George a Murphy v. Minister of National Revenue, [1979] CTC 2921, 79 DTC 785

Delmer E Taylor:—These appeals, heard in the City of Ottawa, Ontario, on June 11, 1979, are against income tax assessments in which the Minister of National Revenue increased the taxable income of the appellant by amounts of $26,225.75, $28,372.94, and $24,784.97 for the years 1974, 1975 and 1976 respectively, which amounts are described in all three cases by the Minister as:

Income from the Estate of George P Murphy previously taxed in the hands of Mrs Esther L Murphy.

In assessing the appellant, the respondent relied, inter alia, on sections 2, 3, 4, subsections 56(2), 74(1) and 248(1) of the Income Tax Act, RSC 1952, c 148 as amended by section 1 of SC 1970-71-72, c 63.

Background, Contentions and Evidence

There was no dispute as to the basic facts, and no direct evidence was adduced. Certain relevant documents were filed with the Board by agreement between the parties. The issue in each of the years is identical, and for purposes of simplicity the Board will deal with the three appeals as if they were one in writing this decision. In my view, certain portions of the notice of appeal and the reply to notice of appeal and schedules attached thereto are very explicit in setting out the point in dispute, and the positions of the parties.

From the notice of appeal:

I—STATEMENT OF ALLEGATIONS OF FACT

1. It is alleged that an amount totalling $26,225.75 in 1974 received by Mrs Esther Murphy, the wife of the taxpayer, from the Estate of George P Murphy, constitutes payments made pursuant to the direction of or with the concurrence of G A Murphy, the taxpayer.

2. The facts with respect to the Estate of George P Murphy are as follows:

(a) George Patterson Murphy, the father of the taxpayer, who died on February 22,1938 appointed under his last Will and Testament, dated October 4, 1937, his wife, Edith Agnes Murphy, his son, George Arnold Murphy (the taxpayer) his daughter, Edith Marion Rhodes and T N Kirby, a Chartered Accountant, to be his Executors and Trustees. Mr Kirby subsequently resigned as Executor.

(b) The Will of G P Murphy provided that his wife, Edith A Murphy, was to receive $20,000 per year and the balance in revenue in each year was to be paid:

As to one-third to his son, G A Murphy, As to one-third to his daughter, N K

Murphy, And as to one-third to his daughter, E M Rhodes.

In the event of the death of his wife, the above division of income to his children was to continue.

(c) By an Order of the Supreme Court of Ontario dated September 29, 1967, the said Will was varied to provide that:

(i) the amount of certain payments was increased from $4,000 to $6,000;

(ii) the beneficiaries were changed to delete N K Murphy (who had previously died) and to add Esther Murphy (the wife of G A Murphy), E N Rhodes (the husband

of Edith M Rhodes) and E N Rhodes junior and David Rhodes (the sons of E N Rhodes);

(iii) to provide that all income payments could be made to any one or more of the above persons in the absolute discretion of the then Executors, G A Murphy and E M Rhodes.

3. Since the date of the order, the Executors have directed that one-half of the income be paid to Esther Murphy.

4. By notice of re-assessment dated September 27, 1977 addressed to Mr George A Murphy for the taxation year 1974, an adjustment of $10,289.20 is added to the previous amount assessed under the Income Tax Act. This notice of reassessment purports to add to the income of George A Murphy, income from the Estate of George P Murphy previously taxed in the hands of Mrs Esther L Murphy as to taxable dividends from taxable Canadian corporations in the amount of $14,940.88 and as to eligible interest in the amount of $11,284.87.

II—STATEMENT OF THE REASONS TO BE ADVANCED IN SUPPORT OF APPEAL

1. It is submitted that the notice of re-assessment is in error in that it fails to distinguish between the Order made under the Variation of Trusts Act (the “Order”) (and the acts or consents of certain parties at that time) and any subsequent decision or direction made in each year after 1967 by the trustees in exercising their discretion with respect to the allocation of income among various beneficiaries set forth in the Order made in 1967.

2. A trust is deemed by subsection 104(2) of the Act to be a separate entity, distinct from the trustee or executor in control of the property, whose own tax liability is not affected by his position as trustee. The income of a trust is taxed in the hands of a trust to the extent that it is not distributed to the beneficiaries entitled thereunder.

3. In the Order, the Court:

(a) varied the amount of the payment to beneficiaries in certain cases;

(b) varied the persons who would be beneficiaries; and

(c) gave to the executors and trustees absolute discretion as to both the amount of any payment and as to which beneficiaries would receive payment.

4. After the Order in 1967, the trustees acting unanimously, pursuant to the powers granted to them in the Order, exercised their discretion in each year and by a direction would allocate all or part of the income among the beneficiaries. There is a fundamental distinction between the Order made in 1967 and the various subsequent payments made pursuant to the decision or direction of the trustees in each year.

5. At the time of the Order, the only relevant personal act of G A Murphy was to consent to an order being made which dealt not with payments to beneficiaries, but rather which increased the number of beneficiaries and gave added powers to the executors with respect to the allocation of payments, if any, to those beneficiaries.

6. It is submitted that subsection 56(2) is not applicable to payments as contended by the Ministery for the following reasons:

(a) the payment or transfer of property contemplated by the section is the payment made to Mrs E Murphy.

(b) the section requires that such payment be made pursuant to the direction of or with the concurrence of the taxpayer. Because the Act recognizes a trust as a legally distinct taxpayer, the payments in each year are clearly payments by the trust pursuant to the direction of the trust, and not by G A Murphy in his personal capacity.

(c) the section speaks of a payment at the direction of a taxpayer. Accordingly, the only effect of the application of subsection 56(2) would be to include such payment in the income of the trust and not in the income of Mr Murphy.

7. It is submitted that subsection 74(1) is not applicable for the following reasons:

(a) By consenting to an Order varying the terms of the trust which, among other things, only included his wife, Esther Murphy, as a possible beneficiary, G A Murphy did not transfer property to his spouse.

(b) Any subsequent act by G A Murphy, with respect to the operation of the trust, was not done in his personal capacity but rather as an executor or trustee of the trust. Any action by Mr Murphy, as an executor and trustee only, cannot give rise to personal liability to tax under subsection 74(1).

From the reply to notice of appeal:

He (the Minister) submits that the sum of $26,225.75 paid by the Trustees of the Estate of George Patterson Murphy to the appellant’s wife, in the 1974 taxation year, represented a payment or transfer of property made pursuant to the direction of, or with the concurrence of, the appellant as a benefit that the appellant desired to have conferred on his wife, and that the amount of that benefit is income of the appellant by virtue of subsection 56(2) of the Income Tax Act.

He submits further that the appellant, under the agreement transferred property to his spouse, and that the income paid to her, in the amount of $26,225.75 in the 1974 taxation year, out of the trusts of the Estate of George Patterson Murphy, represented income from the property transferred, and that by virtue of subsection 74(1) of the Income Tax Act, the amount is income of the appellant.

From the NOTES OF ARGUMENT:

1. It is the deed of arrangement that operates to vary the trusts and not the order of the Court pursuant to the Variation of Trusts Act.

2. Any person on whose behalf the court is not authorized to approve the arrangement under the Variation of Trusts Act must consent for himself, and, furthermore the Court has no jurisdiction to override a refusal to consent by such a person.

3. Variation of trusts typically involve negotiations among beneficiaries who have definite and specified interests in the trusts and result in an exchange of benefits which may be, so far as any particular beneficiary is concerned, in the form of a benefit conferred on another whom he wishes to benefit from the arrangement.

4. A variation of trust result in an extinguishment of the interests disposed of by the parties to the arrangement by virtue of their “kaleidoscoping together” into the interests actually disposed of.

5. The right to receive income as one of the possible objects of a discretionary trust, being an interest in the settled property, is property within the meaning of subsection 248(1) of the Income Tax Act.

6. Parties to a deed of arrangement to vary trusts are assenting to a direction to the trustees to hold the trust property on different trusts.

7. On considering the application of a provision of a taxing statute to a trust arrangement, the Supreme Court of Canada has held that regard must be had to the substance of the matter and that words ought not to be given narrow or technical meaning to defeat the obvious purpose of the provision.

In view of the narrow point at issue here and the extensive and careful review provided by counsel, the Board is providing, for the record, the list of judicial and other references given by the parties.

For the appellant:

Dunkel man v MNR, [1959] CTC 375; 59 DTC 1242;

Fasken Estate v MNR, [1948] CTC 265; 4 DTC 491;

St Aubyn et al v Attorney General, [1952] AC 15;

Re Viscount Hambleden’s Will Trusts, [1960] 1 All ER 353;

In re Hambleden’s Will Trusts, [1960] 1 WLR 82;

In re Holt’s Settlement Wilson & others, [1969] 1 Ch 100;

In re Steed’s Will Trusts, [1960] 1 Ch 407;

Re Burney’s Settlement Trusts, [1961] 1 All ER 856;

Pott’s Executors v Inland Revenue Commissioners, [1951] 1 All ER 77;

Donald v Lewis (1929), 64 OLR, 301;

Words & Phrases (Vol 1)—Concurrence (p 754);

Massawippi Valley Railway Co v MNR, 21 Tax ABC 1; 58 DTC 725;

MNR v Massawippi Valley Railway Co, [1961] CTC 78; 61 DTC 1040.

For the respondent:

The Variation of Trusts Act, RSO 1960, c 413 (p 1309);

Re Drewe’s Settlement, [1966] 2 All ER 844, 845;

Saunders v Vautier (1841), 4 Beav 115;

Thorn and others v Inland Revenue Commissioners, [1976] 2 All ER 622;

In re Holmden’s Settlement Trusts, [1966] AC 511;

J W Harris, Variation of Trusts, Sweet & Maxwell, 1975;

In re Holt’s Settlement, [1969] 1 Ch 100;

Re Taylor (deceased), [1957] 3 All ER 56;

Dewar v CIR (1935), 19 TC 561;

Stratton’s Deed of Disclaimer, [1957] 2 All ER 594, 600;

MNR v Edmund Howard Smith and Montreal Trust Co, [1960] SCR 477; [1960] CTC 97; 60 DTC 1102;

The Dominion Succession Duty Act; RSC 1952, c 89;

Herbert A W Plaxton v MNR, 23 Tax ABC 257; 60 DTC 38;

Herman R v MNR, 28 Tax ABC 145; 61 DTC 700;

Karp, A, Tax Consequences of a Disclaimer, U of T Faculty of Law Review, 1964—(pp 76-87);

In re Berry’s Settlement, [1966] 1 WLR 1515;

In re Cohen’s Settlement Trusts, [1965] 1 WLR 1229;

Spens v Inland Revenue Commissioners, [1970] 1 WLR 1173;

Re Stratton’s Deed of Disclaimer, [1956] 3 All ER 862, 866;

Minister of Revenue for the Province of Ontario v James Scott McCreath, Michelle A McCreath, Martin R McCreath, Ralph Scott McCreath, Paul C McCreath and Annie Franceschini, [1977] 1 SCR 2; [1976] CTC 178;

Re Weir’s Settlement, [1970] 1 All ER 297;

Inland Revenue Commissioners v Holmden and Others, [1968] AC 685;

G artside and Another v IRC, [1968] AC 553;

The Attorney General v Heywood and Others (1887), 19 QBD 326;

Sainsbury and Others v IRC, [1969] 3 All ER 919;

Attorney-General v Farrell and Another, [1931] 1 KB 81;

In Re Fleet Estate, MNR v The Royal Trust Co, [1949] SCR 727; [1950] CTC 21; 50 DTC 685;

Chapman v Chapman, [1954] AC 429;

In Re Weston’s Settlements, [1969] 1 Ch 223.

Findings

Before dealing in specifics with this matter, I should like to note that both counsel for the appellant and counsel for the respondent in argument commented at some length on the conclusions which might be reached by an examination of McCreath (supra) as it could be related to the instant case. McCreath (supra), although on quite a different point of law, parallels to some degree the issues and arguments raised in this appeal. It was a basic proposition of counsel for the appellant in the instant appeal that the 1967 Order having been duly approved by the Courts, constituted the only document upon which the Minister had the right to assign income and assess tax; whereas counsel for the respondent, basing his view on McCreath (supra), contended that it was incumbent upon the Board to look beyond the structure and language of the 1967 Order in order to see the true nature of the changes effected by that Order for the application of the Income Tax Act. It is my view that “piercing the legal veil” in whatever format, corporate, administrative or otherwise, (which is what is proposed by counsel for the respondent), is not a task to be accepted lightly by this Board. It is clear, however, that just such a procedure was adopted and followed by the Court in McCreath (supra) and I have accepted the respondent’s contention that in this matter, such a course is warranted. The counter-argument from counsel for the appellant that the jurisprudence one might glean from a review of McCreath (supra) could not be applied in any event in this matter because the two cases were brought forward under different Acts and different jurisdictions, in my opinion is not valid. Such a proposition infers that a taxpayer could use the legislative mechanisms of one jurisdiction to reduce his income tax liability, but the Minister would be barred from using judicial decisions within that same jurisdiction to sustain an attack on the results. The following quotations from McCreath (supra) in my view serve to sustain the Minister’s position in this appeal that the Board should examine the results obtained by the 1967 order as it affects the tax liability of the appellant:

At page 4:

This case mirrors the ongoing struggle between taxing authorities, casting an ever wider net to garner succession duties or estate taxes, and taxpayers adopting ever more sophisticated means of escaping that net. One cannot reproach the taxpayer or his professional advisors for so arranging affairs as legitimately to minimize tax impact but there are times when the schemes devised introduce rather fine legal distinctions and the line determining tax liability becomes difficult to draw. The complexity is enhanced by the importation of concepts from traditional conveyancing law and the injection of fine subtleties from the law of trusts. The casuistry reaches its apogee in the case of inter vivos transactions in which the donor wants to retain effective, but unobtrusive, lifetime control of the property gifted and yet create the impression, through the language of the gifting instrument, that he or she has disposed wholly and irrevocably of the subjectmatter of the gift.

At page 19:

Founding on the line of cases mentioned, the respondents argue that the corpus in the 1948 Trust was a disposition (subparagraph 1 (f)(i) or (ii)) from which the deceased was excluded from benefit. The retention of the income interest was something not given (ie, reserved out of the gift) and not a benefit flowing from the gift.

One should not be too quick to adopt the holdings in these cases and find them applicable to paragraph 5(1 )(g) of the Ontario Succession Duty Act. Our concern here is the interpretation of a statute, and such a task requires consideration of the total context in which a given word or section is found. There is a major structural difference between the English and, to a lesser extent, the Canadian Acts which were construed in the cases cited. The English statute contains provisions similar to both subparagraph 1 (p)(viii) and paragraph 5(1)(g), but both are phrased as ‘recapture’ provisions. Thus, if a given scheme does not fall within one section for taxation purposes, it will be caught by the other. The Canadian Act had botha recapture and exemption scheme, found in subparagraphs 3(1)(d) and 7(1)(g) (as amended by 1941-42 (Can), c 25, ss 4, 6).

At page 20:

We must read paragraph 5(1 )(g) and subparagraph 1 (p)(viii) in light of the policy of the Act, which is to tax all inter vivos gifts from which the donor failed to detach himself. The repondents’ (sic) argument rests upon severance of income and corpus yet we have not been referred to any case, and I have been unable to find one, in which severability of beneficial interests in a gift of shares, between capital and income, has been recognized.

At page 21:

On the wording of the trust document I can find no reason to regard the property which passed here as two separate and distinct dispositions, one of income and one of corpus. Essentially the subject-matter of the gift was a block of shares. In paragraph 1 of the indenture the trustee undertook to receive the voting trust certificate ‘‘to constitute a trust fund”. Thus, when Mrs McCreath received income, the benefit came from property which she had purported fully to have given away, her interest in the shares of Mount Royal Paving & Supplies Limited. Although the trust indenture provides that the income from the trust fund is to be handled in one manner and the corpus in another, that does not have the effect of constituting two properties. The matters are dealt with in separate sub-paragraphs, it is true, but we do not stop at mere form in taxing matters. The substance of the matter in my view is that there was one gift, the subject-matter being 99,986 common shares in the capital stock of Mount Royal Paving & Supplies Limited. The income from the 1948 Trust was part of the gift and not something ‘not comprised in’ the gift of corpus. If a father gives a parcel of revenue-bearing real estate to his son and retains the income or a portion of the income from the real estate, it could not seriously be contended that the father had been entirely excluded from the property disposed of.

This leaves the major argument proposed by counsel for the appellant, that a distinction must be made between the act of the appellant in 1967 in agreeing to the Order under the Change of Wills Act, and any act taken by the trust in subsequent years, to determine the payments that could or should be made according to that Order. Counsel for the appellant placed strong emphasis upon the “payment” aspect of subsection 56(2) of the Act—and since the payment could only be effected on the direction of the trust, in counsel’s view, no tax liability or relationship could be shown with this taxpayer personally. That is tantamount to saying that this taxpayer, by agreeing to or concurring with the Order in 1967 (an Order which provided for substantial reduction in his own right to income and gave to that Trust complete authority for precise distribution), did not thereby concur in the subsequent actions of the trust in administering the 1967 Order. Whether or not this argument would withstand detailed scrutiny in view of the fact that the taxpayer was and remained a factor in the administration of the trust, I do not know. It was not vigourously attacked by counsel for the respondent other than to point out that subsection 56(2) of the Act also referred to “transfer of property”, which counsel equated with the “payment of income” by the trustees as follows:

It is submitted that the payment of income by the trustees to Mrs Murphy was a payment of property made pursuant to the direction of the taxpayer or with his concurrence by virtue of the agreement to vary the trust and that it was a benefit that the taxpayer desired to have conferred on his wife within the meaning of subsection 56(2) of the Income Tax Act.

Whether or not subsection 56(2) of the Act would have any application here, it is clear to me that subsection 74(1) is specifically relevant. However described or effected, the transaction at issue in this appeal is a transfer caught by the words “either directly or indirectly by means of a trust or by any other means whatsoever” from subsection 74(1) and the intermediate role played by the 1967 Order does not serve to excise from the appellant’s taxable income the proceeds therefrom. This taxpayer had provided the mechanism by which a certain property— a right with the possibility of income—was transferred to or vested in his spouse. Because the exercise or implementation of that right was subject to certain restraints and conditions which depended on the Trust does not alter the fact that the right itself resulted from a transfer to her of a portion of his right under the Original Trust agreement.

Counsel for the respondent summarized this critical point as follows:

And it is further submitted that the taxpayer, by virtue of the agreement to vary the trust, transferred property directly or indirectly by means of the trust or by any other means whatever to his spouse and the payment of income by the trustees to Mrs Murphy is from the properties transferred. That is, a right to receive income as a subject of a discretionary trust, all within the meaning of subsection 74(1) of the Income Tax Act.

In reaching this conclusion the Board is rejecting the proposition put forward by counsel for the appellant in the following way:

The quotes that I just read you (are) from Hambleden’s Will Trusts case, and I would ask you to look at the question of what is the effect of the variation? And I would submit, Mr Chairman, that the effect of a variation relying on Hambleden’s Will Trusts case is that the will itself is deemed to be altered and the will speaks from the time of the variation. The effect is that it is as if what we were dealing with here was an original testamentary document with that sprinkling provision in it. That is the effect of the Variation of Trusts Act.

I would submit that one should not go behind that variation and look at whatever circumstances existed at that time or whatever agreements there may or may not have been. Once the court has made the Order, that in effect is the trust document, and the will as varied should be treated as though it is the original will executed in 1938.

Now, in that situation, I am sure my friend would admit that the Department of National Revenue never taxes in a situation where the original testamentary document provides for sprinkling. In other words, all over this country those provisions are in original wills and are being operated under, an income is being allocated each year by decision of the trustees, among several heirs, and it changes from year to year. In those situations, no matter what the family relationship involved, when it’s in the original document, I believe it will be admitted that the Department never taxes. It is a common estate planning technique.

In general terms, I would submit that it is legitimate—it is a legitimate use of tax planning techniques—to go under the Variation of Trusts Act.

Discussion of this is contained in Waters Variation of Trusts, Law of Trusts in Canada, at page 925 where it is clearly contemplated, and I would submit it has always been contemplated that it is an appropriate tax planning technique to use the Variation of Trusts Act and it is trite to say that the taxpayer, whether the taxpayer be a trust, or an individual, has a right if not a duty, a right to minimize his tax liability. I would submit that clearly that would appear to be a fair conclusion that might have been the reason here for this—to minimize tax liability.

In ths same way, the Board is accepting the logic proposed by counsel for the respondent:

In the McCreath decision, the Supreme Court of Canada has said that in trust arrangements, it would be very easy to defeat the purpose of a section of the Income Tax Act or a section, as in that case, of the Succession Duty Act of Ontario if, through a trust arrangement, you were able to circumvent the wording of a section that was narrowly construed. The Supreme Court has said, ‘Look at what is intended, look at the purpose of the sections and then see whether what is being done is intended to be caught’. In my respectful submission in this particular case, where there is a Variation Order, the wife of the taxpayer ends up getting half of what he had previously, it is quite clear that if the taxpayer had simply agreed with his wife to give him half, and there had been simply a direction to the trustees to pay her half, it would have been caught. Doing that through a Variation Order should be no different and in my respectful submission, I believe that is what the McCreath case is saying.

. . . it is not the Court Order that varies the trust. The Court has jurisdiction with respect to certain individuals only and certainly with respect to those particular beneficiaries for whom it must consent, it must show a benefit flowing to them from the Variation Order. The Court has no jurisdiction for other purposes, . . .

. . . whether or not a Court approves the arrangement should not automatically lead to the conclusion that a court is approving of it in terms that there is no tax avoidance. We are not saying that there is tax avoidance here. That is not the basis of the assessment. My friend mentioned, “sham”, sham is not the basis of this assessment. The assessment is based squarely on the wording of subsections 56(2) and 74(1) of the Income Tax Act, and in our respectful submission those sections apply to tax the benefit that was paid to Mrs Murphy by the trustees after the variation. Whether or not there was a tax avoidance intention, in our respectful Submission, is quite irrelevant in this case.

Conclusions

The Board is of the opinion that the effect of the terms and conditions is the Deed of Arrangement approved by the Supreme Court of Ontario in 1967 under the Variation of Trusts Act, transferred property in the form of a right to income from the taxpayer to his spouse. The income in question in this appeal which resulted from the deed of arrangement is taxable in the hands of the appellant.

Decision

The appeals are dismissed.

Appeals dismissed.