Date: 20001027
Docket: T-2006-95
OTTAWA, ONTARIO, OCTOBER 27, 2000
Before: J.E. DUBÉ J.
Between:
LES INDUSTRIES S.L.M. INC.
Plaintiff
- and -
HER MAJESTY THE QUEEN
Defendant
JUDGMENT
The plaintiff's appeal is dismissed as to the first transaction and allowed as to the second transaction. The notices of assessment should be adjusted accordingly. The plaintiff will be entitled to its costs.
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Judge
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Certified true translation
Suzanne M. Gauthier, LL.L. Trad. a.
Date: 20001027
Docket: T-2006-95
BETWEEN:
LES INDUSTRIES S.L.M. INC.
Plaintiff
- and -
HER MAJESTY THE QUEEN
Defendant
REASONS FOR JUDGMENT
DUBÉ J.:
[1] This is an appeal de novo from a decision of a judge of the Tax Court of Canada ("the TCC judge") dated June 12, 1995 dealing with assessments made pursuant to the Income Tax Act ("the Act") for the 1981 and 1983 taxation years of the plaintiff ("SLM").
[2] At the outset the parties agreed to base this appeal on the evidence submitted to the TCC and to recognize that the facts set out in the TCC judge's reasons for judgment are correct. An order dated December 15, 1999 further provides that if the assessments against SLM were upheld, the appeal by Gestion Prego Inc. in case T-2007-95 should be dismissed.
1. Facts
[3] The very complex facts involve a number of transactions between several companies. They are set out in detail in the first 28 paragraphs of the reasons for judgment of the honourable TCC judge. At this preliminary stage, I will simply cite verbatim the first two paragraphs, to serve as an introduction, and the conclusion in paragraph 74:
1. Dissension reigned in 1979 among the four shareholders of Les Industries S.L.M. Inc. (S.L.M.), all of whose capital stock was held in equal parts by four investment companies. One of these investment companies, Gestion Prego Inc. (Prego), was held by Guy Godbout, who wanted S.L.M. to divest itself of its two subsidiaries, Manufacture St-Laurent Inc. (St-Laurent) and Les Industries Valcartier Inc. (Valcartier). To achieve this objective, Prego took steps in April 1980 to purchase the interests of its three co-shareholders and thus to take control of S.L.M. It subsequently found a purchaser for Valcartier. St-Laurent, which was experiencing financial difficulties, would be sold by S.L.M. for $1 to Georges Couture, who controlled one of the shareholders of S.L.M.
2. Tax experts recommended the steps to be taken. First, in August 1980, St-Laurent declared a $1,000,000 stock dividend, as a consequence of which the adjusted cost base of S.L.M.'s shares was increased by $1,000,000. S.L.M. realized a $1,000,000 capital loss on the sale to Mr. Couture. A few weeks later, S.L.M. disposed of Valcartier's shares for $9,000,000 to a subsidiary of the engineering firm S.N.C. (S.N.C. subsidiary). This selling price would have enabled S.L.M. to realize a $4,910,000 gain if it had proceeded by way of an ordinary sale of Valcartier's shares to S.N.C. subsidiary. However, S.L.M. set up a tax arrangement that enabled it to be deemed to have received dividends of $3,910,000 [see Note 1 below] in 1981 and 1983, which left it with a capital gain of only $1,000,000. In computing its income, S.L.M. deducted from this gain the $1,000,000 capital loss realized in the sale of its St-Laurent shares. The dividends of $3,910,000 were deducted from S.L.M.'s taxable income under section 112 of the Income Tax Act (Act), which section permits the tax-free declaration of dividends between companies. Ultimately, as a result of the tax arrangement, S.L.M. reported no taxable gain arising from the sale of its two subsidiaries.
74. For these reasons, S.L.M.'s appeals for the 1981 and 1983 taxation years are dismissed. The appeals by Prego from the assessment of July 7, 1987, and from the assessments for the 1981 to 1985 taxation years are also dismissed.
[4] To simplify the presentation of facts the defendant, in its memorandum for the pre-trial conference, summarized the foregoing operations into two major transactions. The following three paragraphs greatly facilitate understanding of the points at issue:
[TRANSLATION]
13. The first transaction is that in which "ISLM" divested itself of its "St-Laurent" subsidiary. In August 1980 "St-Laurent" declared a share dividend of $1,000,000 (reasons for judgment, page 2, first four lines). "ISLM" then sold its "St-Laurent" shares to one Mr. Couture, the principal in Gestion S.L. According to the submissions of "ISLM" this share sale occasioned a loss of $1,000,000 which it applied against a capital gain of the same amount of $1,000,000 resulting from the second aforementioned transaction (see reasons for judgment, page 2, paragraph 1, lines 10 to 12). By a skilful tax manoeuvre, as it were, involving the concept of a "deemed dividend", the defendant is arguing that "ISLM" artificially created a loss which would not ordinarily have resulted from the disposition of its subsidiary.
14. The second transaction is that in which "ISLM" sold its subsidiary "Valcartier" to a subsidiary of S.N.C. "ISLM" did not sell the shares which it held in "Valcartier" directly to the S.N.C. subsidiary. To simplify matters as far as possible, the S.N.C. subsidiary subscribed to the capital stock of "Valcartier", which proceeded to buy back the shares held by "ISLM". By a skilful tax manoeuvre, as it were, involving the concept of a "deemed dividend", the defendant is arguing that "ISLM" artificially reduced the capital gain that would ordinarily have resulted from the disposition of its "Valcartier" subsidiary.
15. As appears from the reasons for judgment, the Minister of National Revenue based his assessments resulting from the two transactions (the sale of the "St-Laurent" and "Valcartier" subsidiaries) on s. 55(1) of the Income Tax Act (reasons for judgment, page 2, paragraph 2, last 5 lines, and also page 12, paragraph 1). Additionally, for the second transaction (the "Valcartier"sale) the Minister of National Revenue relied alternatively on the provisions of s. 55(2) of the Income Tax Act (reasons for judgment, page 3, paragraph 1 and page 13, paragraph 1).
[5] The four following organization charts illustrate the initial position of the companies involved at the time of the first transaction, the results of the first transaction, the second transaction and the results of the second transaction:
2. Nature of proceeding
[6] As already mentioned, this appeal de novo relates to assessments by the Minister of National Revenue for SLM's 1981 and 1983 taxation years. Specifically, the discussion raises points of law involving s. 55(1) and (2) of the Act in effect in the two years in question. The two subsections read as follows:
Sec. 55 Avoidance.
(1) For the purposes of this subdivision, where the result of one or more sales, exchanges, declarations of trust, or other transactions of any kind whatever is that a taxpayer has disposed of property under circumstances such that he may reasonably be considered to have artificially or unduly
(a) reduced the amount of his gain from the disposition,
(b) created a loss from the disposition, or
(c) increased the amount of his loss from the disposition,
the taxpayer's gain or loss, as the case may be, from the disposition of the property shall be computed as if such reduction, creation or increase, as the case may be, had not occurred.
(2) Deemed proceeds or capital gain. Where a corporation resident in Canada has after April 21, 1980 received a taxable dividend in respect of which it is entitled to a deduction under subsection 112(1) or 138(6) as part of a transaction or event or a series of transactions or events (other than as part of a series of transactions or events that commenced before April 22, 1980), one of the purposes of which (or, in the case of a dividend under subsection 84(3), one of the results of which) was to effect a significant reduction in the portion of the capital gain that, but for the dividend, would have been realized on a disposition at fair market value of any share of capital stock immediately before the dividend and that could reasonably be considered to be attributable to anything other than income earned or realized by any corporation after 1971 and before the dividend was received, notwithstanding any other section of this Act, the amount of the dividend (other than the portion thereof, if any, subject to tax under Part IV)
(a) shall, except for the purpose of computing the corporation's cumulative deduction account (within the meaning assigned by paragraph 125(6)(b)), be deemed not to be a dividend received by the corporation;
(b) where a corporation has disposed of the share, shall be deemed to be proceeds of disposition of the share except to the extent that it is otherwise included in computing such proceeds; and
(c) where a corporation has not disposed of the share, shall be deemed to be a gain of the corporation for the year in which the dividend was received from the disposition of a capital property.
[7] It should be noted that s. 55(2) was argued for the first time before the Tax Court of Canada "alternatively" in the amended reply following SLM's appeal.
3. Plaintiff's arguments
(1) Section 55(2) of Act
[8] At the outset, SLM alleged that the defendant could not amend her assessment and notices of assessment in midstream so as to plead the application of s. 55(2). The original notice of assessment was based solely on s. 55(1). It was not until its amended reply to the notice of appeal dated July 22, 1994 that the defendant referred to s. 55(2), and this was accordingly beyond the four-year deadline specified by the Act. At an informal conference in the TCC judge's office, the latter dismissed the objections of counsel for SLM and allowed the amendment.
[9] Firstly, counsel relied on a judgment of the Supreme Court of Canada, Continental Bank of Canada v. Canada, on September 3, 1998 (and so subsequent to the TCC judge's decision), in which Bastarache J. indicated very clearly that the Crown is not permitted to advance a new basis for reassessment after the four-year limitation period has expired. This is what the judge wrote on this point:
10. The applicable limitation period under the Act for assessing a taxpayer is four years from the date of issuance of Revenue Canada's Notice of Reassessment (ss. 152(3.1) and 152(4) of the Act). As a result, the latest that the Minister could have reassessed the Bank for the recapture of cost allowance was October 12, 1993. The Crown is not permitted to advance a new basis for reassessment after the limitation period has expired. The proper approach was expressed in The Queen v. McLeod, 90 D.T.C. 6281 (F.C.T.D.), at p. 6286. In that case, the court rejected the Crown's motion for leave to amend its pleadings to include a new statutory basis for Revenue Canada's assessment. The court refused leave on the basis that the Crown's attempt to plead a new section of the Act was, in effect, an attempt to change the basis of the assessment appealed from, and "tantamount to allowing the Minister to appeal his own assessment, a notion which has specifically been rejected by the courts". Similarly, the Federal Court of Appeal has described such attempts by the Crown as "a belated attempt to put the appellant's case on a new footing" (British Columbia Telephone Co. v. Minister of National Revenue (1994), 167 N.R. 112, at p. 116).
[10] In a still more recent judgment, Timothy R. Pedwell v. Her Majesty the Queen, dated June 12, 2000, Rothstein J.A. of the Federal Court of Appeal, referring to Continental Bank, supra, reversed a TCC decision as follows:
[15] While the parties referred to a number of older authorities on the issue, Continental Bank now makes it clear (subject to subsection 152(9) which applies to appeals disposed of after June 17, 1999 and is not relevant here in any event) that the Minister is bound by his basis of assessment. While this case does not involve the Minister advancing a different basis of assessment, I think the principle in Continental Bank is applicable to a judicial determination on a basis different from that in the notice of reassessment.
[16] First, if the Crown is not able to change the basis of reassessment after a limitation period expires, the Tax Court is not in any different position. The same prejudice to the taxpayer results C the deprivation of the benefit of the limitation period. It is not open to that Court or indeed this Court, to construct its own basis of assessment when that has not been the basis of the Minister's reassessment of the taxpayer.
[17] Second, while it is open to the Minister to change the basis of assessment before the limitation period expires, where he does not do so, in my respectful opinion, the Tax Court judge is bound by the assessment at issue before the Court. Fairness requires that the taxpayer be given a reasonable opportunity to contest a new basis of assessment. If the Tax Court judge decides on a basis of assessment not at issue during the Court proceedings, the taxpayer is deprived of that opportunity.
[11] The plaintiff pointed out that in the case at bar the basis of the assessment under s. 55(1) was that the taxpayer had "artificially" or "unduly" reduced the gain resulting from the disposition of the shares in question, while s. 55(2) introduced a new basis, namely that the deemed dividend exceeded the protected income, and thus a wholly different basis.
[12] Even if this was only a new argument and not a new basis, s. 152(9) of the Act cannot be relied on because it does not apply to an appeal de novo from a Tax Court of Canada decision. It reads as follows:
152.(9) The Minister may advance an alternative argument in support of an assessment at any time after the normal reassessment period unless, on an appeal under this Act
(a) there is relevant evidence that the taxpayer is no longer able to adduce without the leave of the court; and
(b) it is not appropriate in the circumstances for the court to order that the evidence be adduced.
[13] In The Queen v. Hollinger Inc. the Federal Court of Appeal, dealing with this matter, indicated that following the Continental Bank case, supra, "[t]he Crown is not permitted to advance a new basis for reassessment after the limitation period has expired".
[14] Referring to s. 152(9), supra, Létourneau J.A. noted that "the amendment has no application in the present proceedings because it was not in force when the matter was argued before the Tax Court".
[15] Moreover, counsel for the defendant indicated in the course of his oral argument at the hearing that he was no longer relying on s. 152(9).
[16] Additionally, the plaintiff argued that s. 55(2) is not applicable in the case at bar as "the transactions and events" giving rise to the notices of assessment began before April 22, 1980, specifically on April 7, 1980, whereas Mr. Couture confirmed in writing the general provisions of the transaction (in particular the price) at the time Mr. Godbout had already begun discussions with Valcartier, Remington and Bombardier for the resale of the shares.
[17] In fact, in the first paragraph of his decision the TCC judge mentioned that Mr. Godbout wanted SLM to dispose of its two subsidiaries (St-Laurent and Valcartier) and that "to achieve this objective, Prego took steps in April 1980 . . .". As of that date, the events at issue were part of a series of events and transactions leading to the disposition of Valcartier, the redemption of whose shares was one part of the final objective. This was in fact the Minister's position until July 1994. The starting-point is thus the letter dated April 7, 1980 from Mr. Couture, president of Gestion St-Laurent, to Mr. Godbout, president of Prego, offering him an option on the shares in SLM to initiate the process.
[18] Section 248(10) of the Act provides that "for the purposes of this Act, where there is a reference to a series of transactions or events, the series shall be deemed to include any related transactions or events completed in contemplation of the series". The letter and option circulated between the two principal protagonists on April 7, 1980 must surely be regarded as at least an "event" initiating the subsequent transactions.
[19] When a text contained in an anti-avoidance provision is clear and unambiguous, the courts do not have to look for an interpretation based on an understanding of the purpose and spirit of the Act. The very wording of s. 55(2) contained in parentheses ("other than as part of a series of transactions or events that commenced before April 22, 1980") clearly indicates that the said subsection does not affect transactions already in effect at April 22, 1980.
[20] Further, s. 55(2) of the Act as it then stood does not in any way imply that the "protected income" should be allocated pro rata to the issued and outstanding shares. On the contrary, the purpose and spirit of s. 55(2) of the Act require that the "protected income" be allocated to the shareholders, based on the shares held by them and the particular characteristics of each class of shares held.
[21] The redemption of the Valcartier Class D preferred shares for $1,915,000 on June 29, 1981 occurred before s. 55(2) of the Act was amended. On the date the said shares were redeemed, the date for determining the protected income was the date "the dividend was received". On that date, the Valcartier protected income applicable to the premium paid on redemption of the Class D preferred shares was greatly in excess of the said premium.
[22] Under s. 84(3) of the Act, the premium paid on redemption of a share is regarded as a dividend and in accounting this premium is treated as a dividend and comes from the profits of the business. A preferred share redeemable at a premium is thus a participating share (in the profits of the business) up to the amount of the premium. At June 30, 1981 Valcartier's "protected income" was amply sufficient to avoid application of s. 55(2) to the deemed dividends of $1,910,000.
(2) Section 55(1) of the Act
[23] The plaintiff argued, with regard to the $1,000,000 capital loss resulting from the disposition of 1,000 Class B preferred shares and 470 ordinary shares in SLM, that it did not dispose of these shares artificially or unduly to create a loss. It argued that the loss was occasioned by chance without its direct or indirect involvement. It was not the plaintiff itself which initiated all these transactions. On the contrary, the persons principally responsible were Mr. Godbout of Prego and Valcartier and Mr. Couture of Gestion St-Laurent and St-Laurent. It was the tax consultants of the latter who laid out the various stages of the procedure indicated. There was no deception. Everything took place openly and legally.
[24] Section 55(1) of the Act, and especially its English version, confirms that the taxpayer must be the person who contributed by his actions to creating the loss ("a taxpayer has disposed of property under circumstances such that he may reasonably be considered to have artificially or unduly . . . created a loss from the disposition, or . . ."). If Parliament had intended that s. 55(1) should apply regardless of the taxpayer's intent, it would not have used the pronoun "he".
[25] In Nova Corp. of Alberta v. Canada the Federal Court of Appeal held that a taxpayer had not done anything to create or increase the loss pursuant to s. 55(1) of the Act. Marceau J.A. concluded that it "is now trite to say that a taxpayer is entitled to arrange its affairs so as to maximize the tax shelter available to it under the law". McDonald J.A., for his part, said the following in para. 47:
Upon a plain reading of this subsection, there is a precondition to the application of the subsection: the taxpayer must have done something to artificially or unduly increase his losses from disposition. That is, it is not enough that there be a loss, or that a loss be artificially or unduly increased in amount. For the subsection to apply, it requires that "he" -- the taxpayer -- have increased the amount of his loss from disposition.
. . . . .
On a plain reading of subsection 55(1), then, the taxpayer must have done something to influence either the adjusted cost base or the proceeds of disposition in order to have artificially or unduly increased his losses.
[26] In the course of the Hollinger judgment, mentioned above, Létourneau J.A. of the
Federal Court of Appeal concluded as follows in para. 39:
[39] Like my colleagues in the Nova case, I am disturbed by the fact that a corporation, such as the respondent, was able to repatriate losses in the amount of 92 millions incurred in the United States and thereby reduce its Canadian tax liability. However, as Desjardins, J.A. pointed out in the Nova case, we are concerned here with the legality of the transaction, not its morality. I am bound by the law which existed at the time and which allowed for this kind of transaction.
[27] So, even if we came to the conclusion that the taxpayer could have directly or indirectly contributed to creating or increasing the loss, what must be considered is not the morality but rather the legality of the transactions. In Shell Canada Ltd. v. Canada, the Supreme Court of Canada recently made a ruling on the concept of the "economic realities" of a taxpayer's situation as follows:
But there are at least two caveats to this rule. First, this Court has never held that the economic realities of a situation can be used to recharacterize a taxpayer's bona fide legal relationships. To the contrary, we have held that, absent a specific provision of the Act to the contrary or a finding that they are a sham, the taxpayer's legal relationships must be respected in tax cases. Recharacterization is only permissible if the label attached by the taxpayer to the particular transaction does not properly reflect its actual legal effect: Continental Bank Leasing Corp. v. Canada, [1998] 2 S.C.R. 298, at para. 21, per Bastarache J.
Second, it is well established in this Court's tax jurisprudence that a searching inquiry for either the "economic realities" of a particular transaction or the general object and spirit of the provision at issue can never supplant a court's duty to apply an unambiguous provision of the Act to a taxpayer's transaction. Where the provision at issue is clear and unambiguous, its terms must simply be applied: Continental Bank, supra, at para. 51, per Bastarache J.; Tennant, supra, at para. 16, per Iacobucci J.; Canada v. Antosko, [1994] 2 S.C.R. 312, at pp. 326-27 and 330, per Iacobucci J.; Friesen v. Canada, [1995] 3 S.C.R. 103, at para. 11, per Major J.; Alberta (Treasury Branches) v. M.N.R., [1996] 1 S.C.R. 963, at para. 15, per Cory J.
[28] And in para. 43:
This Court has consistently held that courts must therefore be cautious before finding within the clear provisions of the Act an unexpressed legislative intention: Canderel Ltd. v. Canada, [1998] 1 S.C.R. 147, at para. 41, per Iacobucci J.; Royal Bank of Canada v. Sparrow Electric Corp., [1997] 1 S.C.R. 411, at para. 112, per Iacobucci J.; Antosko, supra, at p. 328, per Iacobucci J. Finding unexpressed legislative intentions under the guise of purposive interpretation runs the risk of upsetting the balance Parliament has attempted to strike in the Act.
[29] And McLachlin J., as she then was, concluded as follows:
45. However, this Court has made it clear in more recent decisions that, absent a specific provision to the contrary, it is not the courts'role to prevent taxpayers from relying on the sophisticated structure of their transactions, arranged in such a way that the particular provisions of the Act are met, on the basis that it would be inequitable to those taxpayers who have not chosen to structure their transactions that way. This issue was specifically addressed by this Court in Duha Printers (Western) Ltd. v. Canada, [1998] 1 S.C.R. 795, at para. 88, per Iacobucci J. See also Neuman v. M.N.R., [1998] 1 S.C.R. 770, at para. 63, per Iacobucci J. The courts' role is to interpret and apply the Act as it was adopted by Parliament. Obiter statements in earlier cases that might be said to support a broader and less certain interpretive principle have therefore been overtaken by our developing tax jurisprudence. Unless the Act provides otherwise, a taxpayer is entitled to the tax based on what it actually did, not based on what it could have done, and certainly not based on what a less sophisticated taxpayer might have done.
4. Defendant's arguments
[30] For her part, the defendant adopted in toto the analysis and conclusions of the TCC judge. Section 55(1) of the Act applies to both transactions and is not made inapplicable if another provision, here s. 55(2) of the Act, may be applicable. As to s. 55(2) of the Act, this applies only to the second transaction. The defendant relied in particular on the following passages from the TCC judge's analysis.
[31] In para. 68 of his reasons, he asked the following question:
For the existence of this loss to be disregarded, the result of these transactions must be that S.L.M. disposed of the shares under circumstances such that it may reasonably be considered to have artificially or unduly created a loss.
[32] In para. 71 of his reasons, he added this further question:
Did this $1,000,000 loss reflect the economic reality of the transaction? On the facts of this case, I must answer in the negative.
[33] Finally, in para. 73 of his reasons he concluded as follows:
By declaring a stock dividend and disposing of the valueless Class B preferred shares, S.L.M. acted excessively or abnormally so as to create a tax loss that was not consistent with economic reality. Subsection 55(1) applies to the sale of S.L.M.'s shares to Mr. Couture.
[34] The TCC judge analysed the second transaction (that of the "Valcartier" sale) in particular beginning at paras. 32 and 33 of the reasons for his decision:
The burden is on the Minister to prove the relevant facts necessary for the application of subsection 55(2) of the Act. Furthermore, that subsection raises the question of the application of the transitional rule. This section does not apply to a transaction or an event that is part of a series of transactions or events that commenced prior to April 22, 1980 . . .
Subsection 55(1) of the Act states an anti-avoidance rule of general application, whereas subsection 52(2) [sic] states an anti-avoidance rule of more limited application. The latter applies when a capital gain is transformed into a non-taxable dividend. As far as possible, the Court must favour the rule of limited application over the rule of general application. In the circumstances of this appeal, subsection 55(2) could apply, provided the series of transactions did not begin prior to April 22, 1980 . . .
[35] At para. 45 of his reasons, the judge discussed the purposes of s. 55(2) of the Act, writing the following:
First of all, let us address the objectives pursued by subsection 55(2) of the Act. This subsection is an anti-avoidance provision designed to prevent an artificial or undue reduction of the capital gain that a taxpayer would have realized if he had simply sold his shares at their fair market value.
[36] After an exhaustive analysis of the evidence, the judge concluded as follows at para. 54 of his reasons:
From the analysis of this series of transactions, it may be seen that it is not necessary to go back to a date prior to August 27, 1980, in order to conclude that S.L.M. conducted a series of transactions the effect of which was to reduce the capital gain . . .
[37] The TCC judge went on to draw the conclusion that the deemed dividends paid to SLM for 1981 and 1983 significantly reduced the capital gain that would have resulted from the second transaction.
[38] On s. 55(2) of the Act, the defendant relied on the TCC judge's findings. The latter acknowledged that it was the Minister who had the burden of proof in establishing the relevant facts required for that section to apply. He noted that the Minister initially believed that the series of transactions had begun before April 22, 1980. It was not until he was before the TCC that he changed his interpretation and argued that the series of transactions began on July 21, 1980, the date of the fiscal scheme prepared by Létourneau Stein.
[39] Section 55(1) of the Act sets out an anti-avoidance rule of general application, while s. 55(2) deals with more limited application. He asked himself whether this was a series of transactions. After examining dictionaries and the case law, he concluded that s. 55(2) is an anti-avoidance provision designed to prevent an artificial or undue reduction of the capital gain. In view of the objectives of s. 55(2), he found that the phrase "series of transactions" must have a meaning that is sufficiently broad to enable the tax authorities to prevent artificial or undue reduction, but is as narrow as possible so as not to penalize a taxpayer needlessly. If for purposes of the redemption of the shares in 1983 the commencement of the series was placed at April 7, 1980, SLM could not have had the benefit of protected income. On the other hand, if the commencement of the series was set at August 27, 1980 and the end at June 30, 1983, there was during this period a set of transactions each of which was essential to achieving the objective pursued by SLM. The first stage, therefore, was to put in place on August 27, 1980 the shares for the redemptions of June 29, 1981 and June 30, 1983. After analysing the series of transactions, the judge found that it was not necessary to go back to any earlier date than August 27, 1980.
[40] In his view, the fact that Prego obtained a right of first refusal from Gestion SLM on April 7, 1980 was not part of the series of transactions in the course of which the sale of the contract shares and the redemptions of the Class C and Class D preferred shares took place. The purpose of the right was entirely different. The date of July 21, 1980 put forward by the Minister should be ruled out since the purpose of the brief prepared by Létourneau Stein was to describe the stages of the takeover of control of SLM by Prego and it had nothing to do with the sale of the Valcartier shares by SLM.
5. Analysis
[41] The case law on tax avoidance has undergone a significant development since the decision of the Tax Court of Canada in this case. The case was heard in September 1994 and the decision rendered in June 1995. In September 1998 the Supreme Court of Canada in Continental Bank clearly established that the Crown is not permitted to advance a new basis for reassessment after the four-year limitation period has expired. In May 2000 the Federal Court of Appeal gave a clarification, indicating that the Minister is bound by the fundamental basis of his assessment after the four-year limitation period and that the Tax Court of Canada is also subject to this prescription.
[42] In Hollinger, the Federal Court of Appeal noted that s. 52(9) of the Act, allowing the Minister to advance a new argument in support of an assessment after the limitation period had expired, was not applicable since it was not in effect when the point was argued before the Tax Court of Canada. The Federal Court of Appeal judgments in Nova and Hollinger, supra, established that in this type of transaction the Court must consider the legality, not the morality, of the transaction.
[43] In Shell Canada, a judgment of the Supreme Court of Canada released on October 15, 1999, the Court indicated that it had never held that the economic realities of a situation could be used to recharacterize a taxpayer's bona fide legal relationships. If the transaction in question is not a sham, and in the absence of any specific provision of the Act to the contrary, the taxpayer's legal relationships must be respected in tax cases. A searching inquiry for either the "economic realities" of a particular transaction or the general object and spirit of the provision at issue can never supplant a court's duty to apply an unambiguous provision of the Act to a taxpayer's transaction.
[44] Finding unexpressed legislative intentions under the guise of purposive interpretation runs the risk of upsetting the balance Parliament has attempted to strike in the Act. In particular, the courts should not prevent taxpayers from relying on the sophisticated structure of their transactions, arranged in such a way that the particular provisions of the Act are met, on the basis that it would be inequitable to those taxpayers who have not chosen to structure their transactions that way. A taxpayer is perfectly free to manage his affairs so as to reduce his tax obligation within the framework of the Act.
[45] Accordingly, the application of s. 55(1) and (2) to the facts of the case at bar must be considered in light of these principles.
5.1 - Scope of s. 55(2)
[46] Clearly, s. 55(2) does not apply to the facts of the case at bar for the following reasons. First, the Crown was not permitted to advance a different basis for a reassessment after the four-year limitation period had expired. This was really a belated attempt to slip in a new basis for the assessment.
[47] Second, although this was only a new argument, not a new basis, s. 152(9) of the Act could not be relied on because it was not in effect at the relevant time. Additionally, the defendant ruled out this subsection in the course of her arguments.
[48] Third, in my opinion the series of transactions and events leading to the notices of assessment commenced before April 22, 1980 and thus was excluded from the capital gain presumption contained in s. 55(2). The series of transactions and events commenced on April 7, 1980, when Mr. Couture of Gestion St-Laurent gave Mr. Godbout of Prego a right of first refusal on his SLM shares.
5.2 - Scope of s. 55(1)
[49] The same is not true for s. 55(1), which in my opinion applies to the first transaction but not to the second.
5.2(a) - Transaction 1
[50] In Nova, mentioned above, the Federal Court of Appeal noted the pre-condition for application of s. 55(1) of the Act, namely that the taxpayer himself must have done something to influence either the adjusted cost base ("the ACB" ) or the proceeds of disposition ("the PD") of the shares so as to "artificially or unduly" increase a loss.
[51] First, the declaration of a $1,000,000 share dividend by St-Laurent must be attributed to SLM because of the degree of control exercised by the latter over the subsidiary.
[52] Second, the declaration of the dividend by St-Laurent had the direct consequence of increasing the ACB of the SLM shares by $1,000,000, which led to the loss in question. In other words, in the case at bar the $1,000,000 loss would not have occurred but for the declaration of dividends. For this reason, the TCC judge was quite right when he drew this conclusion:
If S.L.M. had only disposed of the 470 common shares that it owned, it would have realized neither a gain nor a loss. The fact that it declared a $1,000,000 stock dividend had the effect of increasing the ACB by $1,000,000. The sale of these Class B preferred shares thus generated a loss of $1,000,000.
[53] As noted earlier, it is true that a loss is not "artificial or undue" when it results from application of the Act. However, I agree with the defendant that the facts in Nova and Hollinger should be distinguished from the transaction under consideration. In the case at bar, the loss did not exist before the dividend was declared and it cannot be argued that SLM simply inherited this loss. In my opinion, the $1,000,000 loss was not achieved because of a particular provision of the Act, but rather as the result of something done by SLM.
[54] Accordingly, when SLM declared the dividend it did something to influence the ACB of its shares so as to artificially create a loss within the meaning of s. 55(1).
5.2(b) - Transaction 2
[55] It should be noted at the outset that at the time of the second transaction Prego was the sole shareholder in SLM and SLM in turn held 100% of the shares in Valcartier. In fact, on June 11, 1980 Gestion, Fercal and Armaco had sold all their shares in SLM to Prego. These three companies were therefore not involved in the second transaction.
[56] On June 11, 1980 SLM held 100% of Valcartier's shares. SNC, which wanted to buy Valcartier, sent SLM a purchase offer on August 11, 1980. On September 15, 1980 the parties drew up a contract of purchase containing certain conditions of sale, including the following complex transactions:
[TRANSLATION]
C On September 4, 1980 SLM issued a number of its own shares to SNC for $1,760,000. The contract between Valcartier and SNC provided that SLM could later redeem these shares at a fixed price.
C On September 15, 1980 SLM sold its Valcartier shares to SNC for $5,240,000.
C On September 16, 1980 Valcartier issued SLM 2,000 of its own shares. The contract between Valcartier and SNC provided that Valcartier could later redeem these shares at a fixed price.
C On June 29, 1980 Valcartier redeemed 1,000 of the shares held by SLM for $1,915,000 and redeemed the other 1,000 shares on June 30, 1980 for $2,406,666, as provided in the redemption agreement.
C On June 30, 1980 SLM redeemed all its shares held by SNC for $1,915,000, as provided in the redemption agreement.
[57] The redemption of the 2,000 shares by Valcartier created a deemed dividend of $4,311,666 for SLM pursuant to s. 112 of the Act. This allowed SLM to claim a deduction of the same amount pursuant to s. 54(h)(x) of the Act. In fact, the deemed dividend could be excluded from the PD of the shares sold to Valcartier, which reduced the capital gain made by SLM on that sale.
[58] This exchange of shares between Valcartier and SLM resulted from a pre-condition for
the purchase by SNC of Valcartier mentioned in the contract of sale between those two corporations dealing at arm's length. For this reason, I consider that the loss resulting from the redemption of the shares was achieved by an arm's-length transaction.
[59] As noted earlier, a loss will not be "artificial or undue" when it results from application of the Act. The defendant was unable to persuade the Court that the loss in question was actually created "artificially or unduly". Further, an analysis of the foregoing transactions leads me to conclude that SLM cannot be regarded as having "done something" affecting the ACB or PD of the shares in the case at bar: the transaction was carried out with a corporation dealing at arm's length. The loss was made pursuant to ss. 112 and 54(h)(x) of the Act. Consequently, I conclude that s. 55(1) does not apply to this transaction.
[60] A taxpayer is entitled to arrange its affairs so as to maximize the tax shelter available to it under the law. The Court must consider here not the morality of the transactions, but their legality. The courts should also not rule on the basis of the economic realities of a transaction. If a provision is clear and unambiguous it must simply be applied, unless there are provisions to the contrary in the Act. The taxpayer is entitled to organize his own affairs and cannot be held to have an implicit intention to evade tax artificially or unduly simply because he has used a complex and unusual tax strategy.
6. Disposition
[61] For these reasons, the plaintiff's appeal is dismissed as to the first transaction and allowed as to the second transaction. The notices of assessment should be adjusted accordingly. The plaintiff will be entitled to its costs.
[62] As indicated in the order of December 15, 1999, the same will apply to the appeal by Gestion Prego Inc.
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Judge
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OTTAWA, Ontario
October 27, 2000
Certified true translation
Suzanne M. Gauthier, LL.L. Trad. a.
FEDERAL COURT OF CANADA
TRIAL DIVISION
NAMES OF COUNSEL AND SOLICITORS OF RECORD
COURT No.: T-2006-95
STYLE OF CAUSE: LES INDUSTRIES S.L.M. INC.
- and -
HER MAJESTY THE QUEEN
PLACE OF HEARING: Montréal, Quebec
DATE OF HEARING: October 3, 2000
REASONS FOR ORDER BY: DUBÉ J.
DATED: October 27, 2000
APPEARANCES:
Bertrand Leduc FOR THE PLAINTIFF
Daniel Marecki FOR THE DEFENDANT
SOLICITORS OF RECORD:
Leduc, Leblanc FOR THE PLAINTIFF
Montréal, Quebec
Morris Rosenberg FOR THE DEFENDANT
Deputy Attorney General of Canada
Ottawa, Ontario
This quotation occurs in para. 39, 99 D.T.C. - TR.
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