Courts in the second quarter of 2019 will see significant tax-related decisions and developments. Our team unpacks these developments in case law, as well as current trends in tax controversy and litigation.
The Supreme Court has agreed to consider the proper test for determining whether a derivative instrument constitutes a hedge of an asset or liability for income tax purposes after the Federal Court of Appeal reversed a Tax Court decision in MacDonald v. The Queen.1 The Tax Court held there was there was no hedge after a taxpayer held shares and a forward contract referencing the same shares. But the Federal Court of Appeal reversed that decision2 and leave to appeal was granted in March 2019.
The Supreme Court has refused leave in virtually all other tax cases recently. One denial stands out. In Canada Life Insurance Company of Canada v. Canada (Attorney General),3 the issue was whether rescission—as opposed to rectification—remained available to taxpayers faced with significant, unanticipated tax liabilities that were wholly attributable to mistakes in the planning or implementation of transactions. The Ontario Court of Appeal relied on principles from the Supreme Court’s rectification cases in refusing rescission. The Supreme Court refused leave to appeal Canada Life in March, effectively condoning the Ontario Court of Appeal’s approach.
At a General Anti-Avoidance Rule (GAAR) conference in March hosted by the Canadian Tax Foundation (CTF), participants advised of approximately 70 GAAR cases currently in the courts. The issues relate to capital dividend account, foreign exchange losses, loss trading, tax attributes (such as paid up capital), alleged avoidance of section 160,4 qualified investments for registered retirement savings plans, and alleged treaty abuse.
Of these 70 cases, there are four significant GAAR decisions that have been rendered in ongoing cases. In Bank of Montreal v. Canada,5 the Tax Court issued a rare decision holding that no tax benefit was enjoyed. The Crown alleged that a dividend stop-loss rule in subsection 112(3.1) had been circumvented. The Tax Court held the provision had not been circumvented, because the relevant loss was deemed by subsection 39(2) to be from the disposition of foreign currency, such that subsection 112(3.1) was inapplicable. The Crown has appealed.
In Alta Energy Luxembourg S.A.R.L. v. The Queen,6 the taxpayer sold shares in a company that carried on an unconventional shale oil business in Alberta. The sale was structured to take advantage of the Canada-Luxembourg Income Tax Convention. The Tax Court held that the GAAR did not apply to preclude the taxpayer from claiming an exemption provided by Article 13(5) of the Convention. The case follows other unsuccessful attempts by the Crown to limit “treaty shopping” through the GAAR and beneficial ownership concepts.7 The Crown has appealed the decision in Alta Energy.
In Loblaw Financial Holdings Inc. v. The Queen,8 the Crown argued that income of a foreign affiliate was foreign accrual property income (FAPI) to the Canadian taxpayer, or alternatively that the GAAR applied. Tax Court held that the income was FAPI, on the basis that the relevant foreign affiliate was not carrying on an investment business as defined in subsection 95(1). The taxpayer has appealed.
In Gladwin Realty Corporation v. The Queen,9 the Tax Court applied the GAAR to a complex plan that ultimately included manipulations of the capital dividend account balance, as well as certain offsetting capital gains and losses. The appeal period expires in June.
According to remarks made by Tax Court judges at a CTF transfer pricing conference in March, parties should anticipate aggressive timetables for pre-hearing steps, motion decisions rendered from the bench instead of taken under reserve, and active involvement in case management, in settlement, and in presenting expert evidence at trial.
With respect to ongoing cases, the Crown has appealed Cameco Corporation v. The Queen.10 That decision turned on the regular transfer pricing rule in paragraphs 247(2)(a) and (c), while also analyzing the sham doctrine and the recharacterization provisions in paragraphs 247(2)(b) and (d).
The Competent Authority process has also given rise to recent litigation. In Kerry (Canada) Inc. v. Canada (Attorney General),11 judicial review was sought over a refusal by the CRA to implement a Competent Authority agreement. The CRA decided that neither a valid waiver, nor a valid objection, was in place for certain taxation years. The Federal Court held the decision was unreasonable; effectively, a waiver was in place. The period for the Crown to appeal expires in June.
1 2017 TCC 157.
2 Canada v. MacDonald, 2018 FCA 128.
3 2018 ONCA 562.
4 All statutory references are to the Income Tax Act.
5 2018 TCC 187.
6 2018 TCC 152.
7 Canada v. MIL (Investments) S.A., 2007 FCA 236; Prévost Car Inc. v. Canada, 2009 FCA 57; Velcro Canada Inc. v. The Queen, 2012 TCC 57, respectively.
8 2018 TCC 182.
9 2019 TCC 62.
10 2018 TCC 195.
11 2019 FC 377.