Mark Lobsinger is a lawyer at the Toronto law firm of McMillan Binch and a member of the firm’s Tax Group.

No discussion of film financing in Canada today would be complete without discussing the role that Canadian tax shelters play.

There are at least three Canadian organizations that offer these shelters: Cinegate Production Management Services, Grosvenor Park Film Financing Corporation and Sentinel Hill Alliance Atlantis Equicap lp.

While these structures are designed to provide an attractive tax shelter product to private individuals, as a by-product they also provide a financial benefit to studios or production companies that are willing to supply the films and television productions that are needed to make these shelters work.

How much of the financing

do they provide?

The structures offered by each of these suppliers can provide a production company with a net benefit of up to 5% of those production costs of a film or television production that are not eligible for Canadian tax credits. When combined with the Canadian federal and provincial production services tax credits that are available for production in Canada, the aggregate benefit can be significant.

Who can get this financing?

This form of financing is generally only practical for production companies that are making productions that do not qualify for the full "Canadian content" tax credits, but that rather only qualify for the production services tax credits. (Canadian production companies can often obtain tax credits on substantial portions of their production budgets, generally making these structures of little interest to them.)

The current tax shelters generally make economic sense where the "non-Canadian-labor" production expenses of a single project are greater than $1 million (or more, depending on circumstances and the particular structure used). A smaller budget project may be economically viable if the project is part of a series or a package of productions that will have an aggregate budget above a minimum threshold.

The basics

These structures are complex, and involve many parties, including individual private investors, banks, trustees and intermediary companies. The structures also vary depending on which of the three suppliers is involved. The production company is only directly involved in some of the many transactions that need to occur – here are the basics of the role played by the production company:

The production company (generally called the "Studio" in these structures) will engage two entities to provide all of the production services and to make all of the production expenditures that are needed to produce the film or television production.

The Studio will, indirectly, engage a limited partnership called a "production services partnership" (or "psp") to perform those production services that relate to the production expenditures that do not qualify for Canadian tax credits. At the same time, the Studio will also engage a Canadian production services company (called a "Creditco") to perform the production services that do qualify for the Canadian production services tax credits.

Under these arrangements, the Studio will loan the psp and Creditco the amounts that are required to pay production expenses, as needed. (Cheques drawn from the loan proceeds are generally co-signed by the Studio to maintain accounting control.) The Studio will also need to pay fees to the psp and Creditco for the production services that they’ve been engaged to provide.

The fee paid to the psp consists of a fixed portion and a variable portion that is based on net profits from the production or some other measure. The fee structures are designed to provide the psp with a "reasonable expectation of profit" in connection with the project. The fee that the Studio pays to the Creditco is a fixed fee, and the Studio will be entitled to set off this fee against the loan payments that the Creditco owes to the Studio.

Of course, there’s a lot more to it than that. But once the dust settles, the net result of the loans, fees, interest and other payments that pass between the Studio, the psp, the Creditco and the other parties to the structure is that the Studio receives a benefit relating to the production services tax credits received by the Creditco plus a benefit of up to 5% of the production expenses incurred by the psp.

Considerations and risks

If you’re a studio or production company that’s interested in using this form of financing, you should consider the following:

* To obtain the full benefit of these structures, you must own the full copyright in the project.

* Timing is crucial. Canadian production services tax credits and the tax shelter benefit will only apply to production expenses that are paid for by a Creditco and a psp, respectively. Accordingly, the relationships between you and these parties (and the flow of cash between the parties) must be established before production expenses are incurred.

* Under these structures, you will be subcontracting the production of your project. You should consider the impact that the legal relationships between, and the characterization of payments made among, the parties has on your Canadian and non-Canadian tax positions. In particular, you should consider (among other things) whether:

– any cross-border payments are subject to withholding taxes (and the impact of tax treaties on withholding rates, if any);

– any agency or non-arm’s length relationships exist, and the impact of any such relationships on your tax position or fees earned or paid;

– a "substance over form" approach may be taken in characterizing relationships for non-Canadian tax purposes;

– you will earn interest (or have interest imputed to you) in connection with loans and/or amounts on deposit; and

– anti-avoidance tax legislation could apply to recharacterize the relationships/nature of payments between the parties.

– These tax shelter structures and transactions are generally based on tax rulings obtained from Canadian tax authorities. The rulings apply only to specific transactions of the parties to whom the rulings are addressed. A ruling will not guarantee the Canadian tax consequences of similar transactions and may not apply where transactions vary from those contemplated in the ruling.

Before you sign up

If you’re interested in accessing this form of financing, you should obtain legal and tax advice before entering into these psp/Creditco arrangements. The contractual arrangements in psp/Creditco structures can be complex and you will need adequate time to understand the arrangements and associated commercial risks and tax implications.

Further, while the organizations offering the psp/Creditco structures are generally reluctant to alter the terms of their "standard transaction documents" (for fear of falling outside their tax rulings), commercial terms that do not affect the rulings may be negotiable, and you should leave yourself sufficient time to deal with those matters.

(This article contains general comments only. It is not intended to be exhaustive and should not be considered as advice in any particular situation.) *