Bowman T.C.J. :
Introduction (L8/R4586/T0/BT0) test_marked_paragraph_end (316) 1.045 0758_1691_1823
These appeals concern assessments by the Minister of National Revenue of non-resident withholding tax against Equilease Corporation (“EC”) in respect of a portion of the payments received by it in 1989 and 1990 from RMM Canadian Enterprises Inc. (“RMM”). Both EC and RMM were assessed the same amount, EC as the non-resident upon which the primary liability for tax under section 212 of the Income Tax Act falls, and RMM as the Canadian resident that made the payments on the basis that it 1s derivatively liable for EC’s tax that RMM failed to withhold from the payments and remit to the Receiver General. EC’s position 1s that the amounts received by it from RMM represent the proceeds from the sale of shares giving rise to a capital gain in the hands of EC that is exempt from Canadian tax under Article XIII of the Canada-United States Income Tax Convention
(1980) (the “U.S. Convention”). RMM supports EC’s position that the amount is not subject to withholding tax and contends further that even if tax is exigible from EC in respect of the payments it is not derivatively liable on the basis, inter alia, that the Minister assessed the wrong person.
The respondent’s position is that the amount is subject to withholding tax because of either the combined operation of sections 245, 84 and 212 or on the basis of sections 84 and 212 alone or, in the further alternative, on the basis of section 212.1 and that since RMM was the Canadian resident that made the payment it was responsible for the withholding of tax thereon.
Overview (L10/R4828/T0/BT0) test_marked_paragraph_end (4808) 1.048 0758_6807_6941
In broad outline the matter arises as follows. In 1988 Itel Corporation (“Itel”), a large U.S. public corporation acquired EC as part of a larger acquisition of a number of companies owned by the Henley Group. It did not want EC and immediately began considering how to get rid of it. Among the assets of EC was a Canadian subsidiary, Equilease Limited (“EL”) which in turn owned all of common shares of Equilease Canada, Limited (“ECL”), another Canadian corporation. EL and ECL had cash of about $3,000,000 Cdn and an entitlement to receive a refund of income tax of about $1,500,000 Cdn. It is not necessary to set out in detail the nature of the tax refund beyond noting that when control of EC and therefore of EL and ECL was acquired by Itel in 1988 a loss was triggered. The entitlement to the refund of tax 1s not disputed.
EL and ECL also owned a portfolio of leases of photocopying equipment which they had leased to third parties. They had not written any new business since 1986 and their sole activity involved collecting the rental payments under the lease and winding down their portfolios. The value of the leases, which would consist essentially of the value of the stream of income under the leases until their expiry (the “receivables”) plus the value of the possible exercise by the lessors of the option to purchase the equipment (the “residuals”) was not established with any degree of precision, but it was said to be in the neighborhood of $100,000 - $150,000 Cdn.
EC was aware of the tax consequences of winding up a Canadian corporation and it was therefore decided that a sale of the shares of EL should be undertaken. Donald J. McLachlan, a friend of the general counsel of Itel, James Knox, was approached and he and two other persons formed RMM to buy the shares of EL. They were bought for an amount equal to the cash and income tax refund in EL and ECL. EC and Itel guaranteed the amount to be recovered under the leases at $163,361 Cdn ($110,257 Cdn in respect of the receivables and $53,104 Cdn in respect of the residuals). Ultimately the guaranteed amount was fixed at $140,000 U.S. and it was agreed that the purchase price would be reduced by $10,000 U.S. to cover part of RMM’s legal costs.
The transaction closed on June 27, 1989. On that day, RMM wired $1,962,488.28 U.S. to EC. The payment was financed by a borrowing from First National Bank of Chicago, secured on the assets of EL. On June 27, 1989 the stock of EL was transferred to RMM, EL commenced winding up into RMM , and ECL was amalgamated with RMM. Three or four days after June 27, 1989, RMM paid off its loan to First National Bank of Chicago, using the cash that had been in EL and ECL.
On September 6, 1989 EC paid RMM $137,491.18 U.S., representing $140,000 U.S., the guaranteed payment, less $2,508.82, the lease payments received by RMM after closing. Thereafter EC received the lease payments directly. Tax refunds and interest on tax refunds were endorsed over to EC by RMM. On November 6, 1989, $59,462.47 Cdn was received by EC from Savin Canada Inc., the supplier of the copying machines.
On these facts the Minister assessed non-resident withholding tax of 10% against EC in 1989 and 1990 on a total of $3,589,313 being essentially the net amount received by it on the transaction, less the paid-up capital of EL of $205,100. The precise calculation of the amount on which tax was assessed is set out in schedules to the replies to the notices of appeal. The arithmetic is not disputed. It is not germane to the questions of principle. The Minister assessed using a combination of sections 245, 84 and 212. He assessed RMM as the Canadian resident that made the payment of the amounts to EC under subsection 227(10) of the Income Tax Act.
Detailed description of the facts (L2/R3056/T0/BT0) test_marked_paragraph_end (2328) 1.011 0760_3475_3643
The foregoing is a thumbnail sketch of what happened but in light of the substantial amount of evidence, both viva voce and documentary, that was adduced some details should be filled in:
(a) EL and ECL had no real physical presence in Canada. They had no employees, no office, and no telephone listing in Canada. Their leasing business was run essentially by EC from the United States. The business involved the acquisition from Savin Corporation, a U.S. company, through its subsidiary Savin Canada Inc. of photocopiers which were leased to customers in Canada.
(b) Even before the acquisition of EC by Itel on September 23, 1988, EC had decided to liquidate the lease portfolios of the two Canadian subsidiaries, EL and ECL. From that time on, EL and ECL carried on no business apart from collecting amounts under the existing leases.
(c) After Itel’s acquisition of EL discussions were held with Savin Corporation regarding the possible purchase by it or its subsidiary of the existing leases of the Canadian subsidiaries. This came to nothing because Savin wanted to buy the leases, not the companies. This would leave EC and EL with nothing but cash or near cash and the problem of distributing the cash to EC which would have given rise to Canadian withholding tax.
(d) Mr. William Wolfe, Vice-President of Taxes of Itel, testified concerning the tax analyses that were made of the various transactions, particularly by Mr. Power, an employee of a related company, Signal Capital Corporation. Mr. Power has since died. He discussed the matter with Mr. Zimnicki, a chartered accountant with Arthur Andersen in Canada. Mr. Power advised on November 4, 1988 that there was about $4,500,000 U.S. in EL and about $1,000,000 U.S. in Ca- nadian tax refunds receivable. He was aware that Savin Corporation was not interested in a purchase of the stock, which, he believed, would save about $400,000 Cdn in Canadian withholding tax.
(e) On December 12, 1988 EL redeemed $2,200,000 of preferred shares held by EC. Also, on that day ECL redeemed $500,000 of preferred shares held by EC. The paid-up capital and adjusted cost base of the preferred shares that were redeemed was $2,700,000 with the result that the redemption gave rise to no Canadian tax consequences. It did however result in U.S. tax because the Canadian companies had earnings or profits for U.S. purposes.
(f) Since Savin Corporation did not wish to purchase the shares of EL, Mr. James Knox, General Counsel, Secretary and Senior Vice- President of Itel, approached a close friend and business associate, Donald McLachlan, to determine whether he would be interested in buying the shares of EL. Mr. McLachlan in turn discussed the matter with two other business associates, Mr. Thomas Rissman and Mr. Roland McPherson. They formed the RMM Group which ultimately formed the appellant RMM. Mr. Knox took no further part in the negotiations. Thereafter, Mr. McLachlan’s law firm, McLachlan & Rissman, dealt on behalf of the RMM group with Mr. Joel Brickman, Assistant General Counsel of EC.
(g) On January 20, 1989, Mr. Brickman sent a draft Stock Purchase Agreement to Mr. Richard Lipton of the Chicago law firm Sonnen- schein, Carlin, Nath & Rosenthal that provided initial tax advice to the RMM Group.
(h) Negotiations proceeded. The RMM group at one point advised that they believed that they would net about $83,000 U.S. from the purchase of the shares of EL and that that amount was insufficient to warrant the risks. Throughout the negotiations it 1s apparent that EC was well aware of the advantage of selling the shares of EL rather than liquidating it because of the Canadian withholding tax of about $430,000 Cdn as well as possible U.S. tax consequences that might flow from the latter course. On February 10, 1989, Mr. Power prepared a memorandum setting out what he saw as the advantages of a sale over a liquidation and concluded that a sale would be preferable.
(i) The Canadian tax consequences were well defined: a liquidation of EL would unquestionably give rise to Canadian withholding tax whereas a sale, it was assumed, would be protected from Canadian tax on the capital gains under the U.S. Convention. The potential U.S. tax consequences were less clearly defined.
(j) On February 28, 1989, Mr. Power sent Mr. Brickman a memorandum on the sale price, which was essentially the cash in the Canadian subsidiaries plus the expected tax refund, plus interest. No value was assigned to the leases. At no time was a precise valuation of the leases made and they were regarded as a “giveaway”.
(k) In both March and April, 1989, Mr. Brickman discussed the matter with Mr. Zimnicki who advised them of the risks including the possible application of section 212.1 and the General Anti-Avoidance Rule in section 245. Although this point was emphasized by counsel, I do not regard it as significant. An appreciation of the risks does not detract from the efficacy of a transaction, nor does an ignorance thereof enhance it.
(l) On March 20, 1989, the appellant RMM was incorporated. Its shares were held by a U.S. partnership, the partners of which were McLachlan, Rissman and McPherson. The 3,000 common shares cost each partner $1,000 U.S. RMM had no business premises or telephone line in Canada. The officers were Messrs. McLachlan, McPherson and Rissman, as well as one Debora Choate who worked with Mr. McLachlan’s law firm. The registered address of RMM was the firm McLachlan Rissman and Doll in Chicago.
(m) In April and May, 1989 negotiations between RMM and EC continued, principally between Ms. Choate and Mr. Brickman. RMM expected originally to receive gross revenues from the leases of $325,000, based on an alleged representation by Mr. Power to Mr. Lipton. These expectations were evidently over optimistic and on April 25, 1989, Mr. Brickman was authorized to offer to the RMM Group a guarantee of the lease receivables and residuals of $163,361 Cdn ($110,257 Cdn for the receivables and $53,104 Cdn for the residuals.) The value of the leases was problematic. An expert called by the respondent testified that they had no value. This view is somewhat extreme. They no doubt had some value, even though many of the lease payments were 90 days overdue. It 1s, however, a fair conclusion that RMM made no effort to determine their value because it was irrelevant to it. RMM’s interest was not in the leases, but in what was essentially its remuneration for its participation in EC’s extraction of the surplus of EL.
(n) On May 1, 1989, Ms. Choate advised Mr. Brickman that the RMM Group would go ahead with the deal if EC would pay RMM’s legal fees. These were estimated at $20,000-$25,000 U.S. This figure was also the subject of negotiation and finally it was agreed that the EC would pay $10,000 U.S. of RMM’s legal fees.
(o) In the final stock purchase agreement it was provided that EC would guarantee $140,000 U.S. in respect of the lease receivables and residuals. Moreover, the purchase price for the shares of EL was reduced by $10,000 U.S. This latter provision obviously was intended to implement the agreement to pay $10,000 U.S. of RMM’s legal fees.
(p) The transaction closed on June 27, 1989. On that day RMM wired $1,962,488.28 U.S. to EC, an amount equal to the cash in EL and ECL. No part of this amount was attributable to the leases of EL or ECL. The payment was financed by a borrowing, secured on the assets of EL, from First National Bank of Chicago. On June 27, 1989 RMM caused EL to commence winding up and caused itself and ECL to amalgamate. RMM repaid the bank loan three or four days after closing with the funds in EL and ECL. On September 6, 1989, EC paid $137,491.18 U.S. to RMM. This was the guaranteed amount of $140,000 U.S. less $2,508.82 U.S. in lease payments received by RMM after closing. The guarantee had not been called by RMM and in fact payments under the leases continued to be made until 1991 or 1992. There is no evidence that any condition to EC’s obligation under the guarantee ever occurred and I infer that this early payment purportedly in accordance with the guarantee was more in the nature of a satisfaction of a primary obligation. The lease payments thereafter went directly to EC and so far as the leases were concerned RMM disappeared from the scene. Also, tax refunds and interest on tax refunds were endorsed over to EC by RMM. A company within the EC group, TRAC Systems Inc., a corporation whose function it was to collect under the leases, appears to have gone on doing whatever it had done before the sale oblivious to the existence of RMM. On November 6, 1989, $59,462.47 Cdn was received by EC from Savin Canada Inc. to repurchase 15 of the leases previously held by EL or ECL.
(q) The transaction was treated as a sale by EC of the shares of EL for Canadian and U.S. tax purposes. In Canada, EC treated the gain as exempt from tax under the U.S. Convention. In the United States it was treated by Itel as giving rise to a tax loss of $2,107,227 U.S. in Itel’s federal return for 1989.
In assessing non-resident withholding tax against EC, the Minister applied section 245, the General Anti-Avoidance Rule (“GAAR”) and by the application of that rule treated the amounts received by EC as funds or property of EL that had been “distributed or otherwise appropriated in any manner whatever to or for the benefit of [EC] on the winding-up, discontinuance or reorganization of [EL’s] business.” Accordingly, to the extent that the funds so distributed to, or appropriated to or for EC’s benefit exceeded EL’s paid-up capital of $205,000 Cdn, they were treated as a deemed dividend under subsection 84(2) and subject to withholding tax under section 212, reduced from 25% to 10% under the U.S. Convention and subsection 10(6) of the Income Tax Application Rules, 1971.
Although the assessment proceeded on the assumption that EC and RMM were at arm’s length, the respondent pleaded in the alternative that they were not at arm’s length and that accordingly section 212.1 of the Income Tax Act applied to deem the proceeds in excess of EC’s paid-up capital to be dividends.
I shall deal first with the question of onus. The appellant makes the following contention in its written argument:
The Respondent makes the allegation in the Reply that, in making the Assessments, the Minister assumed that Equilease-Canada distributed or otherwise appropriated to or for the benefit of Equilease-U.S. the funds or property of Equilease-Canada on the winding-up, discontinuance or reorganization of the business of Equilease-Canada. However, the evidence does not support such an allegation. The Minister did not in fact make the assumption that the Respondent has alleged he made. The Appellant therefore has no onus to discharge in terms of proving that there was not such a distribution or appropriation on a winding-up, discontinuance or reorganization of the business of Equilease- Canada.
It strikes me that a great deal of time is wasted in income tax appeals on questions of onus and assumptions. “Assumptions”, so-called, are assumptions of fact. Legal conclusions from assumed, proved or admitted facts are matters of law for the court and are not the subject of rules of onus. In Cadillac Fairview Corp. v. R.,  2 C.T.C. 2197 (T.C.C.), at 220 the following observation was made:
The appellant pleaded that the payments were made pursuant to the guarantees and this allegation was denied. Counsel for the appellant argued that since the Minister had not pleaded that he “assumed” that the payments were not made pursuant to the guarantees the Minister had the onus of establishing that the payments were not made pursuant to the guarantees. The question is, if not a pure question of law, at least a mixed one of law and fact. In any event the basic assumption made on assessing was that the appellant was not entitled to the capital loss claimed and it was for the appellant to establish the several legal components entitling it to the deduction claimed. An inordinate amount of time is wasted in income tax appeals on questions of onus of proof and on chasing the will-o’-the wisp of what the Minister may or may not have “assumed”. I do not believe that Minister of National Revenue v. Pillsbury Holdings Ltd.,  C.T.C. 294,  D.T.C. 5184, has completely turned the ordinary rules of practice and pleading on their head. The usual rule - and I see no reason why it should not apply in income tax appeals - is set out in Odgers’ Principles of Pleading and Practice, 22nd edition at page 532:
The “burden of proof’ is the duty which lies on a party to establish his case. It will lie on A, whenever A must either call some evidence or have judgment given against him. As a rule (but not invariably) it lies upon the party who has in his pleading maintained the affirmative of the issue; for a negative is in general incapable of proof. Ei incumbit probatio qui dicit, non qui ne gat. The affirmative is generally, but not necessarily, maintained by the party who first raises the issue. Thus, the onus lies, as a rule, on the plaintiff to establish every fact which he has assured in the statement of claim, and on the defendant to prove all facts which he has pleaded by way of confession and avoidance, such as fraud, performance, release, rescission, etc.
Here the facts are fully before the court. The respondent has raised as an alternative argument that the amounts in question were received on the winding-up, discontinuance or reorganization of EC’s business. The matter is squarely before me. The basic assumption on which the assessment rests is that the amounts paid to EC in excess of EL’s paid-up capital were deemed dividends and were therefore subject to withholding tax. The assessor appeared to have believed that subsection 84(2) and section 212 in themselves were insufficient to justify that conclusion and that to get to section 84 he had to go by way of section 245.
Wherever the onus lies, I must deal with the facts before me and reach a conclusion on the applicable law in the context of the issues raised in the pleadings.
I have come to the conclusion that there was a distribution or appropriation of property or funds of EL to or for the benefit of EC on the winding- up, discontinuance or reorganization of EL’s business within the meaning of subsection 84(2) and that there was no need to call in the heavy artillery of GAAR.
EL’s and ECL’s business had been winding down since 1986. They were writing no new business. No one -- either EC or RMM -- had any particular interest in precisely what the leases were worth. EC saw them as a “giveaway”. RMM was interested only in earning what was in essence a fee for acting as a facilitator or accommodator in the transaction the purpose of which was to enable EC to get its hands on EL’s and ECL’s cash and near cash without paying withholding tax. On one day, June 27, 1989, RMM paid EC part of the purchase price and three or four days later paid off the bank with EL’s funds. On June 27, 1989, EL began winding up into RMM and ECL was amalgamated with it. Before any call was made on the guarantee and before there was any necessity to make good on it, EC paid the guaranteed amount and RMM ceased to have any function other than to endorse over the subsequent tax refund cheques. For all other practical purposes it ceased to exist, at least so far as this transaction was concerned. RMM obviously had no intention of carrying on the leasing business formerly carried on by EL and ECL, the leases having been taken over by EC after the payment of the guaranteed amount. It had earned its fee of $140,000 U.S. by acting as an instrumentality in the winding-up or discontinuance of the Canadian subsidiaries’ businesses and the distribution of their assets to EC. It is of significance that no one from RMM was called as a witness to rebut the obvious inference from the admitted or proved facts. Although both EC and RMM was represented by learned senior counsel, RMM evidently was indifferent to the outcome of the case because it presumably conceived its potential liability and costs to be covered by the guarantees given by EC and Itel.
What of the fact that there was a sale of shares? Of course there was a sale. It was not a sham. “Sale of shares” is a precise description of the legal relationship. Nor do I suggest that the doctrine of “substance over form” should dictate that I ignore the sale in favour of some other legal relationship. That is not what the doctrine is all about. Rather it is that the essential nature of a transaction cannot be altered for income tax purposes by calling it by a different name. It is the true legal relationship, not the nomenclature that governs. The Minister, conversely, may not say to the taxpayer “You used one legal structure but you achieved the same economic result as that which you would have had if you used a different one. Therefore I shall ignore the structure you used and treat you as if you had used the other one”.
One cannot deny or ignore the sale. Rather, one must put it in its proper perspective in the transaction as a whole. The sale of EL’s shares and the winding-up or discontinuance of its business are not mutually exclusive. Rather they complement one another. The sale was merely an aspect of the transaction described in subsection 84(2) that gives rise to the deemed dividend. The flaw in the appellant’s position and, I should think, in the assessor’s view that he had to go through section 245 to get to section 84, 1s that it is predicated upon an either/or hypothesis: either the amounts received are the proceeds of the sale of the shares of EL or they represent a distribution or appropriation of funds or property of EL on the winding-up or discontinuance of EL’s business and the two cannot co-exist. Indeed they can, and they did. I do not think that the brief detour of the funds through RMM stamps them with a different character from that which they had as funds of EL distributed or appropriated to or for the benefit of EC. Nor do I think that the fact that the funds that were paid to EC by RMM were borrowed from the bank and then immediately repaid out of EL’s money is a sufficient basis for ignoring the words “in any manner whatever”. In Minister of National Revenue v. Merritt,  Ex. C.R. 175 (Can. Ex. Ct.), Maclean P. said at p. 182:
I therefore think there is no room for any dispute of substance but that the Security Company discontinued its business in a real and commercial sense, and that for a consideration it disposed of all its property and assets, however far that may carry one in deciding the issues in this case. There is, therefore, no necessity for attempting any precise definition of the words “winding-up, discontinuance or reorganization.” What was done with the business of the Security Company fell somewhere within the meaning and spirit of those words. Neither do I entertain any doubt that there was a distribution of the property of the Security Company among its shareholders, in the sense contemplated by s. 19 (1) of the Act, under the terms of the Agreement after its ratification by the shareholders of the Security Company. It is immaterial, in my opinion, that the consideration received by the appellant for her shares happened to reach her directly from the Premier Company and not through the medium of the Security Company.
In the Supreme Court of Canada ( S.C.R. 269 (S.C.C.)) the majority of the court at p. 274 agreed with this statement but reversed the Exchequer Court on other grounds.
In McNichol v. R., (1997), 97 D.T.C. III (T.C.C.) Bonner J. held, on facts that superficially bear some resemblance to these, that subsection 84(2) did not apply and that therefore it was necessary to invoke GAAR. In other words, he held that without the recharacterization sanctioned by GAAR there was no appropriation or distribution of the funds or property of Bee Holding Corporation Limited on the winding-up or discontinuance of the company’s business. I shall not set out all the factual differences that distinguish that case from this case beyond noting that there was no finding in that case that Beformac Holdings Limited was an instrumentality in the overall transaction. There was no payment of any of Beformac’s legal fees by the shareholders. A much greater period of time elapsed before the bank was paid off. There appears to have been no conterminous winding-up and amalgamation of Beformac and Bec. Beformac was an existing corporation and was not, as in this case, created solely to facilitate the transaction which had as its only purpose the distribution of EL’s funds to EC. It is sufficient to say that Bonner J. reached a conclusion on the facts that were adduced in evidence in that case and I would not presume to disagree with his conclusions of fact. On the facts of this case, however, I have concluded that subsection 84(2) applies.
The words “distributed or otherwise appropriated in any manner whatever on the winding-up, discontinuance or reorganization of its business” are words of the widest import, and cover a large variety of ways in which corporate funds can end up in a shareholder’s hands. See Minister of National Revenue (supra); Smythe v. Minister of National Revenue, (1969),
69 D.T.C. 5361 (S.C.C.). They were unquestionably received on the winding-up or discontinuance of EL’s business and it is impossible to say that the funds that found their way into EC’s hands were not on any realistic view of the matter EL’s funds, notwithstanding the brief intervention of the bank and RMM .
On the basis of this conclusion it follows that under subsection 84(2) there was a deemed dividend received by EC equal to the excess of the amount or value of the funds distributed over EL’s paid-up capital.
The liability of RMM arises from subsections 215(1) and 215(6) which read as follows:
215(1) When a person pays or credits or is deemed to have paid or credited an amount on which an income tax is payable under this Part, he shall, notwith- standing any agreement or law to the contrary, deduct or withhold therefrom the amount of the tax and forthwith remit that amount to the Receiver General on behalf of the non-resident person on account of the tax and shall submit therewith a statement in prescribed form.
215(6) Where a person has failed to deduct or withhold any amount as required by this section from an amount paid or credited or deemed to have been paid or credited to a non-resident person, that person is liable to pay as tax under this Part on behalf of the non-resident person the whole of the amount that should have been deducted or withheld, and is entitled to deduct or withhold from any amount paid or credited by him to the non-resident person or otherwise recover from the non-resident person any amount paid by him as tax under this Part on behalf thereof.
A number of arguments were advanced to support the view that RMM was not derivatively liable, but I fail to see how the plain wording of the sections quoted above can admit of any doubt. I have concluded that RMM was an instrumentality used to effect the distribution of EL’s property to EC and as such it falls squarely within the wording of subsections 215(1) and (6).
One of the arguments advanced by the respondent in the reply was that RMM was an “agent” of EL. Counsel for RMM contends that if RMM was merely an agent for EC it has, itself, no liability because the liability that it might otherwise have devolved upon its principal. On one view of the matter RMM was an agent, although I prefer to describe it as an accommodation party or an instrumentality. In any event, even if the term “agent” is an accurate description of its role, this 1s no answer to a claim under subsection 215(6) because of subsection 215(3) which reads:
Where an amount on which an income tax is payable under this Part was paid or credited to an agent or other person for or on behalf of the person entitled to payment without the tax having been withheld or deducted under subsection (1), the agent or other person shall, notwithstanding any agreement or law to the contrary, deduct or withhold therefrom the amount of the tax and forthwith remit that amount to the Receiver General on behalf of the person entitled to payment in payment of the tax and shall submit therewith a statement in prescribed form, and he shall thereupon, for purposes of accounting to the person entitled to payment, be deemed to have paid or credited that amount to him.
The assessments against RMM were for “non-resident tax”. They were obviously made under the authority of subsection 227(10) in respect of RMM’s liability under subsection 215(6).
The respondent also contended that subsection 159(3) applied in that RMM was a “responsible representative” within the meaning of subsection 159(2). Subsections 159(2) and 159(3) read:
(2) Every person (other than a trustee in bankruptcy) who is an assignee, liquidator, receiver, receiver-manager, administrator, executor, or any other like person, (in this section referred to as the “responsible representative”) administering, winding up, controlling or otherwise dealing with a property, business or estate of another person, before distributing to one or more persons any property over which he has control in his capacity as the responsible representative, obtain a certificate from the Minister certifying that all amounts
(a) for which any taxpayer is liable under this Act in respect of the taxation year in which the distribution is made, or any preceding taxation year; and
(b) for the payment of which the responsible representative is or can reasonably be expected to become liable in his capacity as the responsible representative
have been paid or that security for the payment thereof has been accepted by the Minister.
(3) Where a responsible representative distributes to one or more persons property over which he has control in his capacity as the responsible representative without obtaining a certificate under subsection (2) in respect of the amounts referred to in that subsection, the responsible representative is personally liable for the payment of those amounts to the extent of the value of the property distributed and the Minister may assess the responsible representative therefor in the same manner and with the same effect as an assessment made under section 152.
Counsel for RMM contended that since the assessments against RMM were for non-resident tax they were made under Part XIII and that an assessment under section 159 would be made under Part I. Therefore any assessment of RMM’s liability as a responsible representative would have to be made under Part I. I do not find the argument persuasive. An assessment is an assessment. It represents the Minister’s determination of a taxpayer’s liability for tax under the Income Tax Act. It is “the summation of all the factors representing tax liability, ascertained in a variety of ways, and the fixation of the total after all the necessary computations have been made”: (Pure Spring Co. v. Minister of National Revenue,  Ex. C.R. 471 (Can. Ex. Ct.) at p. 500.) The fact that the notice of assessment contains the words “non-resident withholding tax”, which would imply that it is made under the authority of subsection 227(10), does not mean that the liability asserted in the notice of assessment may not be justified under some other part of the Act. It is a convenient form of shorthand to say that an assess- ment is made under a particular section to the Income Tax Act, or under a particular Part, or Division or Subdivision of the Act, but this does no more than indicate the statutory provision under which the assumed liability arises. The assessment itself is made under the Act as a whole.
The liability of RMM that arises under subsection 159(3) is not limited to a liability of EL under Part I of the Act, nor does it exclude a derivative liability of EL under subsection 215(6). Therefore, even if the contention of counsel for RMM that the Minister should have assessed EL 1s correct, and that EL was the person liable under subsection 215(6), the failure to assess EL does not relieve RMM of its liability under section 159. Liability for tax does not depend on the issuance of an assessment.
The more difficult question is whether RMM is a “responsible representative”. The words “any other like person” are presumably ejusdem generis with the words that precede them. If one proceeds from the footing that RMM was no more than a conduit through which EL’s funds flowed on the winding-up or liquidation of its business, it would follow that it is a “like person” to a liquidator and as such was required to obtain a certificate under section 159 and, having failed to do so, became liable for the tax that EL was required to pay on a distribution of its funds to EC. I prefer, however, to put my decision on this point on the basis that RMM’s liability arises directly under subsection 215(6). One way or another, I think that if EC is subject to withholding tax on the amounts paid to it by RMM, RMM 1s liable for an amount equal to that tax under either subsection 215(6) or as agent under subsection 215(3) or, on the basis of EL’s liability under subsection 215(6), as a responsible representative under section 159.
The respondent argued in the alternative that EC and RMM were not at arm’s length and that accordingly section 212.1 applied. On this issue the respondent bore the onus of proof. Onus of proof has very little to do with the matter. All of the facts necessary to make a determination are before me. Subsection 251(1) provides:
For the purposes of this Act,
(a) related persons shall be deemed not to deal with each other at arm’s length; and
(b) it is a question of fact whether persons not related to each other were at a particular time dealing with each other at arm’s length.
It is true that a determination whether persons are at arm’s length requires that the court make findings of fact, but whether, on the facts, there is in law an arm’s-length relationship is necessarily a question of law. Even Parliament which, subject to constitutional limitations, is supreme and has the power to deem cows to be chickens, cannot turn a question of law into a question of fact. All that paragraph 251(1)(b) means is that in determining whether, as a matter of law, unrelated persons are at arm’s length, the factual underpinning of their relationship must be ascertained. The meaning of “arm’s length” within the Income Tax Act is obviously a question of law.
Here we have EC using RMM as a vehicle or an instrumentality to assist in extracting EL’s surplus.
The expression “at arm’s length” was considered by Bonner J. in Mc- Nichol where, at pages 117 and 118, he discussed the concept as follows:
Three criteria or tests are commonly used to determine whether the parties to a transaction are dealing at arm’s length. They are:
(a) the existence of a common mind which directs the bargaining for both parties to the transaction,
(b) parties to a transaction acting in concert without separate interests, and
(c) “de facto” control.
The common mind test emerges from two cases. The Supreme Court of Canada dealt first with the matter in Minister of National Revenue v. Sheldon ’s Engineering Ltd. At pages 1113-14 Locke J., speaking for the Court, said the following:
Where corporations are controlled directly by the same person, whether that person be an individual or a corporation, they are not by virtue of that section deemed to be dealing with each other at arm’s length. Apart altogether from the provisions of that section, it could not, in my opinion, be fairly contended that, where depreciable assets were sold by a taxpayer to an entity wholly controlled by him or by a corporation controlled by the taxpayer to another corporation controlled by him, the taxpayer as the controlling shareholder dictating the terms of the bargain, the parties were dealing with each other at arm’s length and that s. 20(2) was inapplicable.
The decision of Cattanach, J. in Minister of National Revenue v. TR Merritt Estate is also helpful. At pages 5165-66 he said:
In my view, the basic premise on which this analysis is based is that, where the “mind” by which the bargaining is directed on behalf of one party to a contract is the same “mind” that directs the bargaining on behalf of the other party, it cannot be said that the parties were dealing at arm’s length. In other words where the evidence reveals that the same person was “dictating” the “terms of the bargain” on behalf of both parties, it cannot be said that the parties were dealing at arm’s length.
The acting in concert test illustrates the importance of bargaining between separate parties, each seeking to protect his own independent interest. It is described in the decision of the Exchequer Court in Swiss Bank Corporation v. Minister of National Revenue. At page 5241 Thurlow J. (as the then was) said:
To this I would add that where several parties - whether natural persons or corporations or a combination of the two - act in concert, and in the same interest, to direct or dictate the conduct of another, in my opinion the “mind” that directs may be that of the combination as a whole acting in concert or that of any of them in carrying out particular parts or functions of what the common object involves. Moreover as I see it no distinction is to be made for this purpose between persons who act for themselves in exercising control over another and those who, however numerous, act through a representative. On the other hand if one of several parties involved in a transaction acts in or represents a different interest form the others the fact that the common purpose may be to so direct the acts of another as to achieve a particular result will not by itself serve to disqualify the transaction as one between parties dealing at arm’s length. The Sheldon's Engineering case [supra], as I see it, is an instance of this.
Finally, it may be noted that the existence of an arm’s length relationship is excluded when one of the parties to the transaction under review has de facto control of the other. In this regard reference may be made to the decision of the Federal Court of Appeal in Robson Leather Company Ltd. v. Minister of National Revenue, 77 D.T.C. 5106.
To this discussion I would add one other quotation from Minister of National Revenue v. Sheldon's Engineering Ltd., (1955), 55 D.T.C. 1110
(S.C.C.) where Locke J., in commenting on the expression, said at p. 1113:
The expression is one which is usually employed in cases in which transactions between trustees and cestuis que trust, guardians and wards, principals and agents or solicitors and clients are called into question. The reasons why transactions between persons standing in these relations to each other may be impeached are pointed out in the judgments of the Lord Chancellor and of Lord Blackburn in McPherson v. Watts,  3 A.C. 254. These considerations have no application in considering the meaning to be assigned to the expression in s. 20(2).
I do not think that in every case the mere fact that a relationship of principal and agent exists between persons means that they are not dealing at arm’s length within the meaning of the Income Tax Act. Nor do I think that if one retains the services of someone to perform a particular task, and pays that person a fee for performing the service, it necessarily follows that in every case a non-arm’s-length relationship is created. For example, a solicitor who represents a client in a transaction may well be that person’s agent yet I should not have thought that it automatically followed that there was a non-arm’s-length relationship between them.
The concept of non-arm’s length has been evolving. The most significant advance has been in the Swiss Bank Corp. v. Minister of National Revenue, (1972), 72 D.T.C. 6470 (S.C.C.), where it was held that where a group of persons, otherwise at arm’s length, acted in concert to direct the acts of a third person they were not dealing at arm’s length with that person.
What, then, is the situation here? We have a corporation that uses another corporation to participate in what is essentially a plan to achieve a particular fiscal result. Does the very act of participation make the relationship non-arm’s length? Admittedly there was clearly arm’s length bargaining about the return that RMM would realize on the transaction. During those negotiations there was no element of control between EC and RMM, and RMM was separately advised. At that stage EC and RMM were at arm’s length. However, once the deal was settled, and as it evolved through the sale, the payment of the funds, the premature payment of the guaranteed amount, the endorsement of the refund cheques by RMM to EC and the virtual disappearance of RMM from the scene once it had served its purpose, it became clear RMM had no independent role. If one adopts the “common mind” theory of non-arm’s-length relationships it is perfectly clear that only one mind was involved, that which was the controlling mind of EC. The same result is achieved if one applies the “acting in concert” theory. RMM and EC were in my view not at arm’s length in carrying out the transaction, including the sale. Accordingly section 212.1 applies in any event. It must be borne in mind that in Canada the focus is on the relationship between persons. The concept seems to be somewhat different in the United States, where the focus is on whether the transaction is at arm’s length, that is to say whether the transaction is one that arm’s length persons would enter into.
I turn now to section 245. I do not propose to write a treatise on this important provision of the law. That has been done by others in the past and will undoubtedly be done in the future. The interpretation of section 245 should be allowed to evolve on a case by case basis. It 1s too important a provision to have its interpretation cluttered up by lengthy dissertations in which hypothetical cases are discussed in the context of wide ranging obiter dicta. Such disquisitions in an academic context are relatively harmless but when courts embark upon a full-scale exposition of the law on matters that are not before them and have not been argued, such endeavours merely muddy the waters. The interpretation of such commentaries frequently oc- casions more litigation than the very statutory provisions that they seek to illuminate. I am indebted to Bonner J.’s clear disposition of the McNichol case which dealt with the facts before him and nothing more. I am in complete and respectful agreement with that approach.
If I am right in believing that sections 84 and 212 or, alternatively, section 212.1, by themselves result in taxing this surplus strip, recourse to section 245 is not only unnecessary but inappropriate. The application of section 245 depends upon the existence of an “avoidance transaction” which is a transaction that, but for this section, would result in a tax benefit. In other words, for section 245 to apply, the transaction has to otherwise “work” in the sense of achieving its intended fiscal result. Therefore section 245 is aimed at successful tax avoidance schemes. If they do not work in any event section 245 is unnecessary. As stated above in my discussion of section 84, I do not think the transaction works, quite apart from section 245. If I am wrong in that conclusion, I must consider section 245.
To begin with, for section 245 to apply, there must be an avoidance transaction within the meaning of subsection 245(3). There must therefore be a transaction that results in a tax benefit.
Tax benefit is defined as
a reduction, avoidance or deferral of tax or other amount payable under this Act or an increase is a refund of tax or other amount under this Act.
It is obvious there was a tax benefit. The object of the exercise was for EC to extract EL’s surplus without paying Canadian withholding tax. I do not accept that because the obtaining of the benefit sought depended upon the U.S. Convention it was nonetheless not a benefit within the definition. It is true, the U.S. Convention provides that certain types of capital gain are taxable only in the United States, but the definition speaks of a reduction or avoidance of tax “under this Act”. Thefact that the reduction “under this Act” was expected to result from the application of the U.S. Convention does not remove the benefit sought from section 245. It 1s the Act, not the Convention, that imposes the tax. The U.S. Convention operates through its enabling statute by limiting the taxing power under the Act.
The second question is whether the transaction, albeit resulting in a tax benefit, 1s removed from subsection 245(3) because it:
may reasonably be considered to have been undertaken or arranged primarily for bona fide purposes other than to obtain the tax benefit.
The argument is that since there was apparently more tax saved in the United States than in Canada by selling the shares of EL the primary pur- pose was not to obtain the tax benefit (1.e. the avoidance of Canadian tax) but to save U.S. taxes. It is not merely a matter of comparing dollars saved on one side of the border or the other. I do not think that it has been established that the saving of U.S. taxes was a predominant purpose here. The entire thrust of EC’s endeavours was to save the Canadian withholding tax. The U.S. tax advantages were, at least on the evidence before me, not formulated with the precision and clarity that the Canadian tax advantages were. Rather they appeared to be more in the nature of an ex post facto rationalization. Moreover the witnesses who did testify appeared to be one or more steps removed from the formulation of the corporate fiscal policies. In any event, I am not prepared to say that because a U.S. tax saving that 1s greater than the Canadian tax saving is envisaged or achieved by a Canadian tax avoidance scheme this in itself takes the transaction outside the ambit of section 245. A particular transaction the purpose of which is the avoidance of Canadian tax may well have international fiscal implications. Section 245 operates within the context of Canadian tax law and it 1s within that context that the primary purpose is to be determined. The appellant’s position appears to be that where an avoidance transaction in Canada results in greater inroads being made against the U.S. fisc than against the Canadian fisc the primary purpose cannot be the avoidance of Canadian tax. I do not accept that.
The third question is whether, assuming the transaction here is an avoidance transaction within subsection 245(3), the operation of subsection 245(2) is excluded by subsection 245(4). Subsection 245(4) reads:
For greater certainty, subsection (2) does not apply to a transaction where it may reasonably be considered that the transaction would not result directly or indirectly in a misuse of the provisions of this Act or an abuse having regard to the provisions of this Act, other than this section, read as a whole.
The French version reads:
Il est entendu que l’opération dont il est raisonnable de considérer qu’elle n’entraîne pas, directement ou indirectement, d’abus dans l’application des dispositions de la présente loi lue dans son ensemble -- compte non tenu du présent article -- n’est pas visée par le paragraphe (2).
The wording of the two versions is slightly different but their object is the same and I can see no purpose in parsing the two versions. The use of “misuse” and “abuse” in the English version rather than simply “abus” in the French version 1s attributable to a linguistic nuance rather than a shading of the legislative intent. It is easier to recognize an abuse or a misuse than to formulate a definition that fits all circumstances. Examples of tax benefits that are not caught by subsection 245(2) would be incentives such as accelerated capital cost allowance, investment tax credits, tax incentives given to industries to encourage the establishment of businesses in particular regions, to mention only a few. To take advantage of such provisions and to enjoy the tax benefits they provide does not constitute a misuse of the provisions of the Act.
At the other extreme, one of the best examples that occurs to me of an abuse of the provisions of the Act is found in Harris v. Minister of National Revenue, (1966), 66 D.T.C. 5189 (S.C.C.), a case that preceded GAAR by over two decades. Former section 18 of the Income Tax Act in essence treated a lease of land and buildings with an option to purchase as a sale. The aggregate of the lease payments over the term, less the value of the land, was treated as the cost of depreciable property. The system worked adequately when one was dealing with a reasonable term -- say five or ten years -- but the taxpayer entered into a 200 year lease of a service station and sought to deduct capital cost allowance on a huge deemed acquisition cost. Technically his scheme worked (apart from a small problem with the rule against perpetuities). It failed, however, because of the predecessor to former section 245, section 137. At p. 5198 Cartwright J. (as he then was) stated:
Section 137(1) of the Income Tax Act reads as follows: -
137.(1) In computing income for the purposes of this Act, no deduction may be made in respect of a disbursement or expense made or incurred in respect of a transaction or operation that, if allowed, would unduly or artificially reduce the income.
If, contrary to the views I have expressed, we had accepted the appellant’s submission that the transaction embodied in the lease was one to which section 18 applied and that on the true construction of the lease and the terms of that section the appellant was prima facie entitled to make the deduction of the capital cost allowance of $30,425.80 claimed by him, I would have had no hesitation in holding that it was a deduction in respect of an expense incurred in respect of a transaction that if allowed would artificially reduce the income of the appellant and that consequently its allowance was forbidden by the terms of section 137(1). The words in the sub-section “a disbursement or expense made or incurred” are, in my opinion, apt to include a claim for depreciation or for capital cost allowance, and if the lease were construed as above suggested the arrangement embodied in it would furnish an example of the very sort of “transaction or operation” at which section 137(1) is aimed.
The scheme involved in Harris is an example of the sort of misuse contemplated by subsection 245(4). It did not however require GAAR for it to fail. In McKee v. R., (1977), 77 D.T.C. 5345 (Fed. T.D.) Addy J. at p. 5347 refused to follow what Cartwright J. said in Harris on the basis that a claim for capital cost allowance was not a disbursement or expense. With respect, the approach taken by Cartwright J. is precisely that which should be adopted in dealing with an anti-avoidance section.
I cannot improve upon the lucid enunciation of the principle stated by Bonner J. in McNichol at pages 120 to 122:
It is sufficient to note that on any view of subsection 245(4), the transaction now in question, which was, or was part of, a classic example of surplus stripping, cannot be excluded from the operation of subsection (2). After all, Bee’s surplus was, at the very least, indirectly used to fund the price paid to the appellants for their shares. The appellants have sought to realize the economic value of Bee’s accumulated surplus by means of a transaction characterized as a sale of shares giving rise to a capital gain in preference to a distribution of a liquidating dividend taxable under section 84. The scheme of the Act calls for the treatment of distributions to shareholders of corporate property as income. The form of such distributions is generally speaking irrelevant. On the one hand a distribution formally made by a corporation to its shareholders as a dividend to which the shareholders are entitled by virtue of the contractual rights inherent in their shares is income under paragraph 12(1)(/) of the Act. On the other hand, the legislature by section 15 of the Act, which expands the former section 8, demonstrates the existence of a legislative scheme to tax as income all distributions by a corporation to a shareholder, even those of a less orthodox nature than an ordinary dividend.
The transaction in issue which was designed to effect, in everything but form, a distribution of Bec’s surplus results in a misuse of sections 38 and 110.6 and an abuse of the provisions of the Act, read as a whole, which contemplate that distributions of corporate property to shareholders are to be treated as income in the hands of the shareholders. It is evident from section 245 as a whole and paragraph 245(5)(c) in particular that the section is intended inter alia to counteract transactions which do violence to the Act by taking advantage of a divergence between the effect of the transaction, viewed realistically, and what, having regard only to the legal form appears to be the effect. For purposes of section 245, the characterization of a transaction cannot be taken to rest on form alone. I must therefore conclude that section 245 of the Act applies to this transaction.
To what Bonner J. has said I would add only this: the Income Tax Act, read as a whole, envisages that a distribution of corporate surplus to shareholders is to be taxed as a payment of dividends. A form of transaction that is otherwise devoid of any commercial objective, and that has as its real purpose the extraction of corporate surplus and the avoidance of the ordinary consequences of such a distribution, is an abuse of the Act as a whole.
If I am wrong in concluding that the amounts received by EC in the transaction were received “on the winding-up or discontinuance” of EL’s business within section 84, giving rise to a deemed dividend to which section 212 applies, or, alternatively, that EC and RMM were not at arm’s length within the meaning of section 212.1, nonetheless it is my view that section 245 applies and the Minister was justified in recharacterizing the transaction as one to which subsection 84(2) applies and the deemed dividend is subject to non-resident withholding tax under section 212.
I turn now to the U.S. Convention. If my initial conclusion that sections 84 and 212 or, alternatively, section 212.1, apply independently of section 245 is right I need not consider the effect of the U.S. Convention. Sections 84, 212 and 212.1 were part of the Income Tax Act when the U.S. Convention was entered into. GAAR, however, became part of Canadian law after the entry into force of the U.S. Convention. Therefore, if the only basis upon which the transaction can be treated as giving rise to a dividend 1s by the application of GAAR it is necessary to consider whether the U.S. Convention restricts the operation of section 245.
Canada is a party to a large number of income tax conventions - over 50, and more are being negotiated. Although they may differ in detail they are substantially similar and are based in large part on the OECD Model Convention. It would be a surprising conclusion that Canada, or indeed any of the other countries with which it has tax treaties, including the United States, had intentionally or inadvertently bargained away its right to deal with tax avoidance or tax evasion by residents of treaty countries in its own domestic tax laws. It would be equally surprising if tax avoidance schemes that are susceptible of attack under either general anti-avoidance provisions or specific anti-avoidance rules, if carried out by Canadian residents, could be perpetrated with impunity by non-residents under the protection of a treaty. That is not what treaties are for.
Paragraph 4 of Article XIII of the U.S. Convention reads:
4. Gains from the alienation of any property other than that referred to in paragraphs 1, 2 and 3 shall be taxable only in the Contracting State of which the alienator 1s a resident.
The shares of EL do not fall within paragraphs 1, 2 or 3 of Article XIII. Paragraphs 1 and 3 of Article X of the U.S. Convention read:
1. Dividends paid by a company which is a resident of a Contracting State to a resident of the other Contracting State may be taxed in that other State.
3. The term “dividends” as used in this Article means income from shares or other rights, not being debt-claims, participating in profits, as well as income subjected to the same taxation treatment as income from shares by the taxation laws of the State of which the company making the distribution is a resident.
Paragraph 2, as it read in the years in question, limited the withholding tax rate to 10%. That percentage has since been changed.
Subsections 3(1) and (2) of the Canada-United States Income Tax Convention Act, 1984 read as follows:
3.(1) The Convention is approved and declared to have the force of law in Canada during such period as, by its terms, the Convention is in force.
3.(2) In the event of any inconsistency between the provisions of this Act, or the Convention, and the provisions of any other law, the provisions of this Act and the Convention prevail to the extent of the inconsistency.
The appellants’ contention is that to the extent that section 245 has the effect of permitting the Minister to recharacterize the effect of a sale of shares as a transaction to which sections 84 and 212 apply, it is nonetheless a sale giving rise to a capital gain and that such treatment under section 245 is inconsistent with the U.S. Convention. Accordingly the Convention must prevail and the sale must be treated as giving rise to a capital gain which, under Article XIII of the Convention, is taxable only in the United States.
It is true that in the normal course a sale of shares would give rise to a capital gain or loss and would be taxed as such whether the taxpayer was a resident of Canada or the United States. I use the term “in the normal course” advisedly. This is not an ordinary sale of shares of a company that had an ongoing business that the purchaser intended to continue, as well, incidentally as a surplus. The sale of such a company to an arm’s length purchaser would not give rise to a deemed dividend under section 84 and it could not be successfully attacked under section 245. What we are dealing with here, however, is a tax avoidance scheme that has as its predominant, indeed sole, object the extraction of corporate surplus under the umbrella of a transaction that is ostensibly an alienation to which Article XIII applies. The word “alienation” in article XIII connotes a genuine alienation, and not one that is made to an accommodation party as an integral part of a distribution of surplus .1 think that to permit such a transaction to shelter under the Convention would be to sanction an abuse of the treaty. It 1s true that section 245 speaks of a misuse or abuse of the Act, but I can see no reason why a treaty provision should not be subject to the same principles of interpretation as domestic statutes insofar as they require that the provisions be construed in accordance with their object and spirit and the telos at which they are aimed and not in a manner that permits the perpetration of an abuse of the treaty.
I have quoted above paragraph 3 of Article X of the U.S. Convention, which defines “dividends” to include “income subjected to the same taxation treatment as income from shares by the taxation laws of the State of which the company making the distribution is a resident”.
The same words appear in Article 10 of the OECD Model Convention. The commentary on Article 10 reads in part as follows:
Payments regarded as dividends may include not only distributions of profits decided by annual general meetings of shareholders, but also other benefits in money or money’s worth, such as bonus shares, bonuses, profits on a liquidation and disguised distributions of profits.
Neither Canada nor the United States reserved on Article 10 of the Model Convention or on this portion of the commentary. Therefore it may be assumed that this interpretation is accepted by both parties. In my opinion the definition of dividends in the U.S.Con vention is broad enough to cover the payments received by EC to the extent that they exceeded EL’s paid-up capital.
In light of this conclusion it is probably unnecessary to consider in detail the application of the Income Tax Conventions Interpretation Act. That Act, which appears to have been a reaction to the decision of the Supreme Court of Canada in R. v. Melford Developments Inc., (1982), 82 D.T.C. 6281, provides in section 3:
Notwithstanding the provisions of a convention or the Act giving the convention the force of law in Canada, it is hereby declared that the law of Canada is that, to the extent that a term in the convention is
(a) not defined in the convention,
(b) not fully defined in the convention, or
(c) to be defined by reference to the laws of Canada,
that term has, except to the extent that the context otherwise requires, the meaning it has for the purposes of the Income Tax Act, as amended from time to time, and not the meaning it had for the purposes of the Income Tax Act on the date the convention was entered into or given the force of law in Canada if, after that date, its meaning for the purposes of the Income Tax Act has changed.
It may be argued that section 245 does not add to or modify the definition of dividends. Rather, it permits the recharacterization of certain transactions as (at least here) giving rise to deemed dividends. The argument is certainly not without merit, but given the obvious purpose of the Income Tax Conventions Interpretation Act, it appears to be an unduly restrictive reading of section 3 to say that, where section 245 authorizes the recharacterization of a transaction as giving rise to a dividend, the term “dividend” for the purposes of the Income Tax Act does not thereby assume an extended meaning that encompasses the result of a recharacterization under section 245 (or, for that matter under the specific provisions of subsection 212.1). Any other interpretation would defeat in large measure the object of the Income Tax Conventions Interpretation Act.
I have not devoted much time to the principles to be followed in interpreting tax treaties. They have been the subject of a great deal of learned comment and little purpose would be served by yet another review of them. That they should be construed liberally and in a manner that will best achieve their purpose is obvious. In determining the intentions of the parties to a convention recourse may be had to a vast array of extrinsic materials, including the OECD Model Convention and the commentary on it as well as the travaux préparatoires^. The matter was fully reviewed by the Su- preme Court of Canada in Crown Forest Industries Ltd. v. R, (1995), 95 D.T.C. 5389 (S.C.C.), particularly at 5396 to 5399. In that case the court quoted from the U.S. Senate (Foreign Relations Committee), Tax Convention and Proposed Protocols with Canada, as follows:
The principal purposes of the proposed income tax treaty between the U.S. and Canada are to reduce or eliminate double taxation of income earned by citizens and residents of either country from sources within the other country, and to prevent avoidance or evasion of income taxes of the two countries.
The Commentary to Article I of the OECD Model Convention states:
7. The purpose of double taxation conventions is to promote, by eliminating international double taxation, exchanges of goods and services, and the movement of capital and persons; they should not, however, help tax avoidance or evasion.
Finally, I refer to paragraph 7, of Article XXIXA of the U.S. Convention which was added by the 1995 Protocol, effective January 1, 1996:
7. It is understood that the fact that the preceding provisions or this Article apply only for the purposes of the application of the Convention by the United States shall not be construed as restricting it any manner the right of a Contracting State to deny benefits under the Convention where it can reasonably be concluded that to do otherwise would result in an abuse of the provisions of the Convention.
The U.S. Technical Explanation to this paragraph reads:
Paragraph 7 was added at Canada’s request to confirm that the specific provisions of Article XXIXA and the fact that these provisions apply only for the purposes of the application of the Convention by the United States should not be construed so as to limit the right of each Contracting State to invoke applicable anti-abuse rules. Thus, for example, Canada remains free to apply such rules to counter abusive arrangements involving “treaty-shopping” through the United States, and the United States remains free to apply its substance-over form and anti-conduit rules, for example, in relation to Canadian residents. This principle is recognized by the Organization for Economic Co-operation and Development in the Commentaries to its Model Tax Convention on Income and on Capital, and the United States and Canada agree that it is inherent in the Convention. The agreement to state this principle explicitly in the Protocol is not intended to suggest that the principle is not also inherent in other tax conventions, including the current Convention with Canada.
This explanation is accepted by the Canadian Minister of Finance. (News release 95-48, June 13, 1995).
I recognize that the Protocol and Technical Explanation were added in 1995, years after the payments in question. Nonetheless they represent the agreed interpretation of Canada and the U.S. that the right of the parties to apply their own anti-abuse provisions is inherent in the Convention.
The conclusion that I draw from the above is that the parties to the U.S. Convention are in agreement that it cannot be construed in a manner that prohibits the application of domestic anti-abuse rules to residents of the other contracting state, whether they are applied in the context of domestic legislation alone, or in connection with an avoidance scheme that depends upon an abuse of provisions of the Income Tax Act coupled with the U.S. Convention. Even if I did not consider that the definition of dividends in the U.S. Convention was broad enough to cover deemed dividends arising from the combined operation of sections 245 and 84 (or section 84 alone) I would still have concluded that the U.S. Convention could not prevent Canada from applying GAAR to recharacterize the transaction as one to which sections 84 and 212 applied.
The appeals are dismissed. In the normal course, costs should follow the event. However, I promised counsel that I would give them an opportunity to speak to costs and if that is still their wish I would ask them to communicate with the court. I shall delay the signing of the formal judgment for 10 days from the date of these reasons to permit counsel, if they wish, to indicate their position on costs.