REASONS FOR JUDGMENT
Favreau J.
[1]
This is an appeal from the reassessments
dated April 1, 2008, made by the Minister of National Revenue (the Minister)
under the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), as amended (the
Act), concerning the taxation years ending on November 29, 2005, and on
December 31, 2005.
[2]
In making the reassessments
dated April 1, 2008, the Minister made the following changes relative to the
investment tax credit (ITC) claimed by the appellant in respect of the taxation
years ending on November 29, 2005, and December 31, 2005.
|
29/11/2005
|
Claimed (35%)
|
Revised (20%)
|
Difference
|
|
ITC at
start of year
|
0
|
0
|
0
|
|
ITC earned
SR&ED
|
$286,811
|
$187,359
|
$99,452
|
|
ITC refund
|
$253,957
|
0
|
$253,957
|
|
Non-refundable
ITC
|
0
|
$154,505
|
($154,505)
|
|
Closing ITC
balance
|
$32,854
|
$187,359
|
($154,505)
|
|
31/12/2005
|
Claimed (35%)
|
Revised (20%)
|
Difference
|
|
ITC at start of year
|
$32,854
|
$187,359
|
($154,505)
|
|
ITC earned SR&ED
|
$61,629
|
$35,327
|
$26,302
|
|
ITC refund
|
$61,473
|
0
|
$61,473
|
|
Non-refundable ITC
|
0
|
$35,327
|
($35,327)
|
|
Closing ITC balance
|
$33,010
|
$222,686
|
($189,676)
|
[3]
The Minister
determined that the appellant was not entitled to refundable ITCs at the rate
of 35% for the taxation years ending on November 29, 2005, and December 31,
2005, for the following reasons:
(a) The appellant did not
qualify as a Canadian-controlled private corporation (CCPC) because it was a
corporation controlled, directly or indirectly, in any manner whatever, by a public
corporation within the meaning of subsection 125(7) of the Act; and
(b) The reorganization undertaken
for the purpose of transferring scientific research and experimental
development (SR&ED) activities including creating corporations, withdrawing
all of the powers of the appellant’s directors, transactions to transfer
activities as well as transactions enabling the flow of funds within the
corporate group constitute an abuse of the tax system warranting the
application of the General Anti-Avoidance Rule (GAAR) set out in section 245 of
the Act.
[4]
On or about April 28, 2008,
the appellant objected to reassessments made in respect of the taxation years
ending on November 29, 2005, and December 31, 2005. On December 23, 2011,
the appellant filed its Notice of Appeal with the Tax Court of Canada before
the Minister had made his decision on the objection.
Partial agreement on the facts
[5]
At the hearing, the parties filed a partial agreement on the facts dated
April 25, 2014. The facts agreed on are as follows:
[Translation]
Solutions
Mindready inc.
1. Solutions MindReady inc. (PUBLIQUE INC.)
was incorporated on September 16, 1999, under the Canada Business
Corporations Act.
2. During the years at issue, PUBLIQUE INC.
was a public corporation that had a class of shares of its capital stock
listed on a designated stock exchange located in Canada.
3. PUBLIQUE INC. operated a technology
business and provided innovative solutions for test systems and onboard
systems.
4. Before 2005, PUBLIQUE INC. had
scientific research and experimental development (SR&ED) activities and, in
this regard, it claimed a non-refundable investment tax credit (ITC) at the
rate of 20% of the SR&ED qualified expenditure pool.
5. Before 2005, PUBLIQUE INC. had accumulated
losses over several years, which meant that it did not benefit from the 20% tax
credit because it owed no taxes.
6. In 2005, PUBLIQUE INC. reorganized
its business and transferred the SR&ED activities to a newly created
corporation, namely, the appellant.
7. All the shares of the appellant’s
capital stock were held by the Fiducie financière Solutions MindReady (the
TRUST).
8. Following the appellant’s incorporation
in 2005, it conducted the SR&ED activities, which had previously been
conducted by PUBLIQUE INC.
9. Following its incorporation in 2005, the
appellant claimed a refundable investment tax credit at the rate of 35% of the
SR&ED qualified expenditure pool.
Reorganization
10. On July 19, 2005, 6420605 Canada inc.
(AUTEURCO) was incorporated.
11. On July 20, 2005, 6420958 Canada inc.
(BENEFICIARY 1), 6420931 Canada inc. (BENEFICIARY 2) and the appellant were
incorporated.
12. During the years at issue, all the
entities (PUBLIQUE INC., the appellant, AUTEURCO, BENEFICIARY 1 and BENEFICIARY
2) had the same directors, namely, Marc Lamy and Claude Delage.
The trust
13.
On July 22, 2005, the TRUST
was created. The settlor of
the TRUST was AUTEURCO.
14.
The income beneficiaries of
the TRUST were BENEFICIARY 1, BENEFICIARY 2 and the appellant.
15.
The capital beneficiaries of
the TRUST were AUTEURCO, BENEFICIARY 1 and BENEFICIARY 2.
16.
Under the trust deed, only
the directors of PUBLIQUE INC. were eligible to be trustees of the TRUST.
17.
Under the trust deed, the
number of trustees could not be higher than the number of directors of PUBLIQUE
INC.
18.
Under the Trust deed, the
directors of PUBLIQUE INC., Claude Delage and Marc Lamy, were appointed the
original trustees of the TRUST.
19.
Under the Trust deedthat
they signed, Claude Delage and Marc Lamy accepted the mandate of original
trustees.
20.
Claude Delage and Marc Lamy
were trustees of the TRUST during the period at issue.
21.
Under the trust deed, all the
directors of PUBLIQUE INC. who were appointed as trustees had to accept the appointment
for it to take effect.
22.
Under the trust deed, the
trustees ceased being trustees when they were no longer directors of PUBLIQUE
INC.
23.
Under the trust deed, the
TRUST had to annually distribute all of its tax revenue to its beneficiaries. The distribution of the revenue among the
beneficiaries was entirely at the trustees’ discretion.
24.
Under the trust deed, the
trustees had the discretionary power to withdraw the TRUST’s capital and to
give it to one or more capital beneficiaries in a proportion determined by the
trustees.
25.
The TRUST’s capital
contained, among other things, all of the shares of the capital stock of the
appellant, and the trustees had the discretionary power to give all these
shares to one of the capital beneficiaries of the TRUST.
26.
The capital beneficiaries of
the TRUST had a right, either immediately or in the future and either
absolutely or contingently, to the shares of the appellant’s capital stock.
27.
As the appellant’s sole
shareholder, the TRUST withdrew all of the powers held by the appellant’s
directors to exercise them itself, in accordance with subsection 146(2) of
the Canada Business Corporations Act.
Transactions dated August 1, 2005
28.
PUBLIQUE INC. subscribed to
500 class A shares of the capital stock of AUTEURCO for $500.
29.
AUTEURCO subscribed to 100
class A shares of the capital stock of BENEFICIARY 1 for $100 and to 100 class
A shares of the capital stock of BENEFICIARY 2 for $100.
30.
AUTEURCO gave the TRUST
$100.
31.
The TRUST subscribed to 100
Class A (voting) shares of the appellant’s capital stock for $100.
32.
The directors of PUBLIQUE
INC., Claude Delage and Marc Lamy, were appointed the appellant’s directors.
33.
The TRUST subscribed to 100 Class E (voting)
shares of the capital stock of BENEFICIARY 1 for $100.
34.
PUBLIQUE INC. subscribed to
1,000,000 class A shares of the capital stock of AUTEURCO, for the amount of
$1,000,000 paid by cheque.
35.
AUTEURCO contributed
$1,000,000 by cheque to the contributed surplus of BENEFICIARY 1.
36.
BENEFICIARY 1 declared a
dividend of $1,000,000 on the class E shares of its capital stock payable
through issuing a cheque to the TRUST, the sole shareholder of these shares.
37.
The TRUST subscribed to
999,900 class B (non-voting) shares of the appellant for $999,900.
38.
PUBLIQUE INC.
transferred its employees specializing in SR&ED to the appellant through a
rollover and received as consideration 110,617 class C shares of the
appellant’s capital stock with a fair market value and paid‑up capital of
$110,617. The same day, the appellant bought back its
shares for $110,617.
39.
AUTEURCO granted the
appellant an option to purchase at their fair market value all of the shares of
either BENEFICIARY 1 or BENEFICIARY 2.
40.
PUBLIQUE INC awarded the
appellant a research contract under which the appellant undertook to carry out
all of the SR&ED work related to the projects listed in the contract.
41.
The projects listed in
Appendix 1 of the research contract are all projects on which PUBLIQUE INC. had
worked before the appellant was created.
42.
In consideration for the
appellant’s work, PUBLIQUE INC. had to pay it royalties on the future sales of
products and licences.
43.
For the period at issue,
PUBLIQUE INC. had to pay the appellant royalties of 2% of its sales of products
related to the SR&ED projects. PUBLIQUE INC. also had to give the appellant 25% of its
revenue received from the sale of licences related to the SR&ED projects or
from disposing of intellectual property rights related to the projects.
44.
During the audited period,
products were sold, but no licences were sold.
45.
The appellant reported
royalty income of $42,773 for the taxation year ending on November 30,
2005, and $7,971 for the taxation year ending on December 31, 2005.
46.
However, the appellant
reported net losses of $605,167 and $80,219, respectively, for the taxation
years ending on November 30 and December 31, 2005.
Transactions
dated December 31, 2005
47.
On December 31, 2005, a
promissory note was issued (on request and without interest) according to which
the appellant promised to pay to PUBLIQUE INC. the amount of $252,081.
48.
PUBLIQUE INC. subscribed to
252,081 class A shares of AUTEURCO for $252,081 in consideration for the
transfer to AUTEURCO of said promissory note.
49.
AUTEURCO contributed
$252,081 to the contributing surplus of BENEFICIARY 1 by transferring the
promissory note.
50.
BENEFICIARY 1 declared
a dividend on the class E shares of $252,081 payable by transferring to the
TRUST the promissory note owed by the appellant.
51.
The TRUST subscribed
to 252,081 class B shares of the appellant for the amount of $252,081.
52.
On or about June 22,
2006, Claude Delage resigned from his position as director of the appellant and
of PUBLIQUE INC., AUTEURCO, BENEFICIARY 1 and BENEFICIARY 2.
Transactions dated July 31, 2006
53.
On July 31, 2006, a promissory note was issued
(on request and without interest) according to which the appellant promised to
pay to PUBLIQUE INC. the amount of $969,855.
54.
PUBLIQUE INC. subscribed to 969,855 class A shares of AUTEURCO for $969,855 in consideration for the transfer to
AUTEURCO of said promissory note.
55.
AUTEURCO contributed $969,855
to the contributing surplus of BENEFICIARY 1 by transferring the promissory
note.
56.
BENEFICIARY 1 declared a dividend on the
class E shares of $969,855 payable by transferring
to the TRUST the promissory note owed by the appellant.
57.
The TRUST subscribed to 969,855 class B shares of the appellant for the
amount of $969,855.
58.
On July 31, 2006, Claude
Delage signed a notice of resignation from his position as trustee of the
TRUST.
Transactions
dated December 31, 2006
59.
On December 31, 2006, a promissory note was
issued (on request and without interest) according to which the appellant
promised to pay to PUBLIQUE INC. the amount of $1,105,159.
60.
PUBLIQUE INC. subscribed to 1,105,159 class A shares of AUTEURCO for $1,105,159 in consideration for the transfer to
AUTEURCO of said promissory note.
61.
AUTEURCO contributed $1,105,159
to the contributing surplus of BENEFICIARY 1 by transferring the promissory
note.
62.
BENEFICIARY 1 declared a dividend on the class E
shares of $1,105,159 payable by transferring
to the TRUST the promissory note owed by the appellant.
63.
The TRUST subscribed to 1,105,159 class B shares of the appellant for the
amount of $1,105,159.
64.
The organizational chart
appended to this partial agreement on the facts shows the organizational
structure of PUBLIQUE INC. and of the appellant during the period at issue.
Analysis of the activities of and relationship between
PUBLIQUE INC. and the appellant
65.
For the years at issue,
PUBLIQUE INC. rented a space of about 50,000 square feet located at 2800
Marie-Curie Avenue in Ville St-Laurent.
66.
A service agreement between
PUBLIQUE INC. and the appellant was signed on August 1, 2005, for the leasing or
sub-leasing by the appellant of a portion of this space and of some movable
property .
67.
Under the service agreement,
the appellant rented a portion (about 25%) of the premises occupied by
PUBLIQUE INC.
68.
For the years at issue, the
person who authorized the transfers of funds between the bank accounts of the
various entities for, among other things, the payment of inter-company invoices
and the subscriptions was Marc Lamy.
69.
Several important agreements
between PUBLIQUE INC. and the appellant were signed only by Marc Lamy as vice-president
of the appellant and chief financial officer of PUBLIQUE INC.
70.
PUBLIQUE INC. issued cheques
or made transfers of funds to the appellant regularly (at least once a month)
based on its operational needs, for example, when the appellant’s bank account
was in a deficit or when it needed to pay salaries.
71.
During the years at issue,
PUBLIQUE INC. was the appellant’s only client.
72.
To meet its obligations
under the research contract, the appellant had access to funding through
PUBLIQUE INC., AUTEURCO, the TRUST, BENEFICIARY 1, and BENEFICIARY 2.
73.
The appellant had its own
employees, who were acquired from PUBLIQUE INC., on August 1, 2005.
74.
The salaries of the
appellant’s employees were the only current expense paid directly from the
appellant’s bank account.
75.
However, for the reasons
mentioned above, the money with which the appellant paid its employees came
indirectly from PUBLIQUE INC.
76.
Rent expenses, management
fees, corporate fees and royalties were paid either by inter-company
settlements or by accounting entries.
77.
No interest was ever
required on the various advances of funds between PUBLIQUE INC. and the
appellant.
78.
According to the research
contract, PUBLIQUE INC. was the owner of the intellectual property and of the
results of every research project
carried out by the appellant because the projects had initially been started by
PUBLIQUE INC. and transferred to the appellant.
79.
Based on the research
contract, PUBLIQUE INC. was responsible for indemnifying the appellant and for
exempting it, for any actions, expenses or claims including legal and
extrajudicial expensesarising out of the performanceof t the research contract,
unless the appellant or a third party not under its control was negligent.
80.
An external accounting firm
consolidated the financial statements of PUBLIQUE INC. and the appellant based
on the CICA Accounting Guideline (AcG 15) as stated in footnote 3 of the consolidated financial statements at
December 31, 2005.
Additional facts arising from testimony
[6]
The structure put in place
to qualify the appellant as a Canadian-controlled private corporation was
recommended by the accounting firm KPMG and is the same as the structure used
by Lyrtech inc. to qualify its research subsidiary Lyrtech RD inc. The main
difference between the facts of this appeal and those in the appeal of Lyrtech
RD inc. is that the agreements governing the relationships between the parties
involved in this appeal were better complied with, while the agreements
governing the relationships between the parties involved in the appeal of
Lyrtech RD inc. were not all complied with. For example, adjusting entries
should have been made as part of preparing Lyrtech RD inc.’s financial
statements. It should be recalled that Lyrtech RD inc.’s appeal was decided by
this Court (Lyrtech RD inc. v. R., 2013 TCC 12) and affirmed by the
Federal Court of Appeal in a decision dated November 17, 2014 (Lyrtech RD
inc. v. The Queen, 2014 FCA 267).
[7]
Solutions MindReady inc.
declared bankruptcy in 2007, and on February 28, 2008, Averna Technologies
inc. purchased some of its assets from the trustee, including the shares of
Mindready Solutions (NI) Limited (Mindready Ireland), 6420605 Canada inc. and
their respective subsidiaries, namely, 6420958 Canada inc., 6420931 Canada
inc., Fiducie financière Solutions MindReady and Solutions MindReady R&D
inc.
[8]
Paul Martineau, Vice-President
and Chief Financial Officer of Averna Technologies inc., explained the business
reasons that led to his company wanting to acquire the assets of Solutions
MindReady inc. The reasons included hiring qualified employees, acquiring
marketable products and the rights to two products under development as well as
access to a client network.
[9]
Following the acquisition of assets, the
agreements concluded between Solutions MindReady inc. and Solutions MindReady R&D
inc. were terminated the trust deed was amended, and new trustees were
appointed, but the structure put in place by Solutions MindReady inc. was
maintained, and the entities it was made up of still exist even though they are
inactive.
[10]
At the time of the acquisition of assets, Solutions
MindReady R&D inc. had about thirty employees, who became employees of Averna
Technologies inc. with a new contract of employment recognizing their years of
seniority.
[11]
Claude Delage and Marc Lamy, respectively,
President and Chief Executive Officer and Vice-President and Chief Financial
Officer of Solutions MindReady inc. testified at the hearing. They explained
that they became shareholders of Solutions MindReady inc. together with Michel
Gaucher after a takeover bid made on May 28, 2004, by which 4173422 Canada
inc., a corporation belonging to Messrs. Gaucher, Delage and Lamy,
acquired a block of 8,519,580 shares representing 71%
of the issued and outstanding shares.
[12]
On November 30, 2005,
Solutions MindReady inc. acquired all of the issued and outstanding shares of
UTTC United Tri-Tech Corporation, an electronics manufacturing services (EMS)
company. Immediately before
that acquisition, the share ownership of Solutions MindReady inc. was as
follows:
|
Shareholders
|
Shares
|
Percentage
|
|
Capital de Risque Dynamis inc.
|
3,339,398
|
22.4%
|
|
4310845 Canada inc.
|
2,105,875
|
14.1%
|
|
4160452 Canada inc.
|
1,403,915
|
9.4%
|
|
4173422 Canada inc.
|
1,000,000
|
6.7%
|
|
Public
Total
|
7,046,087
14,895,275
|
47.4%
100.0%
|
Capital de Risque Dynamis inc. is a corporation controlled
by Michel Gaucher, Chairman of the Board of Directors of Solutions
MindReady inc. 4310845 Canada inc. is a corporation controlled by Claude
Delage. 4160452 Canada inc.
is a corporation controlled by Marc Lamy, while 4173422 Canada inc. is a corporation
controlled by Michel Gaucher, Claude Delage and Marc Lamy.
[13]
Following the acquisition of
UTTC United Tri-Tech Corporation, the share ownership of Solutions MindReady
inc. became as follows:
|
Shareholders
|
Shares
|
Percentage
|
|
CEM International inc.
|
5,472,600
|
21.2%
|
|
Capital de Risque Dynamis inc.
|
3,339,398
|
13.0%
|
|
UTT Pharma inc.
|
3,092,527
|
12.0%
|
|
4130944 Canada inc.
|
2,171,349
|
8.4%
|
|
4310845 Canada inc.
|
2,105,875
|
8.2%
|
|
4160452 Canada inc.
|
1,403,915
|
5.4%
|
|
4173422 Canada inc.
|
1,000,000
|
3.9%
|
|
Public
|
7,190,244
|
27.9%
|
|
Total
|
25,786,364
|
100.0%
|
CEM International inc. is controlled by Morgenthaler
Ventures Partners, a venture capital company based in the Silicon Valley, and
UTT Pharma is controlled by members of the executive of UTTC United Tri-Tech
Corporation.
[14]
Marc Lamy and Claude Delage
were directors and officers of all of the entities created during the
reorganization of the research and development activities of Solutions
MindReady inc. and were also the two trustees of the Fiducie financière
Solutions MindReady. In that
capacity, they signed all documents related to the entities.
[15]
According to the Annual
Information Form of Solutions MindReady inc. dated March 31, 2006, the board of
directors then was comprised of four members after the resignation of
Marcel Lu. The members
of the board of directors at that time were Michel Gaucher, Claude Delage, Marc
Lamy and Jean-François Rabouille, a vice-president of Groupe Dynamis inc. They
all became directors of Solutions MindReady inc. on May 31, 2004, following the
takeover bid.
[16]
Claude Delage remained a director
of Solutions MindReady inc. and of all its subsidiaries until June 22, 2006,
when he resigned due to an illness. The date of his resignation as trustee of the Fiducie
financière Solutions MindReady was July 31, 2006.
[17]
Marc Lamy remained a director
of Solutions MindReady inc. and of all its subsidiaries until August 5, 2007,
when he resigned following a dispute with the board of directors. The date of his resignation as trustee of
the Fiducie financière Solutions MindReady was also August 5, 2007.
[18]
Claude Delage explained in
his testimony that research and development activities were essential to the
survival of Solutions MindReady inc.’s business and that the restructuring of
the research and development activities was presented to the board of directors
as an improvement to the R&D tax credits. The choice of research work was determined by Solutions
MindReady inc. but the performance of the work was entrusted to the appellant.
He also acknowledged that the revenues generated by
the appellant’s research activities were insufficient to pay the salaries of
employees assigned to that activity and that the Fiducie financière Solutions
MindReady and the appellant were described in the corporate documentation of
Solutions MindReady inc. as subsidiaries. The
appellant’s financial results were consolidated with those of Solutions
MindReady inc. Marc Lamy was in charge of implementing the restructuring of the
research activities of Solutions MindReady inc.
[19]
According to Mr. Lamy, the
objective was to make the appellant operationally autonomous without making it
a profit centre. To do so, Solutions MindReady inc. transferred to the
appellant through a tax rollover some assets and the employment contracts of
employees assigned to R&D, the value of which was estimated at $110,617. In
addition, Solutions MindReady inc. leased or subleased, as the case may be, to
the appellant certain assets and subleased to it the office space allocated to
research activities. For the
use of equipment, the appellant undertook to pay an annual base rent of
$77,122.44 payable in quarterly equal and consecutive payments of $19,280.61,
including management fees of 10%. For the
immovable sublease, the rent was $249,382.08 payable in equal and consecutive
monthly payments of $20,781.84, including management fees of 10%. After the employees were transferred to the appellant, they
continued to carry out their duties on the same premises and in the same way in
respect of the same research projects.
[20]
Only one research contract
was concluded between Solutions MindReady inc. and the appellant. The appellant
exclusively carried out the research projects of Solutions MindReady inc. All
of the funding needed to conduct the research activities came from Solutions
MindReady inc. The appellant billed Solutions MindReady inc. monthly for the
cost of the services that it provided to it without mark-up, but it did not
bill for the cost of labour related to the research activities. However, Solutions MindReady inc. billed
the appellant the cost of administrative services provided to the appellant.
The cost of labour related to the research activities
was directly funded by Solutions MindReady inc. through bank transfers to the
appellant’s bank account used to pay research salaries.
[21]
The inter-company invoices
were normally paid through bank transfers. The authorized signing officers for the bank accounts of
Solutions MindReady inc., 6420605 Canada inc., 6420958 Canada inc., 6420931
Canada inc., Fiducie financière Solutions MindReady and the appellant were two
of the following five persons:
- Marc Lamy;
- Jean Mayer, Legal Counsel and
Corporate Secretary;
- Christian Moreau,
Vice-President, Operations;
- Mélanie Dupuis, Corporate Controller;
- Marie-France Huard, Controller.
[22]
The intellectual property of
the R&D work performed by the appellant belonged to Solutions MindReady
inc., but the appellant was entitled to royalties based on the sale price of
the products, which were improved by the R&D work resulting from the
research projects. From
August 1, 2005, to December 31, 2006, the royalty rate was 2%. For 2007, the royalty rate was 5%, while for the years
starting after January 1, 2008, the rate increased to 10%. In addition to the royalties, the appellant was entitled to
receive 25% of the amounts collected by Solutions MindReady inc. for the
granting of operating licences for products resulting from the R&D work or
from the sale of intellectual property rights arising from the R&D work.
For the taxation year ending on November 30, 2005, the appellant received
royalties totalling $42,773 from product sales, but nothing for the granting of
licences or for the sale of intellectual property rights. For the taxation year ending on December 31, 2005, the
appellant received only $7,971 in royalties.
Positions of the parties
A. Appellant’s position
[23]
The appellant maintains that,
since its creation, it has always been a CCPC because no public corporation
controlled, directly or indirectly in any manner whatever, the composition of
the appellant’s board of directors.
[24]
Solutions MindReady inc.
never exercised direct or indirect control in any manner whatever over the
appellant for the purposes of the Act. Solutions MindReady inc. and the appellant created a
business relationship between them that was similar to any other contractual
research relationship, where research is carried out by a newly incorporated
research business. There is no element of the
contractual relationship that existed between these two entities that could
confer on Solutions MindReady inc. a greater influence on the appellant’s
operations than the influence normally exercised by any major client on one of
its main suppliers. The influence is not
sufficient and is not of the type that conferred on Solutions MindReady inc.
control in fact of the appellant as described in subsection 256(5.1) of the
Act.
[25]
None of the transactions described
by the respondent are an abusive avoidance transaction subject to the GAAR.
B. Respondent’s position
[26]
Despite the reorganization carried
out by Solutions MindReady inc., the appellant was not a CCPC because it was
subject to de facto control by Solutions MindReady inc.; it had
pre-dominant power over appointing the appellant’s trustee directors, and the
appellant was dependent on Solutions MindReady inc. operationally and
economically.
[27]
The phrase “controlled, directly or indirectly in any
manner whatever” used in
paragraph 125(7)(a) of the Act gives precedence to de facto
control over de jure control. The presence of de facto control of a private
corporation by a public corporation is sufficient to exclude it from the
definition of CCPC.
[28]
The reorganization
undertaken by Solutions MindReady inc. was identical to that carried out by the
parent company of Lyrtech RD inc., regarding which this Court and the Federal
Court of Appeal concluded that the parent company Lyrtech inc. exercised de
facto control over Lyrtech RD inc. and that, accordingly, it was not a
CCPC.
[29]
As an alternative argument,
the respondent submits that the GAAR is applicable in this case because the
three conditions for the GAAR to apply are met in the reorganization. First, there must be a tax benefit
arising from a “transaction” under subsections 245(1) and 245(2) of the Act. Second, the transaction that generated the tax benefit must
be an avoidance transaction under subsection 245(3) of the Act, that is, the
transaction must not have been arranged for bona fide purposes other
than to obtain the tax benefit for the purposes of the GAAR. Third, the avoidance transaction must be abusive within the
meaning of subsection 245(4) of the Act. The
appellant has the burden of proving that there was no tax benefit or avoidance
transaction, while the respondent must establish that the avoidance transaction
was abusive. According to the respondent, the
three conditions are met and the tax benefit must be denied under subsection
245(5) of the Act.
The law
[30]
The provisions of the Act
that are relevant for the purposes of this dispute are as follows: paragraph (a)
of the definition of “public
corporation” under
subsection 89(1), the definition of “Canadian-controlled private corporation” under subsection 125(7), the definition of
“non-qualifying corporation” under subsection 127(9), subsection
127(10.1), the definition of “qualifying
corporation” under
subsection 127.1(2), subsection 251(5) and subsections 256(5.1), 256(6.1) and
256(6.2). These provisions read as follows:
Definitions
89. (1) In this subdivision,
. . .
“public corporation” at any particular time means:
(a) a corporation that is resident in Canada at the
particular time if at that time a class of shares of the capital stock of the
corporation is listed on a designated stock exchange in Canada;
125(7) Definitions — In this section,
. . .
“Canadian-controlled private corporation” means a private
corporation that is a Canadian corporation other than
(a) a corporation controlled, directly or indirectly
in any manner whatever, by one or more non-resident persons, by one or more
public corporations (other than a prescribed venture capital corporation), by
one or more corporations described in paragraph (c), or by any
combination of them,
(b) a corporation that would, if each share of the
capital stock of a corporation that is owned by a non-resident person, by a
public corporation (other than a prescribed venture capital corporation), or by
a corporation described in paragraph (c) were owned by a particular
person, be controlled by the particular person,
(c) a corporation a class of the shares of the
capital stock of which is listed on a designated stock exchange, or
(d) in applying subsection (1), paragraphs 87(2)(vv)
and (ww) (including, for greater certainty, in applying those paragraphs
as provided under paragraph 88(1)(e.2)), the definitions “excessive
eligible dividend designation”, “general rate income pool” and “low rate income
pool” in subsection 89(1) and subsections 89(4) to (6), (8) to (10) and
249(3.1), a corporation that has made an election under subsection 89(11) and
that has not revoked the election under subsection 89(12);
127(9) In this section,
. . .
“non-qualifying corporation” at any time means
(a) a corporation that is, at that time, not a
Canadian-controlled private corporation,
(b) a corporation that would be liable to pay tax
under Part I.3 for the taxation year of the corporation that includes that time
if that Part were read without reference to subsection 181.1(4) and if the
amount determined under subsection 181.2(3) in respect of the corporation for
the year were determined without reference to amounts described in any of
paragraphs 181.2(3)(a), 181.2(3)(b), 181.2(3)(d) and
181.2(3)(f) to the extent that the amounts so described were used to
acquire property that would be qualified small-business property if the
corporation were not a non-qualifying corporation, or
(c) a corporation that at that time is related for
the purposes of section 181.5 to a corporation described in paragraph (b);
127(10.1) For the purposes of paragraph (e)
of the definition “investment tax credit” in subsection (9), if a corporation
was throughout a taxation year a Canadian-controlled private corporation, there
shall be added in computing the corporation’s investment tax credit at the end
of the year the amount that is 20% of the least of
(a) such amount as the corporation claims;
(b) the amount by which the corporation’s SR&ED
qualified expenditure pool at the end of the year exceeds the total of all
amounts each of which is the super-allowance benefit amount for the year in
respect of the corporation in respect of a province; and.
(c) the corporation’s expenditure limit for the
year.
127.1(2) In this section,
. . .
“qualifying corporation”, for a particular taxation year
that ends in a calendar year, means a particular corporation that is a
Canadian-controlled private corporation in the particular taxation year the
taxable income of which for its immediately preceding taxation year —
together with, if the particular corporation is associated in the
particular taxation year with one or more other corporations (in this
subsection referred to as “associated corporations”), the taxable income of
each associated corporation for its last taxation year that ended in the
preceding calendar year (determined before taking into consideration the
specified future tax consequences for that last year) — does not
exceed the qualifying income limit, if any, of the particular corporation for
the particular taxation year;
251(5) For the purposes of subsection 251(2) and
the definition “Canadian-controlled private corporation” in subsection 125(7),
(a) where a related group is in a position to
control a corporation, it shall be deemed to be a related group that controls
the corporation whether or not it is part of a larger group by which the
corporation is in fact controlled;
(b) where at any time a person has a right under a
contract, in equity or otherwise, either immediately or in the future and
either absolutely or contingently,
(i) to, or to acquire, shares of the capital stock of a
corporation or to control the voting rights of such shares, the person shall,
except where the right is not exercisable at that time because the exercise
thereof is contingent on the death, bankruptcy or permanent disability of an
individual, be deemed to have the same position in relation to the control of
the corporation as if the person owned the shares at that time,
(ii) to cause a corporation to redeem, acquire or cancel
any shares of its capital stock owned by other shareholders of the corporation,
the person shall, except where the right is not exercisable at that time
because the exercise thereof is contingent on the death, bankruptcy or
permanent disability of an individual, be deemed to have the same position in
relation to the control of the corporation as if the shares were so redeemed,
acquired or cancelled by the corporation at that time;
(iii) to, or to acquire or control, voting rights in
respect of shares of the capital stock of a corporation, the person is, except
where the right is not exercisable at that time because its exercise is
contingent on the death, bankruptcy or permanent disability of an individual,
deemed to have the same position in relation to the control of the corporation
as if the person could exercise the voting rights at that time, or
(iv) to cause the reduction of voting rights in respect of
shares, owned by other shareholders, of the capital stock of a corporation, the
person is, except where the right is not exercisable at that time because its
exercise is contingent on the death, bankruptcy or permanent disability of an
individual, deemed to have the same position in relation to the control of the
corporation as if the voting rights were so reduced at that time; and
(c) where a person owns shares in two or more
corporations, the person shall as shareholder of one of the corporations be
deemed to be related to himself, herself or itself as shareholder of each of
the other corporations.
256(5.1) For the purposes of this Act, where the
expression “controlled, directly or indirectly in any manner whatever,” is
used, a corporation shall be considered to be so controlled by another
corporation, person or group of persons (in this subsection referred to as the “controller”)
at any time where, at that time, the controller has any direct or indirect
influence that, if exercised, would result in control in fact of the
corporation, except that, where the
corporation and the controller are dealing with each other at arm’s length and
the influence is derived from a franchise, licence, lease, distribution, supply
or management agreement or other similar agreement or arrangement, the main
purpose of which is to govern the relationship between the corporation and the
controller regarding the manner in which a business carried on by the
corporation is to be conducted, the corporation shall not be considered to be
controlled, directly or indirectly in any manner whatever, by the controller by
reason only of that agreement or arrangement.
256(6.1) For the purposes of this Act and for
greater certainty,
(a)
where a corporation (in this paragraph referred to as the “subsidiary”) would
be controlled by another corporation (in this paragraph referred to as the “parent”)
if the parent were not controlled by any person or group of persons, the
subsidiary is controlled by
(i) the parent, and
(ii) any person or group of persons by whom the parent is controlled; and
(b) where a corporation (in this paragraph referred
to as the “subject corporation”) would be controlled by a group of persons (in
this paragraph referred to as the “first-tier group”) if no corporation that is
a member of the first-tier group were controlled by any person or group of
persons, the subject corporation is controlled by
(i) the first-tier group, and
(ii) any group of one or more persons comprised of, in
respect of every member of the first-tier group, either the member, or a person
or group of persons by whom the member is controlled.
256(6.2) In its application to subsection (5.1),
subsection (6.1) shall be read as if the references in subsection (6.1) to “controlled”
were references to “controlled, directly or indirectly in any manner whatever,”.
Analysis
[31]
The Minister determined that
the appellant did not qualify as a CCPC throughout the taxation years ending on
November 30, 2005, and December 31, 2005, because it was a corporation
controlled, directly or indirectly in any manner whatever, by Solutions
MindReady inc., a public corporation within the meaning of the Act. The Minister thus disallowed the appellant
(a) the 15% increase in the investment tax credit claimed by the appellant
under subsection 127(10.1) of the Act, and (b) the refund of this tax
credit under subsection 127.1(1) of the Act.
[32]
In 1988, subsection 256(5.1)
was added to the Act in order to define, for the purposes of the Act, the phase
“controlled, directly or
indirectly in any manner whatever” in order to introduce the concept of control in fact. Thus, a corporation is considered to be
controlled by another corporation at any time where, at that time, that other
corporation has any direct or indirect influence that, if exercised, would
result in control in fact of the corporation.
[33]
Since the enactment of subsection
256(5.1) of the Act, the exercise of de facto control by a public
corporation over another corporation has necessarily resulted in the exclusion
of that other corporation from the definition of a CCPC, regardless of whether de
jure control is exercised by another person.
[34]
In this case, the respondent
does not dispute that Fiducie financière Solutions MindReady exercised de
jure control over the appellant. According to the trust deed, only the directors of
Solutions MindReady inc. were eligible to be trustees. During the periods at issue, the trustees were Marc Lamy
and Claude Delage. By means of a declaration
of sole shareholder, the trustees withdrew all of the powers held by the
appellant’s directors to exercise them themselves. Marc Lamy and Claude Delage were directors of the appellant
as well as of Solutions MindReady inc., 6420605 Canada inc., 6420958 Canada
inc. and 6420931 Canada inc.
[35]
Following the decisions of
this Court and the Federal Court of Appeal in Mimetix Pharmaceuticals Inc.
v. Canada, [2001] F.C.J. No. 749 (Lamarre J.) affirmed by the Federal Court
of Appeal, 2003 FCA 106; Plomberie J.C. Langlois Inc. v. Canada,
2004 TCC 734 (Lamarre-Proulx J.) affirmed by the Federal Court of Appeal, 2006
FCA 113; L.D.G. 2000 Inc. v. Canada, [2002] F.C.J. No. 659 (Angers J.);
and more recently in Lyrtech RD Inc. v. The Queen, 2013 TCC 12, affirmed
by the Federal Court Appeal, 2014 FCA 267, the law is now well settled: the
determination of the influence necessary for a corporation to be considered as
being controlled by another corporation requires the examination of the operational
and economic decisions of the corporation in question. A form of determinative economic influence that enables a
corporation to be in a position to impose its will on the affairs of another
corporation is sufficient to constitute de facto control.
[36]
The respondent maintains
that the appellant was operationally and economically dependent on Solutions
MindReady inc. so that it was able to exert the type of pressure that allowed
it to impose its will on the appellant’s affairs.
[37]
The partial agreement on the
facts, the documentary evidence submitted by the parties and the testimonial
evidence provided by the witnesses at the hearing show that
(a) operationally, the influence factors exercised by
Solutions MindReady inc. over the appellant include the following:
(i) all of the corporations in the
group of corporations controlled by Solutions MindReady inc. were managed by
the same people;
(ii) Solutions MindReady inc. and the
appellant occupied the same premises and shared the same employees;
(iii) the employees transferred to the
appellant saw no changes in their tasks, their workplace or the research
projects they worked on;
(iv)
according to the
organizational charts submitted by Solutions MindReady inc. to illustrate its
corporate structure, the Fiducie financière Solutions MindReady and the
appellant are an integral part of Solutions MindReady inc. and appear to be its
subsidiaries;
(v)
according to the Annual
Information Form of Solutions MindReady inc. dated March 31, 2006, the
appellant is described as a subsidiary 100% owned by Solutions MindReady inc.
as of December 31, 2005.
(vi)
the bookkeeping for all of
the entities in the MindReady group was done by the accountants of Solutions
MindReady inc.;
(vii)
Marc Lamy authorized fund
transfers between the various entities of the MindReady group;
(viii)
no agreement was offered in
evidence to justify recharging the cost of services provided by the appellant’s
employees to Solutions MindReady inc. In addition, invoices issued by the
appellant do not match the transactions performed in its bank accounts.
(ix)
the salaries of employees
assigned to research and development activities were paid by the appellant in
Canadian dollars every two weeks from its bank account. That money came from
transfers made directly by Solutions MindReady inc. The first million dollars,
which was used to subscribe to 999,900 class B shares of the appellant, was
never used to pay the salary of employees working in research and development.
and that
(b) Economically, the influence factors exercised by
Solutions MindReady inc. over the appellant include the following:
(i) the appellant had only one client,
namely, Solutions MindReady inc.;
(ii) Solutions MindReady inc. guaranteed a
loan of $650,000 taken out by the appellant;
(iii)
external auditors
consolidated the appellant’s financial statements with those of Solutions
MindReady inc.;
(iv)
according to the research
contract between Solutions MindReady inc. and the appellant, research work to
be done by the appellant was determined by Solutions MindReady inc., and it
kept the intellectual property rights arising from it;
(v)
the royalties and revenues
earned from the issuing of licences were clearly insufficient to offset the
cost of the research expenses. During
the first five months of the appellant’s operation, the net deposits in the
appellant’s two bank accounts totalled $2,800,000 (including the initial share
subscription of $1,000,000), while the royalties generated by the appellant’s
research activities totalled only $50,000;
(vi)
the appellant would not have
been able to carry out its research and development activities without the
advances of funds from Solutions MindReady inc.;
(vii)
the bankruptcy of Solutions
MindReady inc. resulted in the sale of some of the appellant’s assets, namely,
its tax credits for scientific research and experimental development.
[38]
On the basis of the
operational and economic influence factors listed at sub-paragraphs (a) and (b)
of paragraph 37, I can only find that Solutions MindReady inc. exercised de
facto control over the appellant. During the taxation years at issue, the appellant was
completely economically dependent on Solutions MindReady inc.
[39]
Considering the finding on
the first issue, which disposes of this appeal, and the circumstances of this
case, it is not necessary to consider the alternative argument raised by the
respondent.
[40]
For these reasons, the appeal is dismissed with
costs.
Signed at Ottawa, Canada, this 21st day of January 2015.
“Réal Favreau”
Translation certified true
On this 11th day of August 2015
François Brunet, Revisor
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