Les Développements Iberville Ltée v. Agence du Revenu du Québec, 2018 QCCA 1886 (Quebec Court of Appeal)

Three affiliated Quebec corporations (Développements, Location and Estrie) would have realized gains totaling $728.9 million (plus recapture of depreciation of $67.1 million) on their sale of various Quebec real estate properties. They transferred those properties on a rollover basis to limited partnerships controlled by them, and then transferred their units of those LPs to the two appellant numbered companies, also on a rollover basis. The two numbered companies, selected February 28, 2006 as their taxation year-end for federal (and Ontario) tax purposes, but March 19, 2006 for Quebec taxation purposes. On March 1, the two numbered companies then acquired units in two Ontario LPs with business income, which had the effect of most of their income being allocated to Ontario for Quebec purposes in accordance with the formula in Rule 771R3, so that virtually no Quebec tax was payable on the above gains, which were realized in March between the two year ends. For the year ending February 28, 2006, the two numbered companies declared no capital gains or recapture of depreciation.

The Court of Quebec found that establishing different year ends for provincial and federal purposes was contrary to the purpose of the Taxation Act, s. 7, which defined a company’s taxation year as well as Rule 771R3, whose purpose was to ensure an equitable distribution of the tax burden on companies carrying on business in more than one province, and also found that the rollover transactions abused the legislative intent of the rollover provisions, which was to defer and not to eliminate tax. Accordingly, the avoidance of the Quebec tax was reversed through the application of the Quebec general anti-avoidance provision to treat the year end for Quebec purposes (February 28) the same as it was federally and in Ontario.

All three findings were confirmed by Schrager JA. In confirming the finding on Rule 771R3, he stated (at para. 48, and in disagreeing with what he characterized as obiter on a similar point in Veracity):

The rationale [of Rule 771R3] is to allocate income amongst the provinces where a corporation carries on business. This is done in order to achieve equitable taxation, meaning that not more than 100% of total income should be taxed. The same rational dictates that no less than 100% of the income should be taxed.

Respecting s. 7, he stated (at para. 52, 55-56):

The definition of fiscal period essentially copied from the federal legislation some years ago cannot in context be characterized as tax policy and certainly not a policy to treat capital gains differently from other provinces or from the federal government. The [definition] … by no means speaks to specifically allowing different financial year-ends for Quebec purposes.

The BCCA [in Veracity] … conclude[s] that because there is no uniform system of provincial taxation in Canada, then something may well “fall through the cracks. Such reasoning may well apply where provinces ascribe different tax treatment to the same category of revenue … .

[However, here] the income, or capital gain is treated the same in Quebec, Ontario and by the federal government for tax purposes so that upon application of the allocation formula, 100% of the income must result in taxation somewhere as the Quebec Court judge correctly decided.

Respecting the abuse of the rollover provisions, he stated (at paras. 61-62):

[T]he Appellants transferred their business to Ontario knowing that because of the creation of two fiscal periods, tax would not be paid there …[and] knew that no tax would be payable in Quebec because (theoretically) it was payable in Ontario upon application of the allocation formula, but because of the different fiscal periods, no tax would ultimately be paid in Ontario.

Thus, the rollover provisions have been used, as in OGT Holdings, to avoid the payment of tax and not simply defer its payment. ln this manner, the Appellants have acted contrary to the object and spirit of [the rollover provisions].

Three affiliated Quebec corporations avoided (or so they thought) most of the Quebec tax on the sale of Quebec real estate at a gain of around $800M (including some recapture) by using a “Quebec year-end shuffle.” In particular, they transferred the properties on a rollover basis to subsidiary LPs, and then transferred their units of those LPs to two numbered companies, also on a rollover basis. The two numbered companies selected February 28, 2006 as their taxation year-end for federal (and Ontario) tax purposes, but March 19, 2006 for Quebec taxation purposes. On March 1, the two numbered companies then acquired units in two Ontario LPs with business income, which had the effect of most of their income being allocated to Ontario for Quebec purposes in accordance with the inter-provincial income allocation formula, so that virtually no Quebec tax was payable on the above gains, which were realized in March between the two year ends.

Schrager JA agreed with the findings in the Court of Quebec that:

• establishing different year ends for provincial and federal purposes was contrary to the purpose of the Quebec definition of “fiscal period” which, in copying the federal definition, did not show any intention to allow different year ends for federal and Quebec purposes as well as contrary to the interprovincial allocation rule, whose purpose was to ensure that 100% of a corporation’s income is taxed collectively by the provinces (with Schrager JA disagreeing with a Veracity comment that how the provinces tax the income allocated to them “is beyond the purpose, object and spirit of the Allocation Rules”)
• the rollover transactions abused the legislative intent of the rollover provisions, which was to defer and not to eliminate tax.

In the latter regard, he stated (at paras. 61-62):

[T]he Appellants transferred their business to Ontario knowing that because of the creation of two fiscal periods, tax would not be paid there …[and] knew that no tax would be payable in Quebec because (theoretically) it was payable in Ontario upon application of the allocation formula, but because of the different fiscal periods, no tax would ultimately be paid in Ontario.

Thus, the rollover provisions have been used, as in OGT Holdings, to avoid the payment of tax and not simply defer its payment. ln this manner, the Appellants have acted contrary to the object and spirit of [the rollover provisions].

The taxpayer’s intention was to build a shopping center on 10 million square feet. The other 20 million square feet was purchased on the vendor's insistence of "all or nothing". Albeit not finalized, the zoning for at least a substantial portion of the 20 million square feet would be, to the knowledge of the principal, residential.

Schrager JA confirmed the finding below that although the 10 million square feet was capital property intended for development to generate revenue, the 20 million square feet was inventory meant for resale. The gain on the resale of the latter was income.

The taxpayer entered into lease agreements with two retailers, Pier 1 lmports and Bureau en Gros providing for the construction of buildings that would house stores for each of these enterprises in Sherbrooke and Candiac, Quebec, respectively. ln its tax returns for 2004, 2005 and 2007, the taxpayer capitalized half of the construction cost of such stores while deducting the other half as current expanses.

Schrager JA found no reversible error in the judge’s finding that the taxpayer had not clearly proved that all of the construction expenses were dictated by the tenants' requests (and, therefore, had not demonstrated that they were deductible in full).

Three affiliated Quebec corporations avoided (or so they thought) most of the Quebec tax on the sale of Quebec real estate at a gain of around $800M (including some recapture) by using a “Quebec year-end shuffle.” In particular, they transferred the properties on a rollover basis to subsidiary LPs, and then transferred their units of those LPs to two numbered companies, also on a rollover basis. The two numbered companies selected February 28, 2006 as their taxation year-end for federal (and Ontario) tax purposes, but March 19, 2006 for Quebec taxation purposes. On March 1, the two numbered companies then acquired units in two Ontario LPs with business income, which had the effect of most of their income being allocated to Ontario for Quebec purposes in accordance with the inter-provincial income allocation formula, so that virtually no Quebec tax was payable on the above gains, which were realized in March between the two year ends.

Schrager JA agreed with the findings in the Court of Quebec that the Quebec GAAR applied on the basis that:

• establishing different year ends for provincial and federal purposes was contrary to the purpose of the Quebec definition of “fiscal period” in Taxation Act, s. 7 which, in copying the federal definition, did not show any intention to allow different year ends for federal and Quebec purposes as well as contrary to the interprovincial allocation rule (Rule 771R3), whose purpose was to ensure that 100% of a corporation’s income is taxed collectively by the provinces (with Schrager JA disagreeing with a Veracity comment that how the provinces tax the income allocated to them “is beyond the purpose, object and spirit of the Allocation Rules”)
• the rollover transactions abused the legislative intent of the rollover provisions, which was to defer and not to eliminate tax.

Respecting the abuse of Rule 771R3 (corresponding to the federal Reg. 402(6)) when read in conjunction with s. 7, he stated (at paras. 48, 52, 55-56):

The rationale [of Rule 771R3] is to allocate income amongst the provinces where a corporation carries on business. This is done in order to achieve equitable taxation, meaning that not more than 100% of total income should be taxed. The same rational dictates that no less than 100% of the income should be taxed. …

The definition of fiscal period essentially copied from the federal legislation some years ago cannot in context be characterized as tax policy and certainly not a policy to treat capital gains differently from other provinces or from the federal government. The [definition] … by no means speaks to specifically allowing different financial year-ends for Quebec purposes.

The BCCA [in Veracity] … conclude[s] that because there is no uniform system of provincial taxation in Canada, then something may well “fall through the cracks. Such reasoning may well apply where provinces ascribe different tax treatment to the same category of revenue … .

[However, here] the income, or capital gain is treated the same in Quebec, Ontario and by the federal government for tax purposes so that upon application of the allocation formula, 100% of the income must result in taxation somewhere as the Quebec Court judge correctly decided.

Three affiliated Quebec corporations sought to avoid most of the Quebec tax on the sale of Quebec real estate at a gain of around $800M (including some recapture) by using a “Quebec year-end shuffle,” which entailed reorganizing to have the gains realized in subsidiary numbered companies that had different year ends for Quebec, and Ontario and federal, purposes. In connection with a finding that these transactions gave rise to an abuse under the Quebec general anti-avoidance rule, Schrager JA noted that establishing different year ends for provincial and federal purposes was contrary to the purpose of the Quebec definition of “fiscal period” in Taxation Act, s. 7 which, in copying the federal definition, did not show any intention to allow different year ends for federal and Quebec purposes, stating (at para. 52):

The definition of fiscal period essentially copied from the federal legislation some years ago cannot in context be characterized as tax policy and certainly not a policy to treat capital gains differently from other provinces or from the federal government. The [definition] … by no means speaks to specifically allowing different financial year-ends for Quebec purposes.