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].