REASONS FOR JUDGMENT
Jorré J.
[1]
The issue herein is whether the Minister of
National Revenue was correct in applying the general anti-avoidance rule when
assessing Guy Gervais. The general anti-avoidance rule is cited by the
respondent in circumstances where the appellants used a plan which, apparently,
is often referred to as a "half-loaf" in English.
[2]
In my reasons dated April 23, 2014, I allowed
Lysanne Gendron’s appeal and dismissed Guy Gervais’s appeal. I also ruled
that I did not need to consider the general anti-avoidance rule. In its January 6,
2016 decision, the Federal Court of Appeal allowed Guy Gervais’s appeal
and dismissed the respondent’s appeal in the case involving Lysanne Gendron.
The Court of Appeal referred both matters to our Court to have the application
of the general anti-avoidance rule examined and determined.
Simplified overview
[3]
There is no dispute regarding the amounts at
issue, and to simplify this overview, I will round off the numbers.
[4]
In early 2002, Mr. Gervais was a
shareholder in a family business. Ms. Gendron, his spouse, was not a
shareholder.
[5]
In the summer of 2002, an arm’s length company,
BW Technologies Ltd., offered to buy the business, and the shareholders, Mr. Gervais
and his brother Mario Gervais, accepted the offer to purchase before
September 26, 2002.
[6]
On September 26, 2002, Mr. Gervais
sold one million of his shares in the family business to Ms. Gendron for
$1,000,000, the fair market value of the shares, and he elected to realize his
gain by disposing of his shares, which
resulted in Ms. Gendron’s adjusted cost base being $1,000,000.
[7]
Ms. Gendron knew that the offer to purchase
had been accepted before she became a shareholder, and at the time that she
purchased the shares, she was intending to sell them a few days later.
[8]
Four days later, on September 30, 2002,
Mr. Gervais gave gratuitously to Ms. Gendron one million of his
shares, and
there was a rollover under subsection 73(1) of the Income Tax Act.
As a result, he did not realize a gain, and Ms. Gendron was deemed to have
acquired the shares at Mr. Gervais’s adjusted cost base, a minimal amount.
For purposes of this overview, let us say this amount was $0.
[9]
Seven days after the gift, on October 7,
2002, Ms. Gendron sold all her shares in the family business to BW
Technologies for the sum of $2,000,000.
[10]
In her income tax return for the 2002 taxation
year, Ms. Gendron included a capital gain in respect of the sale of
shares. In calculating her gain, she applied the mechanism provided for in
subsection 47(1) of the Act. Consequently, she considered that the cost of all of her shares in the
family business was $1,000,000. She made the following calculations in her
return:
|
|
Proceeds of disposition
|
$2,000,000
|
|
Minus:
|
Adjusted cost base
|
($1,000,000)
|
|
|
Capital gain
|
$1,000,000
|
|
Minus:
|
Portion of the gain attributed to Mr. Gervais
|
($500,000)
|
|
|
Ms. Gendron’s capital gain
|
$500,000
|
|
|
Ms. Gendron’s taxable capital gain
|
$250,000
|
|
Minus:
|
Capital gain deduction
|
($250,000)
|
|
|
Final result
|
$0
|
[11]
Consequently, Ms. Gendron paid no taxes on
her disposition of the company’s shares and half of the gain was attributed to
Mr. Gervais.
[12]
According to the Minister, this result is not conform
to the Act, and the $250,000 taxable capital gain must be removed from
Ms. Gendron’s income and added to Mr. Gervais’s income under the
general anti-avoidance rule.
Facts
[13]
Vulcain Alarme inc., a medium-sized family
business, was sold in 2002.
[14]
In May or June 2002, when BW Technologies made a
first offer to purchase the business, Mr. Gervais and his brother Mario
were shareholders; Ms. Gendron was not a shareholder.
[15]
After certain transactions described below, on
October 7, 2002, BW Technologies purchased the business from, among
others, Mr. Gervais and Ms. Gendron.
[16]
In her income tax return for the 2002 taxation
year, Ms. Gendron reported a taxable capital gain in respect of the sale
of her shares in the business. She used the capital gain exemption.
[17]
The Minister made a reassessment in respect of
Ms. Gendron on the basis that her gain from the sale of shares was income,
not a capital gain.
[18]
The Minister also reassessed Mr. Gervais,
applying the general anti‑avoidance rule in order to include the taxable
capital gain realized by Ms. Gendron in Mr. Gervais’s income.
[19]
The Minister conceded that he could not be
correct in both appeals. It is now certain that the Minister erred when
assessing Ms. Gendron.
[20]
The Vulcain corporation is a family company
started by Mr. Gervais’s father, Clément Gervais. Vulcain is, among
other things, a manufacturer of toxic gas monitors. The monitors are most often
used to measure carbon monoxide in parking garages.
[21]
When the business was first started,
Mr. Gervais’s father and mother worked together, and the offices were in
the basement of the family home.
[22]
At age 14, Mr. Gervais started working in
the family business in the summers.
[23]
Mr. Gervais was trained as an engineer.
After his studies at the École Polytechnique, he started working at the family
business.
[24]
In 1988, when he started working for the
business, the company office moved from the basement of the family home to the
garage; there were four employees, including his father and him.
[25]
When he started, the sales were around $750,000
to $800,000, 20% lower than the best year two years before that.
[26]
Subsequently, the business grew significantly.
The business moved from the garage to a 3,600-square-foot facility. In 2000,
there were about 100 employees.
Partial Agreements on the
Facts
[27]
The parties filed Partial Agreements on the
Facts. The facts are reproduced below. To make the statement of facts in a more logical fashion, I have
also added some facts from evidence other than the Partial Agreements on the
Facts; I have indicated the additions in footnotes.
The parties agree that the facts listed below are true
[28]
Vulcain was incorporated by Clément Gervais
on February 29, 1968, under Part IA of the Quebec Companies Act.
[29]
Vulcain operated a business in the field of
manufacturing toxic gas and explosives detectors.
[30]
On or about February 16, 1983, Guy Gervais
acquired a common share of Vulcain for $10. Since then, the share capital of
the corporation has been held by Clément Gervais and his three sons, Guy,
Mario and Robert.
[31]
Guy Gervais and Lysanne Gendron were
married in 1987.
[32]
In 1988, Guy Gervais became a director of
Vulcain.
[33]
From 1968 until the outright sale of the Vulcain
shares to BW Technologies in 2002, Vulcain share capital was always held by
Clément Gervais and/or his sons.
[34]
On January 26, 2001, a unanimous agreement
of Vulcain’s shareholders was signed by Clément Gervais, Mario Gervais
and Guy Gervais.
[35]
In 2002, Guy Gervais was the sole director
of Vulcain.
[36]
In 2002, BW Technologies presented an offer to
purchase with the goal of acquiring Vulcain.
[37]
In May or June 2002, the appellants learned
from an intermediary’s letter that a company wanted to purchase Vulcain. Soon
after, they learned that it was BW Technologies in Calgary.
[38]
Some time later, the president of BW
Technologies came to visit the company.
[39]
On June 12, 2002, a confidentiality
agreement was signed between BW Technologies and Vulcain.
[40]
Several weeks after the visit of the president
of BW Technologies, the appellants received an offer to purchase for
approximately $7,500,000. It was provided that it expired two weeks later and
came at about the time when the appellants were getting ready to go on a trip
to Maine.
[41]
There was a non-binding offer to purchase signed
on August 31, 2002, which was amended on September 26, 2002.
[42]
The offer to purchase the entire share capital
was accepted by Vulcain’s shareholders, Guy Gervais and Mario Gervais,
before September 22, 2002.
[43]
Lysanne Gendron was aware of the offer to
purchase and knew that it had been accepted by the shareholders before she
became a shareholder.
Modifications made to the
share capital
[44]
On August 26, 2002, Vulcain’s only two
shareholders were Guy Gervais and Mario Gervais, with the shares divided as follows:
a) Guy Gervais held 790,000 common class A
shares and 5,120 preferred class I shares; and
b) Mario Gervais,
Guy Gervais’s brother, held 200,000 common class A shares and 5,120 preferred
class I shares.
[45]
On or about September 26, 2002, Guy Gervais
converted his 790,000 common class A shares into 2,087,778 preferred
class E shares and 4,168,192 common class B shares.
[46]
For the purposes of the Act, Guy Gervais
elected to use the tax rollover mechanism set out in section 85 of the
Act.
[47]
On or about September 26, 2002, Mario Gervais
also converted his 200,000 common class A shares into 1,583,790
preferred class E shares.
[48]
The preferred class E shares included,
among other things, the following rights, privileges and restrictions:
non-voting, non-participating, preferential and non-cumulative monthly dividend
of 1% per month calculated on the "redemption value" with preference over class A, B, F, and G shares, but after class
D, H, I and J shares, redeemable at the request of the shareholder or by mutual
consent.
[49]
On conversion, each of the class E and B
shares had a fair market value of $1 per share.
[50]
On September 26, 2002, Vulcain authorized
the transfer of 4,168,192 common class B shares held by Guy Gervais to
9120-9957 Québec inc.
[51]
On September 26, 2002, Guy Gervais
transferred his 4,168,192 common class B shares to 9120-9957 Québec, a
corporation in which he held all of the share capital.
[52]
For the purposes of the Act, Guy Gervais
elected to use the tax rollover mechanism provided for in section 85 of
the Act with regard to this transfer.
[53]
Before September 26, 2002, Lysanne Gendron
was not a shareholder in Vulcain.
[54]
As shown in the document entitled [translation] "Share Purchase Agreement" dated September 26, 2002, Guy Gervais sold 1,043,889
preferred class E shares to Lysanne Gendron for $1,043,889.
[55]
The agreement stipulated that Lysanne Gendron
could not [translation] "assign her rights and obligations
hereunder to any person without the prior consent of Guy Gervais to that
effect."
Without Guy Gervais’s permission, Lysanne Gendron could not sell her
shares to anyone other than BW Technologies.
[56]
As shown in the share purchase agreement,
Lysanne Gendron had to pay the purchase price by giving Guy Gervais a
promissory note payable within five years with an annual interest of 4.5%.
[57]
Article 2.2 of the agreement provides for
five equal payments of $208,777 on December 31, 2002, 2003, 2004, 2005 and
2006 plus interest (article 2.3). Lysanne Gendron made the payments.
[58]
For the purposes of the Act, in his tax return
for 2002, Guy Gervais chose not to take advantage of the provisions in
subsection 73(1) of the Act. Consequently (for the purposes of the Act):
a) since the adjusted cost base of these shares
is $43,889, Guy Gervais realized a capital gain of $1,000,000; and
b) the
adjusted cost base of the shares purchased by Lysanne Gendron was
$1,043,889.
[59]
As shown in a notarial act dated September 30,
2002, Guy Gervais gave gratuitously to Lysanne Gendron 1,043,889
preferred class E shares.
[60]
For the purposes of the Act, Guy Gervais
did not choose to have his transaction performed on September 30, 2002, be
exempt from the application of subsection 73(1) of the Act. Consequently
(for the purposes of the Act):
a) Guy Gervais is deemed to have disposed of
shares for an amount equal to the adjusted cost base of the shares, namely,
$43,889; and
b) Lysanne Gendron
is deemed to have acquired shares for an amount equal to the adjusted cost base
of the shares, namely, $43,889.
[61]
From September 26 to October 7, 2002,
Lysanne Gendron did not intend to keep the shares of Vulcain as an
investment.
[62]
From September 26 to October 7, 2002,
Lysanne Gendron did not intend to hold the shares of Vulcain over the long
term and was not planning to earn property income from them.
[63]
Lysanne Gendron knew that she would not
receive any dividends relative to the Vulcain shares during the period from
September 26 to October 7, 2002.
[64]
On September 26, 2002, Lysanne Gendron’s
intention was to sell the Vulcain shares she held on or about October 7,
2002, when the contract to sell Vulcain’s entire share capital to BW
Technologies would be signed.
[65]
When Lysanne Gendron bought the shares, she
did not have the financial means to pay for the shares, but she could do so
because she was going to resell the shares to BW Technologies.
Sale of Vulcain shares to
BW Technologies
[66]
On or about October 7, 2002, BW
Technologies acquired the entire share capital of Vulcain for a total of
$7,850,000.
[67]
As shown in the contract of sale, the price was
broken down as follows:
a) $2,087,778
for 2,087,778 preferred class E shares held by Lysanne Gendron;
b) $5,120
for 5,120 preferred class I shares held by Guy Gervais;
c) $5,120
for 5,120 preferred class I shares held by Mario Gervais;
d) $4,168,192
for 4,168,192 common class B shares held by 9120-9957 Québec; and
e) $1,583,790
for 1,583,790 common class B shares held by Mario Gervais.
Guy Gervais’s and Lysanne Gendron’s tax returns
[68]
In her income tax return for the 2002 taxation
year, Lysanne Gendron determined the average cost of 2,087,778 preferred
class E shares at $1,087,778 ($1,043,889 + $43,889) by applying the mechanism
provided in subsection 47(1) of the Act and reported a capital gain calculated
as follows:
|
Proceeds of disposition
|
$2,087,778
|
|
Adjusted cost base
|
($1,087,778)
|
|
Capital gain
|
$1,000,000
|
|
Expenses incurred for the disposition
|
($13,809)
|
|
Capital gain
|
$986,191
|
|
Capital gain allocated to Guy Gervais
|
($486,191)
|
|
Capital gain after allocation
|
$500,000
|
|
Taxable capital gain
|
$250,000
|
|
Capital gain deduction
|
($250,000)
|
|
Net
|
0
|
[69]
In his income tax return for the 2002 taxation
year, Guy Gervais reported a capital gain calculated as follows:
|
1st
disposition/Lysanne Gendron/
September 26,
2002
|
|
|
Proceeds of
disposition
|
$1,043,889
|
|
Adjusted cost base
|
($43,889)
|
|
Capital gain
|
$1,000,000
|
|
|
|
|
2nd
disposition/gift to Lysanne Gendron/
September 30,
2002
|
|
|
Proceeds of
disposition
|
$43,889
|
|
Adjusted cost base
|
($43,889)
|
|
Capital gain
|
0
|
|
|
|
|
Sale to BW
Technologies
|
|
|
Proceeds of
disposition
|
$5,120
|
|
Adjusted cost base
|
($5,120)
|
|
Capital gain
|
0
|
|
|
|
|
Total capital gain
|
$1,000,000
|
|
Expenses incurred for
the disposition
|
($13,809)
|
|
Capital gain
|
$986,191
|
|
Capital gain
allocated to Guy Gervais
|
$486,191
|
|
Capital gain after
allocation
|
$1,472,382
|
|
Provision requested
|
($788,953)
|
|
Capital gain
|
$683,429
|
|
Taxable capital
gain
|
$341,714
|
|
Capital gain
deduction
|
($158,720)
|
[70]
In 2002, the maximum amount that Guy Gervais
could claim as a capital gain deduction was $158,720, namely, the balance
available in respect of this deduction.
Adventure or concern in the nature of trade
[71]
On September 26, 2002, Lysanne Gendron:
a) knew the terms and conditions of the sale of
the entire share capital of Vulcain to BW Technologies;
b) knew the sale price that had been negotiated
between BW Technologies and Vulcain and/or Vulcain’s shareholders;
c) knew the time limit set for the sale of
Vulcain’s shares to BW Technologies; and
d) knew that a significant profit would be made
from the sale of Vulcain’s shares and, specifically, the preferred shares.
[72]
The above paragraph is the last one from the
Partial Agreements on the Facts.
Other facts
[73]
Ms. Gendron had worked as a salaried
employee at Vulcain since 1992, but she had had some involvement in the
company before.
[74]
Ms. Gendron was very active in the
business. In the early 2000s, she was in charge of all of its management. Among
other things, she was in charge of human resources at the New York and Toronto
offices. She was constantly discussing operations with Mr. Gervais and all
of the important decisions that the business had to make.
[75]
When the business bought the shares of Mr. Gervais’s
father, money had to be borrowed and securities given. Ms. Gendron agreed,
among other things, to a hypothec on the family home as security.
[76]
Mr. Gervais testified that when they had
made the decision to sell, they had decided to get advice from the law firm of McCarthy
Tétrault.
[77]
He asked their legal counsel to do three things:
a) to advise them during the negotiations to
ensure that their interests were protected;
b) to advise them on the taxation aspects; and
c) to advise them regarding Mr. Gervais’s
wish to recognize Ms. Gendron’s contribution so that she received
$1,000,000.
[78]
McCarthy Tétrault proposed the transaction
structure and the appellants accepted it.
[79]
Mr. Gervais and Ms. Gendron were both
present at the meetings with McCarthy Tétrault.
Analysis
The general anti-avoidance
rule
[80]
The general anti-avoidance rule is set out in
section 245 of the Act. We also need to consider subsection 248(10)
of the Act. Section 245 and subsection 248(10) are appended hereto.
[81]
If we simplify section 245 by removing the
portions of the text that are not relevant to this litigation, section 245
reads as follows:
Definitions
245(1) In this section,
tax
consequences to a person means the amount of
income, taxable income . . ., tax . . . or any other amount that is relevant
for the purposes of computing . . . taxable income, or taxable income . . . of
this person or the tax . . .
tax
benefit means a reduction, avoidance or
deferral of tax or other amount payable under this Act . . .
. . .
General
anti-avoidance provision
(2) Where a
transaction is an avoidance transaction, the tax consequences to a person shall
be determined as is reasonable in the circumstances in order to deny a tax
benefit that, but for this section, would result, directly or indirectly, from
that transaction or from a series of transactions that includes that
transaction.
Avoidance
transaction
(3) An avoidance
transaction means any transaction
(a) that, but for this section, would
result, directly or indirectly, in a tax benefit . . .;
(b) that is part of a series of
transactions, which series, but for this section, would result, directly or
indirectly, in a tax benefit,
[unless the
transaction may reasonably be considered to have been undertaken or arranged
primarily for bona fide purposes other than to obtain the tax benefit]
Application of subsection (2)
(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 . . .
(i) this Act,
. . .
(b) would result directly or indirectly in
an abuse having regard to those provisions, other than this section, read as a
whole.
Determination of tax consequences
(5) . . . in determining the tax consequences to a person as is
reasonable . . . in order to deny a tax benefit that . . .
. . .
(b) . . . any
income . . . or . . . other amount or part thereof may be allocated to any
person;
. . .
[82]
If we continue to simplify and restructure the
text, the critical part of section 245 in the context of this appeal is:
Where a transaction is an avoidance
transaction, the tax consequences to a person shall be determined as is
reasonable in the circumstances in order to deny a tax benefit.
However, this rule does not apply if the
transaction does not result in a misuse of the provisions of the Act.
If the general anti-avoidance rule
applies, in determining the tax consequences to a person as is reasonable in
the circumstances in order to deny a tax benefit, an income or other amount may
be allocated to a person.
Definitions
Tax consequences to a person: his income, taxable income, tax or any other amount that is
relevant for the purposes of computing the income.
Tax benefit: reduction, avoidance or deferral of tax.
Avoidance transaction: any transaction, or transaction that is part of a series of
transactions, which would result in a tax benefit unless the transaction may
reasonably be considered to have been undertaken or arranged primarily for bona
fide purposes other than to obtain the tax benefit.
[83]
For our purposes, the general anti-avoidance
rule can be summarized as follows:
If a transaction
1. Results in a tax benefit,
2. The main purpose of the transaction is
to obtain the benefit and
3. The
transaction is a misuse of the provisions of the Act
The tax consequences
to a person shall be determined as is reasonable in the circumstances in order
to deny a tax benefit.
[84]
With respect to the facts, the burden is on the
taxpayer to refute the Minister’s assumption that there is a tax benefit
and an avoidance transaction.
[85]
With respect to the issue of whether there was
an abuse:
65 . . . 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.
[86]
The Minister’s obligation to demonstrate the
existence of an abuse can largely be described as a "burden of persuasion." As Chief Justice Bowman said in Evans v. The Queen:
. . . The words
“burden of proof” of which the Supreme Court of Canada speaks may imply an
evidentiary burden but primarily they impose a requirement that the Crown
identify the object, spirit or purpose of the relevant legislation that is said
to be frustrated or defeated. This might be described as a “burden of
persuasion” although this is not the usual sense of the expression “burden of
proof.” . . .
[87]
The following three issues therefore need to be
examined:
Was there a tax benefit?
Was the transaction giving rise to the
tax benefit an avoidance transaction?
Was the avoidance transaction giving rise
to the tax benefit abusive?
[88]
If I conclude that these three conditions are
satisfied and the general anti-avoidance rule applies, I must determine the tax
consequences to Mr. Gervais as is reasonable in the circumstances in order to
deny a tax benefit that results from the transaction or from the series of
transactions.
First issue: Was there a
tax benefit?
[89]
As we have seen in paragraph 81, the
concept of a tax benefit is broadly defined.
[90]
In cases where a deduction is requested, the tax
benefit will usually be evident. However, in other cases:
35 . . . the existence of a tax benefit can
be established by comparison of the taxpayer’s situation with an alternative
arrangement . . . If a comparison approach is used, the alternative arrangement
must be one that . . . “might reasonably have been carried out but for the
existence of the tax benefit” . . . By considering what a corporation would
have done if it did not stand to gain from the tax benefit, this test attempts
to isolate the effect of the tax benefit from the non-tax purpose of the
taxpayer.
Arguments of the parties
[91]
Mr. Gervais is of the opinion that there is
no tax benefit in his favour. According to him, if there is a tax benefit, it
was realized by Ms. Gendron who used her capital gains deduction as provided
for in subsection 110.6(2.1) of the Act. As a result, because it is
Mr. Gervais’s return, and not Ms. Gendron’s, which has been
reassessed based on the general anti-avoidance rule, Mr. Gervais is of the
view that the assessment made under subsection 245(2) should be annulled.
[92]
The respondent is of the opinion that the tax
benefit arises from the fact that in the absence of the series of transactions
at issue, Mr. Gervais would have been taxed on the sale of Vulcain’s
entire share capital to BW Technologies, which he held on September 25,
2002, including the $250,000 taxable capital gain made by Ms. Gendron
rather than Mr. Gervais. The tax benefit arises from the fact that
Mr. Gervais did not pay tax on the $250,000 taxable capital gain.
Analysis
[93]
For the following reasons, I agree with the
respondent that Mr. Gervais received a tax benefit. That is evident if we
apply the comparative method set out by the Supreme Court of Canada.
[94]
Mr. Gervais had two different objectives:
i) to sell his Vulcain shares, and ii) to give Ms. Gendron
$1,000,000.
[95]
These objectives could easily have been achieved
by simply selling his class E shares to BW Technologies and then giving
Ms. Gendron $1,000,000. If Mr. Gervais had done this, he would have
realized all the capital gain from the sale of the class E shares, and he would
have included the taxable capital gain from the sale of the class E shares in
his income tax return.
[96]
It is clear that there is a tax benefit. Simply
put, the tax benefit that Mr. Gervais received is that as a result of the
plan, he
avoided being taxed on a $250,000 taxable capital gain.
Second issue: Was the transaction giving rise to the tax
benefit an avoidance transaction?
[97]
As we have seen above, an avoidance transaction is a transaction, or a transaction that is
part of a series of transactions, that result in a tax benefit unless the
transaction may reasonably be considered to have been undertaken or arranged primarily
for bona fide purposes other than to obtain the tax benefit.
[98]
The Supreme Court of Canada explained how to
address this issue in Copthorne Holdings Ltd. v. Canada:
40 Where . . .
the Minister assumes that the tax benefit resulted from a series of transactions
rather than a single transaction, it is necessary to determine if there was a
series, which transactions make up the series, and whether the tax benefit
resulted from the series. . . . If any transaction within the series is not
undertaken primarily for a bona fide non-tax purpose that transaction
will be an avoidance transaction.
41 The first
consideration is whether there was a series that resulted in a tax benefit. As
I will explain below, it will be necessary to consider when a transaction which
is related to a common law series of transactions is part of a series of
transactions as defined in s. 248(10) of the Income Tax Act. The
second consideration is whether any of the transactions within the purported
series is an avoidance transaction.
. . .
43 . . . this Court accepted that the scheme of the Act provides for
an expansive approach to the series issue. The starting point is the common law
series taken from English law where “each transaction in the series [is]
pre-ordained to produce a final result” . . . This common law series is
expanded by s. 248(10) of the Act which deems any “related transactio[n]”
which is completed “in contemplation of” (i.e. “in contemplation of” the
following series Trustco) a series to be part of that series. . . .
[Emphasis added.]
[99]
If there are both tax and non-tax purposes to a
transaction, it must be determined whether it was reasonable to conclude that
the non-tax purpose was primary. An objective assessment of the relative
importance of the driving forces of the transaction is sufficient.
Arguments of the parties
[100] The appellants’ counsel submits that exercising a choice cannot be
considered an avoidance transaction within the meaning of
subsection 245(3) of the Act. He also argues that to choose one transaction
over another transaction, which would have achieved an equivalent outcome, but
would have resulted in a higher amount of tax, does make the transaction an
avoidance transaction.
[101] He also submits that the transactions were made to enable
Ms. Gendron to benefit from the proceeds of the sale. In support of his
argument, he notes that Ms. Gendron actively participated in the development
of Vulcain. He also points out that she used part of the funds that she
received from the sale to purchase a condominium for her father and make
personal investments. As a result, each transaction in the series had a bona
fide purpose and, consequently, the general anti-avoidance rule should not
apply.
[102] The respondent argues that the transactions at issue constitute a
series of transactions because they were "pre-ordained in order to produce a given result" with "no practical likelihood that the pre-planned events would not
take place in the order ordained." The respondent also argues that each transaction performed in the
series constituted an avoidance transaction:
1. Reorganization of the share capital to create
the class E non-voting, non-participating shares, whose transfer was limited;
2. Sale and gift of these shares to
Ms. Gendron;
3. Choices made or not made by Mr. Gervais
under subsection 73(1) of the Act;
4. Use of the mechanism set out in
subsection 47(1) of the Act to compute the gain made by Ms. Gendron;
5. Ms. Gendron’s
use of her capital gains deduction provided for in subsection 110.6(2.1)
of the Act.
[103] She points out that the purpose of the series of transactions was to
"maximize taxation" on the sale of Mr. Gervais’s shares and that the transfer of
the shares to Ms. Gendron was only a transitional step.
Analysis
[104] Because the alleged tax benefit results from a series of
transactions, it is first necessary to identify the series of transactions at
issue and then determine whether each transaction in the series was made mainly
for bona fide purposes.
Series of transactions
[105] I must therefore determine whether the steps of the plan at issue
were "pre-ordained in
order to produce a given result" [with] "no
practical likelihood that the pre-planned events would not take place in the
order ordained."
[106] Before proceeding with this analysis, I must determine which steps
constitute a "transaction" within the meaning of subsection 245(2) of the Act. In this
regard, I note the reorganization of share capital to create the class E
shares, the sale of the first block of class E shares to Ms. Gendron, the
gift of the second block of class E shares to Ms. Gendron and finally,
Ms. Gendron’s sale of class E shares to BW Technologies.
[107] Ms. Gendron was aware of the offer to purchase, which she
discussed with Mr. Gervais. Mr. Gervais and Ms. Gendron both
participated in the meetings with McCarthy Tétrault, who prepared the plan.
Before purchasing the class E shares, Ms. Gendron knew that she would soon
resell them to BW Technologies. The share purchase agreement stipulated that
she could not cede her shares to anyone but BW Technologies, without having
obtained prior consent from Mr. Gervais. Everything was planned in
advance.
[108] I have no difficulty concluding that the various transactions listed
above were pre-ordained in order to produce a given result and that there was
no practical likelihood that the pre-planned events would not take place in the
order ordained. Therefore, there was obviously a series of transactions.
[109] Before turning to the issue whether there is an avoidance
transaction, I will make the following comment. Tax considerations and choices
were also involved in the various transactions identified. The choice allowed
under subsection 73(1) of the Act was made in connection with the sale of
the first block of shares so as to produce a capital gain for Mr. Gervais.
Not exercising the choice allowed under subsection 73(1) of the Act
regarding the second block of shares received by Ms. Gendron as a gift
resulted in a rollover of the adjusted cost base. This triggered the
application of subsection 47(1) of the Act, under which the adjusted base
price of the two blocks of shares held by Ms. Gendron was combined after
they were transferred. Subsequently, the sale of the two blocks of shares to BW
Technologies triggered a $1,000,000 capital gain. As a result of that gain, a
taxable capital gain of approximately $250,000 was attributed to Mr. Gervais pursuant to
subsection 74.2(1) of the Act. Finally, Ms. Gendron eliminated the
tax on her remaining capital gain by using her capital gains deduction under
subsection 110.6(2.1) of the Act.
Avoidance transaction?
[110] We now need to determine whether all the transactions in the series
of transactions were performed for bona fide purposes. In this regard,
the appellants argue that the main purpose of the plan was to allow
Ms. Gendron to benefit from the proceeds of the sale of Vulcain to BW
Technologies.
[111] I am satisfied that Ms. Gendron contributed to the development
of the business. I am also satisfied that Ms. Gendron benefited from the
sale; she used the money from the sale to buy a condominium for her father and
for various purchases in addition to making several personal investments. The
plan also sought to "maximize taxation."
[112] There is a bona fide purpose: gifting $1,000,000 to
Ms. Gendron in recognition of her contribution to the business. This
purpose coexisted with the purpose of reducing taxes.
[113] However, "[i]f
any transaction within the series is not undertaken primarily for a bona fide
non-tax purpose that transaction will be an avoidance transaction." However, Mr. Gervais’s sale of shares to Ms. Gendron was
not absolutely necessary in order to make a gift to Ms. Gendron and, as a result, there is no bona fide purpose for this
transaction.
[114] This transaction, the sale of the shares to Ms. Gendron, was
necessary only to obtain a tax benefit: preventing Mr. Gervais from having
to pay tax on part of the capital gain. This benefit was obtained by
transferring this same part of the capital gain to Ms. Gendron.
[115] As a result, there was an avoidance transaction.
Third issue: Was the avoidance transaction abusive?
Applicable law
[116] The last of the three issues is the most difficult: does the
avoidance transaction that resulted in the tax benefit constitute an abuse in
the application of the provisions of the Act? In Copthorne, the Supreme Court of Canada stated:
66 The GAAR is
a legal mechanism whereby Parliament has conferred on the court the unusual
duty of going behind the words of the legislation to determine the object,
spirit or purpose of the provision or provisions relied upon by the taxpayer.
While the taxpayer’s transactions will be in strict compliance with the text of
the relevant provisions relied upon, they may not necessarily be in accord with
their object, spirit or purpose. In such cases, the GAAR may be invoked by the
Minister. The GAAR does create some uncertainty for taxpayers. Courts, however,
must remember that s. 245 was enacted "as
a provision of last resort" . . .
67 A court must
be mindful that a decision supporting a GAAR assessment in a particular case
may have implications for innumerable "everyday" transactions of taxpayers. . . .
68 For this
reason, "the GAAR can only be applied to deny a tax benefit when the abusive
nature of the transaction is clear" . . . The court’s
role must therefore be to conduct an objective, thorough and step-by-step
analysis and explain the reasons for its conclusion.
69 In order to
determine whether a transaction is an abuse or misuse of the Act, a court must
first determine the "object, spirit or purpose of the provisions . . . that are relied on
for the tax benefit, having regard to the scheme of the Act, the relevant
provisions and permissible extrinsic aids" .
. . The object, spirit or purpose of the provisions has been referred to as the
"legislative rationale that underlies specific or interrelated
provisions of the Act" . . .
70 The object,
spirit or purpose can be identified by applying the same interpretive approach
employed by this Court in all questions of statutory interpretation — a "unified textual, contextual and purposive approach" . . . While the approach is the same as in all statutory
interpretation, the analysis seeks to determine a different aspect of the
statute than in other cases. In a traditional statutory interpretation approach
the court applies the textual, contextual and purposive analysis to determine
what the words of the statute mean. In a GAAR analysis the textual, contextual
and purposive analysis is employed to determine the object, spirit or purpose
of a provision. Here the meaning of the words of the statute may be clear
enough. The search is for the rationale that underlies the words that may not
be captured by the bare meaning of the words themselves. However, determining
the rationale of the relevant provisions of the Act should not be conflated
with a value judgment of what is right or wrong nor with theories about what
tax law ought to be or ought to do.
71 Second, a
court must consider whether the transaction falls within or frustrates the
identified purpose . . . where it is part of a series, it must be viewed in
the context of the series to enable the court to determine whether abusive tax
avoidance has occurred. In such a case, whether a transaction is abusive will
only become apparent when it is considered in the context of the series of
which it is a part and the overall result that is achieved . . .
72 The analysis will then lead to a finding of abusive tax
avoidance: (1) where the transaction achieves an outcome the statutory
provision was intended to prevent; (2) where the transaction defeats the
underlying rationale of the provision; or (3) where the transaction
circumvents the provision in a manner that frustrates or defeats its object,
spirit or purpose . . . These considerations are not independent of one another
and may overlap. At this stage, the Minister must clearly demonstrate that the
transaction is an abuse of the Act, and the benefit of the doubt is given to
the taxpayer.
[Emphasis added.]
[117] The first step is to interpret the provisions giving rise to the tax
benefit to determine their object, spirit and purpose. The next step is to
determine whether the avoidance transaction falls within or frustrates that
purpose.
[118] The application of the general anti-avoidance rule therefore
involves an overall analysis of a question of mixed fact and law. A textual, contextual
and purposive approach must be adopted to interpret the provisions giving rise
to the tax benefit. That interpretation is essentially a question of law but
the application of the provisions is "necessarily fact-intensive."
[119] There is abusive tax avoidance when specific provisions of the Act
are used to achieve an outcome that those provisions seek to prevent. Abuse
will also occur when an arrangement is used to circumvent the application of
certain provisions, such as anti-avoidance rules.
Arguments of the parties
[120] Counsel for the appellants argues that, in view of the interaction
of subsections 69(11) and 110.6(7) of the Act, Parliament implicitly
allows taxpayers to take advantage of certain tax consequences in the case of
transfers between spouses. In
other words, he is of the opinion that Parliament has allowed gains to be split
between spouses, and therefore, it is not abusive to proceed as
Mr. Gervais and Ms. Gendron did.
[121] Counsel for the respondent is of the opinion that the tax benefit
arising from the series of transactions results in an abuse in the application
of the attribution rules in subsections paragraphs 73(1), 74.2(1) and
74.5(1) of the Act. She also argues that the object and spirit of
subsection 110.6(2.1) of the Act were violated.
Analysis
General principles
[122] One of the fundamental principles of the Canadian tax system is the
recognition of each taxpayer as a basic unit of taxation. Hogg, Magee and Li wrote:
Under the Act, the taxable unit is the "person," which includes individuals and corporations. Therefore, even if an
individual generally considers his immediate family (usually his spouse and
children) an economic unit in terms of resources and expenditures, the Act
considers each family member a separate taxable unit. Thus, notwithstanding the
anti-avoidance rules discussed later on, if a child is himself the owner of an
asset, the income from the asset is part of the child’s taxable income and
appears in the child’s income tax return. The Act does not consider the child’s
income to be the parent’s income, even though the parents and children are
obviously part of the same family. The same applies to family business
entities, such as trusts and corporations: each entity is a separate
taxpayer.
[Emphasis added.]
[123] This fact combined with the application of marginal tax rates often
creates incentives for taxpayers to use planning techniques to split their
income with their family members.
[124] In Neuman v. M.N.R., the Supreme Court of Canada recognized that there is no general
scheme to prevent income splitting:
35 A large part
of my analysis will deal with a review of the holdings in McClurg.
Before I turn to McClurg, however, I wish to make some observations to
place the present debate into its proper perspective. First, s. 56(2)
strives to prevent tax avoidance through income splitting; however, it is a specific
tax avoidance provision and not a general provision against income splitting. In
fact, “there is no general scheme to prevent income splitting” in the ITA
(V. Krishna and J. A. Van Duzer, “Corporate Share Capital
Structures and Income Splitting: McClurg v. Canada” (1992–93), 21 Can.
Bus. L.J. 335, at p. 367). Section 56(2) can
only operate to prevent income splitting where the four preconditions to its
application are specifically met.
[Emphasis in the original.]
[125] However, that principle is not without limits. In the presence of a
provision to the contrary, income splitting will not be allowed. That will be the case, for example, where specific anti-avoidance
rules, such as attribution rules, have been circumvented in a manner that
frustrates or defeats their object, spirit or purpose.
Object and spirit of statutory provisions
[126] According to the doctrine of the Supreme Court of Canada, the first
task is to interpret the provisions giving rise to the tax benefit to determine
their object, spirit and purpose.
[127] The provisions giving rise to the tax benefit in our case are
subsections 73(1), 74.1(1), 74.5(1) and 47(1) of the Act. These provisions will therefore have to be interpreted in the light
of their wordings, context and purpose. In this regard, subsections 73(1),
74.1(1) and 74.5(1) have already been closely analyzed by the Supreme Court in Lipson
v. Canada.
[128] According to the Supreme Court, the purpose of subsection 73(1)
of the Act is to facilitate interspousal transfers of property without
triggering immediate tax consequences:
31 The
effect of s. 73(1) is to facilitate interspousal transfers of property
without triggering immediate tax consequences (Tax Court judgment, at para. 21).
This is an exception to the general rule that capital gains and losses are
recognized when property is disposed of. According to Professor Vern Krishna:
The rationale for permitting a taxpayer to
rollover assets is that it is undesirable, and perhaps unfair, to impose a tax
on transactions that do not involve a fundamental economic change in ownership,
even though there may be a change in form or legal structure.
(The Fundamentals
of Canadian Income Tax (9th ed. 2006) at p. 1112)
[Emphasis added.]
[129] In other words, subsection 73(1) of the Act allows tax deferral
within the family unit, that is to say, between spouses or common-law partners.
Thus, as long as an asset remains within the family unit, the realization of a
capital gain or a capital loss can be deferred. Conversely, in conjunction with other provisions of the Act, a gain
or loss will generally be realized on a disposition outside the family unit.
[130] The attribution rules set out in sections 74.1 to 74.5 of the
Act are, for their part, anti-avoidance provisions whose purpose is to prevent
spouses from reducing tax by taking advantage of their non-arm’s length status
by splitting income with a spouse when transferring property between
themselves:
32 Finally, the attribution rules in
ss. 74.1 to 74.5 are anti-avoidance provisions whose purpose is to prevent
spouses (and other related persons) from reducing tax by taking advantage of
their non-arm’s length status when transferring property between themselves.
The most common example of such a benefit is one derived from income splitting,
but it is not the only example. In Canada, the unit of taxation is the
individual: “Each individual is a taxpayer in his or her own right” (Krishna,
at p. 16; see also Thibaudeau v. Canada, [1995] 2 S.C.R. 627, at para. 93).
Thus, s. 74.1(1) is designed to prevent spouses from benefiting from their
non-arm’s length relationship by attributing, for tax purposes, any income or
loss from property transferred to a spouse back to the transferring spouse.
[131] As to subsection 47(1) of the Act, I note that the purpose of
that provision is to calculate an average adjusted cost base for identical
properties that have been acquired at different times. That provision also aims to simplify the calculation of the
adjusted cost base, which makes it easier to calculate the capital gain on
disposition of identical properties.
Application of statutory provisions to the facts
[132] Now that the object and spirit of the provisions have been
identified, we need to determine whether the alleged avoidance transaction is
consistent with that intent. According to the Supreme Court of Canada, an abuse
can occur in one of three ways:
1. The result of the avoidance transaction is an
outcome that the provisions invoked seek to prevent.
2. The avoidance transaction defeats the
underlying rationale of those provisions.
3. The
avoidance transaction circumvents certain provisions in a manner that
frustrates the object, spirit or purpose of those provisions.
[133] It is helpful at this point to keep in mind that:
71 . . . where [the transaction] is part of
a series, it must be viewed in the context of the series to enable the court to
determine whether abusive tax avoidance has occurred. In such a case, whether a
transaction is abusive will only become apparent when it is considered in the
context of the series of which it is a part and the overall result that is
achieved . . .
[134] When we consider subsections 73(1), 74.2(1) and 74.5(1)
together, the scheme of the Act thus provides that when an individual transfers
property to his or her spouse or common-law partner, the tax payable may be deferred. If the tax is deferred, when the spouse or common-law
partner disposes of the property, the taxable capital gain will be attributed
to the individual who made the transfer.
[135] Here, we must consider all the circumstances surrounding the series:
the transfer of the two blocks of class E shares, one of which was sold, the
other gifted; the choice not to roll over the shares sold to Ms. Gendron;
the choice to allow the rollover of the shares gifted to Ms. Gendron with
the result that subsection 47(1) of the Act applied when Ms. Gendron
sold her shares. Obviously this leads to a result that subsection 74.2(1)
aims to prevent and defeats the purpose of subsection 74.2(1) and the
scheme of the Act by avoiding the attribution of part of the taxable capital
gain to Mr. Gervais, which normally would have occurred when
Ms. Gendron sold her shares.
[136] It follows that there is an abuse in the application of the
provisions of the Act and, consequently, subsection 245(2) applies.
[137] Before concluding, I will make some comments on
subsections 69(11) and 110.6(7) of the Act. These subsections are specific
anti-avoidance provisions that do not apply in the present case. According to
the appellants, there is no abuse because, according to these provisions, it is
reasonable to conclude that Parliament chose to allow transfers between spouses
such as those in dispute in this case.
[138] I cannot accept this argument. This reasoning is not consistent
with the method of analysis propounded by the Supreme Court of Canada in Canada
Trustco Mortgage Co. v. Canada. The test adopted by the Supreme Court involves a textual,
contextual and purposive interpretation of the provisions giving rise to the
tax benefit. This interpretation must consider the Act "read
as a whole."
[139] In addition, the purpose of subsection 69(11) of the Act is to
limit the transfer of assets for less than fair market value to a person with
whom the taxpayer was not affiliated to enable that person to subsequently
realize a gain and use his tax consequences, such as capital losses, to reduce
this gain. Parliament expressly excluded affiliated individuals such as
Mr. Gervais and Ms. Gendron from the application of this provision.
[140] Although an anti-avoidance provision may not be applicable in a
given situation, that does not preclude the application of another
anti-avoidance rule with a different object and purpose. In this case, the
issue specifically involves a transfer of property between spouses, and the
attribution rules are critical. Also, given Lipson, I do not see how I
could find that the transfer here did not run counter to the object and the
spirit of the Act.
[141] In this regard, I cannot conclude that an anti-avoidance provision,
which is inapplicable elsewhere, can restrict the object and purpose of the
attribution rules. When enacting subsections 69(11) and 110.6(7) of the
Act, Parliament did not intend to invalidate subsection 74.2(1) in
circumstances such as these.
[142] Finally, the appellants argue that an abuse cannot occur when a
taxpayer elects to exercise a choice allowed under the Act. In the context of
the general anti-avoidance rule, we must consider this choice in the light of
the scheme of the Act. In the context of the attribution rules, the purpose of
the choice is to allow the taxpayer to decide whether or not to defer the
realization of a capital gain—not to allow the taxpayer to avoid attribution.
However, in this case, the choices were exercised in order to circumvent
attribution. Thus, there was an abuse.
Conclusion
Guy Gervais
[143] Having concluded that Mr. Gervais enjoyed a tax benefit
resulting from a series of transactions which included an abusive avoidance
transaction, I rule that the assessment based on the general anti-avoidance
rule must stand.
[144] Under the circumstances, it is reasonable to reallocate a $250,000
taxable capital gain to Mr. Gervais, because this would place
Mr. Gervais in the situation that would have occurred in the absence of
planning.
[145] Mr. Gervais’s appeal is therefore dismissed.
Lysanne Gendron
[146] None of the parties suggested that it would be appropriate to amend
the April 23, 2014, decision regarding Ms. Gendron’s case. I concur.
A judgment will be rendered accordingly.
Signed at
Québec, Quebec, this 12th day of September, 2016.
"Gaston Jorré"
Translation certified true
On this 21st day of June 2017.
François
Brunet, Reviser
Email this Content