On 29 July 2017 the OECD published a report entitled SME and Entrepreneurship Policy in Canada. The report looks at entrepreneurship activity, business structures, federal programmes, productivity and innovation among small and medium enterprises (SMEs). It also considers the business environment, ease of doing business, access to finance and the labor market.
The OECD report notes that Canada’s tax system is generally favorable to business and the ratio of total tax revenues to GDP is 30.5%, below the OECD average. Compared to the OECD average Canada raises more tax revenue from income taxes and a smaller proportion from social security contributions and tax on goods and services. Canada has achieved a high level of harmonization between the federal and provincial taxes and this has made the tax system rather easier for business to deal with. In addition to the generally business-friendly tax system small businesses also enjoy special tax provisions.
Small business deduction
A small business deduction applies to the first CAD 500,000 of active business income of Canadian Controlled Private Corporations (CCPCs). The small business concession is phased out from capital of CAD 10 million and eliminated altogether for businesses with capital of CAD 15 million and above. The provinces also have their own small business tax rates and thresholds.
The small business rate gives incorporated privately owned small businesses additional after-tax income to use for reinvestment and expansion if they choose to do so. However as businesses are not obliged to use the additional income for investment the OECD report suggests that the impact may be smaller than more targeted measures to support specific growth and development activities.
Sometimes this type of measure may cause clustering of businesses just below the income or turnover threshold, thereby effectively discouraging expansion above the threshold for relief. Studies suggest however that this has not occurred in Canada. The small business tax rate could also be used for tax planning by wealthy individuals and families. Measures to counter tax planning strategies were introduced in the 2016 federal budget.
Lifetime capital gains exemption
An individual is given a lifetime tax exemption for capital gains realized on the sale of qualified small business qualification shares. This exemption is intended to boost investment in small business and facilitate transfer of a business between generations. This supports investment and risk-taking by owners and investors of small companies but evidence suggests that it has been used for artificial tax avoidance, for example by large companies providing benefits to specific shareholders through the creation of CCPCs.
Small business capital gains rollover
This measure enables a taxpayer to defer the taxation of capital gains realised on the sale of common shares of an eligible small business corporation where the proceeds are reinvested in common shares of another eligible small business corporation. The CCPC must have under CAD 50 million in assets, of which less than half represent real estate. The OECD report suggests that more flexibility in the time limit for reinvestment would be helpful, perhaps through introducing a capital gains deferral account where capital gains could be deferred without being taxed until the assets are eventually sold for purposes other than general investment.
Income tax deduction for allowable business investment losses
A capital loss on a small business investment can be used to offset income tax. The allowable portion of 50% of a capital loss on shares or debt of a small business corporation may be deducted against any other source of income in the year. This is primarily intended to support start-up businesses.
Small business job credit
This credit introduced in September 2014 applied to a business paying Employment Insurance premiums equal to or less than CAD 15,000 in 2015 or 2016, reducing the amount of payroll taxes. The measure was intended to encourage job creation but the OECD report points out that social security contributions are already low in Canada, so the impact would be limited.
The OECD recommends that the trend of reduction in the small business tax rate could be discontinued and replaced by targeted measures to address market failures for specific groups of SMEs and start-ups. Federal and provincial loan guarantee programmes could be expanded to increase bank lending to SMEs and direct government lending could be increased, especially to groups unlikely to be served by commercial banks. The government could also strengthen the apprenticeship training system for SMEs; consider introducing a system of combining academic studies with on-the-job training; and create new work-integrated learning programmes.
On 28 July 2017 the OECD’s Committee on Fiscal Affairs (CFA) issued a document entitled Neutralising the Effects of Branch Mismatch Arrangements, Action 2. This document was issued as part of the implementation of the action plan on base erosion and profit shifting (BEPS) through the Inclusive Framework. It sets out rules to combat branch mismatch arrangements.
Previously a discussion draft on branch mismatch rules was issued on 22 August 2016 with recommendations to bring the treatment of branch mismatches into line with the hybrid mismatch rules. Following consideration of comments received on the document and legal changes made by various countries the OECD has now finalized the document.
Branch mismatches are the result of inconsistency between domestic tax rules to determine income and expenditure subject to taxation. Branch mismatch structures may help the taxpayer avoid tax by exploiting differences between jurisdictions in rules determining if the taxpayer is subject to tax in a particular jurisdiction and differences in rules for including income and expenditure in the computation of taxable profit. These differences in rules may allow a taxpayer to leave an item outside the charge to tax in both jurisdictions or claim a deduction for the same item in both jurisdictions (double deduction).
Branch mismatch rules are similar to hybrid mismatch rules in their structure and outcomes. Therefore countries adopting hybrid mismatch rules have generally also adopted an equivalent set of rules relating to branch mismatches. The branch mismatch rules proposed by the OECD therefore apply similar analysis and solutions to the branch mismatch rules set out in the recommendations on BEPS action 2. By aligning the branch and hybrid mismatch rules jurisdictions can prevent taxpayers shifting from hybrid to branch mismatches to achieve similar tax advantages.
Types of mismatch arrangement
The OECD report sets out five types of branch mismatch arrangement:
- Disregarded branch structures – arising where the branch is not within the definition of a permanent establishment and does not have any other taxable presence in a jurisdiction;
- Diverted branch payments – arising where a jurisdiction recognizes the existence of the branch but the payment made to the branch is attributed to the head office in that jurisdiction, while the jurisdiction of the head office exempts the payment from tax because it was made to the branch;
- Deemed branch payments – arising where the branch is deemed to make a notional payment resulting in a mismatch in tax outcomes under the rules of the residence and branch jurisdictions;
- Double deduction branch payments – where the same item of expenditure creates a tax deduction under the laws of both jurisdictions; and
- Imported branch mismatches – arising where the payee offsets income from a deductible payment against a deduction arising under a branch mismatch arrangement.
Mismatches can also arise indirectly where a taxpayer invests through a tax transparent arrangement such as a partnership.
The document sets out recommendations relating to each type of branch mismatch, as follows:
- The scope and operation of the branch exemption can be adjusted so as to achieve a closer alignment with the policy of exempting income of a foreign branch under double tax relief rules;
- A branch payee mismatch rule would deny the payer a deduction for a diverted or disregarded branch payment to a related person or a payment under a structured arrangement to the extent that the payment is not included in income by the payee;
- A deduction would be denied for a deemed payment between a branch and head office (or two branches of the same person) to the extent that the payment results in a double non-income outcome and the resulting deduction is offset against non-dual inclusion income (dual inclusion income would be income taxable in both branch and head office jurisdictions);
- The double deduction rules are based on the rule set out in Chapter 6 of the report on BEPS action 2 but an adjustment would need to be made only when the payer jurisdiction allows the deduction to be set off against non-dual inclusion income; and
- An imported mismatch rule would deny a deduction for a payment made within the same control group or under a structured arrangement to the extent that the income from the payment is offset against expenditure giving rise to a branch mismatch.
A new federal tax proposal was announced on 18th of July 2017 by the Finance Minister and it could have a chance of uncertain consequences for small businesses and enterprises (SMEs). The Canadian Federation of Independent Business (CFIB) has increased its concerns regarding potential tax changes. The Government thinks that some changes are being used to gain unfair tax facilities like the transforming of a private corporation’s income into capital gains, the passive investments holding in a corporation and an intention of income scattering among family members.
Research has been conducted on behalf of HMRC to look at the impact of video games tax relief (VGTR) on the production of culturally British and European video games. The survey was conducted by holding qualitative in-depth interviews with 51 video games developers. The research report has been published on the HMRC website.
The research looked at the awareness and perceptions of VGTR and approaches to the application process. It explored the impact of the relief on video games produced, such as their content and creative decision-making. It also looked at the impact on the developers in relation to their recruitment, business models, financial processes as well as the effect on inward investment.
Video games tax relief
The VGTR, introduced in 2014, is one of the UK’s creative industry tax reliefs. Under the VGTR a 25% tax relief is granted on a maximum of 80% of the production budget of a qualifying video game for expenditure in relation to goods or services used or consumed in the UK. A video game qualifies for the relief if it is intended for supply; at least 25% of the core expenditure is incurred within the European Economic Area (EEA); and the developer passes a cultural test administered by the British Film Institute (BFI) that demonstrates their video game is culturally British or European.
The cultural test is a points-based test under which points are given for cultural content; cultural contribution; cultural hubs; and cultural practitioners. Cultural content refers to the setting in which the video game takes place, the nationality of lead characters, the subject matter and the language of the game. Cultural contribution looks at British creativity, heritage or diversity. To gain points for cultural hubs at least 50% of the conceptual development, storyboarding, programming or design should take place in the UK, or at least 50% of the music recording, audio production or voice recording should take place in the UK. To gain points for cultural practitioners a minimum number of project leaders, scriptwriter and lead composers, artists, designers or heads of department should be EEA citizens or residents; and 50% of the development team should be EEA citizens or residents.
Summary of findings
Developers considered that the tax relief had been widely promoted but could reach more developers if promoted through a dedicated website, within university departments or through other initiatives. Smaller developers such as solo developers (self employed using freelances if necessary) and micro developers (with up to nine employees) suggested that they lacked the time and resources to find out more about the relief. There was a general feeling that the accountancy profession still lacked knowledge about the VGTR. Obstacles to applying for the relief included high accountancy fees for assistance with applications; projects that were often perceived as too small to justify taking time to fill in the paperwork; an assumption that the application process would be complicated (based on experience of R&D relief); and misunderstandings about how the relief worked.
Research suggested that games likely to fail the cultural test were not being put forward for relief. Developers wanted assurance on this point before starting the application and had often spoken to the BFI about the application. Developers applying for the relief considered that the application process was more straightforward than for R&D tax relief.
The cultural test was not considered to be an administrative burden and the required information could be gleaned from records already kept in-house. Developers applying for the relief considered that they were already making culturally British or European games and the relief helped them to get the games developed, finished and onto the market. They were therefore not setting out to make games that pass the cultural test but used the cultural criteria as a check when finalizing the story and characters for a game, making minor tweaks if necessary. Evidence suggested that developers had become more sustainable as a result of the VGTR, improving financial monitoring and record keeping and using the relief to look for new investors.
There was a feeling that the VGTR had not yet reached its full potential as not all developers were applying for all the games that might be eligible. Some were intending to claim but had not yet done so. More time would be required for the VGTR to become embedded in the video games industry.
On 29 June 2017 the WTO’s Director General spoke during an informal dialogue on Micro, Small and Medium Enterprises (MSMEs). These entities face greater barriers to cross-border trading and WTO members have put forward some ideas to deal with the obstacles. Helping MSMEs to participate in trade flows will be a topic for discussion at the Global Review of Aid for Trade in July 2017.
MSMEs are important to the global economy because they are responsible for most of the job creation worldwide, are major employers of women and young people and foster entrepreneurship and innovation. Measures to assist more MSMEs to join global trade flows will build a more inclusive trading system by helping more agricultural firms and people in LDCs to benefit from trade, contributing to the achievement of the Sustainable Development Goals.
MSMEs face greater trade barriers than larger entities as they often do not have sufficient resources, ability to absorb risk or the necessary expertise. MSMEs have difficulty accessing trade finance and globally 58% of trade finance requests from MSMEs are rejected compared to 10% from multinationals.
The costs of trade are also an obstacle for MSMEs. Fixed costs connected with trade can be difficult for MSMEs as they have to deal with standards, border procedures and other non-tariff barriers. It has been estimated that increases in regulatory burdens have twice as much impact on MSMEs as on larger entities. The WTO has also found that variable costs are an issue and tariffs are considered by MSMEs to be a major obstacle.
To help MSMEs organizations such as the WTO, UNDESA and ITC can help to disseminate information on regulations and standards in global markets. Last year the ePing notification alert system was launched to alert members about new measures and promote dialogue on addressing potential trade problems. These organizations could look at new ways to make available relevant data to their members.
The WTO is working with the IMF and regional development banks to help MSMEs access resources required. Trade finance is a very low risk form of finance and the default risk on short term trade credit is only 0.02%. The issue of trade finance is to be discussed at the Global Review of Aid for Trade later in 2017.
Local initiatives to support MSMEs could be shared with a wider audience to give an idea of the practical measures that work well and those that do not. Information sharing at a technical level could be constructive. This would also help the WTO to identify areas where it could be of help to MSMEs.
General measures to improve global trade
Measures to generally improve the trading system also help the firms facing the greatest barriers to participation in the system. So MSMEs are benefiting from the general work of the WTO including the Information Technology Agreement that facilitates access to new technologies. They also benefit from moves to strengthen capacity building to help people develop the skills and tools required to trade successfully.
On 12 June, the National Assembly passed the Law on the support of small and medium-sized enterprises (SMEs). The measure will help to improve the quality of growth and change the nation’s economic growth model.
Under the new law, SMEs include micro-enterprises and small- and medium-sized enterprises whose average number of employees with social insurance is less than 200 in the year. These companies must also meet one of the following two criteria:
- Total investment capital of a maximum of US $ 10 billion (US $ 4.4 million) and a total annual turnover of US $ 100 billion; or
- Companies must be operating in the fields of agriculture, forestry, fisheries, industry, construction, trade and services.
SMEs that meet these requirements can be eligible for various incentives, such as assistance with credit access, support for tax and accounting or support for the acquisition of production areas, among others. In addition, the new measures provide for specific support measures for innovative start-up companies and SMEs involved in industrial interconnection clusters and value chains in the area of production and processing.
The law will take effect on January 1, 2018.
The Council of Ministers in Mozambique, on 30th of May 2017, approved the proposed changes to the special tax regimes applicable to Petroleum and Mining Operations. The following step is for the draft bill to be sent to Parliament for approval and promulgation by the President. The legislation is expected to enter into force from 1st of January 2018.
The change refers to the tax stability regime initiated by the new law in 2014 in case of the tax regime for petroleum operations, where it describes that the tax stability period starts from the date of the petroleum rights assignment and for 10 years from the beginning of the commercial production. In addition, 50% reduction of the petroleum production tax applicable to products used for the development of the domestic industry has been removed. The change also states that tax constancy becomes effective with proof of realization of investment equivalent to US$100 million.
In case of Mining operations, the change states that tax stability becomes effective with proof of realization of investment equal to US$5 million and it does not apply to Surface Tax. The changes to the tax regime related to mining operations also include the increase of the mining production tax from 1.5% to 3% levied on sand and gravel. Additionally, 50% reduction of the mining production tax applicable to mining products used for the development of the domestic industry has been removed. Again, the Surface Tax regarding mining businesses for mineral water is 85,000 MT/per mining title instead of the 85,000 MT/ha.