Citation: 2009 TCC 299
Date: 20090603
Dockets: 2006-722(IT)G
2006-723(IT)G
2006-724(IT)G
BETWEEN:
COLLINS & AIKMAN PRODUCTS CO.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent;
AND BETWEEN:
COLLINS & AIKMAN CANADA INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent;
AND BETWEEN:
COLLINS & AIKMAN HOLDINGS CANADA INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Boyle J.
[1]
The sole issue in these
cases is whether the general anti-avoidance rule (“GAAR”) applies to a reorganization
of the corporate structure of the Canadian holdings of the Collins & Aikman
group described below, followed by dividends from the Canadian operating
companies through to the top Canadian holding company and returns of capital
from the top Canadian holding company to its non‑resident shareholder.
Implicitly, this means the impugned transactions were otherwise accounted for
in accordance with the requirements of the Income Tax Act (the “Act”)
read without section 245 and the GAAR.
[2]
The hearing of this
case was very straightforward. Neither side called any witnesses. The parties
had agreed on a Partial Agreed Statement of Facts, a copy of which is appended
to these reasons. The parties filed a Joint Book of Documents comprising some 134
documents, however I was only referred to a handful of documents. The Crown
also read in excerpts from the transcripts of the examinations for discovery of
the taxpayers’ representative.
[3]
The taxpayers conceded
that the impugned transactions resulted in a “tax benefit” for purposes of subsection 245(1).
The taxpayers further conceded that, given the decision of the Federal Court of
Appeal in The Queen v. MacKay et al., 2008 FCA 105, 2008 DTC 6238,
the impugned transactions were all part of a series of transactions which
satisfied the definition of “avoidance transaction” in subsection 245(3).
[4]
Thus, the only issue in
this appeal is whether the corporate reorganization and subsequent
recapitalization of the Collins & Aikman companies result directly or
indirectly in a misuse or abuse of the provisions of the Act for
purposes of subsection 245(4).
I. Facts
[5]
The Collins &
Aikman group is a foreign multinational car parts manufacturer with significant
Canadian operations. The recapitalization of the Collins & Aikman group
which followed the reorganization of the Canadian interests of the group provided
distributions in the form of returns of capital from the Canadian members of
the group through to its non-resident shareholders.
A. Prior to the Reorganization
[6]
Prior to the
reorganization the group’s Canadian corporations were WCA Canada Inc. (“WCA”)
and Borg Textiles Inc. (“Borg”). WCA was owned by Collins & Aikman Holdings
Ltd. (“CAHL”). CAHL was a corporation incorporated in Canada in 1929 which had
been a Canadian operating company until 1961. In 1961 CAHL ceased to be a
Canadian resident and the Canadian operations were transferred to WCA. Borg was
acquired somewhat later and was wholly owned by WCA. All of the shares of CAHL were
owned by Collins & Aikman Products Co. (“Products”), a U.S. corporation.
[7]
The relevant parts of
the corporate organisational chart showed Products, a U.S.
corporation, as the sole shareholder of CAHL, a corporation incorporated in
Canada but not resident in Canada nor in the United States. CAHL in turn owned all of the shares of WCA, a
Canadian corporation, which in turn owned all of the shares of Borg, another
Canadian corporation.
[8]
Prior to the
reorganization the stated capital and paid-up capital (or PUC) of the CAHL
shares, and their adjusted cost base to Products, was approximately $475,000.
B. The Reorganization
[9]
In late 1993 and early
1994, the following corporate reorganization was undertaken.
[10]
A new Canadian
corporation, Collins & Aikman Holdings Canada Inc. (“Holdings”) was incorporated.
About a month later, Products transferred its CAHL shares to Holdings and
received the one and only common share of Holdings as consideration therefor.
The fair market value of the CAHL shares at that time was $167 million. This
amount was added to the stated capital account maintained for the Holdings
share. This same amount, $167 million, also represented the cost of the Holdings
share to Products and the cost of the CAHL shares to Holdings. This was not a
rollover or other non-recognition transaction, however, Products was not taxed in
Canada on the gain it realized because the CAHL shares were not taxable
Canadian property as CAHL was not a Canadian resident corporation.
[11]
The following month
CAHL, which had originally been incorporated under the Canada Companies Act
and continued in 1980 under the Canada Business Corporations Act
(“CBCA”), was continued under the Business Corporations Act (Ontario) (“OBCA”). Several days later CAHL, WCA and Borg were
all amalgamated together under the name Collins & Aikman Canada Inc.
(“C&A”).
[12]
Following this
reorganization, Products, the U.S. parent,
owned all of the shares of Holdings, the new Canadian holding company, which in
turn owned all of the shares of C&A, the amalgamated Canadian operating
company.
[13]
I do not know what the U.S. tax consequences were to Products of its transfer of
the CAHL shares to Holdings nor do I know if there were any tax consequences to
CAHL or to Products resulting from this reorganization imposed by the country
of residence of CAHL. However, neither of these foreign tax consequences would
be directly relevant to an analysis of whether there has been a misuse or an
abuse of the provisions of the Canadian Act in this case.
[14]
At some point in the
reorganization, CAHL became a Canadian resident. This may have occurred upon
Products transferring the CAHL shares to Holdings since it appears the
unanimous shareholder agreement, which precluded the majority Canadian
directors of CAHL from exercising control, terminated. If not then, CAHL became
a Canadian resident corporation upon its amalgamation into C&A the
following month.
[15]
As I mentioned above, long
before the reorganization, in 1961, CAHL had sold its Canadian operating assets
to WCA. WCA paid the purchase price, at least in part, by way of an interest-bearing
promissory note. While the note was outstanding, WCA deducted the interest
payments thereon when computing its income for Canadian tax purposes and CAHL
paid Canadian non-resident withholding tax under Part XIII on that interest
at the statutory rate of 25% without any entitlement to treaty reduction. Thus,
the WCA interest payments to CAHL reduced WCA’s Canadian tax bill at its
effective rate and subjected CAHL to Canadian non-resident withholding tax at
the lesser rate of 25% thereon. Assuming any tax payable by CAHL to its country
of residence on the interest income, net of any expenses associated therewith,
was less than the difference between WCA’s effective Canadian rate and the 25%
Canadian withholding rate on the gross amount of interest, the continued
interposition of CAHL as shareholder of the Canadian operating companies was
tax effective to the Collins & Aikman group.
[16]
In September 1991
CAHL had reorganized its capital, part of which involved it paying a dividend to
Products satisfied in part by assigning the WCA note to Products. This 1991 CAHL
reorganization of capital was neither assumed nor pleaded to be part of the
series of transactions. Once the WCA note ceased to be held by CAHL and became
held by Products, the tax effectiveness of having WCA owned by a non-treaty
country resident such as CAHL lost its tax effectiveness but left a significant
tax cost. This is because dividends payable by a Canadian corporation to a non‑resident
non-treaty country shareholder would be subject to a 25% Canadian non-resident
withholding tax on the dividends whereas, if the Canadian companies of the Collins
& Aikman group of companies were owned by a U.S. resident such as Products
directly, that rate would be reduced to 5% under the Canada-U.S. tax treaty.
[17]
Only after the WCA note
became owing to Products instead of CAHL, did the Collins & Aikman group
ask its outside professional advisors to consider ways in which its corporate
structure as it related to the group’s Canadian holdings could be reorganized. The
removal of the remaining tax costs of having WCA owned by a company not
resident in a treaty country was at least one of the objectives of the
reorganization.
C. The Recapitalization Distributions
[18]
The recapitalization distributions
occurred as follows.
[19]
There was a significant
overall refinancing of the Collins & Aikman group’s U.S. and Canadian operations. The Canadian component
basically had C&A pay $104 million of dividends to Holdings and had Holdings
reduce its paid-up capital from $167 million to $63 million when it distributed
$104 million to its parent, Products, as a return of capital. This occurred in
two tranches. Approximately six months after the reorganization, C&A
declared a $58 million dividend to Holdings and Holdings reduced the corporate stated
capital and the tax paid-up capital of the Holdings share owned by Products by
$58 million. C&A had borrowed the money to pay this dividend under a new Collins
& Aikman group bank facility. Another six months later, C&A paid a $46
million dividend to Holdings which Holdings promptly used to again reduce the
stated capital and paid‑up capital of the Holdings share owned by
Products by a like amount. C&A had funded this dividend from the repayments
by Products and a Products subsidiary of amounts owing to C&A.
[20]
It was the taxpayers’ position
that while the reorganization was done to permit tax-free returns of capital in
the future, at the time of the reorganization there was no present intention to
make distributions of particular amounts or at specific times in the future.
The evidence I was referred to is consistent with this and I so find. I note
that the January 1993 one-page internal memo from Treasury Department regarding
the Canadian reorganization evidences an intention to pay a dividend, asks what
is the maximum amount of dividend or loan that could be paid on
February 1, 1993, and raises the possibility of an intercorporate
loan in the event the Canadian reorganization is not completed by
February 1.
[21]
Since Holdings did not
have a bank account, in each case the amount of Holdings’ return of capital to Products
was distributed electronically from C&A’s bank account directly to Products’
bank account. There was no dispute that C&A was acting as Holdings’ agent
in this regard with satisfactory directions and financial reporting. Thus, this
is only relevant to the issue of whether C&A will be liable under the
paying agent liability provisions of subsection 215(6) for failure to
withhold in the event GAAR applies to recharacterize the returns of capital as
dividends.
II. The GAAR Assessments
[22]
In this case, the
Minister of National Revenue (the “Minister”) did not directly recharacterize
the tax consequences of the impugned transactions in reliance upon subsection 245(2)
of the GAAR. Instead of recharacterization, the Minister made determinations
under subsection 152(1.11), and reduced the paid-up capital of the Holdings
share owned by Products, and Products’ adjusted cost base (or ACB) in that
share, from $167 million to approximately $475,000, being the PUC and the ACB
to Products prior to the reorganization of the CAHL shares owned by it. A
similar determination under subsection 152(1.11) was issued by the
Minister to Holdings which reduced the PUC of the Holdings share and reduced
the cost to Holdings of its C&A shares from $167 million to approximately
$475,000. About ten days later, the Minister assessed Products for Canadian
non-resident withholding tax under Part XIII on deemed dividends aggregating
the difference between the $104 million distributed to it and the $475,000
determined to be the paid-up capital of its CAHL share. At the same time the
Minister assessed Holdings under subsections 215(1) and 215(6) for not
withholding and remitting Part XIII tax in respect of the deemed dividends
together with penalties for failing to withhold. Similarly, the Minister also
assessed C&A for its failure to withhold under subsections 215(2) and
215(6) from the deemed dividends when it acted as Holdings’ paying agent in
making the payment, together with penalties for failing to withhold.
[23]
Prior to the hearing of
these appeals the Minister agreed to vacate the penalties assessed against
Holdings and C&A for their failure to withhold and remit Part XIII
tax.
[24]
I do not understand why
the Minister proceeded with subsection 152(1.11) GAAR determinations in
this case, followed by ordinary Part XIII assessments of Products,
Holdings and C&A relying upon the retroactive effect of the Minister’s
determinations. It appears the Minister could have proceeded in the straightforward
manner of assessing Products for non-resident withholding tax in reliance upon
a section 245 GAAR recharacterization of the distributions as being
primarily dividends without first making such a determination. Thereafter the
liabilities of Holdings and C&A for Products’ Part XIII tax would flow
from subsections 215(1), 215(2) and 215(6). If GAAR applies to recharacterize
the amount paid to a non-resident as something which gives rise to a Part XIII
tax payable by the non-resident, a Canadian payor and paying agent can be assessed
under section 215 seemingly without the need to rely on the GAAR.
[25]
The Minister’s decision
to proceed with the determinations under 152(1.11) has given rise to some
uncertainty. This is because there are express restrictions in section 152
upon determinations having a retroactive effect. Specifically, subsection 152(1.12)
provides that a determination under subsection (1.11) cannot be made if
the determined amount is relevant only for the purposes of computing the
income, tax or other amount payable by the taxpayer under the Act for an
earlier taxation year. This section clearly provides that amounts cannot be
determined if they are only relevant to retroactively impose a tax consequence
upon the taxpayer. In those circumstances ordinary assessments relying upon
section 245 can be made directly by the Minister.
[26]
It is the Minister’s
position in this case that its determination of the paid-up capital amount of the
Holdings share is not relevant only for purposes of computing taxes payable in
years prior to that determination. The Minister’s position is that the $475,000
amount it determined to be the PUC of the Holdings share is not only relevant
to the 1994 capital distributions since, prior to the determination of the PUC
amount, the PUC of the Holdings share was $167 million following the
reorganization and was only reduced to $63 million upon payment of the
$104 million returns of capital. Immediately prior to these determinations
the PUC was therefore $63 million which, absent the determinations, could have been
returned otherwise than as a dividend on the Holdings share to Products. The
Minister’s position is that by determining the PUC amount to be $475,000 that PUC
determination was also relevant on a going forward basis prospectively because
its effect was to preclude the return of capital of another $62.5 million of PUC.
[27]
The contrary argument is
that the determined amount, being $475,000, was relevant only for the prior
years since the entire $475,000 determined PUC amount had been fully returned
in prior years.
[28]
I have my doubts as to
the correctness of the Minister’s position. If the Minister’s position is not
correct, the subsection 152(1.11) GAAR determinations are invalid as a
result of subsection 152(1.12). Since the assessments themselves do not rely
upon GAAR, but rely upon the subsection 152(1.11) determinations made days
prior to the assessments, it appears the assessments would have to be vacated in
this appeal. However, since I find in this case, as detailed below, that the
reorganization and capital distributions do not result in a misuse or abuse of
the provisions of the Act, I do not need to decide this preliminary but
vexing subsection 152(1.11) question. Instinctively, it seems that
retroactive determinations, like retroactive tax legislation, should be avoided
except in cases where the legislator has clearly and unambiguously set out its
intent to impose or permit the tax to be imposed retroactively.
III. The Pleadings
[29]
Very shortly before the
hearing of this appeal, the Crown moved to file amended replies. That motion
was heard at the opening of trial. The taxpayers ended up consenting to the
filing of the amended replies.
[30]
Among other things, the
amended replies (i) expanded the transactions forming part of the series
of transactions, (ii) changed the provision of the Act which was
alleged to have been misused, and (iii) added a large number of provisions
relating to corporate distributions that it alleged formed part of the scheme
of the Act read as a whole.
[31]
The Minister’s initial assumption,
which rightly remained unamended, was that subsection 128.2(1) dealing
with cross-border amalgamations had been misused as a result of the
transactions and that the transactions constituted abuse having regard to the
provisions of the Act read as a whole. At the hearing, the Minister
acknowledged that subsection 128.2(1) was entirely the wrong provision and
would not or should not have applied in any event regardless of how the
corporate reorganization had been structured or undertaken. The amended
pleadings take the position that subsection 84(4) is the provision which
the transactions misused. Further, the amended replies plead that the
transactions are an abuse of the provisions of the Act read as a whole
including sections 54 “adjusted cost base”, 84, 84.1, 87, 89 “paid-up
capital”, 128.1 and 212.1, subsections 15(1), 39(1), 51(3), 52(8),
85(2.1), 85.1(2.1), 86(2.1), 87(1), 112, 115(1), 215(2), 215(6) and 250(4) as
well as paragraphs 3(b) and 38(a).
[32]
The transactions
occurred in 1994, the determinations and the assessments were made in 2000, the
notices of objections were filed in 2001 and the Minister’s confirmation of the
assessments and the determinations were done in 2005. The notices of appeal and
original replies were filed in 2006. Only in September 2008, and very shortly
before the early October trial did the Minister notify the taxpayers that the
provision alleged to have been misused until then was entirely the wrong
provision and an entirely new provision is the one that had been misused.
[33]
The taxpayers’ consent
to the Crown’s motion to file the amended replies was granted on the condition
that certain documents produced on the motion would also form part of the
evidence in the hearing and, provided that the Minister acknowledged that for
purposes of the trial record, the Crown did not consult with the Canada Revenue
Agency’s GAAR Committee regarding the amended replies’ position that an
entirely different provision of the Act had been misused. In these circumstances,
I accord little or no weight, relevance or significance to the fact that the
Crown did not go back to the GAAR Committee on this most important aspect of
the determinations, assessments and appeals. I assume this was put forward by
way of adding colour to the facts surrounding the assessment and the strength
of the Minister’s position. If that is so, it is perhaps gilding the lily since
in any event the Minister finds itself changing horses far past the middle of
the stream by filing amended replies. In the circumstances, this fact does not
in any way affect my analysis of whether the corporate reorganization and capital
distributions constitute a misuse or abuse of any provision of the Act
or the Act read as a whole. It is however perhaps fair of taxpayers
generally, and taxpayers who have been reassessed under GAAR and their
professional advisors, to question how the Government of Canada effectively
prepares its case if its counsel is not working together with the GAAR
Committee’s members from the Department of Finance, or other members of the
Department of Finance’s Tax Policy Branch, which is as a practical matter the
group truly responsible for the scheme of the Act. The taxpayers of
Canada generally might be concerned that absent such lines of communication
being fully open and systematically taken advantage of, the government may be
losing GAAR cases it should win. Similarly, taxpayers who are the subject of GAAR
assessments and their counsel may be concerned that the government is pursuing GAAR
cases to trial and losing in circumstances where the Crown should have folded
before trial. These comments are in no way a reflection of the particular Crown
counsel in this case. Lawyers must work with the facts and history of the case
they are given and are constrained as a practical matter, notwithstanding the Department
of Justice Act, to work within their clients’ instructions and
operating methods.
IV. Law
[34]
The GAAR is set out in
section 245 of the Act. Since the taxpayers have conceded the tax
benefit and avoidance transaction aspects of section 245, the issue in
this case is whether the impugned transactions are spared the application of GAAR
because they do not constitute a misuse or abuse described in subsection 245(4).
Subsection 245(4) reads as follows:
245(4)
Subsection (2) applies to a transaction only if it may reasonably be considered
that the transaction
(a) would, if this Act were read without reference to
this section, result directly or indirectly in a misuse of the provisions of
any one or more of
(i) this Act,
(ii) the Income
Tax Regulations,
(iii) the Income
Tax Application Rules,
(iv) a tax
treaty, or
(v) any other
enactment that is relevant in computing tax or any other amount payable by or
refundable to a person under this Act or in determining any amount that
is relevant for the purposes of that computation; or
(b) would result directly or indirectly in an abuse having
regard to those provisions, other than this section, read as a whole.
[35]
Only if the impugned transactions
are subject to the application of GAAR because they constitute the type of
misuse or abuse described in subsection 245(4), would it remain to
determine if the Minister’s determination of the appropriate tax consequences and
amounts for purposes of subsections 245(2) and (5) and subsection 152(1.11)
are appropriate. Given my determination that the impugned transactions are
saved by subsection 245(4) because they do not constitute the type of
misuse or abuse described therein as that subsection has been interpreted by the
Supreme Court of Canada in Canada Trustco Mortgage Company v. Canada, 2005 SCC 54,
2005 DTC 5523, and in Lipson v. Canada, 2009 SCC 1, 2009 DTC 5015,
I am not reproducing the recharacterization provisions.
[36]
Notwithstanding the wording of
subsection 245(4) relating to misuse and abuse, the Supreme Court of
Canada has mandated a unified interpretive approach to be applied by the Court
in finding whether or not abusive tax avoidance resulted from a series of
transactions. This approach was set out in Canada Trustco as follows:
44 The
heart of the analysis under s. 245(4) lies in a contextual and purposive
interpretation of the provisions of the Act that are relied on by
the taxpayer, and the application of the properly interpreted provisions to
the facts of a given case. The first task is to interpret the provisions giving
rise to the tax benefit to determine their object, spirit and purpose.
The next task is to determine whether the transaction falls within or
frustrates that purpose. The overall inquiry thus involves a mixed question
of fact and law. The textual, contextual and purposive interpretation of
specific provisions of the Income Tax Act is essentially a question of
law but the application of these provisions to the facts of a case is
necessarily fact-intensive.
45 This
analysis will lead to a finding of abusive tax avoidance when a taxpayer
relies on specific provisions of the Income Tax Act in order to achieve
an outcome that those provisions seek to prevent. As well, abusive tax
avoidance will occur when a transaction defeats the underlying rationale of
the provisions that are relied upon. An abuse may also result from an
arrangement that circumvents the application of certain provisions, such as
specific anti-avoidance rules, in a manner that frustrates or defeats the
object, spirit or purpose of those provisions. By contrast, abuse is not
established where it is reasonable to conclude that an avoidance transaction
under s. 245(3) was within the object, spirit or purpose of the provisions that
confer the tax benefit.
46 Once
the provisions of the Income Tax Act are properly interpreted, it is a
question of fact for the Tax Court judge whether the Minister, in denying the
tax benefit, has established abusive tax avoidance under s. 245(4). Provided
the Tax Court judge has proceeded on a proper construction of the provisions of
the Act and on findings supported by the evidence, appellate tribunals
should not interfere, absent a palpable and overriding error.
47 The
first part of the inquiry under s. 245(4) requires the court to look beyond the
mere text of the provisions and undertake a contextual and purposive approach
to interpretation in order to find meaning that harmonizes the wording, object,
spirit and purpose of the provisions of the Income Tax Act. There is
nothing novel in this. Even where the meaning of particular provisions may not
appear to be ambiguous at first glance, statutory context and purpose may
reveal or resolve latent ambiguities. “After all, language can never be
interpreted independently of its context, and legislative purpose is part of
the context. It would seem to follow that consideration of legislative purpose
may not only resolve patent ambiguity, but may, on occasion, reveal ambiguity
in apparently plain language.” See P.W. Hogg and J.E. Magee, Principles of
Canadian Income Tax Law (4th ed. 2002), at p. 563. In order to reveal and
resolve any latent ambiguities in the meaning of provisions of the Income Tax
Act, the courts must undertake a unified textual, contextual and purposive
approach to statutory interpretation.
. . .
49 In
all cases where the applicability of s. 245(4) is at issue, the central
question is, having regard to the text, context and purpose of the provisions
on which the taxpayer relies, whether the transaction frustrates or defeats the
object, spirit or purpose of those provisions. The following points are
noteworthy:
(1) While the Explanatory Notes use the phrase “exploit, misuse or frustrate”,
we understand these three terms to be synonymous, with their sense most adequately
captured by the word “frustrate”.
(2) The Explanatory Notes elaborate that the GAAR is intended to apply
where under a literal interpretation of the provisions of the Income Tax Act,
the object and purpose of those provisions would be defeated.
(3) The Explanatory Notes specify that the application of the GAAR
must be determined by reference to the facts of a particular case in the
context of the scheme of the Income Tax Act.
(4) The Explanatory Notes also elaborate that the provisions of the Income
Tax Act are intended to apply to transactions with real economic substance.
50 As
previously discussed, Parliament sought to address abusive tax avoidance
while preserving consistency, predictability and fairness in tax law and the
GAAR can only be applied to deny a tax benefit when the abusive nature of the
transaction is clear.
51 The
interpretation of the provisions giving rise to the tax benefit must, in the
words of s. 245(4) of the Act, have regard to the Act “read as a
whole”. This means that the specific provisions at issue must be interpreted in
their legislative context, together with other related and relevant provisions,
in light of the purposes that are promoted by those provisions and their
statutory schemes. In this respect, it should not be forgotten that the GAAR
itself is part of the Act.
. . .
55 In
summary, s. 245(4) imposes a two-part inquiry. The first step is to determine
the object, spirit or purpose of the provisions of the Income Tax Act
that are relied on for the tax benefit, having regard to the scheme of the Act,
the relevant provisions and permissible extrinsic aids. The second step
is to examine the factual context of a case in order to determine whether the
avoidance transaction defeated or frustrated the object, spirit or purpose of
the provisions in issue.
56 The
Explanatory Notes elaborate that the provisions of the Income Tax Act are
intended to apply to transactions with real economic substance. Although the
expression “economic substance” may be open to different interpretations, this
statement recognizes that the provisions of the Act were intended to
apply to transactions that were executed within the object, spirit and purpose
of the provisions that are relied upon for the tax benefit. The courts should
not turn a blind eye to the underlying facts of a case, and become fixated on
compliance with the literal meaning of the wording of the provisions of the Income
Tax Act. Rather, the courts should in all cases interpret the provisions in
their proper context in light of the purposes they intend to promote.
57 Courts
have to be careful not to conclude too hastily that simply because a non-tax
purpose is not evident, the avoidance transaction is the result of abusive tax
avoidance. Although the Explanatory Notes make reference to the expression
"economic substance", s. 245(4) does not consider a transaction to
result in abusive tax avoidance merely because an economic or commercial purpose
is not evident. As previously stated, the GAAR was not intended to outlaw all
tax benefits; Parliament intended for many to endure. The central inquiry is
focussed on whether the transaction was consistent with the purpose of the
provisions of the Income Tax Act that are relied upon by the taxpayer,
when those provisions are properly interpreted in light of their context.
Abusive tax avoidance will be established if the transactions frustrate or
defeat those purposes.
. . .
59 Similarly,
courts have on occasion discussed transactions in terms of their “lack of
substance” or requiring “recharacterization”. However, such terms have no
meaning in isolation from the proper interpretation of specific provisions of
the Income Tax Act. The analysis under s. 245(4) requires a close
examination of the facts in order to determine whether allowing a tax benefit
would be within the object, spirit or purpose of the provisions relied upon by
the taxpayer, when those provisions are interpreted textually, contextually and
purposively. Only after first, properly construing the provisions to determine
their scope and second, examining all of the relevant facts, can a proper
conclusion regarding abusive tax avoidance under s. 245(4) be reached.
. . .
61 A
proper approach to the wording of the provisions of the Income Tax Act
together with the relevant factual context of a given case achieve balance
between the need to address abusive tax avoidance while preserving certainty,
predictability and fairness in tax law so that taxpayers may manage their
affairs accordingly. Parliament intends taxpayers to take full advantage of
the provisions of the Act that confer tax benefits. Parliament did not
intend the GAAR to undermine this basic tenet of tax law.
62 The GAAR
may be applied to deny a tax benefit only after it is determined that it was
not reasonable to consider the tax benefit to be within the object, spirit or
purpose of the provisions relied upon by the taxpayer. The negative language
in which s. 245(4) is cast indicates that the starting point for the analysis
is the assumption that a tax benefit that would be conferred by the plain words
of the Act is not abusive. This means that a finding of abuse is
only warranted where the opposite conclusion -- that the avoidance transaction
was consistent with the object, spirit or purpose of the provisions of the Act
that are relied on by the taxpayer -- cannot be reasonably entertained. In
other words, the abusive nature of the transaction must be clear. The GAAR will
not apply to deny a tax benefit where it may reasonably be considered that the
transactions were carried out in a manner consistent with the object, spirit or
purpose of the provisions of the Act, as interpreted textually,
contextually and purposively.
[Emphasis added.]
[37]
In Lipson, the
majority of the Supreme Court describes paragraphs 44 and 45 as the key portion
of the Court’s approach to GAAR in Canada Trustco. The majority
summarized paragraph 44 as follows:
40 According to the framework set out in Canada Trustco, a
transaction can result in an abuse and misuse of the Act in one of three
ways: where the result of the avoidance transaction (a) is an outcome that the
provisions relied on seek to prevent; (b) defeats the underlying rationale of
the provisions relied on; or (c) circumvents certain provisions in a manner
that frustrates the object, spirit or purpose of those provisions (Canada
Trustco, at para. 45).
[38]
In Lipson, at
paragraph 27, the majority of the Court adds the word “essential” in front
of “object, spirit and purpose” in summarizing paragraph 44 of Canada
Trustco.
[39]
In this case, the burden to
persuade the Court of the correctness of its position is entirely on the
Minister. As set out by the Supreme Court in Canada Trustco, a taxpayer
in a GAAR appeal will shoulder the initial burden of establishing what the
facts are by refuting or challenging the Minister’s factual assumptions,
challenging the existence of a tax benefit, or showing that a bona fide non-tax
purpose primarily drove the transaction. In this case, the facts have been
agreed to and the taxpayers have conceded the tax benefit and avoidance
transaction aspects of GAAR. In this case the only issue is whether or not the
taxpayers’ tax benefit enjoyed from the avoidance transactions was or was not
abusive tax avoidance.
[40]
On the topic of burden of proof or
persuasion, the Supreme Court of Canada in Canada Trustco first quoted
from paragraph 68 of the reasons of the Federal Court of Appeal in OSFC
Holdings Ltd. v. Canada, 2001 FCA 260, 2001 DTC 5471,
that:
[F]rom a
practical perspective, . . . [t]he Minister should set out the policy with
reference to the provisions of the Act or extrinsic aids upon which he
relies.
The Supreme Court went on in paragraph 65:
For practical
purposes, the last statement is the important one. The taxpayer, once he or she
has shown compliance with the wording of a provision, should not be required to
disprove that he or she has thereby violated the object, spirit or purpose of
the provision. It is for the Minister who seeks to rely on the GAAR to identify
the object, spirit or purpose of the provisions that are claimed to have been
frustrated or defeated, when the provisions of the Act are interpreted
in a textual, contextual and purposive manner. The Minister is in a better
position than the taxpayer to make submissions on legislative intent with a
view to interpreting the provisions harmoniously within the broader statutory
scheme that is relevant to the transaction at issue.
[41]
It is important to note that the
test for abusive tax avoidance is not whether in a taxpayer’s particular
circumstances a sense of apparent equity or arguable common sense suggests
transactions like these should be taxed no differently than some other
transaction that would achieve most or all of the same results but for the
taxpayer’s further objective of minimizing taxes in completing the transactions.
That is not what section 245 provides nor how it has been interpreted. Nor
is the test whether the Act should have been drafted to catch particular
transactions.
[42]
The preconditions for a
determination of abusive tax avoidance in subsection 245(4) from paragraph 45
of Canada Trustco and from paragraph 40 of Lipson require
the Crown to demonstrate a provision or provisions detailing or forming part of
the scheme of the Act with respect to the taxation of amounts or
transactions similar to those in question which have been misused by the
taxpayers in their series of transactions. Such misuse must be shown to result (i) from
the provision or provisions being relied on or applied by the taxpayers in
order to achieve an outcome that the provisions seek to prevent, or (ii) from
the provisions being applied or relied upon to defeat the underlining rationale
of the provisions, or (iii) by circumventing the application of certain provisions,
such as specific anti‑avoidance rules, in a manner that frustrates or
defeats the object, spirit or purpose of those provisions.
V.
Positions of the Parties
A. The Minister
[43]
Since the onus is on the Crown, I
will set forth the Crown’s position first.
[44]
In effect, it is the Crown’s
position that the taxpayers have misused or abused subsection 84(4) which
specifies that amounts paid by a corporation to a shareholder upon a return of
capital in excess of the paid-up capital of the shares in question is deemed to
be a dividend for purposes of the Act including Part XIII non‑resident
withholding tax.
[45]
Subsection 84(4) is found in
Subdivision h of Part I, Division B headed “Corporations
Resident in Canada and their Shareholders” and provides as follows:
84(4) Where at any time after March 31, 1977 a corporation
resident in Canada has reduced the paid-up capital in respect of any class of
shares of its capital stock otherwise than by way of a redemption, acquisition
or cancellation of any shares of that class or a transaction described in
subsection 84(2) or (4.1),
(a) the corporation shall be deemed to have paid at that time a
dividend on shares of that class equal to the amount, if any, by which the
amount paid by it on the reduction of the paid-up capital, exceeds the amount
by which the paid-up capital in respect of that class of shares of the
corporation has been so reduced; and
(b) a dividend shall be deemed to have been received at that time by
each person who held any of the issued shares at that time equal to that
proportion of the amount of the excess referred to in paragraph 84(4)(a) that
the number of the shares of that class held by the person immediately before
that time is of the number of the issued shares of that class outstanding
immediately before that time.
[46]
It is the Crown’s position that
there is an evident scheme of the Act with respect to corporate
distributions of which subsection 84(4) forms part which begins from the
premise that distributions from corporations to shareholders are to be included
in income in the case of residents or subject to withholding tax in the case of
non-residents.
[47]
The Minister points to the
numerous provisions referred to in paragraph 31 above that it believes
evidences this scheme that corporate distributions are to be taxed except where
provisions specifically provide otherwise.
[48]
The respondent goes on to explain
that subsection 84(4) does specifically provide otherwise for returns of
capital by excluding from income distributions upon a return of capital that do
not exceed the shares’ tax paid-up capital. However, it is the respondent’s
position that this should not extend to inappropriate or artificial increases
of PUC. The respondent maintains that, in this case, subsection 84(4) was
circumvented by abusive dividend stripping.
[49]
The Crown did not put
in evidence any extrinsic aids dealing with legislative intent in support of
its proffered scheme of the Act.
B. The Taxpayers
[50]
In effect the taxpayers’ position,
paraphrased by me and perhaps somewhat recast, is as follows.
[51]
A clear and straightforward
application of the specific provisions of the Act dealing with the
determination of the paid-up capital of the Holdings share and the cost of that
share to Products, as well as the cost to Holdings of its CAHL shares, has the
clear and unambiguous result of setting those tax attributes and accounts at $167 million.
[52]
Similarly, subsection 84(4)
is clear and unambiguous that Holdings was entitled to make a tax-free return
of capital to its shareholders in an amount up to $167 million.
[53]
Essentially, corporate
distributions can be in two forms, dividends and returns of capital. (Dividends
in fact break down further between taxable dividends and capital dividends.
Section 83 generally provides that capital dividends from private
corporations are tax-free. Beyond this general principle, capital dividends are
beyond the needed scope of this analysis.)
[54]
The scheme of the Act with
respect to the taxation of corporate distributions under Part I of the Act
applicable to Canadian residents is that taxable dividends are to be included
in income under section 82 as a starting point from which flows thereafter
numerous deductions and adjustments, most notably the section 112 intercorporate
dividends deduction for corporate shareholders and the dividend tax credit and
gross-up provisions in paragraph 82(1)(b) and section 121
applicable to individual shareholders. The language of paragraphs 12(1)(i),
(j) and (k) also make it clear that it is the amounts specified in
the particular provision of the Act that are to be included in income as
dividends from a corporation.
[55]
With respect to corporate
distributions by way of returns of capital, the scheme of the Act begins
in section 84 which provides that only distributions in excess of the
share’s paid-up capital are included in income. This initial approach is
subject to further adjustments, primarily by way of adjustments to paid-up capital
amounts in certain circumstances, including specific anti-avoidance provisions such
as section 84.1 in the case of residents and section 212.1 in the
case of non‑residents.
[56]
Such an approach is grounded and
begins from a specific provision of the Act with respect to dividends
and a specific provision of the Act with respect to returns of paid-up
capital. The Minister’s scheme of the Act begins from what the Crown
maintains is an unstated implicit beginning premise that all corporate
distributions are to be taxed. Effectively, the Crown’s starting point is not
anchored in the Act but in an unstated and unsupported premise that
corporate distributions are to be taxed unless they are exceptions. The Crown’s
position treats the statutory régimes applicable to dividends in sections 82
and 112, etc. and that applicable to distributions of capital set out in
section 84, etc. as exceptions to its unstated general rule.
[57]
In the case of non-residents,
Part XIII of the Act does not evidence any scheme with respect to
the approach to the taxation of corporate distributions beyond (i) subsection 212(2)
which provides that dividends, including deemed dividends which may result from
returns of capital under subsection 84(4), are to be subject to
non-resident withholding tax, and (ii) there is a specific anti-avoidance
rule in section 212.1 applicable to dividend surplus strips described
therein that is much the same as the approach taken in section 84.1 with
respect to dividend surplus strips by Canadian resident taxpayers.
[58]
Once the WCA note ceased to be
owing to CAHL by WCA, some form of corporate reorganization was required to
remove the remaining tax inefficiency described above. In deciding how to
proceed with the necessary restructuring, the Collins & Aikman group
legitimately considered tax minimization in deciding how best to remove the
interposition of a non-resident, non-treaty jurisdiction corporation between
the Canadian corporations in the Collins & Aikman group and their ultimate U.S. parent (Products
and Collins & Aikman Corporation). To do so was entirely legitimate,
consistent with the principles of Inland Revenue Commissioner v. Duke of
Westminster, [1936] A.C. 1 (H.L.), and is similar to the situation in which
the taxpayer in Geransky v. The Queen, 2001 DTC 243, found himself.
VI.
Analysis
A. The scheme of the Act Applicable to Corporate Distributions
[59]
In essence, the most
significant part of this analysis is the determination of what is the scheme of
the Act applicable to corporate distributions. Is the scheme of the Act,
as maintained by the Crown, that corporate distributions are to be included in
income except where specific provisions of the Act provide otherwise in
particular circumstances or to a particular extent? Or does the scheme of the Act,
of which subsection 84(4) forms part, provide that (i) dividends
distributed by corporations are included in income except in circumstances
where, or to the extent that, the Act provides otherwise, and that (ii) distributions
to shareholders by corporations other than by way of dividend are included in
income to the extent only that they exceed the shareholders’ paid-up capital in
those shares, subject to specific rules which provide otherwise in certain
circumstances or to a certain extent?
[60]
The difference between
these two competing schemes is that in the Crown’s mind this scheme begins from
an unstated premise not vocalized in the language of the Act that corporate
distributions are income. The Crown then goes on to treat the opposing theory,
which is grounded or anchored in specific starting point provisions of the Act,
as exceptions to its generalized starting point. In either case,
subsection 84(4) forms part of the scheme of the Act relating to
the taxation of corporate distributions.
[61]
I begin this analysis
mindful of the following comments of the Supreme Court of Canada in Canada
Trustco:
41 The courts cannot search for an overriding policy of the Act
that is not based on a unified, textual, contextual and purposive
interpretation of the specific provisions in issue. First, such a search is
incompatible with the roles of reviewing judges. The Income Tax Act is a
compendium of highly detailed and often complex provisions. To send the courts
on the search for some overarching policy and then to use such a policy to
override the wording of the provisions of the Income Tax Act would
inappropriately place the formulation of taxation policy in the hands of the
judiciary, requiring judges to perform a task to which they are unaccustomed
and for which they are not equipped. Did Parliament intend judges to formulate
taxation policies that are not grounded in the provisions of the Act and
to apply them to override the specific provisions of the Act?
Notwithstanding the interpretative challenges that the GAAR presents, we cannot
find a basis for concluding that such a marked departure from judicial and
interpretative norms was Parliament's intent.
42 Second, to search for an overriding policy of the Income
Tax Act that is not anchored in a textual, contextual and purposive
interpretation of the specific provisions that are relied upon for the tax
benefit would run counter to the overall policy of Parliament that tax law be
certain, predictable and fair, so that taxpayers can intelligently order their
affairs. Although Parliament's general purpose in enacting the GAAR was to
preserve legitimate tax minimization schemes while prohibiting abusive tax
avoidance, Parliament must also be taken to seek consistency, predictability
and fairness in tax law. These three latter purposes would be frustrated if the
Minister and/or the courts overrode the provisions of the Income Tax Act
without any basis in a textual, contextual and purposive interpretation of
those provisions.
[62]
I do not accept the
Crown’s view. When considering the statutory provisions dealing with corporate
distributions there is no clear need to step back from the Act altogether,
begin from an unstated premise, and then treat the Act as only setting out
the exceptions. Sections 82, 112 and 121, and subsection 84(4) are
drafted as the starting points for determining how corporate dividends and
other corporate distributions respectively are to be included in income. Subdivision h
of the Act is drafted as a régime, not as a series of exceptions.
[63]
It is principally the
Crown’s beginning point of its scheme of the Act that differs from the
opposing scheme of the Act. I am particularly not inclined to favour
such a stepping out from the provisions of the Act approach when the
Crown is relying entirely upon the provisions of the Act and does not
refer to any extrinsic aids to the contextual consideration of the Act’s
régime on taxing corporate distributions or of subsection 84(4).
[64]
It is with this understanding
of the scheme of the Act that I will begin my textual, contextual and purposive
interpretation and analysis of the role of subsection 84(4) before
determining whether the impugned transactions constitute abusive tax avoidance.
B. Subsection 84(4) Considered Contextually
[65]
The contextual scheme
of the Act applicable to corporate distributions that are not dividends
begins in section 84 with the premise that distributions in excess of tax paid-up
capital computed in accordance with the specific provisions of the Act
are deemed to be dividends and will be taxed as such to Canadian residents and
to non-residents. I reject the Crown’s contextual scheme that provides that
subsection 84(4) must be read in the context of a scheme of the Act
that distributions are income and that subsection 84(4) excludes paid-up
capital from that premise. That beginning premise is not evidenced in the
legislation; I was referred to no extrinsic support for it outside the
provisions of the Act, and it is an unnecessary and somewhat redundant
beginning point. A contextual analysis should to the greatest extent possible
follow the architecture of the Income Tax Act itself unless extrinsic aids,
stare decisis or other considerations suggest otherwise.
C. Textual Considerations
[66]
Subsection 84(4)
provides only that distributions by corporations in excess of their shares’ paid-up
capital will be treated as income to the distributee shareholders. In other
words, distributions are tax-free up to the amount of available tax PUC and are
taxed as dividends to the extent they exceed tax PUC. Having regard to the
other relevant provisions of the Act forming part of its approach to the
taxation of corporate distributions, this general rule is subject to specific
anti‑avoidance provisions none of which provisions were avoided in this
case. These specific anti‑avoidance provisions frequently take the form of
targeted reductions or grinds to paid-up capital or specific increases or bumps
to paid-up capital which specifically increase or reduce paid-up capital by an
appropriate amount. This is commonly done in order to grind improper or
artificial increases to paid-up capital or the multiplication of the
recognition of paid-up capital by more than one corporation.
[67]
Consistent with the
balance of the Act, subsection 84(4) looks to the individual
corporations in a corporate group as distinct legal entities and separate
taxpayers.
D. Purposive Considerations
[68]
The purpose of
subsection 84(4) is clear and straightforward: just as Canada wants to tax
dividends distributed out of a corporation’s net after-tax profits, Canada
wants to tax other distributions by corporations to their shareholders as
income to the extent those distributions are in excess of the shares’ paid-up
capital.
[69]
Paid-up capital is a
necessary and important part of the Act’s approach to the taxation of distributions
by corporations and it is specifically and extensively defined in the Act.
[70]
In simple terms, paid-up
capital represents the amount shareholders have invested in the corporation. In
circumstances where a shareholder purchases shares from another shareholder,
the purchase price is relevant only to the buyer’s cost and the seller’s
proceeds but does not increase or affect the shares’ paid-up capital since the
sale transaction did not result in an investment in the corporation itself. As
already mentioned, the computation of tax PUC is subject to bumps or grinds
where appropriate as determined by Canadian tax policy and the legislature.
[71]
Thus, stated simply,
the purpose of subsection 84(4) is to tax distributions, other than
dividends, paid by a particular corporation to its shareholders to the extent
the distribution exceeds the amount of capital invested in that corporation by that
corporation’s shareholders.
[72]
Determining the purpose
of the relevant provisions or portions of the Act is not to be confused
with abstract views of what is right and what is wrong nor with arbitrary
theories about what the law ought to be or ought to do. These latter views and
theories are unhelpful in purposive and contextual statutory analysis and may
even create mischief unless they are grounded in the realities of the codified
legislation. The purpose of the legislated scheme should be demonstrably
evident from the provisions of the Act, aided by any relevant,
permissible extrinsic aids. One’s sense of right and wrong or what good tax
policy should provide for or should not allow is not, for these purposes, a
permissible extrinsic aid.
E. Is There a Scheme of the Act Relating to Surplus
Stripping?
[73]
A further scheme of the
Act that could be put forward as part of a contextual analysis to
support the GAAR determinations is whether there is a scheme of the Act
that dividend or surplus stripping should not be allowed and the stripped
dividends should be taxed as income.
[74]
The first GAAR case
under the Act, McNichol et al. v. The Queen, 97 DTC 111
(TCC), found there to be such a scheme of the Act. The second GAAR case
also involved a dividend strip and was decided by the former Chief Justice Bowman.
RMM Canadian Enterprises Inc. et al. v. The Queen, 97 DTC 302
(TCC), similarly recognized, in obiter, such a scheme of the Act.
[75]
In RMM Canadian
Entreprises Bowman C.J. wrote (at 313):
To what Bonner, J. has said [in McNichol] 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.
[76]
Despite those initial early
successes, subsequent decisions have been unable to so clearly recognize such a
scheme of the Act. Indeed, Chief Justice Bowman in his post-Trustco decision
in Evans v. The Queen, 2005 TCC 684, 2005 DTC 1762,
significantly discounted his earlier decision in RMM Canadian Entreprises
when he wrote:
30 The only basis upon which I could uphold the Minister's
application of section 245 would be to find that there is some overarching
principle of Canadian tax law that requires that corporate distributions to
shareholders must be taxed as dividends, and where they are not the Minister is
permitted to ignore half a dozen specific sections of the Act. This is
precisely what the Supreme Court of Canada has said we cannot do.
. . .
34 Counsel argues that this case is similar to Justice
Bonner's decision in McNichol v. The Queen, 97 DTC 111 and mine in RMM
Canadian Enterprises Inc. et al., v. The Queen, 97 DTC 302. These cases
were early general anti-avoidance rule cases and we did not have the benefit of
the Supreme Court of Canada's guidance that we have today. If we had had the
benefit of the Supreme Court of Canada's views, our analysis might have been
quite different. The principal basis of my decision in RMM Canadian
Enterprises Inc. was subsection 84(2) of the Income Tax Act.
One must bear in mind that what the appellants were attempting to circumvent in
RMM and McNichol was subsection 84(2). That is not the
situation here. 117679 continued to carry on business and it in fact paid
dividends. The situation here is not analogous to the RMM and McNichol cases. In
any event, reference to these two early cases does not in my view satisfy the
onus that the Supreme Court of Canada has placed on the Crown.
[Emphasis added.]
[77]
Similarly, Campbell J. in Copthorne Holdings Ltd. v. The Queen,
2007 DTC 1230, wrote, at paragraph 73:
While the Act contains many provisions which seek to prevent
surplus stripping, the analysis under subsection 245(4) must be firmly
rooted in a unified textual, contextual and purposive interpretation of the
relevant provisions. As such, reliance on a general policy against surplus
stripping is inappropriate to establish abusive tax avoidance.
[78]
Also to like effect,
Lamarre J. in McMullen v. The Queen, 2007 DTC 286, wrote at
paragraph 56:
In conclusion, the respondent has not persuaded me, or has not
presented any evidence establishing, that there was any abuse of the Act
read as a whole, or that the policy of the Act read as a whole is
designed so as to necessarily tax corporate distributions as dividends in the
hands of shareholders. In any event, as the Supreme Court of Canada has said, “[i]f
the existence of abusive tax avoidance is unclear, the benefit of the doubt
goes to the taxpayer”. . .
[79]
The words of Bowman
C.J., Campbell J. and Lamarre J. apply equally in this case.
F. Did the Transactions Defeat or
Frustrate the Object, Spirit or Purpose of Subsection 84(4) and the Other
Provisions in Issue?
[80]
I now turn to the
second step of determining whether the Collins & Aikman reorganization and
distributions constituted abusive tax avoidance.
[81]
The transactions did
not rely on any specific provision of the Act to accomplish what the
provision sought to restrict.
[82]
The transactions did
not defeat the underlying rationale or purpose of any of the specific provisions
applicable or relied upon.
[83]
The real question in
this case is whether any abuse resulted from the impugned transactions
circumventing the application of subsection 84(4) in a manner that
frustrates or defeats the object, spirit or purpose of subsection 84(4)
and the greater scheme of the Act applicable to the taxation of corporate
distributions.
[84]
Prior to the series of
transactions, CAHL was a non-resident outside the Canadian tax régime except,
like all non-residents, subject to non-resident withholding tax on any Canadian-sourced
property income such as dividends or interest received from Canadians. That is,
prior to the reorganization, CAHL was worth $167 million and its
shareholder, Products, could have sold CAHL in order to realize on its Canadian
investments without any Canadian tax being payable. This is because the shares
of CAHL did not constitute taxable Canadian property which is the specific
definition in the Act which identifies assets with a sufficient nexus to
Canada to be regarded as giving rise to gains that should be taxed in Canada when
those gains are realized by a non‑resident on the sale of those assets.
[85]
The potential realization of
tax-free gains on the sale of CAHL by Products was not dependent upon CAHL’s residence
in a non-treaty country; Canada would not have taxed the gain if CAHL had been
resident in the United States. This was not dependent upon the existence or not of
a treaty; the Act itself does not generally seek to tax gains upon
shares of companies not resident in Canada even though historically they may have been
incorporated in Canada and even though their operating subsidiaries are
Canadian residents. If Products had realized on its CAHL shares for $167 million,
there would have been no Canadian tax payable and it could have invested the
amount in a Canadian holding company which in turn could acquire any number of
Canadian operating companies with any imaginable tax characteristics and
accounts such as PUC. The Act would not seek to redetermine those tax
accounts nor deny them $167 million of cross-border PUC or cost base.
[86]
The real reason the Collins &
Aikman reorganization plan worked under the Act (but for the possible
application of GAAR) is that CAHL was a non-Canadian holding company for the
Canadian operating companies and CAHL could be disposed of, whether for cash or
in a reorganization, and whether to a third party or to a related party,
without triggering Canadian tax. Such gain would only be taxable in accordance
with the tax laws of CAHL’s country of residence and that of its
shareholder(s). That is entirely in keeping with the scheme of the Act. As
written by the Federal Court of Appeal in Canada v. MIL (Investments) S.A.,
2007 FCA 236, 2007 DTC 5437, “the issue raised by GAAR is
the incidence of Canadian taxation, not the foregoing of revenues by [another
country’s] fiscal authorities”.
[87]
Removing the tax inefficiency
remaining with respect to the WCA note could be done in several ways. CAHL
could transfer its operating companies to a Canadian holding company and
distribute the shares of that company to Products. Since CAHL is a holding company
itself, another option was that Products could drop CAHL to a Canadian holding
company and have CAHL wound up or become a Canadian resident. Given the
particular circumstances of CAHL’s non-resident status, and given CAHL was
already the holding company for the Canadian Collins & Aikman companies, a
third option was that CAHL could itself become a Canadian resident. There would
undoubtedly be other ways as well.
[88]
Non-residents holding their
Canadian operating companies through a Canadian holding company is pretty much
standard operating procedure. It is fair to say that not to do so is the exception.
This is Tax 101.
[89]
The Collins &
Aikman group took professional advice on how to accomplish their reorganization
and, as part of that, considered the most appropriate structure to ensure that
Canadian taxes were not inadvertently or unnecessarily triggered and were
minimized on a going forward basis. The taxpayers acknowledge that the primary
purpose of choosing to accomplish this by transferring CAHL from Products to
Holdings was to get the benefit of high cross-border PUC that could be used to
return funds to Products as tax-free capital.
[90]
The transfer of CAHL to
Holdings subjected CAHL to Canadian tax on its income which it had not been
previously. It also caused CAHL’s shareholders to be subject to Canadian tax on
future capital gains realized on their Canadian investment (unless a tax treaty
Canada chose to enter into as part of its approach to the taxation of
non-residents on Canadian-sourced income provided otherwise).
[91]
The Act has
rules for becoming a Canadian resident corporation and subjecting oneself to
Canadian tax. For example, section 128.1 deals specifically with
non-resident corporations becoming Canadian residents, and
subsections 128.1(1), (2) and (3) provide for specific PUC adjustments. Similarly,
the Act has rules for non-residents owning Canadian corporations. These rules
are subject to intentional change in Canada’s
international treaty network. There has been no suggestion that those rules
were not fully complied with. The Crown has not taken the position that those
provisions were in any way abused or misused. (In its amended replies, the
Crown dropped its specific position that section 128.2 was misused.) With
respect to section 128.1 the Crown argued it evidences an intention to
restrict the importation of pre-existing foreign PUC. It does this by grinding
the PUC otherwise determined historically for the immigrating foreign
corporation. However, in this case the respondent is not challenging the pre‑existing
PUC of the immigrating corporation, CAHL, nor of any other corporation.
[92]
Nothing seems to turn
on CAHL having been a Canadian incorporated company that was not resident in
Canada. It appears that the same transaction could have been implemented had
CAHL been an ordinary non-resident company incorporated outside Canada. Presumably, being a Canadian incorporated company
may have facilitated its continuance under the OBCA or CBCA.
[93]
Similarly, nothing
appears to turn upon the amalgamation of CAHL with WCA and Borg. The money
distributed could have flowed tax-free up the chain of Canadian companies to
the top Canadian company, Holdings, and then distributed in the same manner to
its non-resident parent, Products, and subject to the same Canadian tax
consequences under the Act. The PUC of each of the Canadian corporations
would not have been particularly relevant. This amalgamation appears to have
simply been a housekeeping tidying up of the Canadian companies into a single
holding company instead of Holdings and CAHL, and a single operating company
instead of WCA and Borg.
[94]
When Products
transferred its CAHL shares to Holdings as part of the reorganization, the CAHL
shares had a fair market value of $167 million. As result of this transfer:
(i)
Products’ proceeds of
disposition for its CAHL shares was $167 million;
(ii)
Products’ cost of the Holdings
share it received was $167 million;
(iii)
Holdings added $167
million to its stated capital account;
(iv)
the paid-up capital of
the Holdings share was $167 million; and
(v)
Holdings’ cost of the
CAHL shares was $167 million.
[95]
Each of these results
is appropriate and I do not find any of these results to be abusive. Each of
the steps of the reorganization was appropriate and I do not find any of the
steps to be abusive. None of the steps in the reorganization transaction were
vacuous or artificial. No specific policy or provision was frustrated, defeated
or circumvented by the transactions.
[96]
In this respect the
transactions in this case differ from those considered by this Court and the
Federal Court of Appeal in Copthorne Holdings Ltd v. Canada,
2009 FCA 163, affirming 2007 DTC 1230. In that case the
courts could identify a specific provision of the Act – the definition
of “paid-up capital” – which, together with its interaction with the stated
capital provisions of the Business Corporations Act (Alberta), was designed
to eliminate the double-counting of PUC upon an amalgamation and which had been
intentionally circumvented or avoided by the addition of one step in a series
of transactions undertaken by the taxpayer which included an amalgamation. In
this case, the transfer of CAHL to Holdings by Products was not done to avoid a
provision of the Act which would otherwise deny the recognition as PUC
of the amount paid by a non-resident to a corporation as consideration for its
shares.
[97]
In argument, the Crown
emphasized that there was no new money invested in the Collins & Aikman
group’s Canadian companies that would justify the cross‑border paid-up
capital being increased from $475 thousand to $167 million. The answer to
this observation is simple. The Act clearly never limits itself to money
transactions. Consistently and throughout, the Act considers money’s
worth or value the equivalent to money whether in the context of employee and
shareholder benefits, shareholder appropriations, share-for-share exchanges or
the rollover of assets into corporations. Money’s worth and value are not just
incorporated into the income computation in the Act, but are also to be
accounted for in other tax accounts such as cost and paid-up capital. The
definition of “amount” in subsection 248(1) makes this abundantly clear.
[98]
This is not to say that
mere paper transactions will necessarily survive a GAAR challenge. In this case
however, there were real Canadian tax consequences to the reorganization. As
noted already, CAHL became a Canadian taxpayer subject to income tax under the Act
like any other Canadian resident. Previously it had not been. Similarly, CAHL’s
shareholder, Products a U.S. company, became the holder of taxable Canadian
property subject to the Canadian capital gains régime in respect of its indirectly
held CAHL shares in the future. Dividends received by Products from Holdings
(and indirectly CAHL) would now be subject to Canadian Part XIII
non-resident withholding tax. The régime in the Act setting out the
taxation of taxable Canadian property gains of non-residents, as amended by the
tax treaty Canada entered into with the United States, was also previously not
relevant to Products’ holdings of its CAHL shares.
[99]
The Canadian Act
sets out the régime for the taxation of Canadian residents. That régime
includes specific provisions that apply in a case of a non-resident corporation
becoming a resident corporation such as section 128.1 discussed briefly
above. Those provisions were drafted when Canadian tax policy makers specifically
turned their mind to the very issue of what should happen to Canadian tax
accounts of a corporation upon becoming resident in Canada. None of those
specific provisions apply or there would be no need to be considering GAAR.
[100]
I could repeat these last
comments as regard the Canadian taxation régime applicable to non-residents who
acquire taxable Canadian property and the taxation of their gains, regardless
of how the taxable Canadian property was acquired including if property becomes
taxable Canadian property as a result of something the investee corporation
does such as purchasing Canadian real estate or resource properties or becoming
a Canadian resident.
[101]
I could also restate
the same as regards the amendment to these Canadian tax régimes negotiated and
agreed to by Canada in its tax treaties, perhaps with even
greater force.
[102]
Finally, I could also
restate the same as regards the provisions in the Act dealing with
non-arm’s length transactions including those dealing with valuations, proceeds
of disposition, adjusted cost base, computation of paid-up capital, and the
recognition or deferral of gains.
[103]
The most important
considerations of consistency, fairness and predictability would be
significantly eroded if GAAR were to be lightly applied and upheld relying on
the fact that there was no new money in circumstances where it is clear there
was real value and money’s worth.
[104]
The Collins &
Aikman group reorganization (which is only one part of the impugned series of
transactions, the second being the distributions) is, of itself, a clear
example of when it would be inappropriate to regard transactions as abusive tax
avoidance. Canada has internally adopted a régime that says: if you become a
Canadian resident, these specific things will affect your Canadian tax
accounts. Similarly, our domestic legislation provides that if you hold taxable
Canadian property your cost of that property will be determined in a specific
manner. Canada has agreed with its treaty partners that,
if a resident of one of those countries becomes subject to the Canadian tax
régime, further specific Canadian tax considerations will apply. Those specific
Canadian legislative provisions or treaty provisions do not make any
distinction between new money and value. I simply cannot see any merit in the
Crown’s position that this contributes to the corporate reorganization being
part of a series of transactions that constitutes abusive Canadian tax
avoidance.
[105]
While not specifically
argued, one might wonder if the specific dividend stripping rule in
section 212.1 was avoided in this case and whether that avoidance could be
considered to be abusive. Section 212.1, like its counterpart
section 84.1 applicable to residents, only applies to transfers of
Canadian corporations. The tax consequences of the Collins & Aikman
reorganization would have been significantly different if section 212.1
applied to the transfer of the CAHL shares from Products to Holdings. Indeed,
in all likelihood such a step would never have been undertaken if CAHL was a
Canadian corporation immediately prior to the reorganization. In other words,
the chosen plan’s success depended upon section 212.1 not applying.
However, I am unable to conclude that its application was avoided as part of
the series of transactions for two reasons. First, the technical reason is that
the 1961 loss of Canadian residence by CAHL was not pleaded to be part of the
series of transactions, nor in all likelihood could it be concluded to be part
of the series in any event. More importantly, from a common sense,
predictability, consistency and fairness point of view, CAHL ceased to be a
Canadian corporation in 1961 long before section 212.1 had ever been
drafted – even well before the 1960’s Carter Commission Report which gave rise
to a complete revision of Canadian corporate taxation in the early 1970s.
[106]
One of the taxpayers’ more
technical arguments is that they could not have misused subsection 84(4) since
they did not use it or rely on it. The taxpayers maintain, in effect, that subsection 84(4)
did not apply because Holdings did not distribute an amount in excess of its paid-up
capital. In support of the proposition that a provision of the Act
cannot be misused if it is not used the taxpayers rely upon the decision of
this Court upheld by the Federal Court of Appeal in Canada v. Jabin
Investments Ltd., 2002 FCA 520, 2003 DTC 5027.
[107]
It is not clear to me
that such an argument, which treats misuse of a provision and abuse of the Act
read as a whole separately, survives the Supreme Court of Canada’s decision in Trustco.
In Trustco the Supreme Court mandates a unified approach that somewhat
melds the statutory language in subsection 245(4) together to require me
to determine whether the impugned series of transactions in this case results
in an abuse of subsection 84(4) read in the context of the greater scheme
of the Act of which subsection 84(4) is part.
[108]
In any event, I do not
agree with the taxpayers’ premise that subsection 84(4) did not by its
terms apply. This may be a matter of semantics, but in particular in taxing
legislation the chosen words are important. Subsection 84(4) applies every
time a corporation returns capital. Its opening words are “[w]here at any time .
. . a corporation resident in Canada has reduced the paid-up capital in respect
of any class of shares of its capital stock. . .”. These words make it clear
that subsection 84(4) is triggered and must be applied. I agree that (absent
the GAAR determinations) the effect of the application of subsection 84(4)
is not to deem any amount to be a dividend in the circumstances. That is not to
say it did not apply to the transactions. Even if the taxpayers’ Jabin
Investments argument does survive the Trustco-mandated approach to
the interpretation of subsection 245(4), I would equate the fact that
subsection 84(4) was applicable to any step in the series to it being used
and therefore capable of having been misused.
[109]
By way of concluding
summary, the reasons that Collins & Aikman group’s reorganization and
recapitalization transactions permitted, absent GAAR, tax-free returns of
capital by Holdings to Products are (i) section 212.1 only applies to
non‑residents in respect of their Canadian corporations and CAHL was not
a Canadian corporation, (ii) Products could dispose of its CAHL shares without
attracting Canadian capital gains tax because the CAHL shares were not taxable
Canadian property because CAHL was not a Canadian resident, and (iii) little
or no tax may have been payable in CAHL’s country of residence because it is a
no-tax or low-tax country. While these may be reasons that the chosen plan
worked as tax‑effectively as it did, none of these involved the degree of
artificiality, boldness, vacuity or audacity to rise to the level of being a loophole
or gimmick in common parlance, nor abusive tax avoidance using the language of
the Act and the GAAR. In the words of Paris J. in Landrus v. The
Queen, 2008 TCC 274, 2008 DTC 3583, the Minister has
tried to use the GAAR to fill in what he perceives to be a possible gap left by
Parliament; that would be an inappropriate use of the GAAR.
[110]
For the foregoing
reasons, the taxpayers’ appeals are allowed in full, with costs, and the
assessments and determinations are referred back to the Minister of National
Revenue for reconsideration, reassessment and redetermination on the basis that
the general anti-avoidance rule in section 245 does not apply to the reorganization
or the recapitalization.
Signed at Ottawa, Canada, this 3rd
day of June 2009.
"Patrick Boyle"
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