2763478 Canada - Federal Court of Appeal finds that value shift transactions abused the basic capital gains regime – and notes missing s. 245(6) request
An individual (Jobin) did not sell his shares of an operating company (Groupe AST) directly to a third-party purchaser, but instead transferred them on s . 85(1) rollover basis into a holding company (276), following which some internal transactions occurred in which the adjusted cost base of the Groupe AST shares was stepped up to fair market value - including a non-rollover drop-down of those shares to a subsidiary (9144) in exchange for high-basis common shares - with 276 realizing corresponding capital gains. The Groupe AST shares were then sold to the purchaser at no additional gain.
Nine months later in the same year, 276 engaged in “value shift” transactions, i.e., a stock dividend of high-low preferred shares was paid on the high-ACB common shares that 276 held in 9144, thereby rendering those common shares almost worthless, and then the capital loss was realized by selling those common shares for $1 to a corporation owned by Jobin’s son.
The internal gain recognition transactions effected at the beginning of the year ensured that the capital gain was recognized in the same hands (those of 276) as the ones realizing the mooted capital loss through the value shift transactions. 276 argued that the former transactions were not part of the same series of transactions as the value shift transactions as they were separated by nine months and the purpose of the value shift transactions (which were not identified until after the initial transactions) was to effect an estate freeze in favour of Jobin’s son. In rejecting these arguments, Noël CJ noted that the nine-month gap did not negate a series of transactions, and that an estate freeze could have been accomplished conventionally (using a s. 85(1) or 86(1) rollover) rather than through realizing (allegedly offsetting) gain and loss.
With that out of the way, it entailed a straightforward application of Triad Gestco to find that the value shift transactions were abusive as per s. 245(4), i.e., “permitting a real gain to be absorbed by a paper loss goes against the raison d’être of [the capital gains] regime.”
276 argued that the resulting denial of its capital loss under s. 245(2) was unreasonable because of the corresponding gain that Jobin would be deemed to realize on his death under s. 70(5). Noël CJ noted various obstacles to this argument including that the quantum of any such gain on death was speculative and that, in any event, Jobin had failed to apply under s. 245(6) within 180 days of the s. 245(2) reassessment of 276 to increase the adjusted cost base of his shares by the amount of the denied capital loss of 276.