Agence du revenu du Québec v. J.D. Irving Limited, 2022 QCCA 241

The taxpayer (“JDI”) and another pulp and paper company in the Irving group (“IPPL”) engaged in several transactions to effectively transfer non-capital losses from a third company (“IOL”) in the Irving group to JDI. In a representative transaction, IOL acquired pollution control equipment (“PCE”), that IPPL had been using in its pulp facilities, from IPPL on a rollover basis at a nominal agreed amount. JDI then almost immediately acquired the PCE from IOL for $120 million (claiming 100% of this amount as CCA for that year), and agreed to operate the PCE in consideration for “throughput fees” payable to it by IPPL pursuant to “Operating and Services Agreements” (“OSAs”) governed by New Brunswick law. In a separate “contract services” agreement, IPPL agreed to perform the operating services required of JDI under the OSAs on behalf of JDI and for a daily fee. In January of the next year, after having earned $1.3 million in throughput fees, the taxpayer transferred the PCE “back” to IPPL on a rollover basis with a nominal elected amount.

Mainville JCA rejected the ARQ position (stated at para. 37, TaxInterpretations translation) “that an essential precondition for a services contract is the existence of a services business,” noting that the ARQ did not provide any common law authority for this proposition and that, in any event, the Court of Quebec had made a finding of fact that the operation of the PCE was within the scope of JDI’s business. In also rejecting the ARQ submission that IPPL did not validly operate the PCE on behalf of JDI, he stated (at paras. 43-44, 46):

[I]t is undisputed that a taxpayer may carry on a business through an agent. …

The fact that the agent and the principal are related companies does not change this principle. This was the case in Stubart … .

As the trial judge concluded, we are dealing with clear contracts and uncontradicted evidence that confirm that the designation of the transactions as services agreements does reflect their true legal effects. It is a principle of tax law that, in the absence of sham, recharacterization is only possible where the label attached to a transaction does not properly reflect its actual legal effects.

A loss consolidation transaction involved a company (“IPPL”) in the Irving group of companies transferring, in December, its pollution control equipment on a rollover basis to an affiliated lossco, which then sold the equipment for $120M to the group profitco (“JDI”), which then claimed $120M of CCA and, in January of the next year, transferred the equipment back to IPPL on a rollover basis. The ARQ denied most of JDI’s $120M CCA claim on the basis that servicing fees of $1.2M that JDI earned from IPPL during its one month of ownership of the equipment were in substance leasing revenues. Under the agreement between JDI and IPPL, JDI accomplished its servicing of the equipment under its “services agreement” with IPPL by means of delegating to IPPL the performance of such services as its agent, in consideration for fees going in the opposite direction.

In rejecting the ARQ submission that IPPL did not validly operate the equipment on behalf of JDI, Mainville JCA stated (at paras. 43-44, 46):

[I]t is undisputed that a taxpayer may carry on a business through an agent. …

The fact that the agent and the principal are related companies does not change this principle. [See] Stubart … .

As the trial judge concluded, we are dealing with clear contracts and uncontradicted evidence that confirm that the designation of the transactions as services agreements does reflect their true legal effects. It is a principle of tax law that, in the absence of sham, recharacterization is only possible where the label attached to a transaction does not properly reflect its actual legal effects.