Barbados: The Preferred Tax Haven for Canadian Businesses

Barbados continues to be the preferred tax haven for many Canadian businesses. Numerous Canadian companies have set up subsidiaries in Barbados to reduce or avoid paying taxes back home. These include big companies like Petro-Canada, Gildan, and grocery and pharmacy chain giant, Loblaws, controlled by the billionaire Weston family.

Last year Loblaws won a tax case in the Federal Court of Appeal that overturned an income tax assessment by the Canada Revenue Agency of $368 million. The Canadian Government estimates that there are tax cases involving 14 Canadian multinational corporate groups, including Loblaws that could be affected by the appeal court’s ruling and could cost the government over $1 billion in revenue. The Government has been granted leave to appeal the decision to the Supreme Court of Canada.

Click hear to read about the Loblaws case

Barbados has a very low tax regime for International Business Corporations (“IBCs”). This means it is a tax haven for Canadian businesses. An IBC is a company that is incorporated in Barbados and is licensed to carry on business in international manufacturing, trade, or commerce, from within Barbados, to customers outside of Barbados.

International manufacturing is defined in the Barbados International Business Companies Act (the “IBC Act”) as including, making, processing, producing, or packaging, any product for export. International trade and commerce includes, the business of being a broker, agent, dealer, seller, buyer or factor within Barbados, of goods existing outside Barbados; and the business of the selling services to or for persons residing outside of Barbados.

The taxes levied on an IBC’s annual profits by the Barbados Government range from 1% to 2.5 %. The tax rates set out in the IBC Act are prescribed as follows:
(a) 2.5 per cent on all profits and gains up to $10,000,000;

(b) 2 per cent on all profits and gains exceeding $10,000,000 but not exceeding $20, 000, 000;

(c) 1.5 per cent on all profits and gains exceeding $20,000,000 but not exceeding $30,000, 000;

(d) one per cent on all profits and gains in excess of $30, 000,000.

There are no withholding taxes when an IBC pays dividends, interest, royalties,or management fees, to non-residents of Barbados. There are also no capital gains taxes. Unlike Canada, Barbados also permits the transfer of shares from one IBC to another or from one non-resident to another without the payment of any tax.

A typical deal structure used to minimize taxes by the pharmaceutical industry, as an example, is for the parent company to set up an IBC in an offshore tax haven. The parent then sells or registers a patent to the IBC. The IBC then charges the parent company a license fee on each sale of the patented product, which the parent claims as an expense on its corporate income tax return. It’s a bit more complicated than that, but you get the idea of how this type of structure can reduce the parent company’s income tax liability back home.

Canada has had a tax treaty with Barbados since 1980. This allows certain types of income of a Barbados IBC to be repatriated back to its Canadian parent company free of Canadian taxation. Under Canadian tax law, there are two categories of taxation of income for foreign subsidiaries: 1) active business income; and 2) Foreign Acquired Property Income (“FAPI”).

Active business income is income earned from carrying on the business of a corporation other than a specified investment business or a personal services business. So for example, manufacturing, processing, producing, packaging, are all examples of active business income. Interest earned on your company’s bank account is not active business income. FAPI, on the other hand is generally considered passive income.

FAPI is taxable in the hands of the Canadian parent company. Active business income of the IBC is not taxable and can be repatriated back to the Canadian parent company as “exempt surplus” earnings. Exempt surplus is income from the active business carried on by an IBC, in a designated tax treaty country (in this case Barbados), less any income taxes paid by the IBC in Barbados. Dividends paid out of the “exempt surplus” account are not taxable in Canada to the Canadian parent corporation and can be brought home tax free.

Are you confused yet? Well it gets even more confusing, because there are some exceptions to the FAPI rules which deem, what would appear at first glance to be passive FAPI income, to be active business income, and therefore tax exempt. Trying to understand the FAPI rules reminds me of when I lived in Finland and was learning Finnish. The basic language rules themselves are easy. But then there are exceptions to the rules, and then exceptions to the exceptions. For most people, it was all of the exceptions to the rules that did their head in. The FAPI rules are a bit like that. Under the FAPI rules, certain types of income that are passive, and therefore taxable, can be transferred to another member of a corporate group, and be treated as active business income, with the tax exemption benefits. For those reasons, many Canadian companies tend to structure their offshore business activities, through intra-group licensing and financing arrangements like the one I described above.

A few years ago, in an effort to get other tax haven countries to enter into Tax Information Exchange Agreements (“TIEAs”) with Canada, so that the Canada Revenue Agency could keep track of Canadians with foreign income and / or bank accounts, the Canadian Government changed the tax laws to extend favourable tax exempt treatment to countries that signed a TIEA. As a result, there are now several other choices of low tax jurisdictions for Canadian businesses to consider in setting up foreign subsidiaries. I will be discussing those other jurisdictions in later blog postings. For now though, Barbados is still the low tax jurisdiction of choice for many Canadian companies.

My firm specialises in assisting clients to set up IBCs and foreign bank accounts in low tax jurisdictions. If you are considering setting up an IBC in Barbados or another jurisdiction, contact me for a confidential discussion.