Her Majesty the Queen, Appellant v. Nassau Walnut Investments Inc., Respondent, 97 DTC 5051, [1998] 1 CTC 33 (FCA)

Robertson J.A.:

I. Introduction

This is an appeal from a reported decision of the Tax Court of Canada. [1995] 2 C.T.C. 2057, involving the interpretation and application of section 55 of the Income Tax Act (the “Act”). The essential facts are that the respondent taxpayer, Nassau Walnut Investments Inc. (“Nassau”), disposed of certain shares and claimed the proceeds as a tax-free dividend pursuant to subsections 84(3) and 112(1) of the Act when filing its 1989 income return. The Minister of National Revenue (the “Minister”) reassessed Nassau on the basis that the dividend was caught by subsection 55(2). That subsection has the effect of converting certain tax-free dividends into (taxable) capital gains. While Nassau agreed with the Minister that subsection 55(2) applied, it sought to invoke paragraph 55(5)(f). In defined circumstances, that provision has the effect of reducing the amount of the capital gain, thereby allowing a portion of the dividend to remain tax-free. The Minister refused to accede to Nassau’s request on the basis that it had failed to make a “designation” at the time it filed its return as required by paragraph 55(5)(f).

Two issues arise for our consideration. First, was Nassau obligated at the time of filing its 1989 return to “make” a designation pursuant to paragraph 55(5)(f) of the Act in order to reduce its tax liability arising from the sale of the shares? The answer to that question hinges on the interpretation of subsection 55(2). Second, as Nassau did not make such a designation, and assuming that it was required to do so, then it is necessary to decide whether Nassau was entitled to submit what the parties have labelled a “late-filed designation”.

The Tax Court Judge concluded that it was unnecessary for Nassau to file a designation and, therefore, he declined to deal with the second issue. In the reasons that follow, I come to the respectful conclusion that Nassau was obligated to make a designation at the time it filed its return for the taxation year in question. With respect to the second issue, I conclude that Nassau was entitled to claim the benefit of paragraph 55(5)(f) of the Act once the notice of reassessment issued and the Minister invoked subsection 55(2).

II Legislative Framework

Paragraph 84(3)(c) of the Act provides that if a corporation redeems, acquires or cancels shares of its capital stock then that corporation is deemed to have paid a dividend equal to the difference between the amount paid and the paid-up capital in respect of the shares so acquired. Correspondingly, paragraph 84(3)(b) provides that the person who disposed of the shares is deemed to have received a taxable dividend. In turn, subsection 112(1) has the effect of rendering such intercorporate dividends tax- free by permitting the corporate taxpayer to take an equivalent deduction. The operation of these provisions, however, is subject to subsection 55(2).

Subsection 55(2) of the Act is an anti-avoidance provision which has the effect of converting certain tax-free dividends into (taxable) capital gains. The object is to prevent “capital gains stripping”. However, to the extent that a dividend, including a deemed dividend arising under subsection 84(3), is attributable to what is colloquially referred to as “safe income” of the dividend paying corporation, then that portion of the dividend remains tax-free. Broadly stated, safe income, as calculated under paragraph 55(5)(b), is equivalent to the tax retained earnings of the dividend paying corporation realized after 1971 and prior to the receipt of the dividend. Subsection 55(2) reads as follows:

55(2) Deemed proceeds or capital gain. Where a corporation resident in Canada has after April 21, 1980 received a taxable dividend in respect of which it is entitled to a deduction under subsection 112(1) or 138(6) as part of a transaction or event or a series of transactions or events (other than as part of a series of transactions or events that commenced before April 22, 1980), one of the purposes of which (or, in the case of a dividend under subsection 84(3), one of the results of which) was to effect a significant reduction in the portion of the capital gain that, but for the dividend, would have been realized on a disposition at fair market value of any share of capital stock immediately before the dividend and that could reasonably be considered to be attributable to anything other than income earned or realized by any corporation after 1971 and before the transaction or event or the commencement of the series of transactions or events referred to in paragraph (3)(a), notwithstanding any other section of this Act, the amount of the dividend (other than the portion thereof, if any, subject to tax under Part IV that is not refunded as a consequence of the payment of a dividend to a corporation where the payment is part of the series of transactions or events)

(a) shall be deemed not to be a dividend received by the corporation;

(b) where a corporation has disposed of the share, shall be deemed to be proceeds of disposition of the share except to the extent that it is otherwise included in computing such proceeds; and

(c) where a corporation has not disposed of the share, shall be deemed to be a gain of the corporation for the year in which the dividend was received from the disposition of a capital property.

Before subsection 55(2) of the Act may be deemed applicable with respect to dividends arising under subsection 84(3), it must be established,

inter alia, that: (i) the payment of such dividend effected a significant reduction in the capital gain that would have been realized but for the payment of the dividend; and (ii) that said reduction in capital gain could reasonably be considered to be attributable to anything other than safe income. Thus, if it can be shown that the entire amount of the dividend is attributable to or covered by safe income then subsection 55(2) is not applicable. If, however, a portion of the dividend or capital gain is attributable to something other than safe income, then the entire amount received by the corporation is deemed not to be a dividend. In cases where the shares have been sold at the time the dividend has been paid, paragraph 55(2)(b) deems the proceeds of sale to be proceeds of disposition. Where the dividend has been paid but the shares retained, paragraph 55(2)(c) deems the dividend to be a gain for the year in which the dividend was received from the disposition of a capital property.

As is apparent, subsection 55(2) of the Act is an “all or nothing” provision. If any portion of the dividend is tainted by something other than safe income, then the entire amount of the tax-free dividend is converted into a capital gain. Relief, however, is found in paragraph 55(5)(f) which reads as follows:

55(5) For the purposes of this section,

(f) where a corporation has received a dividend any portion of which is a taxable dividend,

(i) the corporation may designate in its return of income under this Part for the taxation year during which the dividend was received any portion of the taxable dividend to be a separate taxable dividend, and

(ii) the amount, if any, by which the portion of the dividend that is a taxable dividend exceeds the portion designated under subparagraph (i) shall be deemed to be a separate taxable dividend.

The above provision [which is by no stretch of the imagination a model of legislative clarity], allows a corporation to avoid the “all or nothing” result by designating a dividend to be a number of separate dividends. By means of designation, the portion of the dividend attributable to safe income is severed and thus remains tax-free. That part of the dividend which is not attributable to safe income is to be treated as though a capital gain had been realized. It is also of significance to this appeal that the separate dividend designation is to be made at the time of filing of the tax return for the year in which the dividend was received.

III. Facts

Together, Diane Avery and her brother, Arthur Knowles, owned all of the issued shares of Westminster Transport Ltd. (“Westminster”). Each held 70,000 shares. At the time Ms. Avery decided to sell her half interest to her brother, her shares had a paid-up capital of $1000 and a fair market value of $700,000. Had Mr. Knowles been in a financial position to purchase his sister’s shares directly, Ms. Avery would have been able to take advantage of the then existing $500,000 capital gains exemption. Mr. Knowles, however, was not in such a financial position. On the advice of Ms. Avery’s accountants, it was therefore agreed that she would transfer her Westminster shares to Nassau for $700,000, at an adjusted cost base of $39,469, and that Westminster would subsequently repurchase those shares in a series of ten consecutive transactions. Upon redemption, Mr. Knowles would be left as the sole shareholder of Westminster. The repurchase transaction was structured as follows:

The accountants who structured the transaction anticipated that on the redemption of Nassau’s shares in Westminster, Nassau would receive $270,978 as a tax-free intercorporate dividend. It is common ground that that amount represents the safe income attributable to the 70,000 shares in issue. The safe income of Westminster was calculated prior to the completion of the transactions so that a designation under paragraph 55(5)(f) of the Act could be made. Had the designation been filed in accordance with the accountants’ instructions, it would have resulted in the realization of a capital gain of $389,553 [$700,000 (fair market value) - $270,978 (safe income) - $39,469(adjusted cost base) = $389,553].

Soon after the closing of the transaction, Nassau appointed a new accounting firm. In filing Nassau’s 1989 tax return, the new accountants mistakenly reported the difference between the purchase price of the shares and their paid-up capital, $699,000, as a deemed dividend under subsection 84(3) of the Act. Unfortunately, this was contrary to the advice of the accountants who had structured the transaction so that only an amount equal to the safe income attaching to the shares would be reported as a deemed dividend and that the balance of the redemption price would be reported as proceeds of disposition with respect to a taxable capital gain. The new accountants also failed to make the designation under paragraph 55(5)(f) with respect to the deemed dividend.

The Minister reassessed Nassau on the basis that the whole dividend should be deemed a capital gain. [However, the parties later agreed that $660,531, rather than $699,000, represented the capital gain that would have been realized on a disposition of the shares at fair market value to an arm’s-length party at a time just prior to Westminster’s redemption of its shares]. In response to the Minister’s reassessment, Nassau filed an objection and requested permission to make a designation under paragraph 55(5)(f) of the Act. The Minister refused to accept a late-filed designation. Nassau appealed to the Tax Court of Canada.

IV. Argument and Decision Below

Before the Tax Court, Nassau submitted that there is nothing in subsection 55(2) of the Act that indicates how safe income is to be allocated. Nassau went on to argue that allocation on a per shareholder basis is a reasonable method. Applying this method, Nassau contended that all of the safe income attributable to all of its shares in Westminster could be allocated to the first 27,000 of the 70,000 shares redeemed. Therefore, subsection 55(2) was not applicable to the $270,000 deemed dividend received by Nassau on the purchase for cancellation of those shares. Correlatively, there was no need to make a designation under paragraph 55(5)(f) of the Act.

Nassau also took the position that it should not be prejudiced by reason of an inadvertent misunderstanding on the part of its accountants as to the tax treatment to be accorded to the redemption proceeds. On this basis, Nassau sought permission to amend its 1989 tax return to show that a capital gain was realized on the repurchase transaction to the extent that that gain exceeded the amount of safe income attributable to the Westminster shares. Finally, Nassau sought permission to file a designation pursuant to paragraph 55(5)(f) of the Act so that an amount equal to Westminster’s safe income could be treated as a separate taxable dividend.

The Minister adopted the position that the more reasonable method of allocating safe income is on a pro rata basis per share. Consequently, the $270,978 of safe income attributable to Nassau’s shares in Westminster should be allocated on the basis of $3.87 per share ($270,798 70,000). Accordingly, only $104,490 of the $270,000 fair market value of the first 27,000 shares redeemed can be said to be attributable to something other than safe income. Within this context, it follows that Nassau was required to make a designation under paragraph 55(5)(f) of the Act at the time it filed its 1989 return.

With respect to the late designation issue, the Minister contended that if the Act contemplated such, it would have stated so as is the case with respect to other provisions of the Act. As well, the Minister maintained that there is a compelling policy reason why some elective provisions of the Act have late-filing provisions and others do not. Specifically, the Minister submitted that to allow a late-filed designation would open up the system to abuse by unscrupulous taxpayers.

The Tax Court Judge’s analysis begins with the understanding that sub section 55(2) of the Act is an anti-avoidance provision intended to ensure that only capital gains which reflect safe income will be treated as tax-free intercorporate dividends. In interpreting that provision it was held that substance must prevail over form to the extent that this approach is consistent with the wording and object of Parliament. The Tax Court Judge noted that had Nassau’s new accountants not mistakenly reported the full redemption price of the shares as a deemed dividend, the Minister would have allowed Nassau the benefit of the $270,000 of safe income available to the Westminster shares. He also noted that Nassau was involved in this litigation because of that mistake and because “the form of the transactions did not mirror the method recognized by Revenue” (at 2068). Thus, by allowing Nassau’s appeal and accepting its method of allocating safe income, the Tax Court Judge concluded that “substance is given precedence over form”. Finally, it was held that if there remains a reasonable doubt [not resolved by the ordinary rules of interpretation] as to whether subsection 55(2) permits a method of allocating safe income other than that recognized by Revenue, this doubt is to be settled by recourse to the residual presumption in favour of the taxpayer: see Corporation Notre-Dame de Bon-Secours v. Communauté Urbaine de Quebec and City of Quebec et al., 95 DTC 5017 at 5023 (S.C.C.).

V. Analysis

In written argument, the Minister submitted that the Tax Court Judge erred in determining that the Minister’s pro rata method of allocating safe income among Nassau’s Westminster shares was not reasonable. As the Tax Court Judge made no such finding, the Minister’s argument was recast as follows. Subsection 55(2) applies if a dividend effects a significant reduction in a capital gain that could reasonably be considered to be attributable to anything other than safe income. Accordingly, assuming that the other requirements of that provision are satisfied, so long as the approach taken by the Minister in allocating safe income is reasonable, subsection 55(2) should apply regardless of whether the method chosen by Nassau could also be considered reasonable. I agree with this submission.

It is not difficult to argue convincingly that the pro rata method for allocating safe income is in law a reasonable one. Indeed, based on the authorities and written commentaries it is arguable that the only acceptable method of allocating safe income is on a pro rata basis. In The Queen v. McClurg, [1990] 3 S.C.R. 1020, the Supreme Court of Canada confirmed that there is a presumption of equality amongst shares unless the articles of incorporation provide otherwise by means of the division of shares into different classes. This well-accepted principle of equality among shares is reflected in Ministry policy, as noted in John R. Robertson’s article, “Capital Gains Strips: A Revenue Canada Perspective” in Report of Proceedings of the Thirty-Third Tax Conference (Toronto: Canadian Tax Foundation, 1980) 81 at 85:

Each share of a corporation represents only its proportionate share of the value of the company and therefore is entitled only to its proportionate share of the safe income of the corporation during the relevant holding period of that share.

Although the Department of National Revenue’s administrative policy is not binding on the courts, other commentators have also interpreted the words of subsection 55(2) as requiring a pro rata allocation of safe income. In H.J. Kellough and P.E. McQuillan, Taxation of Private Corporations and Their Shareholders, 2d ed. (Toronto: Canadian Tax Foundation, 1992), it is stated at 9:33-34:

As income is earned it contributes to the value of a share of a particular class to the same extent it contributes to the value of each other share of that class...

Because safe income is the portion of a gain that is attributable to income, it is necessary, in determining the safe income inherent in shares, to identify how income that is earned and retained by a corporation contributes to the gain on the various classes of shares of the corporation. Income that is retained is reflected in the assets of the corporation. It is therefore necessary to identify how the shares benefit from an increase in the assets of the corporation. This usually can be determined by identifying the liquidation entitlement of the shares of the corporation and the relative priorities of the shares to this liquidation entitlement.

Each share of a particular class held by a particular shareholder will have the same safe income, assuming that the shares of the class all have the same adjusted cost base.

Finally, I am drawn to the persuasive reasoning of Judge Lamarre Proulx in Gestion Jean-Paul Champagne Inc. v. M.N.R. (6 October 1995), 88-795 IT (T.C.C.). In that case, the corporate taxpayer invoked the legal analysis offered in the decision now under appeal, and argued that all of the safe income of a corporation could be distributed to one of two shareholders. In rejecting this approach, the Tax Court Judge confirmed that there was a presumption of equality among shares and that safe income had to be attributed to the shares of a corporation in accordance with this principle. At page 12 of her reasons she stated:

It is my opinion that this approach runs counter both to the aforementioned corporate law principles relating to the presumption of equality of shares and to the purpose of subsection 55(2) of the Act. On the one hand, that presumption has not been rebutted and, on the other hand, it seems obvious to me that it is with respect to the shares in issue that the capital gain and the dividend must be computed for the purposes of subsection 55(2) of the Act. For the principle of equality of rights attaching to shares and for the object of subsection 55(2) of the Act to be taken into account, the income earned and realized after 1971 must be reasonably attributed according to the ratio of the common shares redeemed to the total common shares issued and still held.

If it were necessary to decide the point, I would not hesitate to conclude that the only acceptable method for allocating safe income is on a pro rata basis as was done in The Queen v. Placer Dome Inc. (5 November 1996), A-259-96 (F.C.A.). Be that as it may, I am content for purposes of this appeal to conclude that pro rata allocation is a reasonable method for attributing safe income and that subsection 55(2) of the Act is applicable. It necessarily follows that Nassau was required to file a designation under paragraph 55(5)(f). The remaining and more difficult issue, in my opinion, is whether Nassau was entitled to make a late-filed designation.

The question before us was cast in terms of whether Nassau was entitled to make a late-filed designation pursuant to paragraph 55(5)(f) of the Act. I note however, that the issue could equally have been framed in terms of whether Nassau may amend its tax return once the Minister initiates a reassessment on the basis of subsection 55(2). Regardless of how the issue is characterized, the Minister’s argument has two prongs. First, the Minister notes that there is no provision in the Act which provides for the late-filing of a designation. This is to be contrasted with the legislatively permissible late filing of “elections” made under other provisions of the Act. In support of its position the Minister relies on several decisions involving reassessments and attempts by taxpayers to re-elect or remedy the failure to make an election in the first instance. Second, the Minister argues that there is an “important policy reason” why a late-filed paragraph 55(5)(f) designation is not contemplated by the Act. I shall deal with these arguments but I turn first to Nassau’s response.

Nassau argues that there is no principle of law or statutory provision which would prevent a taxpayer from making a late-filed designation under paragraph 55(5)(f) of the Act. Moreover, it relies on several decisions of the Tax Court of Canada in support of its position. This is a convenient point at which to outline the relevant jurisprudence which, with one exception, deals with the issue of late-filed designations and fully supports Nassau’s position.

In Trico Industries Limited v. M.N.R., 94 DTC 1740 (T.C.C.), the corporate taxpayer claimed a tax-free dividend arising under subsection 84(3) of the Act, but failed even to calculate the amount of safe income on hand, let alone file a designation under paragraph 55(5)(f). In obiter, it was stated that if the corporate taxpayer had made an honest mistake it would have had the right to make a late-filed designation or request the same in its Notice of Appeal. The Tax Court Judge traced what may be described as the “doctrine of honest mistake” to Lee v. M.N.R., 90 DTC 1738 (T.C.C.). On the facts of Trico, however, there was no evidence as to whether the taxpayer’s failure to file the designation on time was due to an honest mistake and, accordingly, the late “election” was not accepted.

In Lee, supra, the taxpayer filed his 1982 and 1983 returns in 1985. In his 1983 return, he deducted an allowable business investment loss but later sought to move the deduction to his 1982 return. At page 1743, the Tax Court Judge reasoned as follows:

I am not aware of any authority for the proposition that once a taxpayer has signed his tax return that he may not change his mind subsequently following the discovery of a mistake notwithstanding the certificate that he signed as part of his return. Certainly, when an honest mistake has been discovered by a taxpayer he must be permitted to correct it and the procedure to do so is provided is the Income Tax Act within certain prescribed requirements. The appeal process serves this purpose.

In Gestion, supra, the Tax Court upheld the right to make a late-filed designation. In that case, the corporate taxpayer did not indicate in its return that it had received a $316,000 deemed dividend pursuant to subsection 84(3) of the Act. No explanation was provided, except to say that there had been an error in the return. The Tax Court Judge was unable to conclude that the omission was due to intentional conduct or bad faith on the part of the taxpayer. Moreover, the Minister did not allege any wrongdoing by the taxpayer. The Tax Court Judge went on to conclude that there is no principle of law that would prevent the taxpayer from availing itself of paragraph 55(5)(f) unless such be expressly prohibited by its terms, which is not the case. At page 15, she reasoned:

I do not understand why the Minister wishes to make this paragraph [55(5)(f)] out to be so complicated. The election must be made simultaneously with the application of subsection 55(2) of the Act, but if an error is made at the time of the first application and if the Minister reassesses on the basis of a new amount, there is no reason for the same correction not to be made for the purposes of paragraph 55(5)(f) of the Act.

In contrast to Gestion, the Tax Court in Nivram Holdings Inc. v. M.N.R. (19 April 1991), 88-1944(IT), held that the Tax Court lacked the jurisdiction to allow a late filing. In that case, the corporate taxpayer claimed a tax- free deemed dividend arising under subsection 84(3) of the Act. The Minister reassessed on the basis of subsection 55(2) and the taxpayer sought to make a late-filed designation under paragraph 55(5)(f). The Tax Court Judge concluded that “there is nothing in the Act that gives the Tax Court the jurisdiction to allow a late filing except in the case of a Notice of Objection or a Notice of Appeal” (at 6).

If this case were to be decided solely on the basis of the jurisprudence of the Tax Court of Canada I would have no difficulty in concluding that Nassau is entitled to make a late-filed designation. The failure to comply with paragraph 55(5)(f) arose because of an honest mistake and the matter was raised following the issuance of the notice of reassessment. [Paragraph 12 of the Agreed Statement of Facts discloses that on filing its Notice of Objection to the Minister’s reassessment Nassau requested permission to file a designation]. In my respectful view, however, the doctrine of honest mistake is not a sufficient basis on which to accord taxpayers the right of making late designations.

It cannot be doubted that the refusal of the Minister to accede to Nassau’s request seems antithetical to elemental concepts of fairness. Conversely, the doctrine of honest mistake is appealing because its application is intended to bring about a result that is in harmony with basic ideas of fairness. But the difficulty with the doctrine lies in delimiting its boundaries. To paraphrase Judge Learned Hand, I do not think it desirable for this Court to embrace the opportunity of anticipating a doctrine which may be in the womb of time but whose birth is somewhat distant: see Spector Motor Service, Inc:, v. Walsh, 139 F. 2d 809 at 823. The doctrine of honest mistake may serve as a starting point for analysis but cannot supplant a contextual and purposive approach to the interpretation of tax legislation. In other words, legal conclusions cannot rest upon the premise of unfairness without a corresponding examination of the legislative framework relevant to the issue at hand. It is to that type of analysis that I now turn.

The parties have framed the paragraph 55(5)(f) issue in terms of whether Nassau is entitled to make a late-filed designation. They have also pursued the argument in terms of that subsection being an election provision or anal ogous thereto and, accordingly, have cited cases involving true election provisions: see, for example, Miller v. The Queen, 93 DTC 5035 (F.C.A.). While there are numerous provisions throughout the Act which require a taxpayer to make an election at the time of filing a return, or within a prescribed period, paragraph 55(5)(f) is not an election provision. This is so despite the fact that it has been referred to as such, and inadvertently so, by some judges of the Tax Court: see Gestion and Trico, supra.

In contradistinction to a designation, and as a general proposition, when an election is to be made the taxpayer must make a decision to forego one option in favour of another on the basis of an assessment of tax risks which may or may not materialize depending on uncertain events. In addition to this qualitative difference, the Act itself implicitly recognizes that a designation and an election are not one and the same. For example, subsection 220(3.21), added by S.C. 1995, c. 21, s. 42, deems certain designations under section 80 and subsection 80.03(7) to be elections for the purposes of subsection 220(3.2). The latter provision was inserted in the Act in 1991 as part of a set of relieving amendments intended to introduce flexibility where previously none existed in the process of administering and enforcing certain election provisions in the Act. This was to be accomplished by means of Ministerial discretion to be exercised upon application of the taxpayer to submit late, amended or revoked specified elections: see Regulation 600.

What designations and elections have in common is the fact that the Act expressly provides for relief in some instances but not others. In the case at bar, the Minister seized on that point, arguing that it can therefore be presumed that Parliament intended that no relief be granted outside the stated circumstances. I disagree with that proposition: see also The Queen v. Sentinel Self-Storage Corporation (28 November 1996), A-201-96 (F.C.A.) at 6; The Queen v. On-Guard Self-Storage Limited (28 November 1996), A-202- 96 (F.C.A.) at 6.

Although relief is provided selectively by the Act, it does not necessarily follow that Parliament intended to preclude relief in those situations not specifically addressed by the Act. Rather, the fact that the Act authorizes the late filing of a designation or an election in particular circumstances gives rise only to a rebuttable inference that Parliament did not intend that taxpayers have such a right in other instances. That the inference is a rebuttable one rests on three understandings. First, to hold otherwise would be to embrace literalism as a method of statutory interpretation and treat the Act as a complete code. Second, I know of no case which holds that because an exception is provided by statute for one case and not another, that fact alone is determinative such that no other exceptions may exist. My position in this regard was affirmed most recently in Sentinel Self-Storage and On-Guard Self-Storage, supra. Third, the courts have long adopted a contextual or purposive approach as the proper means to construe legislation.

In support of the proposition that Parliament intended to provide relief only where it is expressly granted, the Minister invokes the jurisprudence on elections which demonstrates that taxpayers have had no success in that context in obtaining relief where the Act provides none: see Loewen v. M.N.R., 93 DTC 5109 (F.C.T.D.), followed in W. Struan Robertson v. The Queen (1 March 1996), 93-2242 (T.C.C.); see also The Queen v. Adelman, 93 DTC 5376 (F.C.T.D.).

In my view, there is little doubt that the restrictive approach adopted by the courts with respect to the Act’s election provisions is prompted by the possibility of taxpayers engaging in retroactive tax planning. This is one of the rationales underlying the decision of this Court in Miller, supra, one of the principal cases relied on by the Minister. In that case, the taxpayer made a forward averaging election in respect of his 1982 taxation year. The Minister disallowed the taxpayer’s RRSP deduction for the year but refused to increase the amount of income that the taxpayer had elected to forward average. At 5036, Mahoney J.A. writing for the Court (Linden and Robertson JJ.A. concurring), declined to accord to the taxpayer the advantage of hindsight in making a genuine election:

... the taxpayer was entitled to make the election on the basis of his circumstances as they existed, and as only he could know, at the time he filed his return. The Act did not contemplate the election being made on the basis of changed circumstances which might result from an assessment or reassessment of the return.

In the instant case, however, we are not faced with the problem of retroactive tax planning which arises as a result of a taxpayer’s desire to “reelect”. On the contrary, the case at bar is more analogous to a situation in which a taxpayer seeks to amend his or her tax return for the purpose of taking a deduction to which he or she has some entitlement. In some respects, the designation requirement of paragraph 55(5)(f) of the Act is no different, for example, than the deduction provided for under subsection 112(1). The latter provision converts a taxable inter-corporate dividend into a non-taxable one. The corporate taxpayer, however, must deduct an amount equal to the dividend in order to bring about this result [“Where a corporation ... has received a taxable dividend ... an amount equal to the dividend may be deducted from the income ”]. The only substantive dif- ference between the two sections of the Act is that no calculation is required under subsection 112(1). One is simply required to make the deduction. Paragraph 55(5)(f), on the other hand, involves a calculation of safe income before the deduction can be made. It seems to me that the difference is one of degree, not kind.

With regard to section 55 of the Act, the difficulty arises of course in the event that the taxpayer fails in the first instance to seek relief under paragraph 55(5)(f) because it did not operate on the presumption that section 55(2) would apply. The issue may therefore be recast in the form of a hypothetical as follows: assume that the taxpayer calculates his income based on the application of provision “A”; the Minister then denies the applicability of provision “A” and instead invokes provision “B”; the taxpayer does not dispute that provision “B” may apply but notes that provision “B” permits a partial deduction if a designation is made; he therefore seeks to amend his return to take advantage of that deduction but is denied the opportunity to do so on the ground that he failed to make the requisite designation; the taxpayer counters by asking how he could have made the designation when he did not know that provision “B” would apply. In this scenario, modification of the original tax return does not raise the spectre of retroactive tax planning as in the election cases. That is, our hypothetical taxpayer did not previously weigh the risks relating to making the designation or abstaining therefrom, nor does he now seek to avoid bearing the downside of a decision he made consciously after due consideration.

Having decided that the present situation is not analogous to the election cases, it seems only logical to recast the issue in terms of whether Nassau is entitled, following a reassessment initiated by the Minister and based on the application of subsection 55(2), to amend a tax return for the purpose of taking advantage of the safe income attributable to the shares sold to Westminster. But irrespective of whether the issue is framed in terms of a right to amend in these restricted circumstances or to make a late-filed designation, there will be no difference in the result or the analysis. Just as the Act provides for a late-filed designation only in particular circumstances, the Act also accords a right to amend a tax return in some instances but not others. In both scenarios there exists a rebuttable inference that relief may be granted only in the stated circumstances. At the outset, though, I wish to make clear that this case can be decided without reference to a taxpayer’s general right to amend his or her tax return.

While the argument before the Tax Court was framed in terms of a right to amend and to make a late-filed designation, it was argued before us in terms of the latter. Perhaps Nassau chose not to cast the argument in terms of the former because there appears to be no jurisprudence directly on point. This dearth of case law would seem to explain why Nassau relies on Tax Court cases establishing the doctrine of honest mistake and why the Minister invokes the cases respecting elections.

At least one commentator has suggested that when the Minister initiates a reassessment to which the taxpayer subsequently objects, there may be a right to amend the return following issuance of the Notice of Reassessment: see D.W. Smith, “Reassessments, Waivers, Amended Returns, and Refunds” in Corporate Management Tax Conference (Canadian Tax Foundation, 1988) 8:1 at 8:35. But the existence of a restricted right to amend in turn raises the question of whether the taxpayer has all the options that were available to him or her at the time of filing the return or whether he or she is confined to adjustments that relate directly to the issues raised on the reassessment. Based on two authorities, Smith implicitly suggests that a taxpayer may have only the latter type of limited freedom to vary his or her original return (at 8:36): see Montreal Trust Co. (Lodestar Drilling Co. Ltd.) v. M.N.R., 62 DTC 1242 (S.C.C.) and Hadler Turkey Farms Inc. v. The Queen, 86 DTC 6013 (F.C.T.D.).

For the purpose of deciding this appeal, it is unnecessary to decide whether a reassessment has the effect of giving the taxpayer all the options available at the time of filing his or her return. In the instant case, paragraph 55(5)(f) can reasonably be said to be related directly to the issues surrounding the applicability of subsection 55(2). Let us assume, then, that Nassau has a right to amend its return [or make a late-filed designation] in the wake of a reassessment initiated by the Minister and his reliance on subsection 55(2). Is there any basis upon which it might be said that Parliament did not intend such a result? Here, I turn to the Minister’s policy argument.

The Minister contends that the requirement of filing a designation at the time of filing a return serves as a disincentive to the unscrupulous taxpayer. The argument is that unless a designation is made on time, there is nothing to alert the Minister that a given dividend should be subject to subsection 55(2) of the Act. If late-filed designations were permitted, it is said that unscrupulous taxpayers could postpone filing a designation in the hope of receiving a tax-free dividend, at least part of which is properly subject to subsection 55(2). In my opinion, the Minister’s policy argument cannot be accepted for at least four reasons.

First, the intended purpose of paragraph 55(5)(f) is not to discourage the unscrupulous. It is my understanding that paragraph 55(5)(f) was inserted into the Act at the last moment and as something of an afterthought in order to prevent the conversion by subsection 55(2) of an entire dividend into taxable capital gain where a portion of that dividend might be attributable to safe income: see generally R.D. Brown and T.E. McDonnell, “Capital Gains Strips: A Critical Review of the New Provisions” in Report of Proceedings of the Thirty-Second Tax Conference (Canadian Tax Foundation, 1981) 51 at 73.

Second, paragraph 55(5)(f) of the Act cannot be made to serve an unintended purpose when other provisions of the Act are directed at the very mischief to which the Minister adverts. Sections 162 and 163 of the Act specifically address a taxpayer’s failure to disclose income and, as penalty provisions, fulfil a deterrence function in respect of potentially unscrupulous taxpayers identified by the Minister as a cause for concern.

Third, in some instances the corporate taxpayer will not have to make a designation because the entire dividend is covered by safe income. In oral argument, the Minister agreed that in such a circumstance, paragraph 55(5)(f) of the Act would not have the effect of alerting Revenue Canada to possible tax problems associated with safe income. The Minister’s policy argument is therefore unfounded in this scenario.

Finally, the Minister’s interpretation of paragraph 55(5)(f) works an unjustified or unreasonable result. Consider the situation in which the entire dividend is attributable to safe income. Assume, for example, that a taxpayer calculates safe income at $4 per share on a dividend of $3 per share; hence, no designation is required. If by chance that calculation is wrong, safe income might actually amount to $2 per share in which case a designation would be necessary in order to preserve the tax-free character of that part of the dividend which is covered by safe income. On the Minister’s view, in the event that the calculation of safe income in our hypothetical scenario is erroneous, section 55 should operate so as to re-characterize the whole dividend as taxable capital gains. The corporate taxpayer therefore would be penalized even though initially there appeared to be no need to make a designation under paragraph 55(5)(f). In my opinion, such a result is absurd. The Minister’s approach to our hypothetical example produces an unwarranted penal consequence which is not supportable in law. The unreasonable nature of the Minister’s position is highlighted by the fact that it is well recognized that the safe income calculation is complex and controversial: see Placer Dome Inc., supra, and B.J. Arnold, T. Edgar & J. Li, Mater-

ials on Canadian Income Tax, 10th ed. (Toronto: Carswell, 1993) at 726-27.

In conclusion, it is my opinion that Nassau is entitled to claim the benefit of paragraph 55(5)(f) of the Act. That right arose once the Minister issued the notice of reassessment and invoked subsection 55(2). In other words, the inference that Parliament did not intend to accord relief in these circumstances has been rebutted. Accordingly, the appeal should be dismissed with costs.

Appeal dismissed.