Citation: 2009 TCC 580
Date: 20091112
Docket: 2008-724(IT)G
BETWEEN:
INNOVATIVE INSTALLATION INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
McArthur J.
[1] This appeal is from an assessment of the
Appellant by the Minister of National Revenue (Minister) for $120,000 in
respect of a $160,000 dividend declared by the Appellant on July 2, 2004. The
issue in its simplest form is whether the Appellant was required to be the
beneficiary of a life insurance policy, or whether the Appellant was required
to simply receive the proceeds of the policy, in order to add the proceeds to
its capital dividend account and declare a tax-free dividend. Briefly, the
facts include the following and are for the most part taken from an agreed
statement of facts.
[2] The Appellant commenced arrangements to
borrow $220,000 from the Royal Bank of Canada (RBC) in early 1999. It obtained key person insurance from Sun Life Financial
on the life of its founder Rod Peacock to provide financial security for the
corporation. In the event of Mr. Peacock’s death, a death benefit would be
applied toward the RBC loan. Obtaining this insurance was not a condition for the
loan. The Appellant paid the policy’s monthly premiums. Mr. Peacock died in
2002 and Sun Life paid the $196,000, insurance proceeds to RBC, who applied
$175,500 to pay off the loan and then paid the $21,422 balance to the Appellant’s
bank account.
[3] The Appellant declared a dividend
(Dividend) in the amount of $160,000 on June 14, 2004, which became payable on
July 2, 2004. The Appellant filed an election, dated June 28, 2004, under
subsection 83(2) of the Income Tax Act (Act) in respect of the
Dividend and included the amount of the death benefit in calculating the
balance of its capital dividend account. The Minister decided that the Dividend
was in excess of the balance of the Appellant’s capital dividend account by an amount
of $160,000. Consequently, the Minister assessed the Appellant for Part III
taxes in the amount of $120,000, pursuant to subsection 184(2) of the Act.
Appellant’s Submissions
[4] The life insurance proceeds met the
definition of “capital dividend account” under paragraph 89(1)(d) of the
Act and the Appellant was entitled to declare the $160,000 capital Dividend
without being assessed for Part III taxes. Paragraph (d), subparagraph
(ii) of the Act’s definition of “capital dividend account” does not
require that the Appellant corporation be a beneficiary, but rather requires
that the Appellant corporation “receives” the insurance proceeds. The
requirement to be a beneficiary is removed after June 28, 1982. The outcome of
this case rises and falls on the factual determination of who received the
insurance proceeds.
[5] Determining the recipient requires a
consideration of the economic reality of the transaction because the word
“received” in subparagraph 89(1)(d)(ii) is ambiguous. It could mean either
physically receiving the proceeds or receiving the benefit of the proceeds. The
party that “received” the proceeds is the party that received the benefit. The
word “received” cannot simply mean whose hand it passes through, for all money
passes through the bank eventually. The fact that somebody writes a cheque to
the bank doesn’t necessarily mean that the bank is the party who ultimately receives
the money.
[6] The Appellant clearly received the benefit
of the insurance payout. The Appellant’s loan was paid off. The insurance
policy was a contract between the Appellant and Sun Life Financial, not RBC.
The effect of the contract was that it created an irrevocable redirection of
the insurance proceeds to RBC.
[7] RBC did not benefit from the proceeds but
merely had its receivable collected. While the argument could be made that RBC
benefited from having a risky loan paid off, RBC never required the insurance
policy as a condition for obtaining the loan. RBC had personal guarantees and
other collateral to secure the loan. Banks are in the business of lending money
so it would be a greater benefit for RBC to have an outstanding loan on which
it could collect interest than to see the loan paid off.
[8] The economic reality is that the true
policyholder was the Appellant, not RBC. The Appellant paid all the insurance
premiums to RBC, which in turn remitted the premiums to Sun Life Financial.
Correspondingly, the Appellant enjoyed the benefit of having the loan paid off.
RBC was simply a conduit in arranging the insurance policy. The Appellant
continues with a critique of Interpretation Bulletin IT-430R3, which gives the
CRA’s interpretation of “capital dividend account” as it relates to life
insurance policy payouts.
[9] At the time of Mr. Peacock’s death, the
outstanding balance on the loan was $196,922. By the time Sun Life Financial
approved the claim and RBC subsequently processed the insurance proceeds, the
outstanding balance of the loan had been reduced to approximately $175,500. The
difference was attributed to the Appellant’s payments on the loan during that
time and the $21,422 credited to the Appellant’s bank account was a
reimbursement of those payments.
Respondent’s submissions
[10] The Minister submits that RBC was the
beneficiary under the insurance policy. The Appellant did not receive the death
benefit, or any portion of it, in consequence of the death of Mr. Peacock. The
death benefit was not properly included by the Appellant in calculating the
balance of its “capital dividend account” in accordance with the definition in
paragraph 89(1)(d) of the Act. The amount of the Dividend
exceeded the portion deemed by subsection 83(2) of the Act to be a
capital dividend by $160,000. The Minister properly assessed the Appellant for
Part III tax in the amount of $120,000 pursuant to subsection 184(2) of the Act.
[11] Only if the transaction meets the
definition of “capital dividend account” in subsection 89(1) of the Act
is the Appellant entitled to add the life insurance proceeds to its capital
dividend account, pursuant to subsection 83(2) of the Act. The meaning
of “capital dividend account” can be determined with reference to
Interpretation Bulletin IT-66R6. Paragraph 6, subparagraph (d) says the capital
dividend account consists of “the net proceeds of a life insurance policy
received after May 23, 1985 by the corporation as beneficiary under the
policy”.
[12] Determining if the Appellant was a
beneficiary depends on the terms of the contract. The Respondent relies on Will-Kare
Paving & Contracting Ltd. V. Canada,
stating that the legal meaning of “beneficiary” must be recognized in its commercial
law sense. “Beneficiary” is not defined in the Income Tax Act but is
found in the Insurance Act.
The Insurance Act establishes that the beneficiary is one to whom the
insurance proceeds are payable to, which in this case was RBC..
[13] The intent of the parties should also be
explored, as held by the Supreme Court of Canada in Consolidated Bathurst
Export Ltd. v. Mutual Boiler and Machinery Insurance Co.
and several other cases.
[14] Courts must be sensitive to the economic
realities of a particular transaction. There are at least two caveats to
this rule. First, the taxpayer’s legal relationships must be respected in tax
cases. Second, as held by the Supreme Court of Canada in Shell Canada
Limited v. Her Majesty the Queen,
an inquiry into the ‘economic realities’, spirit, or object of the transaction
is subject to the provisions of the Act.
[15] The Respondent submits that by applying Shell
Canada, the Appellant’s ‘economic realities’ argument cannot be
entertained. The legal relationship in the insurance policy must be respected.
Under the terms of the insurance contract, RBC was to receive the proceeds from
Sun Life Financial in order to pay down the loan, pursuant to the terms of the
contract. The Respondent submits that the word “receive” in subparagraph 89(1)(d)(ii)
of the Act is not ambiguous.
Witnesses
[16] Mr. Dennis Lawson, the Appellant’s
president, testified that the Appellant’s only intention was to provide the
corporation with financial stability in the event of Mr. Peacock’s death. It
was to pay down the loan if Mr. Peacock were to pass away. Mr. Lawson testified
that the Appellant only sought advice on what it could do with the insurance
proceeds after they were paid out.
[17] RBC’s witness, Ms. Jennifer Hines,
testified that RBC’s intention in offering the insurance plan was to offer a
“creditors’ life insurance product”, one of the few types of insurance banks
are permitted to offer. Ms. Hines added that RBC considered itself to be the
beneficiary of the insurance policy under the Bank Act Insurance Business
(Banks and Bank Holding Companies) Regulations.
Counsel submitted that RBC could not have legally been able to offer this
product if the beneficiary was not a bank
Analysis
[18] The question again is whether the Appellant
is entitled to add the insurance proceeds to its capital dividend account,
thereby permitting the declaration of a tax-free capital dividend under
subsection 83(2) of the Act.
[19] Subparagraph 89(1)(d)ii) reads in
part as follows:
89(1) In this subdivision,
(a) …
(d) the amount, if any, by which the
total of
(i) ...
(ii) all amounts each of which is the proceeds
of a life insurance policy of which the corporation was not a beneficiary on or
before June 28, 1982 received by the corporation in the period and after May
23, 1985 in consequence of the death of any person.
There are two requirements the Appellant must meet to
satisfy the definition of “capital account” in subparagraph 89(1)(d)(ii):
(i) The corporation
must not have been a beneficiary of a life insurance policy on or before June
28, 1982.
(ii) The corporation
must have received proceeds of a life insurance policy after May 23, 1985 in
consequence of the death of any person.
[20] The first requirement is not in question.
The Respondent takes issue with the second requirement. He argued that the
Appellant must have received the proceeds as beneficiary under the policy,
relying on Interpretation Bulletins IT-66R6 and IT‑430R3, which state the
Canada Revenue Agency’s interpretation of the Act’s provisions. However,
when the legislation is clear, as it is in this instance, there is no need to
go beyond the unambiguous words in the Act. The Appellant needed only to
receive the proceeds in consequence of Mr. Peacock’s death. Being a beneficiary
is not a prerequisite and the word beneficiary does not appear in the policy
documents.
[21] The meaning of “received” does not require
proceeds to pass directly to the taxpayer. The taxpayer can notionally or
constructively receive it. In Millar v. Canada, Webb J. of this
Court concluded that the Appellant “received the full amount of his pension
even though parts thereof have been garnished to pay his obligations ...”. He
cited Mintzer v. The Queen, where
O’Connor J. stated “... the case law is clear that an amount may be included in
income even where it is only notionally or constructively received”. Webb J.
cited the further cases for this conclusion including Morin v. The Queen and The Queen
v. Hoffman,
and I agree with his analysis and adopt it as my own.
[22] The Appellant clearly derived the primary benefit
of the insurance payout, and “received” the proceeds, despite the funds not
passing directly into its hands. It had its loan paid off and its net worth
increased. It would not have paid monthly insurance premiums on the life of Mr.
Peacock had it not expected to derive a benefit in the event of Mr. Peacock’s
death. RBC’s benefit from the payout was insignificant in comparison to that of
the Appellant. RBC is in the lending business and had a solid loan paid early. Obviously
a risk of non-payment was eliminated, yet RBC had accounted for that risk by
taking personal guarantees from Rod Peacock, Michele Lawson-Peacock, and of
course the Appellant. Obtaining the insurance policy was not a condition of
receiving the loan. It can be said that RBC would have benefited if the loan
had remained outstanding on which it could collect further interest.
[23] The Appellant is denied adding the insurance
proceeds to its capital dividend account simply because it purchased the Sun
Life Financial insurance policy on the bank’s recommendation and, by contract,
redirected the proceeds to pay of its bank loan. This position defies common sense
and natural justice. A corporation that purchases a life insurance policy independent
of a bank and uses the proceeds to pay off its bank loan would not be denied
from adding the proceeds to its capital dividend account. Both scenarios are
identical in substance. The decision to grant a subsection 83(2) election
should not rise and fall on the form of the transaction but rather the
substance of the transaction.
[24] The Act’s definition of “capital
dividend account” requires the Appellant to receive the insurance proceeds. The
insurance proceeds were received by the Appellant despite never passing into
the hands of the Appellant. As Canadian tax jurisprudence has held, the word
“receive” in the Act refers to the party that receives the benefit of
the insurance proceeds. I find that the Appellant benefited from the insurance
payout by seeing its loan paid off and “received” the proceeds within the Act’s
definition of “capital dividend account”. By satisfying the definition of
“capital dividend account” the Appellant is entitled to add the proceeds to its
capital dividend account, pursuant to subsection 83(2) of the Act.
The Appellant was therefore entitled to declare a dividend of $160,000 without
being subjected to Part III taxes.
[25] For the above
reasons, the appeal is allowed,
with costs, and the matter shall be referred back to the Minister for
reconsideration for reassessment.
Signed at Ottawa, Canada, this 12th
day of November, 2009.
“C.H. McArthur”
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