Amendments to the Alberta Business Corporations Act

Written by Bryan Haynes, Dustin Gemmill, Greg Johnson, Mark Kortbeek, Alan Ross, Neil Stevenson, Joanne Vandale

Amendments to the Alberta Business Corporations Act (the "ABCA") are in force as of May 17th, 2005. The most significant amendment to the ABCA is the ability to create unlimited liability corporations in Alberta. An Alberta unlimited liability corporation (an "ABULC") is, as the title suggests, a corporation whose shareholders have unlimited liability for any liability, act or default of the corporation. The liability of the shareholders is joint and several in nature. In contrast, most corporations are limited liability corporations whose shareholders are not, in general, liable for the liabilities, acts or omissions of the corporation in which they hold shares.

Tax Advantages of ABULCS

In 1997, regulations to the U.S. Internal Revenue Code of 1986 (the "Code") were passed with respect to entity classification of both U.S. and foreign corporations. Generally speaking, the Code regulations provide two categories of entities:

1. per se corporations; and
2. eligible entities.

A per se corporation is automatically treated as a corporation and cannot elect to treat itself as a disregarded entity or partnership. An eligible entity is an entity which is not automatically treated as a corporation and, unless an election is made, it will be treated as:

1. a disregarded entity (one shareholder); or
2. a partnership (more than one shareholder).

Under the Code regulations, Nova Scotia unlimited liability corporations ("NSULCs") are not considered per se corporations and are thus eligible entities for the purposes of the Code regulations.

An ABULC should also be treated as a disregarded entity (one shareholder) or a partnership (more than one shareholder) for U.S. tax purposes.

For Canadian income tax purposes, there are no analogous entity classification rules as are found in the Code regulations. The Income Tax Act (Canada) (the "ITA" ) defines a “corporation” to include "an incorporated company" which supports classification of an NSULC as a corporation. The administrative view of the Canada Revenue Agency ("CRA") is that an NSULC is a corporation for Canadian tax purposes. Based on the definition of "corporation" in the ITA and the CRA's administrative views on the characterization of an NSULC as a corporation, an ABULC should also be treated as a corporation for Canadian tax purposes. Therefore, an ABULC is expected to be a "hybrid" entity for Canadian and U.S. tax purposes inasmuch as it is a corporation for Canadian tax purposes and a disregarded entity (one shareholder) or a partnership (more than one shareholder) for U.S. tax purposes.

Structuring Inbound Investment by U.S. Residents With ABULCS

Two key objectives in structuring inbound investment by U.S. residents are achieving a flow-through of income and expense and preserving limited liability. A U.S. corporation can carry on business in Canada through an ABULC which allows for the flow-through of income or loss of the ABULC but exposes its shareholder(s) to liability. Depending on the facts and circumstances, a "C Corporation" ("C Corp") or "S Corporation" ("S Corp") can be interposed between the U.S. resident and the ABULC to mitigate against any liability arising from carrying on business in Canada through an ABULC. C Corps and S Corps are both created under U.S. corporate law. We understand that for U.S. tax purposes an S Corp is a corporation that has made an election for U.S. tax purposes to be treated as a flow-through entity and a C Corp is a corporation which is not an S Corp. From a commercial perspective, C Corps and S Corps both have limited liability and thus mitigate against any liabilities associated with using an ABULC. It should also be noted that a limited partnership can also be interposed between the ABULC and the U.S. residents to meet the two key objectives referred to above.

In the context of discussing U.S. entities used in cross-border tax planning, it is worth noting that the CRA takes the view that a limited liability company formed pursuant to U.S. corporate laws which is a disregarded entity or partnership for U.S. tax purposes does not qualify for any benefits under the Canada-United States Income Tax Convention, 1980 (the "Treaty"). Therefore, limited liability corporations should generally not be used in cross-border tax planning without careful consideration. Both diagrams 1 and 2 demonstrate how an ABULC can be used by U.S. residents to achieve a flow-through of income while preserving limited liability.

Diagram 1 – Inbound Investment Using a C Corp/ABULC

Diagram 1 is an example of how investment in Canada can be structured using an ABULC and C Corps. Generally speaking, the ABULC carries on business in Canada and, for Canadian tax purposes, is treated as a corporation. The ABULC is treated as a disregarded entity for U.S. tax purposes and thus the income or loss from the ABULC's business flows through to the U.S. SubCo. (a sole purpose subsidiary of U.S. Corp.). For U.S. tax purposes, we understand that the U.S. Co. and the U.S. SubCo. can elect to file a consolidated tax return. This would allow start-up losses from the ABULC to off set profits from the U.S. consolidated group and still mitigate against the potential liabilities of the ABULC. We also understand that, for U.S. tax purposes, when a U.S. corporation fi les a consolidated return, the "dual consolidated loss rules" will effectively restrict the ability of the ABULC to claim any losses for Canadian tax purposes in the future.

Diagram 2 – Inbound Investment Using an S Corp/ABULC

A similar structure can be used with a U.S. individual by interposing an S Corp between the U.S. individual and the ABULC. For U.S. tax purposes, provided an election is made, the income or loss from the ABULC's business flows through to the shareholder of the U.S. S Corp. For Canadian tax purposes, the CRA is of the view that an S Corp is a corporation and is entitled to benefits under the Treaty. Therefore, an S Corp is a tax efficient "hybrid" entity for cross-border tax planning.

Corporate Existence and Special Rules for ABULCS

Under the new legislation, an ABULC may be incorporated under the laws of Alberta or may be continued from another jurisdiction. A limited corporation that is already an existing Alberta corporation may also be converted into an ABULC either by an amalgamation or an amendment to its articles of incorporation.

The liability of the shareholders of an ABULC continues to be unlimited for all actions that are commenced before the dissolution of the ABULC and for all actions brought within two years of its dissolution. Any shareholder, including a past shareholder, may be held responsible for the full amount of any claim against the ABULC that originated before the dissolution, regardless of the amount received by the shareholder on the distribution of assets.

Comparison With Nova Scotia Unlimited Liability Companies

The only other jurisdiction in Canada to provide for unlimited liability corporations is Nova Scotia.

There are a number of advantages to incorporating an ABULC rather than an NSULC. Most of the advantages stem from the fact that the ABCA is a modern corporate statute, whereas the Nova Scotia Companies Act ("NSCA") is based on the antiquated U.K. Companies Act. First, the ABCA codifies an objective duty of care that the directors and officers owe to the corporation, while the NSCA relies on the common law duty of care, which is a subjective test. The ABCA also codifies directors' liability for specific actions such as, the improper issuance of shares, share redemptions or dividends, etc., while under the NSCA, the liability of a director to the corporation largely arises from the director's fiduciary duties at common law.

Second, amalgamations under the ABCA are more straightforward, short form amalgamations are permitted, and there is no requirement that court approval be obtained. Conversely, under the NSCA, all amalgamations are long form and court approval is required.

Third, under the ABCA a corporation may declare dividends if the board of directors has reasonable grounds for believing that the liquidity and solvency tests are met, whereas dividends declared under the NSCA must be paid out of the "profits" of the company.

Finally, we understand that the government filing fee for incorporating an ABULC will be $100 plus GST, whereas the government filing fees for incorporation or amalgamation of an NSULC are currently $6,000 with an annual renewal fee of $2,000.

Conclusion

With the introduction of the ABCA amendments, U.S. residents carrying on business in Canada have a more practical and cost-effective mechanism to structure their tax planning. The amendments are a welcome change to Alberta corporate laws and, by virtue of U.S. tax laws, are expected to facilitate cross-border transactions with U.S. residents.