Canada: Investing In Canada - US Pension and Endowment Funds

Last Updated: April 28 2010

By Richard E. Johnston, Mitchell L. Thaw & Douglas C. New

Canada is an appealing investment destination for US pension and endowment funds. While it has been affected by the current economic downturn, Canada is weathering the global recession better than most of its peers.1

Canada is better placed than many countries to weather the global financial turbulence and worldwide recession. Its resilience can be attributed to three factors: First, a track record of sound macroeconomic policy management has left the country in prime form at the beginning of the global turmoil ...Second, the authorities responded proactively to the crisis ...Third, the focus on financial stability. 2

According to Dun & Bradstreet's Global Risk Indicator, Canada is considered one of the world's safest countries to invest, due to the relatively mild slowdown experienced as a result of the global credit crisis. In addition, the Canadian Business'  Prosperity Potential Index (October 2009) ranks Canada first in the G7 for the likelihood of a strong and healthy economy in the year 2020.3

Canada's legal and investment environment generally feels familiar to US pension and endowment funds, but there are some important differences in the details.  When investing in Canada, US funds should be aware of the following aspects of Canadian law, as more fully set out below:

no withholding tax, in most cases
- no foreign exchange restrictions

- limited regulation of foreign investment
- no withholding tax, capital gains or tax filings, in most cases
- securities law reporting requirements generally start at the 10% level

Real Estate:
- planning is required to minimize   Canadian tax and filings
- few foreign ownership restrictions

- a wealth of experience and opportunity
- again, tax planning is important.

Canadian Debt

As the sovereign debt crisis fuels a flight to quality, Canada is increasingly looking like a favourable landing spot for foreign capital, experts say.

"We're not problem-free, but on a relative basis we look great," said Mark Chandler, fixed-income strategist at RBC Dominion Securities Inc.

Interest in Canadian debt – and the currency needed to buy it – has been growing for much of the last year. Greece's struggles to manage its debt could speed up that trend as investors have become even more focused on debt and deficits, he said.4

Withholding Tax

Canada's domestic tax laws generally do not impose withholding tax on interest paid to non residents of Canada.  But unless relief is available under an applicable tax treaty, there is a 25% Canadian withholding tax on interest paid to a non-resident who does not deal at arm's length with the Canadian debtor or if the interest is participating in nature.  In the case of a typical US pension or endowment fund, pursuant to the terms of the Canada – US Income Tax Convention ("Tax Treaty"), there should be no withholding tax imposed on any payment of interest paid by a Canadian debtor.

For a US pension or endowment fund to obtain benefits under the Tax Treaty, it must be a "qualifying person" within the meaning of the Tax Treaty.  A qualifying person includes an estate as well as pension funds that provide benefits primarily to individuals who are natural persons in the US.  A not-for-profit organization is also a qualifying person provided that more than 50% of its beneficiaries or members are qualifying persons.

US tax-exempt entities may apply to the Canada Revenue Agency to obtain a letter of exemption and be added to a list (publication number T4016) of entities that qualify for exemption under paragraphs 1 or 2 of Article XXI of the Tax Treaty.  Paragraph 1 includes most US endowment funds (and provides an exemption for most forms of income) and paragraph 2 includes most US pension funds (and provides for an exemption from tax on dividends and interest).

Foreign Exchange

Canada does not prohibit, control or restrict foreign currency exchange.

While some debt of Canadian entities is denominated in US dollars, much is denominated in Canadian dollars.  In that case, an investor needs to consider the risk of changes in exchange rates between the Canadian dollar and the US dollar.  Hedging at least a portion of the exposure to Canadian dollars may be appropriate, unless the exposure to exchange rates is viewed as offering the potential for an enhanced return on investment.  Of course, US tax treatment related to foreign exchange gains and losses should be considered.

Canadian Equities

Regulation of Foreign Investment

Since the 1980s, Canada has relaxed its restrictions on foreign investment considerably. Acquisition of control of a Canadian business by a US pension or endowment trust is now unlikely to require government review and approval unless the Canadian business has assets valued at CDN$299 million or more, according to its most recent annual financial statements.  Soon-to-be enacted amendments will raise the threshold to CDN$600 million of enterprise value.

This threshold is available to US pension or endowment trusts that qualify as "WTO investors."  A US trust that is not controlled in fact through ownership of voting interests and at least two-thirds of the trustees of which are nationals of the US or other member countries of the World Trade Organization, will generally qualify as a WTO investor.  This is usually the case for US pension and endowment trusts.

Direct investments by non-Canadians that do not qualify as "WTO investors" or that involve the acquisition of control of a Canadian business that is a cultural business are subject to a substantially lower review and approval threshold of CDN$5 million of asset value.  A cultural business includes activities such as the publication and distribution of books, magazines, periodicals and newspapers, the production, distribution or exhibition of films or music recordings and radio, television and cable broadcasting undertakings.

Acquisition of less than one-third of the voting shares of a corporation is not considered to result in the acquisition of control of that corporation and any Canadian business it carries on.  Acquisition of control of a Canadian business that falls below the applicable monetary review and approval threshold – as well as the establishment of a new Canadian business by a non-Canadian investor – only requires the filing of a short notification for informational purposes.

There are some regulations and foreign ownership restrictions related to specific industries.  Telecommunications and broadcasting are subject to federal regulation restricting foreign ownership, but the government has announced its intention to relax those restrictions.  In some cases, a transaction involving an international or inter-provincial transportation undertaking is subject to review by the Canadian Transportation Agency.  The provinces of Ontario and Quebec have enacted laws related to the distribution and sale of books and film that include foreign ownership restrictions.  Firms providing professional services, such as those of architects, engineers and pharmacists, are subject to ownership restrictions in some provinces.

Withholding Tax, Capital Gains and Tax Filings

As a general rule, Canada's domestic tax laws impose a 25% withholding tax on dividends paid (or deemed to be paid) to non-residents of Canada.  A deemed dividend can arise where a share of a Canadian corporation is redeemed for an amount that exceeds the "paid-up capital" of the redeemed share.  In the case of a typical US pension or endowment fund, pursuant to the terms of the Treaty, there should be no withholding tax imposed on any payment, or deemed payment, of dividends made by a Canadian corporation.  Returns of share capital are not subject to withholding tax.

Under existing tax rules, a non-resident is potentially exposed to Canadian income tax and related filings on dispositions of shares of private Canadian corporations and in limited circumstances on dispositions of shares of public Canadian corporations.  Under proposed amendments to Canada's domestic tax laws (which are expected to be approved in due course), a capital gain realized by a non-resident of Canada from the disposition of share of a Canadian corporation that occurs after March 4, 2010 is not subject to Canadian income tax and does not require any withholding to be made or tax form to be filed unless, at any time in the 60-month period prior to the disposition, more than 50% of the value of the share was derived, directly or indirectly, from one or more of Canadian real estate, Canadian resource property or Canadian timber resource property.  In the case of a share of a public Canadian corporation, even if more than 50% of the value of the share is from such properties, there are no Canadian tax issues for a non-resident as long as the non-resident and non-arm's length persons have not owned 25% or more of a class of shares of the corporation in the 60-month period prior to disposition.

In the case of shares that are subject to Canadian tax under the domestic rules, an exemption under the Tax Treaty should apply to capital gains realized by a US endowment fund, but not a US pension fund.

There are no stamp duties in Canada.

Securities Law Compliance

Capital markets are currently regulated at the provincial – not federal – level in Canada, although the federal government is continuing efforts to establish a national securities regulator.  Much has been done to create more uniformity of legislation and regulatory approach, although differences among the ten provinces and three territories may be relevant at times.

A US pension or endowment fund that accumulates a significant holding of securities of a Canadian reporting issuer may be subject to reporting and disclosure requirements under two regimes: the insider reporting regime and the early warning regime.  Less onerous reporting and disclosure obligations are available to eligible institutional investors.  All investors should also be aware of the requirements regarding take-over bids, as well as civil liability for insider trading or tipping that may be imposed on shareholders with significant holdings.

Changes to the Canadian insider reporting regime take effect as of April 30, 2010.  An investor will still be considered to be a significant shareholder, and hence a reporting insider, if it has direct or indirect beneficial ownership of, or control or direction over, securities of a Canadian reporting issuer carrying more than 10% of the voting rights attached to all of the issuer's outstanding voting securities.  Rights to acquire securities within 60 days by conversion or otherwise, whether or not subject to conditions, must be taken into account in determining whether the 10% threshold has been exceeded.  An initial insider report must be filed within 10 days of becoming an insider.  Thereafter, an insider report must be filed within 5 days regarding changes in the security holdings or in any interest in, or right or obligation associated with, a related financial instrument involving a security of the issuer.  Insider reports are filed electronically through the System for Electronic Disclosure by Insiders (SEDI).

The early warning regime under take-over provisions of securities legislation creates additional reporting and disclosure requirements.  Reporting and a news release are required when an investor (and parties acting jointly or in concert with it, if any) acquires beneficial ownership of, or control or direction over, securities of a Canadian reporting issuer that constitute 10% or more of the outstanding securities of that class (or 5% while a formal bid is in progress).  Further acquisitions are prohibited until one business day after the report is filed.  A further report and news release are required, and a further moratorium on acquisitions is triggered, if an additional 2% of the class is acquired or if there is a change in a reported material fact.  These filings are made electronically through the SEDAR system (equivalent to EDGAR).

As an alternative to basic early warning reports, eligible institutional investors may, in most circumstances, file early warning reports on a monthly basis without news releases or the moratorium on additional acquisitions.  Eligible institutional investors include a regulated pension fund, an investment manager with discretionary authority and an entity referred to in clause (D) or (F) of Rule 13d-1(b)(1)(ii) under the Securities Exchange Act of 1934.  An eligible institutional investor who complies with the basic or alternative early warning requirements may, in some circumstances, be exempt from filing insider reports.

The acquisition by an investor (and parties acting jointly or in concert with it) of 20% or more of a class of voting or equity securities generally triggers a requirement for a formal take-over bid, unless a specific exemption is available.  In certain circumstances, exemptions are available for limited market purchases and private agreement purchases.

If an investor holds sufficient securities to be an insider of a reporting issuer, it is subject to the rules imposing civil liability for disclosure of a material fact or change that has not been generally disclosed or for tipping with respect to such information.

Canadian Real Estate

Tax Planning

A US pension fund is liable to pay Canadian income tax on any gain realized from the disposition of Canadian real estate, whether it is a capital gain or business income.  In addition, withholding tax and a tax clearance certificate process applies to dispositions of Canadian real estate by non-residents.  Also, the fund must file a Canadian income tax return in connection with the disposition.  A US endowment fund should not be liable to pay Canadian income tax on such gains unless such gains are from carrying on a trade or business.

Canadian withholding tax applies on payments of rents to non-residents of Canada, including US pension funds.  The rate of withholding is 15% under the Treaty.  No withholding tax should apply on rent paid to a US endowment fund.

Various structures can be used to minimize the incidents of Canadian income tax on investments in Canadian real estate by US pension funds, but the success of such structures depends on several factors including the nature of the investment, the nature of the returns and the identity of the co-investors.

Foreign ownership restrictions

Few restrictions are imposed on foreign ownership of real property in Canada.  In some provinces, restrictions or taxes are imposed on the sale to non-residents of agricultural or recreational property.

Note that some non-residents may encounter unexpected title registration issues.  It may not be possible to register title in the name of a partnership and, in some circumstances, a US LLC may be viewed as a partnership for this purpose.

Canadian Infrastructure

Canadian Experience and Opportunity

For more than a decade, Canadian governments have used public-private partnerships to build significant infrastructure projects, such as highways, hospitals and correctional facilities.  The pace of these projects is likely to accelerate, as government spending is constrained by deficits alongside a growing need to enhance public infrastructure.  Private companies also face infrastructure projects beyond their means to finance, particularly in times of tight credit.  Although pension funds seem underrepresented in these transactions to date, the prospects of stable long-term cash flows make these projects attractive to long-term investors, particularly in light of volatile markets for other asset classes.  There are a limited number of Canadian pension funds with the size and sophistication to make such investments.  As a result of the elimination of limits on foreign investment by Canadian pension funds, those that make these investments are diversifying their infrastructure investments around the world.  This may provide Canadian opportunities for large, sophisticated US funds.

Tax Planning

The Canadian tax consequences of an investment in an infrastructure project depends on the form of the investment.  The investment could be in the form of debt, equity or an interest in real estate and the tax rules noted above apply.


1 The Conference Board of Canada, Economy: Forecast 2010,

2 Charles Kramer, Division Chief, Western Hemisphere Department, International Monetary Fund, March 2009.


4 "As Greece debt crisis mounts, foreign capital eyes Canada," The Globe and Mail, February 11, 2010,

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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