News of Note
Fairmont Hotels – Ontario Court of Appeal confirms that rectification can give effect to an original intention to produce a tax-neutral result - but in a different way
Email this ContentAs part of a larger intercompany "reciprocal loan arrangement," a Canadian Fairmont company (FHIW Canada) held U.S. dollar denominated prefs of a U.S. subsidiary which had been financed by matching U.S. dollar denominated prefs in its capital. As a result of a subsequent indirect acquisition of control, there was a s. 111(4)(d) write-down in FHIW Canada’s hands of the prefs held by it reflecting the depreciation of the U.S. dollar, without any ability to eliminate the corresponding accrued FX gain on the prefs in its capital. The fact that FHIW Canada was no longer hedged from a Canadian tax perspective was temporarily forgotten when this structure was unwound a year later through inter alia a redemption of the two matching sets of prefs, so that FHIW Canada realized a s. 39(2) gain on redeeming the prefs in its capital.
In rectifying this redemption to treat it instead as a loan by FHIW Canada to its parent, Newbould J found that there had been a continuing intention for the reciprocal loan arrangement to be tax neutral, and that "the purpose of the … unwind of the loans was not to redeem the preference shares of FHIW Canada … but to unwind the loans on a tax free basis."
The Ontario Court of Appeal has dismissed the Crown’s appeal. Simmons JA stated that "Juliar … does not require that the party seeking rectification must have determined the precise mechanics or means by which the party’s settled intention to achieve a specific tax outcome would be realized," so that it was sufficient that Fairmont’s "settled tax plan" at the time was to achieve "tax neutrality in its dealings with Legacy and no redemptions of the preference shares."
This is inconsistent with the approach in Harvest Operations and Graymar (both in Alberta), suggesting that the rectification "fix" should accord with a specific plan that was in place at the closing.
Neal Armstrong. Summary of Fairmont Hotels Inc. v. A.G. Canada, 2015 ONCA 441 under General Concepts – Rectification.
CRA finds that euro and U.S.-dollar-denominated shares of a foreign affiliate are separate classes of shares
S. 90(2) deems a "pro rata" distribution on all the shares of a class of shares of a foreign affiliate (other than on a liquidation, redemption or QROC distribution) to be a dividend. FA’s articles provided that its share capital was divided into euro-denominated and U.S.-dollar-denominated shares and that when a dividend was declared on all its shares, the dividend would be paid in proportion to the paid-in capital of the respective shares expressed in euros or U.S. dollars – so that, for example, where the euro had appreciated relative to the U.S. dollar, the euro-denominated shares would receive more on a per share basis.
CRA ruled that FA would be considered to have two classes of shares, with the distribution on each class satisfying the pro rata test in s. 90(2). This might be regarded as the flip side of a CRA position that shares labelled as two classes of shares will be regarded by CRA as one class if their substantive attributes are the same (see, for example, 2013-0495821C6).
Neal Armstrong. Summary of 2015 Ruling 2014-0527961R3 under s. 90(2).
Income Tax Severed Letters 17 June 2015
This morning's release of eight severed letters from the Income Tax Rulings Directorate is now available for your viewing.
True North REIT proposes a Deferred Unit Plan that gives the right to receive REIT units before retirement
The safe harbor from the salary deferral arrangement rules provided in Reg. 6801(d) for deferred share unit plans is only available for corporations and not REITs. However, much the same thing can be accomplished by issuing qualifying participants "deferred units," which essentially are options to acquire REIT units at a nil exercise price. In IT-113R4, para. 6, CRA accepts that an option can qualify for treatment under the s. 7 rules (i.e., no recognition of employment income until exercise) even if the option can be exercised without the payment of monetary consideration.
Given that a REIT Deferred Unit Plan need only comply with the s. 7 rules, it can depart from what would be permitted under a DSU. For example, the currently proposed Deferred Unit Plan of True North REIT provides that a participant can redeem 20% of his or her Deferred Units every five years.
Neal Armstrong. Summary of Circular of True North Apartment REIT under Other – Deferred Unit (or RUR) Plans.
Hypercube - software bugs did not constitute technological uncertainty sufficient to qualify a software project as SR&ED
Lamarre ACJ found that the taxpayer's development of code analysis software for websites did not qualify as SR&ED. All problems encountered on the project were "resolved in the end by using recognized programming techniques to modify the program’s code."
Neal Armstrong. Summary of Hypercube Inc. v. The Queen, 2015 TCC 65 under s. 248(1) – scientific research & experimental development.
Nortel – Ontario Superior Court of Justice applies the proposition that the OECD transfer pricing guidelines require the assessment of risk sharing on an ex ante basis
Under Nortel's transfer pricing methodology, the entities performing R&D, including Nortel itself and a UK subsidiary, were entitled to all residual profits after payment of returns to the Nortel subsidiaries that performed sales and distribution functions. The related agreement specified that restructuring costs incurred by each R&D subsidiary were not to be shared.
Following Nortel’s insolvency, Newbould J. rejected various submissions made by the administrators of the pension plan for the UK subsidiary respecting transfer pricing, including that this arrangement failed to properly compensate the UK subsidiary for its restructuring costs. He accepted the monitor’s position that "Chapter 9 of the OECD Guidelines explicitly frames the issue of restructuring costs and benefits as a question of ex ante risk allocation by way of an intercompany contract, rather than an ex post examination of who should bear the realization of a risk (i.e., restructuring costs)." Accordingly, as this cost-bearing clause satisfied the arm’s length standard at the time of the agreement, its actual operation following an unanticipated insolvency was not a basis for overturning it.
Furthermore, the approach of the claimants’ expert that "one starts with the economic substance and then looks to see if the legal form follows the economic substance" was "the opposite of what the OECD Guidelines call for."
Neal Armstrong. Summary of Re Nortel Networks Corp., 2014 ONSC 6973 under Treaties – Art. 9.
CRA maintains its positions on s. 85.1(1) in its new Folio
CRA has rewritten IT-450R – "Share for Share Exchange" to use somewhat more pasteurized and laconic prose, but without making any substantive changes - except that a statement has been added that a right to receive shares of the purchaser in the future is treated the same as boot. (Presumably, CRA would not intend to make an issue of this statement respecting a Plan of Arrangement which stated that every listed step shall be deemed to occur at five minute intervals.)
Positions maintained in the new Folio include:
- the s. 85.1 rollover can apply to an exchange of x% of each vendor share for a purchaser vendor share, with (100%-X%) of each share being exchanged for boot, provided that this is clearly specified in the purchaser’s offer
- up to $200 in cash can be received in lieu of fractional shares of the purchaser
Neal Armstrong. Summaries of S4-F5-C1: "Share for Share Exchange" under s. 85.1(1), s. 85.1(2.1) and ITAR 26(26).
Rae – Federal Court refuses to certify a class action for CRA's delays in assessing returns claiming gifting tax shelter credits.
CRA has held in abeyance the processing of 2012 and 2013 tax returns which claimed tax credits from 12 mass-marketed gifting tax shelters (8 for 2012, and 4 for 2013).
The Federal Court declined to certify a class action, based on the failure of CRA to assess the affected 2013 returns with "due dispatch," given inter alia problems with the applicant's definition of the class and deficiencies in her litigation plan (re fees and notifications).
Even if the action had been certified, there presumably would be minimal damages if CRA ultimately denies the credits (e.g., based on the tax shelters, such as that for the applicant, using leveraged gifts – see Maréchaux).
Neal Armstrong. Summary of Rae v. MNR, 2015 FC 707, under Federal Court Rules, Rule 334.16(1).
The Automotive Properties REIT IPO will use a conventional exchangeable unit structure
The Dilawri Group will transfer under s. 97(2) a portion of their Canadian automobile dealership properties (subject to leases back to them) to a subsidiary LP of the proposed Automotive Properties REIT for Notes and Class C LP units (to be redeemed for cash shortly thereafter) and for Class B exchangeable LP units (which will be treated as debt for accounting purposes). The public then will subscribe for conventional (s. 108(2)(a)) REIT units and the REIT will subscribe for (conventional) Class A LP units of the LP. Through their Class B LP Units (and corresponding special voting units of the REIT) the Dilawri Group initially will have a 60% interest in the REIT.
Their Class B LP unit exchange rights will be buttressed by a conventional exchange agreement between them, the Partnership and the REIT. Initial nervousness about the potential scope of the derivative forward agreement rules may have prompted the avoidance in prior transactions of direct rights of the exchangeable unit holders against the applicable REIT (see 2014 CTF Roundtable, Q. 1(c)).
Neal Armstrong. Summary of Automotive Properties REIT preliminary prospectus under Offerings – REIT and LP Offerings – Domestic REITs.
CRA finds that s. 15(1.4)(c) can be applied to extend the scope of s. 246(1) under the Massicotte indirect benefit doctrine
S. 15(1.4)(c) assimilates a benefit conferred on an individual related to a shareholder to s. 15 benefits conferred on that shareholder. In a situation where there was personal use of a corporate aircraft by the individual shareholder (Mr. A) of the "grandfather" (indirect parent) of the corporate owner of the aircraft and by Mr. A’s father, CRA (surprisingly) indicated that there would be no taxable benefit from such use by the father for the years under review before the effective date of s. 15(1.4)(c) – but thereafter, the value of the benefits enjoyed by the father were taxable to his son (Mr. A). CRA’s analysis was that, under Massicotte (a.k.a. Pub Création), the conferral of a benefit by a corporation on the shareholder of its parent (or, in this case, of the grandparent) constitutes an indirect benefit to the shareholder of the grandparent which is a taxable benefit to him (Mr. A) under s. 246(1), given that a benefit conferred on him directly by the grandparent corporation would have been taxable to him under s. 15(1). S. 15(1.4)(c) would then apply to add the benefit conferred on Mr. A’s father to the benefits which were taxable to Mr. A under s. 246(1).
As for the valuation of those benefits, CRA concluded after reviewing four Court of Appeal decisions (Youngman, Fingold, Schroter and Anthony) that the valuation of the benefits should be based on their fair market value (corresponding "to the price which the shareholder would have to pay, in comparable circumstances, to obtain the same benefit from a corporation of which he was not a shareholder") rather than their cost – although, here, the denied operating expenses and CCA of the corporate owner "could be utilized in establishing the value of the benefit conferred on Mr. A and Mr. B to the extent that it could be demonstrated that this value approximated the FMV of the benefit received."
Neal Armstrong. Summary of 3 March 2015 Memo 2014-0527841I7 F under s. 246(1) and s. 13(7)(c).