Understanding tariffs and surtaxes

Shortly after the Trump Administration’s announcement of a 25% tariff on most Canadian products and a 10% tariff on energy resources, the administration “paused” the tariff for a 30‑day period. With tariffs remaining a live issue and a fundamentally altered trade landscape between Canada and the United States, companies operating across the border face substantial uncertainty.

On February 3, 2025, Fillmore Riley published a Tariff Primer for our client that provided a high-level summary of the U.S. Executive Order as well as the threatened Canadian retaliatory measures. We explained that the Government of Canada could impose retaliatory measures either through tariffs or through surtaxes. This article describes those concepts in more detail.

Tariffs: No Long-Term Changes Without Legislative Oversight

Tariffs in Canada are governed by the Customs Tariff (Canada). Counterintuitively, this legislation establishes a general tariff rate of 35%, but various exemptions and trade agreements reduce or eliminate tariffs for many products.

Currently, the U.S. benefits from Most-Favoured-Nation (MFN) status under Canada’s tariff structure. This means that, in normal trade circumstances, U.S. goods are subject to lower tariff rates than the default 35% rate. For most imports from the U.S., the MFN tariff rate is 0%, reflecting the deeply integrated trade relationship between the two countries.

However, if the Canadian government decides to impose retaliatory tariffs, it can revoke the MFN status on selected goods, applying a higher tariff rate to those specific imports. This selective application allows the government to target particular industries while preserving the broader benefits of free trade under the Canada-United States-Mexico Agreement (CUSMA).

When Canada imposes retaliatory tariffs, as may be the case in March, it does so through a two-step process. The first stage involves the federal Cabinet issuing an order to revoke an entitlement to MFN status. This allows the government to increase tariffs on designated U.S. imports up to the default 35% rate, though it may opt for a lower percentage (what has been proposed currently is 25% tariffs on selected industries). These orders take effect quickly, often within days, once they are registered and published in the Canada Gazette.

However, the second stage introduces an element of legislative oversight. Within 180 days, Parliament must approve the tariff increase via resolutions in both the House of Commons and the Senate. If Parliament is prorogued or delayed, the order remains in effect until the 15^th sitting day after Parliament resumes. Given the volatility of political schedules, the precise timing of these approvals remains difficult to predict, leaving businesses in an uncertain position.

Surtaxes: A More Immediate and Flexible Tool

While tariff increases follow a structured and staged approach, surtaxes offer a more immediate and adaptable mechanism for responding to trade disputes. A surtax is an additional duty applied on imported goods, levied on top of (any) existing tariffs, and authorized under Section 53 of the Customs Tariff. Unlike tariff increases, which require parliamentary approval within 180 days, surtaxes can be imposed immediately and do not require legislative ratification. This allows the federal government to respond swiftly to unfair trade practices, diplomatic tensions, or economic pressures.

The primary advantage of surtaxes lies in their speed and retroactive applicability. The government can announce a surtax today, apply it immediately, and retroactively enforce it on goods that have already entered Canada. The underlying order would need to be tabled in Parliament within 15 sitting days, but they do not require ratification — meaning Parliament could overrule the order if it chose to do so. However, in the case of a hung or dysfunctional Parliament, the default would be for the order to remain valid rather than expire. This makes surtaxes particularly potent in times of political gridlock (or prorogation, as is the case at present), as they can remain in place even if Parliament is unable to reach a consensus.

In essence, the government could make an announcement on February 28, 2025, stating that a surtax will apply to certain U.S. goods effectively immediately, then publish the order in the Canada Gazette later in the week and have the order be retroactive to February 28.

This presents a significant financial risk for importers, who may find that shipments previously subject to lower duty rates are suddenly recalculated at higher costs. Unlike tariffs, which can be a slower process, surtaxes provide a fast-acting tool that allows Canada to impose targeted economic consequences on foreign entities without prolonged legislative delay.

Given these complexities, Canadian businesses should approach surtaxes with a clear understanding of their potential volatility and economic consequences. While they provide the government with a tool to be used in uncertain economic times, they also introduce considerable unpredictability into supply chains and cost structures. To minimize disruption, businesses can consider diversifying their sourcing strategies, securing contractual safeguards, and maintaining financial reserves to absorb potential surtax-related cost increases.

Navigating Transshipment Rules to Avoid Unnecessary Tariffs

For businesses sourcing goods from countries beyond the U.S., an additional layer of complexity arises through transshipment rules. These rules set out that when a product passes through an intermediary country before reaching Canada, the determination of whether tariffs or surtaxes apply depends on how the goods are handled during transit.

Tariffs normally apply when an article is “directly shipped” from a specific country — meaning if an article is “directly shipped” from Vietnam, it is the tariff against Vietnam goods that applies. As noted earlier, if an article is “directly shipped” from the U.S. it is the tariff (if any) against U.S. goods that applies.

When goods are shipped through an intermediate country (e.g. Vietnam to the U.S. then to Canada), the Customs Tariff considers those goods to have been “transshipped.” The question, then, is from whence the goods are considered to have come — and what tariffs result.

Transshipped goods are considered to have been “directly shipped” from the origin country (e.g. Vietnam, in our example) if all of the following conditions are met:

1. There is a Canadian consignee on the bill of lading;
2. The goods remain under customs transit control in the intermediate country (e.g. the U.S. in our example);
3. The goods do not undergo an operation in the intermediate country (e.g. the U.S. in our example) other than unloading, reloading or splitting up of loads, or any other operation to keep the goods in good condition;
4. The goods do not enter into trade or consumption in the intermediate country (e.g. the U.S. in our example); and
5. The goods do not remain in temporary storage in the intermediate country (e.g. the U.S. in our example) for a period exceeding the prescribed period. Note that there is currently no prescribed period that the goods can remain in the U.S., so the restriction described in clause (e) above if of no practical concern for the purposes of our example.

This means that a Canadian retailer importing goods from Vietnam via a U.S. warehouse must exercise caution to avoid costly tariffs. If the goods pass directly through U.S. customs without modification and remain in transit, they should retain their Vietnamese origin and associated tariff status.

However, if they enter U.S. distribution channels before re-shipment, or fall afoul of any of the other conditions set out above, they may be reclassified as U.S. imports, making them vulnerable to Canadian retaliatory tariffs against American goods. The nuances of transshipment policies can mean the difference between maintaining competitive pricing and facing unforeseen cost burdens.

Key Takeaways for Businesses

In light of these uncertain economic times and the potential for tariffs and/or surtaxes between Canada and the U.S., businesses should take several steps to prepare.

Assess Your Supply Chain Exposure

Businesses would be well-advised to map out their supply chains to identify vulnerabilities to tariffs and surtaxes. This includes evaluating key suppliers, assessing their country of origin, and determining whether alternative sources exist. Companies should also review contracts with suppliers and customers to establish who is responsible for absorbing additional tariff costs, ensuring that agreements reflect potential duty changes.

Review Tariff Classification and Transshipment Practices

Businesses should ensure that products are accurately classified under the Customs Tariff to avoid misclassification penalties and unexpected duties. Special attention should be given to transshipment regulations, as improper documentation or processes can result in reclassification of goods under a higher tariff rate. Businesses should work with customs brokers and legal experts to ensure compliance with rules governing intermediary countries and maintain a robust trail of trade documentation.

Monitor Trade Developments Closely

Given the rapid implementation of tariffs and surtaxes, businesses must stay informed about legislative changes and government policies. Regularly reviewing updates in the Canada Gazette and engaging with both legal representation trade associations can help companies anticipate changes — and their impacts — before they take effect.

Explore Diversification Strategies

If the uncertainty of the past month has made anything clear, it is that over-reliance on U.S. suppliers or markets can leave companies vulnerable to trade disruptions. Businesses should assess the feasibility of sourcing critical goods from other jurisdictions with more stable trade agreements. Exploring domestic manufacturing capabilities or leveraging free trade agreements with other nations can help companies mitigate the financial risks associated with U.S.-Canada trade tensions.

Consider Contractual Safeguards

Companies should incorporate contractual clauses that allocate tariff-related risks, such as price adjustment mechanisms. Negotiating supplier agreements that allow for cost-sharing or alternative sourcing in the event of significant tariff increases can help businesses minimize financial exposure. Businesses should ask legal representation to review existing contracts to ensure they include provisions that address trade-related disruptions.

Maintain Financial Flexibility

Given the unpredictability of trade policy changes, businesses should maintain liquidity to absorb potential cost increases. Establishing reserve funds, securing credit lines, and evaluating hedging strategies can help businesses manage the financial impact of sudden tariff hikes. Financial planning should also account for potential retroactive surtaxes, ensuring companies have sufficient capital to handle unexpected duty reassessments.

Conclusion 

The evolving landscape of trade policy between Canada and the U.S. demands that businesses stay ahead of potential disruptions. Understanding the fundamental differences between tariff increases and surtaxes is a critical aspect of risk management for any company engaged in cross-border trade. Tariffs generally follow a slower legislative process that allows businesses some time to adapt, but surtaxes can be imposed nigh-instantly, creating immediate financial ramifications. The potential for retroactive enforcement adds another layer of complexity, making proactive planning essential.

For Canadian businesses, resilience in this shifting environment requires concrete steps to safeguard their supply chains, re-evaluate sourcing strategies, and build financial flexibility to withstand sudden cost increases. Engaging with policymakers, staying informed about pending trade actions, and structuring contracts to account for fluctuations in duties and surtaxes can help mitigate risk.

Trade disputes and economic countermeasures are unavoidable, but those who plan ahead will be in the best position to navigate uncertainty. Whether through diversifying suppliers, negotiating contractual terms, or maintaining open lines of communication with government and industry groups, businesses that adopt a forward-thinking approach will be far better equipped to weather changes in trade policy. In a world where economic conditions can shift overnight, preparedness is a necessity.

Consulting with our trade and tax lawyers can provide insights into how to optimize business approaches to these new — and ever-changing — developments. 

Fillmore Riley LLP's Taxation Practice

We offer tax advice to both individual and business clients on a wide range of matters, including corporate and commercial transactions, estate planning, and tax dispute resolution and litigation. For more information, or if you have any questions, please contact a member of the Fillmore Riley Taxation practice.