Tax Insights: Recent developments for Regulation 105 withholding (subcontractor fee reimbursements and waivers)

Issue 2024-19

In brief

The Canada Revenue Agency (CRA) recently issued two technical interpretations that change its administrative position on withholdings relating to the reimbursement of subcontractor fees paid to a non‑resident for services rendered in Canada through a subcontracting arrangement. The change in position relates to whether these amounts would be subject to withholding pursuant to paragraph 153(1)(g) of the Income Tax Act (the Act) and Regulation 105 of the Income Tax Regulations.

To the extent that subcontractor fees are in respect of services performed in Canada, the CRA will no longer view reimbursements as a “reimbursement of expenses.” Accordingly, they will be subject to withholding pursuant to paragraph 153(1)(g) of the Act and Regulation 105, effective for subcontractor fee reimbursements paid after September 30, 2024.

In addition, the 2024 federal budget introduced a new Regulation 105 waiver process for non‑residents providing services in Canada. This Tax Insights discusses both of these recent developments.

In detail

Regulation 105

Paragraph 153(1)(g) of the Act and Regulation 105 require every person paying to a non‑resident person a fee, commission, or other amount in respect of services (of a non‑employment nature) rendered in Canada, of any nature whatsoever, to deduct or withhold 15% of this payment. An additional 9% withholding tax applies on this payment if the services are rendered in the province of Quebec. Any amounts withheld must be remitted to the Receiver General/Revenu Québec by the 15th of the month following the month in which the payment is made. There is a 10% penalty for non‑compliance.

When a non‑resident can demonstrate, based on the CRA’s treaty‑based guidelines or estimated income and expenses, that the normally required withholding exceeds the ultimate tax liability, the CRA may waive or reduce the withholding accordingly, pursuant to the “undue hardship” provisions of the Act. This waiver (or reduction) must be provided in writing to the payor before payment of the related fees. 

Historic position on reimbursement of subcontractor fees

The CRA had previously addressed, in technical interpretation CRA Views 2008‑0297161E5 (September 16, 2009), the situation when a non‑resident (NR) sends an invoice to a customer that separately identifies:

• its fee for services rendered:
  • in Canada
  • outside of Canada
• any reimbursable travel and other costs, and
• as a reimbursable amount, the fee that the NR has been invoiced by a subcontractor for the services rendered in Canada

When the customer pays the NR’s invoice in full, the CRA opined as follows:

“Where the information regarding the reimbursements in respect of Subcontractor’s fees and travel costs is available and documented to the satisfaction of Customer at the time the payment is made by Customer to NR, the current practice of the CRA (“CRA practice”) is that Regulation 105 withholdings would not generally be required in respect of amounts paid by Customer to NR as a reimbursement of NR’s expenses, including the Subcontractor’s fees and travel costs, with respect to the services rendered in Canada.”

For example, consider a situation where a Canadian corporation (Canco) has contracted with a non-resident corporation (NRCo) to provide services to Canco. The agreement between Canco and NRCo requires NRCo to provide some of the services in Canada. Because NRCo does not have a permanent establishment, or want itself to carry on business, in Canada, NRCo engages a Canadian subcontractor to provide the required services in Canada. The Canadian subcontractor then invoices NRCo CAD$1,000 for the services performed on NRCo’s behalf. NRCo then invoices Canco and on that invoice explicitly identifies, as a reimbursable amount, the CAD$1,000 service fee that the Canadian subcontractor charged NRCo. Under the CRA’s historical practice, Regulation 105 withholdings would not generally have been required in respect of amounts paid by Canco to NRCo as a reimbursement of NRCo’s CAD$1,000 subcontracting expenses. 

Latest guidance

The CRA recently issued two technical interpretations relating to Regulation 105 (CRA Views 2022‑0943241E5 [April 29, 2024] and CRA Views 2022‑0943242E5 [May 28, 2024]), which reiterate that fees paid to a non‑resident company, to the extent that these fees are in respect of services performed in Canada, are subject to withholding pursuant to paragraph 153(1)(g) of the Act and Regulation 105.

However, the CRA states in 2022-0943241E5 that, when determining the amount of any payment that would be subject to withholding, only amounts paid for the reimbursement of travel costs and meals in respect of services performed in Canada would not be subject to Regulation 105 withholding. Contrary to CRA Views 2008‑0297161E5, reimbursements of subcontractor fees will now be subject to Regulation 105 withholding.

As noted in CRA Views 2022‑0943242E5, this change in administrative view is effective for subcontractor fee reimbursements paid after September 30, 2024 (instead of June 30, 2024 as stated in CRA Views 2022‑0943241E5). In addition, the CRA has confirmed that no interest, penalties or additional Regulation 105 withholding will be assessed by the CRA when auditing a taxpayer that has relied on CRA Views 2008‑0297161E5 for payments made before October 1, 2024.

Using the above example, when NRCo invoices Canco and explicitly identifies the CAD$1,000 service fee that the Canadian subcontractor charged NRCo as a reimbursable amount, the CRA’s new administrative view (under the latest guidance) effectively requires Regulation 105 withholding in respect of amounts paid by Canco to NRCo as a reimbursement of the subcontractor’s fee, with respect to the services rendered in Canada. Therefore, CAD$150 of withholding under Regulation 105 would be required on the amount paid by the Canco to NRCo. Note that if NRCo is able to secure a valid waiver from the CRA, Canco should be exempt from its obligation to withhold under Regulation 105 when making the payment to NRCo.

Additionally, if the subcontractor rendering services in Canada was instead a non‑resident, then the payment made from NRCo to the subcontractor will also be subject to withholding of CAD$150, unless the subcontractor obtains a valid waiver from the CRA that exempts the obligation by NRCo to withhold under Regulation 105.

2024 federal budget proposal for a new waiver approach

The withholding tax under Regulation 105 is intended to serve as a prepayment of tax that the non‑resident may ultimately owe in Canada. Certain non‑residents do not owe Canadian tax for these services due to exemptions provided in tax treaties, unless the non‑resident has a permanent establishment in Canada. In these circumstances, as mentioned above, the CRA may provide an advance waiver from the withholding obligation for specific transactions, but the existing process is cumbersome.

The 2024 federal budget proposed to give the CRA legislative authority to grant single waivers that cover multiple transactions occurring over a specific time period, when certain conditions are satisfied. This measure would take effect upon royal assent of the enacting legislation, but this legislation and details on the CRA processes to administer this new waiver approach have not yet been released. 

The takeaway

Canadian and non‑resident customers making payments to non-residents who are rendering services in Canada through subcontracting arrangements should review their invoices to ensure they are accurately withholding and remitting withholding taxes under Regulation 105 to mitigate any unintended exposure under the CRA’s new administrative practice. It remains to be seen what enforcement actions the CRA might take on these subcontracting payments.

Non‑residents that use subcontractors to provide services in Canada to their customers should consider requesting waivers from the CRA under the existing process or, when it is fully implemented, the proposed new process.