News of Note
Pomerleau – Federal Court of Appeal finds that GAAR applied to converting soft ACB (generated from crystallizing the capital gains deduction) into pseudo-hard ACB under s. 53(1)(f.2) for use in extracting surplus
Email this ContentTo simplify the facts somewhat by ignoring transactions in which the taxpayer accessed tax attributes of his sister, the taxpayer wanted to extract $2M from a family corporation, and was willing to do so on a basis that resulted in him receiving a deemed dividend of $1M provided that he was able to extract the other $1M tax free by using the previous step-up of the ACB of the shares of him (and his sister) to $1M using the capital gains deduction. The “hard” ACB and paid-up capital of the shares was nominal, so that the full $2M would have been deemed to be a dividend if he had simply transferred the shares to a new Holdco for cash proceeds of $2M.
Instead, he transferred the shares to a new holding company (P Pom) under s. 85(1) in consideration for high ($1M) basis Class G shares and low basis Class A shares, and redeemed the Class G shares. Most of the proceeds were deemed to be a dividend, and there was a largely matching capital loss that was denied under s. 40(6) and added to the ACB of his Class A shares under s.53(1)(f.2). He now could transfer the bumped Class A shares of P Pom to Holdco, taking back high PUC shares of Holdco, which he promptly redeemed for $2M free of additional tax, or so he thought.
CRA’s assessment of a deemed dividend under s. 245(2) effectively treated the ACB of the shares that were transferred to Holdco as not having been stepped-up under s. 52(1)(f.2). In agreeing with this assessment, Noël CJ stated:
The object and spirit of this provision, or its rationale, is to prevent amounts which have not been subjected to tax to serve in extracting surplus of a corporation free of tax. Subsection 84.1(2) proceeds with this goal in targeting amounts which, while forming part of the ACB of the shares concerned, have not been subjected to tax and have been excluded in the computation of the paid-up capital of new shares. To this end, subparagraph 84.1(2)(a.1)(ii) requires going beyond the ACB of the shares concerned – or of the shares for which they are substituted – and enquiring as to the source of the funds which constituted them in order to ascertain if they were subjected to tax. …
This rationale was circumvented by the plan implemented by the appellant. Of the amount of $1,993,812 that he withdrew, $994,628 represented amounts as to which no income tax had been paid.
After noting that the application of s. 84.1 could have a punitive effect on an inter-generational transfer of a business, he stated:
That situation, if it presented itself in the context of an analysis made under the GAAR, could possibly lead to an interpretation which prevented a punitive application of section 84.1. That situation, however, is not before us.
Neal Armstrong. Summary of Pomerleau v. The Queen, 2018 CAF 129 under s. 84.1(2)(a.1)(ii).
CRA indicates that an emigration-year return generally cannot be opened up more than 6 years later to allow a FTC for foreign tax imposed on a subsequent sale
Where a Korean immigrated to Canada while holding appreciated Korean real property and then emigrated from Canada 10 years later after it had further appreciated, thereby realizing a capital gain from its deemed disposition under s. 128.1(4)(b), he would be potentially eligible under s. 126(2.21) to claim a Canadian foreign tax credit for Korean taxes that become become payable on a subsequent sale respecting the gain that accrued in Canada, provided that this credit is assessed within the extended reassessment period of six years following the emigration year. However, the Korean property might be sold more than six years later. Can this period be extended by filing a waiver with CRA?
CRA, in clarifying its comments in 2016-0660421E5, indicated that it generally would not accept a waiver beyond this six-year period, but that, as a limited exception to this proposition:
[I]f any of the circumstances to support the deduction under subsection 126(2.21) of the Act (e.g., disposition of the property and/or foreign taxes paid) are present within the statutory assessment period referred to in paragraph 152(4)(b) of the Act, it may be appropriate for the Minister to consider a taxpayer’s waiver request for the emigration year to allow the Minister sufficient time to review and process any potential reassessment for this deduction beyond the aforementioned reassessment period.
Neal Armstrong. Summary of 11 October 2017 External T.I. 2016-0673171E under s. 126(2.21).
Tusk Exploration – FCA finds that Part XII.6 tax (effectively double-taxation) was payable on CEE purportedly renounced on a look-back basis to NAL shareholders
Tusk Exploration, a Canadian exploration company, unsuccessfully argued that it was not subject to Part XII.6 tax on Canadian exploration expenses that it had purported to renounce under the look-back rule - but which were now admittedly not eligible for look back because the flow-through share investors were non-arm’s length – because the reference in Part XII.6 to CEE that it “purported” to renounce under the rule referred only to expenses which had been validly rather than invalidly renounced under the look-back rule.
The Part XII.6 tax was also argued to be a proxy for interest, and the non-arm’s length shareholders were assessed interest on their denied CEE claims for the look-back year, resulting it what was argued to be a double interest imposition. After referring to the s. 69(1) example, Webb JA stated:
[T]he potential for double taxation exists in the ITA when transactions are completed between parties who do not deal with each other at arm’s length.
Neal Armstrong. Summaries of Tusk Exploration Ltd. v. Canada, 2018 FCA 121 under s. 211.91(1) and s. 248(28).
Our translations of CRA interpretations now go back 5 years
The table below provides descriptors and links for the Technical Interpretation released last week and for five Interpretation released in July 2013, as fully translated by us.
These (and the other full-text translations covering all French-language Interpretations released in the last 5 years by the Income Tax Rulings Directorate) are subject to the usual (3 working weeks per month) paywall. You are currently in the “open” week for July.
CRA confirms its policy of not assessing interest on loss substitutions
Aco first applied a $1,000 non-capital loss from Year 1 to offset a $1,000 taxable capital gain realized in Year 2. However, it then realized a $1,000 allowable capital loss in Year 3 and filed an amended Year 2 return to deduct that net capital loss under s. 111(1)(b), thereby restoring its $1,000 non-capital loss from Year 1.
CRA stated that, notwithstanding that the wording of s. 161(7)(b) does not accommodate this:
[I]t remains the CRA’s longstanding administrative practice not to assess interest where there is a substitution of losses, such as the replacement of a non-capital loss from a prior year with a net capital loss from a subsequent year, provided that there was no tax payable on either the original or amended return. Therefore … in the example above, the CRA would not assess interest.
Neal Armstrong. Summary of 21 March 2018 External T.I. 2017-0736291E5 under s. 161(7)(b).
CRA discusses the relationship between the s. 15(2) and s. 80.4(2) income inclusions respecting an unpaid shareholder loan
A shareholder receives a loan from the corporation in 2017, does not repay the loan but chooses to report the loan in 2019. CRA indicated that the application of s. 15(2), so as to include the loan amount in the shareholder’s income, is suspended until the time period in s. 15(2.6) has been passed (i.e., the end of 2018). In the meantime, s. 80.4(2) “would apply for the entire period during which the loan or debt was not repaid,” so as to impute interest throughout 2017 and 2018. When the 2017 income inclusion was reported in 2019, the previous inclusions under s. 80.4(2) would be backed out of the taxpayer’s income by virtue of s. 80.4(3)(b).
Neal Armstrong. Summaries of 6 April 2018 External T.I. 2018-0738871E5 F under s. 15(2.6) and s. 80.4(3)(b).
PPP Group – Federal Court of Appeal confirms that automobile replacement “warranty” payments did not qualify for ITCs
The Court of Appeal has briefly affirmed a decision of Tardif J respecting a Quebec company (“PPP”) which, through car dealers, offered motor vehicle replacement “warranties.” In the event of the loss of the vehicle through accident or theft, the warranties covered the difference between the depreciated value of the vehicle (which was covered by the regular insurer) and the cost of a new replacement vehicle. The consumer who had purchased the PPP warranty was required to acquire the new replacement vehicle from the dealer, and the dealer was paid directly by PPP.
PPP was unsuccessful in its contention that it was entitled to input tax credits under ETA s. 175.1 for a pro rata portion (e.g., 5/105, ignoring QST) of the claims paid by it. First, s. 175.1 did not apply to "insurance policies,” which Tardif J considered to be a more apt description of this product than “warranty.” Second, s. 175.1 required that the warranty be “in respect of the quality, fitness or performance” of the product, which Tardif J unsurprisingly found was getting at things like manufacturing defects rather than loss of a vehicle from theft or catastrophic accident.
ITCs also were unavailable under more general principles (under ETA s. 169) since the person acquiring the property or services funded by the “warranty” payment was the consumer getting the replacement vehicle rather than PPP itself (although PPP valiantly argued that it was paying for a valuable claim processing service received from the dealer.)
Neal Armstrong. Summaries of PPP Group Ltd v. The Queen, 2017 TCC 2, briefly aff'd 2018 CAF 123 under ETA s. 175.1, 169(1) and General Concepts – Illegality.
Rio Tinto Alcan – Federal Court of Appeal finds that fees incurred by a public board in determining to make a bid, as contrasted to implementation, were currently deductible
Pelletier JA confirmed the distinction between fees relating to acquisition and divestiture transactions of the taxpayer (“Alcan”) that were “incurred as part of Alcan’s decision-making process” (“oversight expenses”) and fees that “were incurred in the course of putting into effect Alcan’s decision once it had been made” (“implementation costs”). Accordingly, he confirmed Hogan J’s finding that the substantial portion of investment dealer fees incurred by the Alcan board that represented input to its decision to launch a hostile bid for a French public company (i.e., 65% of the Morgan Stanley fee and 35% of the Lazard Frères fee) was currently deductible, whereas the balance of the fees relating to assistance in the bid was a capital expenditure (and, thus, an addition to the adjusted cost base of the acquired shares). $19M in fees paid to a French lobbyist firm, whose purpose “was to facilitate the implementation of the Pechiney transaction by heading off possible political and public relations issues which might derail the transaction,” also fell into the implementation cost category, and were capital expenditures.
The same principles applied to investment dealer fees incurred respecting a subsequent butterfly spin-off transaction, so that the portion of Lazard Frères fees that related to advice on various divestiture options up to the time of the final board decision to effect a butterfly spin-off was fully deductible.
Pelletier JA also confirmed Hogan J’s finding that the same oversight costs that were the applicable portion of the investment dealer fees would also have qualified for deduction under s. 20(1)(bb). This entailed accepting the proposition that fees incurred in connection with the advisability of acquiring or spinning-off a whole company qualified as being paid for “advice as to the advisability of purchasing or selling a specific share … of the taxpayer.”
Neal Armstrong. Summaries of Canada v. Rio Tinto Alcan Inc., 2018 FCA 124 under s. 18(1)(b) – capital expenditure v. expense – oversight and investment management, s. 20(1)(bb) and s. 20(1)(g).
Income Tax Severed Letters 27 June 2018
This morning's release of four severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Canada Life- Ontario Court of Appeal finds that a transaction resulting from a tax mistake should not be remedied under the Court’s general equitable jurisdiction
A Canada Life subsidiary (CLICC) had sought to realize an accrued loss on its LP interest in a subsidiary partnership by winding it up. This was accomplished by transferring pro rata interests in the partnership to its two partners, namely, CLICC and a wholly-owned GP, based on their respective 99% and 1% interests - followed immediately by a winding-up of the GP corporation into CLICC. CRA reassessed to deny the loss on the basis that the s. 98(5) rollover applied.
All that CLICC requested was for the Ontario Court of Appeal to cancel the winding-up of the GP, rather than to rectify the transactions. It argued that Fairmont “left open the ability for a court, in the exercise of its general equitable jurisdiction, to correct a mistake.” Before concluding that no remedy was available, van Rensburg JA construed the scope of Fairmont and Jean Coutu quite broadly, stating:
[I]it is not possible to alter corporate transactions on a nunc pro tunc basis to achieve particular tax objectives. In other words, the Supreme Court has signaled that retroactive tax planning by order of the Superior Court exercising its equitable jurisdiction is impermissible.
She also found that the remedy of equitable rescission of voluntary dispositions was unavailable.
Neal Armstrong. Summary of Canada Life Insurance Company of Canada v. Canada (Attorney General), 2018 ONCA 562 under General Concepts – Rectification & Rescission.