Afridi & Angell inBrief (Canada edition): by James Bowden
A private foundation is a corporate entity with separate legal personality, but which has no owners, and therefore does not issue shares or other ownership interests. It is established by a founder who contributes initial funds or assets to the foundation. The foundation is governed by its constitutional documents, which typically consist of a charter and bylaws, and a governing body called directors or council members. There will typically also be a guardian or enforcer who is empowered to supervise the directors to ensure they are complying with the foundation charter and bylaws, and with their duties as directors under applicable law. The foundation’s charter or (more likely) bylaws will identify the foundation’s beneficiaries, if any, or its purpose, along with all other rules by which the foundation and its directors are to be governed. Those rules may include, for example, guidance as to how the foundation is to invest and manage its assets, how it is to distribute them to beneficiaries through generations or otherwise use them towards the foundation’s stated purpose, and how decisions are to be made by the foundation’s directors, among other things. Private foundations have a long history in the civil law world as useful vehicles for family wealth management, estate planning and asset protection across multiple generations. They are used for many of the same purposes as trusts in the common law world, and are indeed sometimes viewed as trust substitutes.
A private foundation offers certain advantages over a trust structure which make them very useful in the context of wealth and succession planning, which include:
In view of the above, a Canadian may wish to consider a private foundation where there is a desire not to extend information and enforcement rights to beneficiaries, minimize potential for claims, where the foundation will be investing, banking, or holding assets outside of the common law world, or where a founder and founder’s family resides in a civil law jurisdiction. As discussed below, a foundation may also be useful in a tax planning context.
While the benefits of private foundations are compelling in the right circumstances, it is important to consider how the Canadian courts view foreign private foundations, and consequentially how they are viewed from a Canadian tax perspective. As noted, private foundations do not exist in Canadian law. The approach taken by the Canadian courts when faced with a foreign legal entity which does not exist under Canadian law is a two-step approach, whereby it first examines the characteristics of the entity as defined under the applicable foreign laws and the entity’s own constitutional documents, and then compares those characteristics with those of entities recognized under Canadian law.
The foreign entity will be treated as the type of Canadian entity it most closely resembles. Using that type of analysis, a Canadian court will treat a foreign private foundation as either a corporation or a trust.
There are many potential factors that will influence a court’s and the Canada Revenue Agency’s (CRA) determination that any particular foreign private foundation is more analogous to a corporation or a trust. These include such things as how the foundation is controlled, any rights reserved by the founder, who can enforce the foundation’s terms, the nature of beneficiary rights, duties of directors, how the foundation is described under local laws, and how the foundation actually functions in practice. The CRA has stated expressly that the most important attributes to consider are the nature of the relationship between the various parties and the rights and obligations of the parties under applicable law and the foundation’s constitutional documents. The Canadian courts, in the very limited jurisprudence that exists on the subject, have also focussed on the nature of the relationships and the respective rights and duties among the parties to the foundation in order to arrive at their determination. The hallmarks of a trust relationship will include such things as a trustee’s fiduciary duty towards beneficiaries, the existence of beneficiary rights, and a beneficiary’s ability to enforce its rights against the trustee (among other things). A foreign private foundation can be structured in a manner that creates similar relationships to a trust, or in a manner that does not. Since it will be a case-by-case analysis, it is not possible to achieve absolute certainty as to whether any particular foreign private foundation will be treated as a corporation or a trust by a Canadian court (or the CRA). The analysis, however, can be predictably and materially influenced by how the foundation is structured. The Canadian legal and tax treatment of a foreign corporation (and a Canadian shareholder) is materially different from the legal and tax treatment of a foreign trust (and a Canadian beneficiary). Therefore, thoughtful structuring of the foundation is key from a Canadian planning perspective.
With the right planning at the outset, a foreign private foundation can be part of a stable, efficient and effective wealth management, protection, and succession plan for Canadians. Private foundations are available under the laws of several jurisdictions worldwide, including notably Lichtenstein, The Netherlands, The Cayman Islands, Panama and the UAE. Specialist advice is essential.
If you would like to discuss whether a private foundation structure is right for you, please contact us. ■
 Some of the advantages described here can be achieved with trust structures as well, but these are inherent to foundations whereas trusts would need to be carefully drafted to achieve these benefits.
 The Cayman Islands and the UAE’s common law financial free zones (the Dubai International Financial Centre and Abu Dhabi Global Markets) offer private foundation structures under their domestic laws, for example.
 While private foundations are not expressly contemplated under Canadian law, the Income Tax Act (Canada) does expressly contemplate foreign corporate entities that do not have share capital, at section 93.2, which is a description that could very well apply to a private foundation. Section 93.2 allows the CRA to treat interests of beneficiaries effectively as shares for tax purposes if the interests of the beneficiaries amount to a right (absolute or contingent) to receive payments.
 This approach was developed in Backman v. Canada  1 SCR 367, 2001 SCC 10 and applied many times in subsequent decisions, and is the approach used by the CRA as well.
 See for example CRA Income Tax Technical News No. 38. It should also be noted that the CRA has expressed its view that, generally, it will consider a Lichtenstein foundation to be a trust. That stated position is not binding and has no legal force, and does not change the fact that the courts will consider each foundation according to its own characteristics in order to determine whether it should be treated as a corporation or a trust. The CRA’s position was specific to Lichtenstein foundations, and may not apply to foundations established under other regimes which differ from the Lichtenstein regime. For the CRA positions see Technical Interpretation 2008-0266251 I7 dated 15 April 2008, reiterated in Technical Interpretation 2010-0388611 I7 dated 7 March 2011.
 As summarised in the 2012 Federal Court of Appeal judgment in The Queen v Peter Sommerer (2012 FCA 207), and the Tax Court of Canada decision in the same matter, Sommerer v. The Queen (2011 TCC 212).Download inBrief as PDF