchase price of the real property, where the vendor of the real property is a non-resident of Canada, unless:
(a) after making reasonable inquiry the purchaser had no reason to believe that the vendor was not resident in Canada; or
(b) the purchaser received a s.116 clearance certificate from the CRA.
Typically, when acting for a purchaser of real property we request a statutory declaration or certificate from the vendor representing that it is not a non-resident of Canada. This is widely considered to be reasonable inquiry into the residency of the vendor and if, after such inquiry the purchaser has no reason to believe that the vendor was a non-resident of Canada, the purchaser should be relieved from the liability for tax.
Where the vendor cannot or will not provide this representation and the purchaser has not received a s.116 clearance certificate, a prudent purchaser withholds and remits 25% or 50% of the purchaser price.
If a mortgagee exercises a power of sale pursuant to the terms of a court order and title to the property passes directly from the mortgagor to a third party purchaser, the CRA takes the position that the provisions of section 116 apply.
Where title passes directly from a vendor/mortgagor to a purchaser, as part of foreclosure proceedings, it can be difficult to obtain the necessary representations from the vendor/mortgagor as they are likely not involved and not cooperative. The mortgagee will not likely make any representations as to the residency of the vendor/mortgagor and may not be willing or able to obtain a s.116 clearance certificate on behalf of the vendor/mortgagor.
The question as to what constitutes "reasonable inquiry" becomes extremely important. The only articulation of what is reasonable inquiry comes from the CRA:
The purchaser must take prudent measures to confirm the vendor’s residence status. The CRA will review each case on an individual basis whenever a purchaser assessment is being considered. The purchaser may become liable if, for any reason, the CRA believes that the purchaser could have or should have known that the vendor was a non-resident or did not take reasonable steps to find out the vendor’s residence status.
In order to be relieved from the liability for s.116 tax the purchaser must, after “reasonable inquiry”, have no reason to believe the vendor/mortgagor is a non-resident. Some suggestions as to what might constitute “reasonable inquiry” for this purpose are:
(a) searches of a telephone directory, Canada 411 or Google demonstrating a Canadian address for the vendor/mortgagor;
(b) soliciting the mortgagee for any information the lender may have regarding the residency of the vendor/mortgagor, such as a banking address;
(c) soliciting the realtors involved for information regarding the residency of the vendor/mortgagor; and
(d) confirming the address on record at the Land Title Office.
Residency for tax purposes is a difficult concept, and no one source will be able to provide conclusive evidence regarding the residency of a vendor/mortgagor. In order to be relieved of its liability for tax, the purchaser must make reasonable inquiries regarding the residency of the vendor/mortgagor and have no reason to believe the vendor/mortgagor is a non-resident.
If a purchaser is unable to obtain a level of comfort relating to the residency of the vendor/mortgagor, a prudent purchaser should require the lawyer for the mortgagee to withhold the appropriate amount until the purchaser has been provided with a s.116 clearance certificate or remit the appropriate withholding amount to the CRA within the time limits required by s.116.
The CRA’s position differs where a mortgagee acquires property by an Order Absolute. In such circumstances the CRA’s position is that s.116 does not apply unless the transactions of mortgage and foreclosure were used as a device to sell the property to a mortgagee or a third party.
1 A purchaser is liable to pay 25% of the purchase price under s. 116(5) where the real property is held as capital property of the vendor and 50% under s. 116(5.3) where the real property is not held as capital property of the vendor.
2 CRA Information Circular IC72-17R5 (March 15, 2005), at para. 46.
3 CRA Information Circular IC72-17R5 (March 15, 2005), at para. 50.
4 CRA Information Circular IC72-17R5 (March 15, 2005), at para. 45.