SUPREME
COURT OF CANADA
Between:
Copthorne
Holdings Ltd.
Appellant
and
Her
Majesty The Queen
Respondent
Coram: McLachlin C.J. and Binnie, LeBel, Deschamps, Fish, Abella,
Charron, Rothstein and Cromwell JJ.
Reasons
for Judgment:
(paras. 1 to 128)
|
Rothstein J. (McLachlin C.J. and
Binnie, LeBel, Deschamps, Fish, Abella, Charron and Cromwell JJ. concurring)
|
Copthorne
Holdings Ltd. v. Canada, 2011 SCC 63,
[2011] 3 S.C.R. 721
Copthorne
Holdings Ltd. Appellant
v.
Her Majesty
The Queen Respondent
Indexed as: Copthorne Holdings
Ltd. v. Canada
2011 SCC 63
File No.: 33283.
2011: January 21; 2011: December 16.
Present: McLachlin C.J. and Binnie, LeBel, Deschamps, Fish,
Abella, Charron, Rothstein and Cromwell JJ.
on appeal from the federal court of appeal
Taxation
― Income tax ― Tax avoidance ― Interpretation and application
of general anti‑avoidance rule ― Series of transactions involving
paid‑up capital of a corporation ― Treatment of paid‑up
capital upon amalgamation ― Withholding tax on deemed dividend ―
Whether these transactions resulted in a tax benefit ― Was the
transaction giving rise to tax benefit an avoidance transaction ―
Interpretation of “contemplation” in the test for a statutory series ―
Whether transaction or series of transactions results in abuse and misuse of
Income Tax Act ― Whether general anti‑avoidance rule applicable to
deny tax benefit ― Income Tax Act, R.S.C. 1985, c. 1 (5th Supp .),
ss. 84(3) , 87(3) , 89(1) , 245(1) to (5) , 248(10) .
By
a series of transactions, two Canadian corporations within the same corporate
group (referred to in the reasons as Copthorne I and VHHC Holdings Ltd.)
that had been parent and subsidiary became “sister” corporations — that is,
corporations owned directly by the same non‑resident shareholder, Big
City Project Corporation B.V. The sister corporations were then amalgamated —
a “horizontal” amalgamation — and the paid‑up capital (“PUC”) of their
respective shares was aggregated to form the PUC of the shares of the
amalgamated corporation. Had they remained as parent and subsidiary, the PUC
of the shares of the subsidiary would have been cancelled on amalgamation. The
amalgamated corporation then redeemed a large portion of its shares and paid
out the aggregate PUC attributable to the redeemed shares to its non‑resident
shareholder. That payment was not treated as taxable income to the shareholder
but instead as a return of capital.
No
provision of the Income Tax Act (“Act ”) expressly
required the return of PUC in this case to be treated as a taxable payment.
Nonetheless, the Minister of National Revenue considered the transactions by
which the parent and subsidiary became sister corporations to have circumvented
certain provisions of the Act in an abusive manner and thus to have contravened
s. 245 of the Act , the general anti‑avoidance rule, or the “GAAR”.
Applying the GAAR, the Minister concluded that the PUC of the shares of the
former subsidiary should have been cancelled upon amalgamation with its former
parent corporation, as required by s. 87(3) . If the PUC of the shares of
the amalgamated corporation was reduced, the amount paid to the shareholder in
excess of the reduced PUC would have constituted a deemed dividend subject to
tax. The Minister reassessed the amalgamated corporation for unpaid
withholding tax on the deemed dividend portion of the amount paid to the non‑resident
shareholder upon redemption. The Tax Court of Canada and Federal Court of
Appeal upheld the reassessments.
Held: The appeal should be dismissed.
The
general anti‑avoidance rule scheme is set out in
ss. 245(1) to (5) of the Act and requires that three questions be
decided: (1) was there a tax benefit; (2) was the transaction giving
rise to the tax benefit an avoidance transaction; and (3) was the
avoidance transaction giving rise to the tax benefit abusive. The burden is on
the taxpayer to refute the Minister’s assumption of the existence of a tax
benefit. Where, as here, the Tax Court judge has made a finding of fact on the
existence of a tax benefit, it is only appropriate for a reviewing court to
overturn such a finding where an appellant can show a palpable and overriding
error. The existence of a tax benefit can be established by comparing the
taxpayer’s situation with an alternative arrangement that could reasonably have
been carried out but for the existence of the tax benefit. In this case, the
vertical amalgamation comparison used by the Minister was appropriate, and the
finding of the Tax Court that there was a tax benefit should be affirmed.
Under
s. 245(3) of the Act , a transaction will be an avoidance
transaction if it results in a tax benefit, and is not undertaken primarily for
a bona fide non‑tax purpose. An avoidance transaction may operate
alone to produce a tax benefit, or may operate as part of a series of
transactions to produce a tax benefit. Where, as here, the Minister assumes
that the tax benefit resulted from a series of transactions rather than a
single transaction, it is necessary to determine if there was a series, which
transactions make up the series, and whether the tax benefit resulted from the
series. The starting point is the common law test for a series upon which
“each transaction in the series is pre‑ordained to produce a final
result”. Section 248(10) of the Act extends the meaning of “series of
transactions” to include any related transactions or events completed “in
contemplation of” the series. The Court must decide whether the series was
taken into account when the decision was made to undertake the related
transaction in the sense that it was done, on a balance of probabilities, “in
relation to” or “because of” the series. Each case will be decided on its own
facts. The length of time between the series and the related transaction may
be a relevant consideration in some cases, as would intervening events taking
place between the series and the completion of the related transaction.
Although the “because of” or “in relation to” test does not require a “strong
nexus”, it does require more than a mere possibility or a connection with an
extreme degree of remoteness.
“Contemplation” in s. 248(10) should be read both prospectively and
retrospectively. The text and context of s. 248(10) leave open when the
contemplation of the series must take place. Nothing in the text specifies
when the related transaction must be completed in relation to the series.
Specifically, nothing suggests that the related transaction must be completed
in contemplation of a subsequent series. Here, the Tax Court and the Federal
Court of Appeal correctly concluded that the redemption transaction was part of
the same series as the prior sale and amalgamation, and that the series,
including the redemption transaction, resulted in the tax benefit.
If
there is a series that results, directly or indirectly, in a tax benefit, it
will be caught by s. 245(3) as an avoidance transaction unless each
transaction within the series could reasonably be considered to have been
undertaken or arranged primarily for bona fide purposes other than to
obtain a tax benefit. This determination is to be objectively considered, and
must be based on all of the evidence available to the court. Here, the Tax
Court judge was correct to find that the sale of the VHHC Holdings shares to
the non‑resident parent corporation was not primarily undertaken for a bona
fide non‑tax purpose. Because there was a series of transactions
which resulted in a tax benefit, the finding that one transaction in the series
was an avoidance transaction satisfies the requirements of s. 245(3).
In
order to determine whether a transaction is an abuse or misuse of the Act , a
court must first determine the object, spirit or purpose of the provisions that
are relied on for the tax benefit, having regard to the scheme of the Act , the
relevant provisions and permissible extrinsic aids. While an avoidance
transaction may operate alone to produce a tax benefit, it may also operate as
part of a series of transactions that results in the tax benefit. While the
focus must be on the transaction, where it is part of a series, it must be viewed
in the context of the series to enable the court to determine whether abusive
tax avoidance has occurred. In such a case, whether a transaction is abusive
will only become apparent when it is considered in the context of the series of
which it is a part and the overall result that is achieved. The analysis will
lead to a finding of abusive tax avoidance: (1) where the transaction
achieves an outcome the statutory provision was intended to prevent;
(2) where the transaction defeats the underlying rationale of the
provision; or (3) where the transaction circumvents the provision in a
manner that frustrates or defeats its object, spirit or purpose. These
considerations are not independent of one another and may overlap.
To
determine if there was abuse in this case, it is s. 87(3)
of the Act , which deals with the PUC of shares of amalgamated corporations,
that must be at the centre of the analysis. The text of s. 87(3) ensures
that in a horizontal amalgamation the PUC of the shares of the amalgamated
corporation does not exceed the total of the PUC of the shares of the
amalgamating corporations. Section 87(3) also provides, in its
parenthetical clause, that the PUC of the shares of an amalgamating corporation
held by another amalgamating corporation is cancelled. Having regard to the text, context and purpose of
s. 87(3) , the object, spirit and purpose of the parenthetical portion
of the section is to preclude preservation of PUC of the shares of a subsidiary
corporation upon amalgamation of the parent and subsidiary where such
preservation would permit shareholders, on a redemption of shares by the
amalgamated corporation, to be paid amounts as a return of capital without
liability for tax, in excess of the amounts invested in the amalgamating corporations
with tax‑paid funds.
The
appellant, Copthorne Holdings Ltd., agrees that s. 87(3)
would have led to a cancellation of the applicable PUC of the VHHC Holdings
shares if it had been vertically amalgamated with Copthorne I. Instead of
amalgamating the two companies, Copthorne I sold its VHHC Holdings shares
to the non‑resident parent corporation in order to avoid the vertical
amalgamation and cancellation of the PUC of the shares of VHHC Holdings. The
transaction obviously circumvented application of the parenthetical words of
s. 87(3) upon the later amalgamation of Copthorne I and VHHC
Holdings, now as sister corporations.
The
sale by Copthorne I of its VHHC Holdings shares, which was undertaken to
protect $67,401,279 of PUC from cancellation, while not contrary to the text of
s. 87(3) , does frustrate and defeat its purpose. The tax‑paid
investment here was in total $96,736,845. To allow the aggregation of an
additional $67,401,279 to this amount would enable payment, without liability
for tax by the shareholders, of amounts well in excess of the investment of tax‑paid
funds, contrary to the object, spirit and purpose or the underlying rationale
of s. 87(3) . The sale of VHHC Holdings shares circumvented the
parenthetical words of s. 87(3) and in the context of the series of which
it was a part, achieved a result the section was intended to prevent and thus
defeated its underlying rationale. The transaction was therefore abusive and
the assessment based on application of the GAAR was appropriate.
Cases Cited
Applied: Canada
Trustco Mortgage Co. v. Canada, 2005 SCC 54, [2005] 2 S.C.R. 601; referred
to: OSFC Holdings Ltd. v. Canada, 2001 FCA 260, [2002] 2
F.C. 288; MIL (Investments) S.A. v. R., 2006 TCC 460, [2006] 5 C.T.C.
2552, aff’d 2007 FCA 236, 2007 D.T.C. 5437; Commissioners of Inland Revenue
v. Duke of Westminster, [1936] A.C. 1; Ontario (Attorney General) v.
Fraser, 2011 SCC 20, [2011] 2 S.C.R. 3; Lipson v. Canada, 2009
SCC 1, [2009] 1 S.C.R. 3; Collins & Aikman Products Co. v. The Queen,
2009 TCC 299, 2009 D.T.C. 1179, aff’d 2010 FCA 251, [2011] 1 C.T.C. 250; Stubart
Investments Ltd. v. The Queen, [1984] 1 S.C.R. 536.
Statutes and Regulations Cited
Business Corporations Act, R.S.A. 2000,
c. B‑9, ss. 28, 182(2).
Canada Business Corporations Act, R.S.C.
1985, c. C‑44, ss. 26 , 182(2) .
Convention Between Canada and the Kingdom of the Netherlands for the
Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect
to Taxes on Income, S.C. 1986, c. 48,
Sch. I.
Income Tax Act, R.S.C. 1985, c. 1
(5th Supp .), ss. 2(1) , 84(3) , 84.1 , 87(3) , 89(1) , 212.1 , 215(1) , 245 ,
248(10) .
Authors Cited
Canada. Canada Customs and Revenue Agency. Interpretation Bulletin
IT‑463R2, “Paid‑up Capital”, September 8, 1995.
Cardarelli, Corrado. “Transactions Involving Paid‑Up
Capital”, in Report of Proceedings of the Fifty‑Sixth Tax Conference.
Toronto: Canadian Tax Foundation, 2005, 26:1.
Dickerson, Robert W. V., John L. Howard and Leon
Getz. Proposals for a New Business Corporations Law for Canada, vol. I.
Ottawa: Information Canada, 1971.
Duff, David G. “The Supreme Court of Canada and the General
Anti‑Avoidance Rule: Canada Trustco and Mathew”, in
David G. Duff and Harry Erlichman, eds., Tax Avoidance in Canada After
Canada Trustco and Mathew. Toronto: Irwin Law, 2007, 1.
Duff, David G., et al. Canadian
Income Tax Law, 3rd ed. Markham,
Ont.: LexisNexis, 2009.
Hiltz, Michael. “Section 245 of the
Income Tax Act ”, in Report of Proceedings of the Fortieth Tax Conference.
Toronto: Canadian Tax Foundation, 1989, 7:1.
Krishna, Vern. The Fundamentals of Income Tax Law.
Toronto: Carswell, 2009.
McGuinness, Kevin Patrick. Canadian Business Corporations Law,
2nd ed. Markham, Ont.: LexisNexis, 2007.
Oxford English Dictionary, 2nd ed., vol. III.
Oxford: Clarendon Press, 1989, “contemplation”.
Sullivan, Ruth. Sullivan on the Construction of Statutes,
5th ed. Markham, Ont.: LexisNexis, 2008.
Webster’s Third New International Dictionary. Springfield, Mass.: Merriam‑Webster, 1986, “contemplation”.
APPEAL from a judgment of the
Federal Court of Appeal (Desjardins, Evans and Ryer JJ.A.), 2009 FCA 163,
392 N.R. 29, [2009] 5 C.T.C. 1, 2009 D.T.C. 5101, [2009] F.C.J. No. 625
(QL), 2009 CarswellNat 1368, affirming a decision of Campbell J., 2007 TCC
481, [2008] 1 C.T.C. 2001, 2007 D.T.C. 1230, [2007] T.C.J. No. 335 (QL),
2007 CarswellNat 2808. Appeal dismissed.
Richard W.
Pound, Q.C., and Pierre‑Louis
Le Saunier, for the appellant.
Wendy
Burnham, Deen Olsen and Eric Noble, for
the respondent.
The
judgment of the Court was delivered by
Rothstein J. —
I. Introduction
[1]
This appeal involves paid-up capital (“PUC”) of
a corporation. Under the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.),
PUC represents capital invested in a class of shares of the corporation by its
shareholders. When that class of shares is redeemed by the corporation in
whole or in part, the amount paid by the corporation to the shareholders in
excess of the PUC attributable to the redeemed shares is deemed to have been
paid as a dividend that must be included in the income of the recipient
shareholder. However, the PUC portion need not be included in the income of
the recipient shareholder because it is viewed as a return of capital to
shareholders.
[2]
As a general rule, when two corporations
amalgamate, the PUC of the shares of both amalgamating corporations are
aggregated to form the PUC of the shares of the amalgamated corporation.
However, where the relationship between the amalgamating corporations is parent
and subsidiary — a so-called “vertical” amalgamation — the PUC of the shares of
both corporations are not aggregated. Rather the PUC of the shares of the
subsidiary corporation which are owned by the parent is cancelled.
[3]
In this case, by a series of transactions, two
corporations that had been parent and subsidiary became “sister” corporations —
that is, corporations owned directly by the same shareholder. The sister
corporations were then amalgamated — a “horizontal” amalgamation. Had they
remained as parent and subsidiary, the PUC of the shares of the subsidiary
would have been cancelled on amalgamation. As sister corporations, the PUC of
their respective shares was aggregated to form the PUC of the shares of the
amalgamated corporation.
[4]
The amalgamated corporation then redeemed a
large portion of its shares and paid out the aggregate PUC attributable to the
redeemed shares to its non-resident shareholder. That payment was not treated
as taxable income to the shareholder but instead as a return of capital.
[5]
No provision of the Income Tax Act
expressly required the return of PUC in this case to be treated as a taxable
payment. Nonetheless, the Minister of National Revenue considered the
transactions by which the parent and subsidiary became sister corporations to
have circumvented certain provisions of the Act in an abusive manner and thus
to have contravened s. 245 of the Act , the general anti-avoidance rule, or the
“GAAR”. Applying the GAAR, the Minister concluded that the PUC of the shares
of the former subsidiary should have been cancelled upon amalgamation with its
former parent corporation. If the PUC of the shares of the amalgamated
corporation was reduced, the amount paid to the shareholder in excess of the
reduced PUC would have constituted a deemed dividend subject to tax. The
Minister reassessed the amalgamated corporation for unpaid withholding tax on
the deemed dividend portion of the amount paid to the non-resident shareholder
upon redemption. The Tax Court of Canada and Federal Court of Appeal upheld the
reassessments (2007 TCC 481, [2008] 1 C.T.C. 2001; 2009 FCA 163, 392 N.R. 29).
[6]
Upon a textual, contextual and purposive
interpretation of the relevant provisions of the Act , in my respectful view,
the transactions that took place in this case were properly reassessed under
the GAAR. Accordingly, I would dismiss the appeal.
II. Summary
of Facts
[7]
The following is a summary of the facts
pertinent to the issue to be decided on this appeal. The summary is
essentially that set out in the reasons of the Federal Court of Appeal, which
in turn is based on the agreed statement of facts submitted by the parties.
The details of the complex set of transactions are contained in Appendix A.
[8]
Li Ka-Shing and his son, Victor Li, control a
group of Canadian and non-resident companies (“Li Group”). One is VHHC
Investments Ltd. in which the Li Group invested $96,736,845. VHHC Investments
purchased all the shares of VHHC Holdings Ltd. for $67,401,279. At the end of
1991, the shares of VHHC Investments had a PUC of $96,736,845 and the shares of
VHHC Holdings had a PUC of $67,401,279.
[9]
VHHC Holdings held shares in Husky Oil Ltd.
directly and through a subsidiary corporation, VHSUB Holdings Inc. By 1991 the
market value of the Husky shares had fallen such that VHSUB had an unrealized
capital loss on those shares.
[10]
Copthorne Holdings Ltd. (“Copthorne I”) was a
wholly owned subsidiary of Big City Project Corporation B.V. (“Big City”), a
Netherlands company and member of the Li Group. Copthorne I had purchased the
Harbour Castle Hotel in 1981 and sold it for a substantial capital gain in
1989.
[11]
By the end of 1991, the VHSUB shares had nominal
fair market value, but an adjusted cost base of $84.3 million reflecting the accrued
capital loss on the Husky shares. In 1992, VHHC Investments sold its common
shares of VHHC Holdings with a PUC of $67,401,279 to Copthorne I for a nominal
price. VHHC Holdings subsequently sold the majority of its VHSUB shares to
Copthorne I (inheriting the high adjusted cost base under stop-loss rules)
which in turn sold the VHSUB shares to an unrelated purchaser at their fair
market value, and thus realized the capital loss. This allowed Copthorne I to
carry the capital loss on the VHSUB shares back to shelter the capital gains
from the sale of the Harbour Castle Hotel.
[12]
In 1993, the Li Group decided to amalgamate
Copthorne I, its wholly owned subsidiary VHHC Holdings and two other
corporations. It was recognized that because VHHC Holdings was a wholly owned
subsidiary of Copthorne I, without any other steps, the PUC of $67,401,279 of
the shares of VHHC Holdings would be eliminated on the vertical amalgamation.
However, if VHHC Holdings and Copthorne I were “sister” corporations their
amalgamation would result in aggregation of the PUC of each of the companies’
respective shares. To avoid the elimination of the PUC of VHHC Holdings
shares, on July 7, 1993, Copthorne I sold its VHHC Holdings shares to Big City,
its parent corporation, for their fair market value which was nominal. On
January 1, 1994, Copthorne I, VHHC Holdings and two other corporations
amalgamated under the name Copthorne Holdings Ltd. (“Copthorne II”). All the
issued shares of Copthorne II were owned by Big City. The PUC of the Copthorne
II shares owned by Big City was essentially the PUC of the shares of VHHC
Holdings ($67,401,280) as the PUC of the shares of the other amalgamating
corporations was nominal.
[13]
The proceeds of the 1989 Harbour Castle Hotel
sale had been invested by Copthorne I in Copthorne Overseas Investment Ltd.
(“COIL”), a wholly owned Barbados company that carried on an active
bond-trading business in Singapore. In response to June 1994 amendments made
to the foreign accrual property income (“FAPI”) provisions of the Income Tax
Act which would have made COIL’s income FAPI, the Li Group decided to
dispose of the business of COIL to another entity within the Li Group and to
remove some or all of the proceeds of disposition from Canada.
[14]
To achieve this result, in 1994, L.F.
Investments (Barbados) Ltd. (“L.F. Investments”) was incorporated in Barbados.
L.F. Investments acquired all of the issued shares of Copthorne II and VHHC
Investments. The disposition of these shares by Big City resulted in a capital
gain. However, this gain was not taxable. A tax treaty between Canada and the
Netherlands provides that aside from enumerated exceptions, capital gains
accruing to a resident of the Netherlands (Big City) will not be taxable in
Canada. Effective January 1, 1995, those two corporations and two others that
were owned within the Li Group amalgamated under the name Copthorne Holdings
Ltd. (“Copthorne III”). On this amalgamation, L.F. Investments received
164,138,025 Class D preferred shares (“Class D shares”) having an aggregate
redemption amount, fair market value and PUC of $164,138,025 or effectively
$1.00 per share. In essence, the PUC of the Class D shares was the total of
the PUC of the shares of VHHC Investments at the end of 1991 and the PUC of
VHHC Holdings shares that was derived from the share subscriptions made by VHHC
Investments.
[15]
Immediately following this amalgamation,
Copthorne III redeemed 142,035,895 of its Class D shares that were held by L.F.
Investments, a non-resident of Canada, for $142,035,895. Since the redemption
amount was no more than the PUC of the Class D shares, the redemption did not
give rise to a deemed dividend under the Income Tax Act . Accordingly,
Copthorne III did not withhold or remit any tax on behalf of L.F. Investments.
[16]
The Minister assessed Copthorne III by applying
the GAAR to reduce the PUC of its Class D shares by $67,401,280, which was the
portion of the PUC that was attributable to the shares of VHHC Holdings.
[17]
The Minister determined that a deemed dividend
arose on the redemption by Copthorne III amounting to $58,325,223, which was
the proportion of the redemption attributable to the VHHC Holdings PUC, and
that 15 percent of that amount should have been withheld. Accordingly, the
Minister assessed Copthorne III tax of $8,748,783.40. In addition, the
Minister assessed a penalty of 10 percent of that amount.
[18]
In an unrelated transaction that occurred in
2002, Copthorne III was amalgamated with five other corporations owned within
the Li Group and continued as Copthorne Holdings Ltd., the appellant in this
appeal.
[19]
Copthorne objected to the assessment, the Minister
confirmed it, and Copthorne appealed to the Tax Court of Canada.
[20]
The Tax Court found in favour of the Minister
but overturned the penalty assessment. The Federal Court of Appeal affirmed
the decision of the Tax Court. Copthorne now appeals to this Court.
III. Tax
Court of Canada
[21]
At the Tax Court, Campbell J. found that all
elements necessary to apply the GAAR had been established: a series of
transactions, a tax benefit, an avoidance transaction, and the abusiveness of
the transaction.
[22]
Based on this Court’s ruling in Canada
Trustco Mortgage Co. v. Canada, 2005 SCC 54, [2005] 2 S.C.R. 601, she found
that a related transaction is part of a series of transactions if it is
completed in contemplation of the series “not in the sense of actual knowledge
but in the broader sense of ‘because of’ or ‘in relation to’ the series” (Trustco,
at para. 26) and that related transactions may occur before or after the
series.
[23]
In this case she found that there was a “strong
nexus” between the redemption of Copthorne III shares, which she considered the
related transaction, and the series of transactions, which included the sale of
VHHC Holdings to Big City in 1993 to preserve its PUC and the subsequent
amalgamation of Copthorne I and VHHC Holdings, because the redemption “was
clearly done in contemplation of” the share sale in 1993 (paras. 39-40). She
concluded that all of the relevant transactions could be considered a “series
of transactions” for the purposes of the GAAR.
[24]
Second, she found that preserving the PUC had
reduced the tax that L.F. Investments was liable to pay, and that Copthorne III
was required to withhold and remit, and that this tax reduction constituted a
tax benefit.
[25]
Third, she noted that an avoidance transaction
is a transaction that is not undertaken for a “bona fide purpose other
than to obtain a tax benefit” (para. 47). While Copthorne argued that the sale
of VHHC Holdings to Big City was simply part of a reorganization to simplify
the Li Group corporate structure, she concluded that it did nothing to simplify
the corporate structure and thus was an “avoidance transaction”.
[26]
As to whether the avoidance transaction was an
abuse or misuse, she considered three impugned sections together: ss. 89(1) ,
87(3) and 84(3) . She concluded that the provisions were intended “to operate to
prevent the artificial increase of PUC on amalgamation and its subsequent
return to shareholders on a tax-free basis” (para. 74).
[27]
She found that the avoidance transaction had
misused these provisions “to artificially increase the PUC on amalgamation with
the subsequent return of this artificial increase to shareholders on a tax-free
basis, the very result that these provisions were intended to prevent” (para.
57).
[28]
She concluded that the Minister had properly
applied the GAAR to disallow the addition of the $67,401,279 PUC of the shares
of VHHC Holdings to the PUC of the shares of Copthorne III, and that the
proportion of the subsequent redemption attributable to the $67,401,279 PUC
from VHHC Holdings was taxable. However, she overturned the Minister’s penalty
assessment.
IV. Federal
Court of Appeal
[29]
The Federal Court of Appeal affirmed the
judgment of the Tax Court for the reasons written by Ryer J.A.
[30]
On the first three issues — the series of
transactions, the tax benefit, and the avoidance transaction — Ryer J.A.
deferred to the factual findings of the Tax Court judge. However, he noted that
the Tax Court judge had applied too stringent a legal test to assessing the
series of transactions. He concluded that a “strong nexus” need not exist
between a series and a related transaction to find that the related transaction
is part of the series. Instead, the series need only be a “motivating factor”
for the related transaction (para. 49). Given the Tax Court judge’s finding
that a “strong nexus” existed, he concluded that this less stringent motivating
factor test was clearly met.
[31]
Finally, he upheld the conclusion of the Tax
Court judge that the avoidance transaction had been abusive, but differed in
his application of the GAAR. He concluded that it was only necessary to
consider one provision: s. 89(1). However, he agreed that the Tax Court judge
had properly identified the purpose of s. 89(1): “. . . to avoid
duplicative increases in computing the PUC of the amalgamated corporation”
(para. 73). He confirmed the Tax Court judge’s finding that the transaction
had abused this provision, and that the GAAR had properly been applied by the
Minister. He dismissed the appeal.
V. Analysis
A. Introduction
[32]
It is relatively straightforward to set out the
GAAR scheme. It is much more difficult to apply it. Where a transaction is an
avoidance transaction (a transaction that would result in a tax benefit and
whose primary purpose was to obtain the tax benefit), the tax benefit resulting
from the transaction will be denied. However, the tax benefit will not be denied
if the avoidance transaction would not result in an abuse or misuse of the Income
Tax Act . The scheme is set out in ss. 245(1) to (5) of the Act (see
Appendix B).
[33]
In Trustco, this Court set out the three
questions to be decided in a GAAR analysis:
1. Was there a tax benefit? (para. 18);
2. Was the transaction giving rise to the tax benefit an
avoidance transaction? (para. 21); and
3. Was the avoidance transaction giving rise to the tax
benefit abusive? (para. 36).
I will address each in
turn.
B. Was
There a Tax Benefit?
[34]
The first question that must be answered is
whether there was a tax benefit. The burden is on the taxpayer to refute the
Minister’s assumption of the existence of a tax benefit (Trustco, at
para. 63). Where, as here, the Tax Court judge has made a finding of fact on
the existence of a tax benefit, it is only appropriate for a reviewing court to
overturn such a finding where an appellant can show a palpable and overriding
error.
[35]
As found in Trustco, the existence of a
tax benefit can be established by comparison of the taxpayer’s situation with
an alternative arrangement (para. 20). If a comparison approach is used, the
alternative arrangement must be one that “might reasonably have been carried
out but for the existence of the tax benefit” (D. G. Duff, et al., Canadian
Income Tax Law (3rd ed. 2009), at p. 187). By considering what a
corporation would have done if it did not stand to gain from the tax benefit,
this test attempts to isolate the effect of the tax benefit from the non-tax
purpose of the taxpayer.
[36]
Copthorne argues that an amalgamation while VHHC
Holdings was owned by Copthorne I — a vertical amalgamation — “was never a live
and reasonable option” and thus the Minister should not have used such a
comparison (A.F., at para. 137). A vertical amalgamation would have resulted
in the cancellation of the PUC of VHHC Holdings shares. This meant that a
greater proportion of the funds returned as a result of the redemption would
have been subject to tax as a deemed dividend. Copthorne says that a taxpayer
would never have chosen this higher tax option, and thus that such option was
unreasonable.
[37]
An amalgamation was necessary for Copthorne to
achieve the outcomes it sought in 1993 when it undertook the transactions
between VHHC Holdings, Copthorne I and Big City — a simplification of the
corporate structure, and the ability to shelter anticipated gains with losses
within the four amalgamating corporations. The only question was whether the
amalgamation would be horizontal or vertical. As the Tax Court judge pointed
out, the vertical amalgamation would have been the simpler course of action.
It was only the cancellation of PUC that would arise upon a vertical
amalgamation that led to the sale by Copthorne I of its shares in VHHC Holdings
to Big City. To use the words of Professor Duff, “but for” the difference in
how PUC was treated, a vertical amalgamation was reasonable.
[38]
The comparison was entirely appropriate.
Copthorne has not satisfied its onus of showing that there was no tax benefit.
I would affirm the finding of the Tax Court that there was a tax benefit.
C. Was
the Transaction Giving Rise to the Tax Benefit an Avoidance Transaction?
[39]
According to s. 245(3) of the Act , a transaction
will be an avoidance transaction if it results in a tax benefit, and is not
undertaken primarily for a bona fide non-tax purpose. An avoidance
transaction may operate alone to produce a tax benefit, or may operate as part
of a series of transactions which produces a tax benefit.
[40]
Where, as here, the Minister assumes that the
tax benefit resulted from a series of transactions rather than a single
transaction, it is necessary to determine if there was a series, which
transactions make up the series, and whether the tax benefit resulted from the
series. If there is a series that results, directly or indirectly, in a tax
benefit, it will be caught by s. 245(3) unless each transaction within the
series could “reasonably be considered to have been undertaken or arranged
primarily for bona fide purposes other than to obtain [a] tax benefit”.
If any transaction within the series is not undertaken primarily for a bona
fide non-tax purpose that transaction will be an avoidance transaction.
[41]
The first consideration is whether there was a
series that resulted in a tax benefit. As I will explain below, it will be
necessary to consider when a transaction which is related to a common law
series of transactions is part of a series of transactions as defined in s.
248(10) of the Income Tax Act . The second consideration is whether any
of the transactions within the purported series is an avoidance transaction.
(1) Was There a Series of Transactions That Resulted in a Tax
Benefit?
[42]
In the agreed statement of facts, the parties
agreed that the sale of VHHC Holdings to Big City, and the subsequent
amalgamation of VHHC Holdings with Copthorne I to form Copthorne II were part
of a series of transactions. However, these transactions themselves did not
result in a tax benefit. The tax benefit was only realized when Copthorne III
redeemed its shares without its shareholder incurring an immediate tax
liability. Thus, it is necessary to decide whether the redemption transaction
is part of the series of transactions which included the sale of VHHC Holdings
to Big City and the subsequent amalgamation of Copthorne I and VHHC Holdings.
[43]
In Trustco, this Court accepted that the
scheme of the Act provides for an expansive approach to the series issue. The
starting point is the common law series taken from English law where “each
transaction in the series [is] pre-ordained to produce a final result” (OSFC
Holdings Ltd. v. Canada, 2001 FCA 260, [2002] 2 F.C. 288, at para. 24).
This common law series is expanded by s. 248(10) of the Act which deems any
“related transactio[n]” which is completed “in contemplation of” a series to be
part of that series. Section 248(10) provides:
248. . . .
(10) For
the purposes of this Act , where there is a reference to a series of
transactions or events, the series shall be deemed to include any related
transactions or events completed in contemplation of the series.
[44]
The parties have agreed that the sale of VHHC Holdings
to Big City and the subsequent amalgamation were part of a series. However,
the agreed facts do not address whether the redemption transaction was part of
this series. The question which must be answered is whether the redemption
which gave rise to the tax benefit can be considered to be a “related
transaction” which was done “in contemplation of” the prior series of
transactions.
[45]
The Minister assumed that there was a series
that included the redemption transaction that led to a tax benefit. Again,
Copthorne has the onus of showing that the Minister’s assumption is refuted (Trustco,
at para. 63).
[46]
The Tax Court judge found that there was a
“strong nexus” between the redemption and the earlier series which included the
1993 sale of VHHC Holdings to Big City, and the horizontal amalgamation of
Copthorne I and VHHC Holdings. The Federal Court of Appeal rightly noted that
a “strong nexus” is not necessary to meet the series test set out in Trustco.
The court is only required to consider whether the series was taken into
account when the decision was made to undertake the related transaction in the
sense that it was done “in relation to” or “because of” the series (Trustco,
at para. 26).
[47]
Although the “because of” or “in relation to”
test does not require a “strong nexus”, it does require more than a “mere
possibility” or a connection with “an extreme degree of remoteness” (see MIL
(Investments) S.A. v. R., 2006 TCC 460, [2006] 5 C.T.C. 2552, at para. 62,
aff’d 2007 FCA 236, 2007 D.T.C. 5437). Each case will be decided on its own
facts. For example, the length of time between the series and the related
transaction may be a relevant consideration in some cases, as would intervening
events taking place between the series and the completion of the related
transaction. In the end, it will be the “because of” or “in relation to” test
that will determine, on a balance of probabilities, whether a related
transaction was completed in contemplation of a series of transactions.
[48]
The Tax Court judge was aware both of the
intervening introduction of the FAPI rule changes, as well as the time interval
between the sale and amalgamation in 1993 and 1994 and the redemption in 1995
(para. 38). Copthorne argued that these intervening events broke the purported
series. The Tax Court judge agreed that the test should not catch
“transactions that are only remotely connected to the common law series” (para.
39). Nonetheless, she found that there was a “strong nexus” between the series
and the subsequent redemption, because “the Redemption . . . was exactly the
type of transaction necessary to make a tax benefit a reality based on the
preservation of the PUC” (para. 40). The Federal Court of Appeal upheld this
conclusion, finding that there was no palpable and overriding error of fact. I
would also uphold the Tax Court judge’s conclusion for the same reason.
[49]
Copthorne now asks the Court to revisit the
interpretation of s. 248(10) . It argues that a related transaction should only
be part of a series where the series is “being contemplated by the parties” at
the time the prior related transaction takes place (A.F., at para. 112). The
argument is that the plain meaning of these words suggests that the assessment of
whether the related transaction was done “in contemplation of” the series must
be done prospectively, because the definition of contemplation suggests
consideration of a future event. Copthorne says that the question of whether a
transaction was related must therefore be decided by determining whether a
prior related transaction was completed in contemplation of a subsequent
series, not by considering, with the benefit of hindsight, whether the series
had been contemplated when a subsequent transaction was completed; that
retrospective assessment of the connection between a series and a related
transaction impermissibly expands the reach of s. 248(10) ; and that such
consideration would create unacceptable uncertainty and trench upon the Duke
of Westminster principle that taxpayers are entitled to arrange their
affairs to minimize the amount of tax payable (see Commissioners of Inland
Revenue v. Duke of Westminster, [1936] A.C. 1 (H.L.)).
[50]
I acknowledge that the more common use of the
term “contemplation” is likely prospective. Indeed, in the Canadian Tax
Foundation’s 1988 Report of Proceedings of the Fortieth Tax Conference,
shortly after s. 248(10) and the GAAR were enacted (s. 248(10) in 1986, the
GAAR in 1988), Michael Hiltz, then a Director with Revenue Canada expressed the
view of the agency that s. 248(10) was to be read prospectively:
In the view of Revenue Canada, a preliminary
transaction will form part of a series determined with reference to subsection
248(10) if, at the time the preliminary transaction is carried out, the
taxpayer intends to implement the subsequent transactions constituting the
series . . . even though at the time of the completion of the preliminary
transaction the taxpayer either had not determined all the important elements of
the subsequent transactions — including, possibly, the identity of other
taxpayers involved — or had lacked the ability to implement the subsequent
transactions.
(“Section
245 of the Income Tax Act ”, in Report of Proceedings of the Fortieth Tax
Conference (1989), 7:1, at p. 7:6)
[51]
In answer to the argument that a prospective
reading of s. 248(10) unduly narrows its scope, it is said that the section
will still have the utility of including a prior transaction in a series even
when the prior transaction cannot be said to meet the test for inclusion in a
common law series.
[52]
Subsequent to his earlier view on the issue,
Professor Duff has more recently suggested that a more reasonable
interpretation of s. 248(10) would be to read it prospectively only. He writes:
With respect to the extended meaning of a
series of transactions, however, the Court’s interpretation [in Trustco]
is less persuasive. Although the conclusion that related transactions can
occur “either before or after” an avoidance transaction is likely to accord
with legislative intent, it is not obvious that this interpretation is
consistent with the text of subsection 248(10) , which might more reasonably be
interpreted to include only related transactions completed prior to an ordinary
series of transactions but not related transactions completed after the series.
[Footnotes omitted.]
(D.
G. Duff, “The Supreme Court of Canada and the General Anti-Avoidance Rule: Canada
Trustco and Mathew”, in D. G. Duff and H. Erlichman, eds., Tax
Avoidance in Canada After Canada Trustco and Mathew (2007), 1, at
pp. 26-27)
[53]
However, “contemplation” is defined by The
Oxford English Dictionary (2nd ed. 1989) vol. III, at p. 811, as
“[t]he action of contemplating or mentally viewing; the action of thinking
about a thing continuously; attentive consideration, study.” This definition
does not require that the thing contemplated is either in the future or the
past. Copthorne relies on the definition of “contemplation” in Webster’s
Third New International Dictionary (1986), at p. 491, which includes “the
act of looking forward to an event: the act of intending or considering a
future event”. As I have said, contemplation often does involve looking
forward. However, these words are not exhaustive of the Webster definition.
More general words precede, which are not limited to looking forward: “an act
of the mind in considering with attention: continued attention to a particular
subject . . .: something for which such consideration is asked . . .: the act
of viewing steadfastly and attentively: the viewing of something . . . for its
own sake”.
[54]
The text and context of s. 248(10) leave open
when the contemplation of the series must take place. Nothing in the text
specifies when the related transaction must be completed in relation to the
series. Specifically, nothing suggests that the related transaction must be
completed in contemplation of a subsequent series. The context of the
provision is to expand the definition of a series which is an indication
against a narrow interpretation.
[55]
In Trustco, the Chief Justice and Major
J. explained that it is likely more consonant with the Parliamentary intention
to read s. 248(10) both prospectively and retrospectively. And Trustco
adopted and expanded the application of s. 248(10) as interpreted in OSFC,
which itself involved the retrospective application of the provision. The
Court in Trustco said, at para. 26:
Section 248(10) extends the meaning of
“series of transactions” to include “related transactions or events completed
in contemplation of the series”. The Federal Court of Appeal held, at para. 36
of OSFC, that this occurs where the parties to the transaction “knew of
the . . . series, such that it could be said that they took it into account
when deciding to complete the transaction”. We would elaborate that “in
contemplation” is read not in the sense of actual knowledge but in the broader
sense of “because of” or “in relation to” the series. The phrase can be
applied to events either before or after the basic avoidance transaction found
under s. 245(3) . As has been noted:
It
is highly unlikely that Parliament could have intended to include in the
statutory definition of “series of transactions” related transactions completed
in contemplation of a subsequent series of transactions, but not related
transactions in the contemplation of which taxpayers completed a prior series
of transactions.
(D. G. Duff, “Judicial Application of the
General Anti-Avoidance Rule in Canada: OSFC Holdings Ltd. v. The Queen”
(2003), 57 I.B.F.D. Bulletin 278, at p. 287)
[56]
The fact that the language of s. 248(10) allows
either prospective or retrospective connection of a related transaction to a
common law series and that such an interpretation accords with the
Parliamentary purpose, impels me to conclude that this interpretation should be
preferred to the interpretation advanced by Copthorne.
[57]
Trustco is a
recent decision of this Court. Reversing a recent decision “is a step not to
be lightly undertaken” (Ontario (Attorney General) v. Fraser,
2011 SCC 20, [2011] 2 S.C.R. 3, at paras. 56-57, per McLachlin C.J. and
LeBel J.). Before a court will entertain reversing a recently decided
decision, there must be substantial reasons to believe the precedent was
wrongly decided. In this case, Copthorne has not met the “high threshold for
reversing a precedent” (Fraser, at para. 60) and it is appropriate to
reaffirm the Trustco interpretation of s. 248(10) .
[58]
I would therefore agree with the Tax Court and
the Federal Court of Appeal that the redemption transaction was part of the
same series as the prior sale and amalgamation, and that the series, including
the redemption transaction, resulted in the tax benefit.
(2) Was Any Transaction Within the
Purported Series an Avoidance Transaction?
[59]
The determination of whether a transaction is
undertaken primarily for a non-tax purpose and is therefore not an avoidance
transaction is to be objectively considered, and must be based on all of the
evidence available to the court (Trustco, at paras. 28-29).
[60]
The Tax Court judge found that the 1993 sale of
VHHC Holdings shares from Copthorne I to Big City was an avoidance transaction.
The Federal Court of Appeal agreed.
[61]
The sale preserved the PUC of the VHHC Holdings
shares when VHHC Holdings and Copthorne I were amalgamated to form Copthorne
II, which allowed for the subsequent redemption of Copthorne III shares without
liability for tax. This is a tax purpose.
[62]
Copthorne argues that the transactions were
undertaken for the purposes of simplifying the Li Group companies and using the
losses within the four amalgamated companies to shelter gains also within the
four amalgamated companies. While simplification and sheltering gains may
apply to the other transactions, they do not explain the sale of VHHC Holdings
shares to Big City. As the Tax Court judge found, the share sale introduced an
additional step into a process of simplification and consolidation. A vertical
amalgamation would have resulted in the same simplification and consolidation.
Moreover, Copthorne has not shown why sheltering gains using losses
within the four companies would not have been possible if the companies were
amalgamated vertically.
[63]
I see no error in the finding of the Tax Court
judge that the sale of the VHHC Holdings shares from Copthorne I to Big City
was not primarily undertaken for a bona fide non-tax purpose. The
burden was upon Copthorne to prove the existence of a bona fide non-tax
purpose (Trustco, at para. 66), which it failed to do. Thus, I
would affirm her finding that the sale of the VHHC Holdings shares to Big City
was an avoidance transaction.
[64]
Because there was a series of transactions which
resulted in a tax benefit, the finding that one transaction in the series was
an avoidance transaction satisfies the requirements of s. 245(3) .
D. Was
the Avoidance Transaction Giving Rise to the Tax Benefit Abusive?
[65]
The most difficult issue in this case is whether
the avoidance transaction was an abuse or misuse of the Act . The terms “abuse”
or “misuse” might be viewed as implying moral opprobrium regarding the actions
of a taxpayer to minimize tax liability utilizing the provisions of the Income
Tax Act in a creative way. That would be inappropriate. Taxpayers are
entitled to select courses of action or enter into transactions that will
minimize their tax liability (see Duke of Westminster).
[66]
The GAAR is a legal mechanism whereby Parliament
has conferred on the court the unusual duty of going behind the words of the
legislation to determine the object, spirit or purpose of the provision or
provisions relied upon by the taxpayer. While the taxpayer’s transactions will
be in strict compliance with the text of the relevant provisions relied upon,
they may not necessarily be in accord with their object, spirit or purpose. In
such cases, the GAAR may be invoked by the Minister. The GAAR does create some
uncertainty for taxpayers. Courts, however, must remember that s. 245 was
enacted “as a provision of last resort” (Trustco, at para. 21).
[67]
A court must be mindful that a decision supporting
a GAAR assessment in a particular case may have implications for innumerable
“everyday” transactions of taxpayers. A decision affecting PUC is a good
example. There are undoubtedly hundreds, and perhaps thousands of share
transactions each year in which the PUC of a certain class of shares may be a
relevant consideration. Because of the potential to affect so many
transactions, the court must approach a GAAR decision cautiously. It is
necessary to remember that “Parliament must . . . be taken to seek consistency,
predictability and fairness in tax law” (Trustco, at para. 42). As this
Court stated in Trustco:
Parliament
intends taxpayers to take full advantage of the provisions of the Income Tax
Act that confer tax benefits. Indeed, achieving the various policies that
the Income Tax Act seeks to promote is dependent on taxpayers doing so.
[para. 31]
[68]
For this reason, “the GAAR can only be applied
to deny a tax benefit when the abusive nature of the transaction is clear” (Trustco,
at para. 50). The court’s role must therefore be to conduct an objective,
thorough and step-by-step analysis and explain the reasons for its conclusion.
[69]
In order to determine whether a transaction is
an abuse or misuse of the Act , a court must first determine the “object, spirit
or purpose of the provisions . . . that are relied on for the tax benefit,
having regard to the scheme of the Act , the relevant provisions and permissible
extrinsic aids” (Trustco, at para. 55). The object, spirit or purpose
of the provisions has been referred to as the “legislative rationale that
underlies specific or interrelated provisions of the Act ” (V. Krishna, The
Fundamentals of Income Tax Law (2009), at p. 818).
[70]
The object, spirit or purpose can be identified
by applying the same interpretive approach employed by this Court in all
questions of statutory interpretation — a “unified textual, contextual and
purposive approach” (Trustco, at para. 47; Lipson v. Canada,
2009 SCC 1, [2009] 1 S.C.R. 3, at para. 26). While the approach is the
same as in all statutory interpretation, the analysis seeks to determine a
different aspect of the statute than in other cases. In a traditional statutory
interpretation approach the court applies the textual, contextual and purposive
analysis to determine what the words of the statute mean. In a GAAR analysis
the textual, contextual and purposive analysis is employed to determine the
object, spirit or purpose of a provision. Here the meaning of the words of the
statute may be clear enough. The search is for the rationale that underlies
the words that may not be captured by the bare meaning of the words
themselves. However, determining the rationale of the relevant provisions of
the Act should not be conflated with a value judgment of what is right or wrong
nor with theories about what tax law ought to be or ought to do.
[71]
Second, a court must consider whether the
transaction falls within or frustrates the identified purpose (Trustco,
at para. 44). As earlier stated, while an avoidance transaction may
operate alone to produce a tax benefit, it may also operate as part of a series
of transactions that results in the tax benefit. While the focus must be on
the transaction, where it is part of a series, it must be viewed in the context
of the series to enable the court to determine whether abusive tax avoidance
has occurred. In such a case, whether a transaction is abusive will only
become apparent when it is considered in the context of the series of which it
is a part and the overall result that is achieved (Lipson, at para. 34, per
LeBel J.).
[72]
The analysis will then lead to a finding of
abusive tax avoidance: (1) where the transaction achieves an outcome the
statutory provision was intended to prevent; (2) where the transaction defeats
the underlying rationale of the provision; or (3) where the transaction
circumvents the provision in a manner that frustrates or defeats its object,
spirit or purpose (Trustco, at para. 45; Lipson, at para.
40). These considerations are not independent of one another and may overlap.
At this stage, the Minister must clearly demonstrate that the transaction is an
abuse of the Act , and the benefit of the doubt is given to the taxpayer.
[73]
When applying this test, there is no distinction
between an “abuse” and a “misuse”. Instead, there is a single unified approach
(Trustco, at para. 43). In the balance of these reasons, I will
therefore only use the term “abuse”.
(1) The Relevant Sections
[74]
The three sections of the Act that are alleged
to have been abused are ss. 89(1) , 87(3) and 84(3) . Section 89(1) defines
PUC. The relevant portion reads:
89.
(1) . . .
“paid-up capital” at any particular time means,
(a) in
respect of a share of any class of the capital stock of a corporation, an
amount equal to the paid-up capital at that time, in respect of the class of
shares of the capital stock of the corporation to which that share belongs,
divided by the number of issued shares of that class outstanding at that time,
(b) in
respect of a class of shares of the capital stock of a corporation,
. .
.
(iii) where the particular
time is after March 31, 1977, an amount equal to the paid-up capital in respect
of that class of shares at the particular time, computed without reference to
the provisions of this Act except subsections 51(3) and 66.3(2) and (4) ,
sections 84.1 and 84.2 , subsections 85(2.1) , 85.1(2.1) , 86(2.1) , 87(3) and (9) ,
128.1(2) and (3) , 138(11.7) , 192(4.1) and 194(4.1) and section 212.1 , . . .
[75]
This definition is unusual. It does not provide
an express positive definition. Instead, it states that PUC shall be calculated
initially “without reference to the provisions of this Act ”. In practice this
means that the PUC calculation begins with reference to the stated capital of a
class of shares, determined under corporate law. This is explained in para. 2
of the Income Tax Interpretation Bulletin IT-463R2, “Paid-up Capital”
(September 8, 1995):
Since subparagraph (b)(iii) of the
definition of “paid-up capital” provides that the amount of the paid-up capital
of a class of shares is initially determined without reference to the
provisions of the Income Tax Act , the calculation is based on the
relevant corporate law rather than tax law. The amount calculated under
corporate law is usually referred to as the “stated capital” of the class of
shares.
(See
also Krishna, at p. 621.)
[76]
Stated capital is “the full amount that [a
corporation] receives in respect of any share it issues” (K. P. McGuinness, Canadian
Business Corporations Law (2nd ed. 2007), at §7.231). Where an investment
is made in a corporation in consideration for shares, the stated capital of the
corporation increases. Professor Krishna refers to stated capital as “the
amount of money that a shareholder ‘commits’ to the corporation” (p. 610). The
calculation of stated capital is set out at s. 26 of the Canada Business Corporations
Act, R.S.C. 1985, c. C-44 (“CBCA ”) and at s. 28 of the Alberta
Business Corporations Act, R.S.A. 2000, c. B-9 (“ABCA”).
[77]
Because the Act relies on the corporate
law concept of stated capital, the computation of PUC will be based on the
statute in the jurisdiction in which a corporation is registered. In this
case, the amalgamation of Copthorne I and VHHC Holdings occurred under the ABCA.
[78]
Where the PUC of a corporation diverges from the
stated capital it is “because of subsequent adjustments for tax purposes”
(Krishna, at p. 621). The adjustments made to compute PUC are those enumerated
in subparagraph (b)(iii) of the definition of PUC in s. 89(1). Thus,
while stated capital and PUC may be the same in some cases, the two may differ
substantially. The adjustment relevant in this case is found in s. 87(3) .
[79]
Section 87(3) ensures that the PUC of the shares
of an amalgamated corporation shall not exceed the PUC of the shares of the
amalgamating corporations. In effect, it means that when companies amalgamate,
it is the PUC of the shares of the amalgamating corporations, not their stated
capital, that is used to determine the PUC of the shares of the amalgamated
corporation. The relevant portion of the section reads:
87. . . .
(3) Subject to subsection (3.1), where
there is an amalgamation or a merger of 2 or more Canadian corporations, in
computing at any particular time the paid-up capital in respect of any
particular class of shares of the capital stock of the new corporation,
(a) there shall be deducted that
proportion of the amount, if any, by which the paid-up capital, determined
without reference to this subsection, in respect of all the shares of the
capital stock of the new corporation immediately after the amalgamation or merger
exceeds the total of all amounts each of which is the paid-up capital in
respect of a share (except a share held by any other predecessor corporation)
of the capital stock of a predecessor corporation . . . .
[80]
Section 87(3) provides that the PUC of the shares
of the amalgamated corporation will be reduced if it exceeds the PUC of the
shares of the amalgamating corporations. If there is more than one class of
shares, the reduction will be applied proportionally to each class.
[81]
However, s. 87(3) has an additional effect which
is at the centre of this appeal. It ensures that the total PUC of the shares
of the amalgamating corporations will be aggregated “except a share held by any
other predecessor corporation”. The effect of this short additional parenthetical
clause is that, on amalgamation, any PUC of the shares of an amalgamating
corporation, where its shares were held by another amalgamating
corporation, will be cancelled rather than being aggregated. Thus, where an
amalgamation is vertical — that is, where shares of one amalgamating
corporation are held by another amalgamating corporation as in a
parent-subsidiary relationship — the PUC of the shares of the subsidiary will
not be aggregated, but will be cancelled. In the case of a wholly owned subsidiary,
the resulting PUC will be that of the shares of the parent corporation only.
(Where shares of a subsidiary are held partially by a parent corporation and
partially by other shareholders, it will only be the PUC of the shares of the
subsidiary held by the parent corporation that will be cancelled.)
[82]
This may be contrasted with a horizontal
amalgamation where the companies being amalgamated do not own shares in one
another (although they may both be owned by the same parent, as was the case
here). In a horizontal amalgamation no PUC is attributable to shares that are
“held by any other predecessor corporation”, and thus the text of s. 87(3)
would result in an aggregation and not a cancellation of PUC of the shares of
the amalgamating corporations.
[83]
The third section relied upon by the Minister is
s. 84(3). It reads:
84. . . .
(3) Where at any time after December 31,
1977 a corporation resident in Canada has redeemed, acquired or cancelled in
any manner whatever (otherwise than by way of a transaction described in
subsection 84(2)) any of the shares of any class of its capital stock,
(a) the
corporation shall be deemed to have paid at that time a dividend on a separate
class of shares comprising the shares so redeemed, acquired or cancelled equal
to the amount, if any, by which the amount paid by the corporation on the
redemption, acquisition or cancellation, as the case may be, of those shares
exceeds the paid-up capital in respect of those shares immediately before that
time; and
(b) a
dividend shall be deemed to have been received at that time by each person who
held any of the shares of that separate class at that time equal to that
portion of the amount of the excess determined under paragraph 84(3)(a)
that the number of those shares held by the person immediately before that time
is of the total number of shares of that separate class that the corporation
has redeemed, acquired or cancelled, at that time.
[84]
Section 84(3) is a deeming provision. It splits
the amount paid on a share redemption between the PUC and the excess over PUC.
To the extent a shareholder receives an amount less than or equal to the PUC it
will be considered a non-taxable return of capital. However, where the payment
exceeds the PUC, s. 84(3) deems the excess to be a dividend subject to tax. In
effect, s. 84(3) merely takes the PUC, determined pursuant to s. 89(1)
including any adjustments such as required by s. 87(3), and deems any amount
paid in excess of the resulting PUC a dividend subject to tax.
(2) Which Provisions Are Abused?
[85]
The issue in this appeal involves the
computation of PUC on amalgamation. Section 84(3) does not alter the
computation of PUC. It merely accepts and applies the PUC computations made
pursuant to other provisions.
[86]
Sections 89(1) and 87(3) do deal with the
computation of PUC on amalgamation. As noted above, the definition of PUC in
s. 89(1) provides a baseline reliance on stated capital for the calculation of
PUC, with subsequent adjustments. Section 87(3) provides for a reduction that
may apply on amalgamations. To determine if there was abuse in this case, it
is s. 87(3) that must be at the centre of the analysis.
(3) The Object, Spirit and Purpose of Section 87(3)
[87]
To assess the underlying rationale of s. 87(3)
it is necessary to consider its text, context and purpose. As with all
statutory interpretation, these three elements are not entirely separate, and
at times they will overlap.
(a) The Text of the Provision
[88]
In any GAAR case the text of the provisions at
issue will not literally preclude a tax benefit the taxpayer seeks by entering
into the transaction or series. This is not surprising. If the tax benefit of
the transaction or series was prohibited by the text, on reassessing the
taxpayer, the Minister would only have to rely on the text and not resort to
the GAAR. However, this does not mean that the text is irrelevant. In a GAAR
assessment the text is considered to see if it sheds light on what the
provision was intended to do.
[89]
The text of s. 87(3) ensures that in a
horizontal amalgamation the PUC of the shares of the amalgamated corporation
does not exceed the total of the PUC of the shares of the amalgamating
corporations. The question is why s. 87(3) is concerned with limiting PUC in
this way. Since PUC may be withdrawn from a corporation without inclusion in
the income of the shareholder, it seems evident that the intent is that PUC be
limited such that it is not inappropriately increased merely through the device
of an amalgamation.
[90]
Section 87(3) also provides, in its
parenthetical clause, that the PUC of the shares of an amalgamating corporation
held by another amalgamating corporation is cancelled. In other words, in a
vertical amalgamation, the PUC of inter-corporate shareholdings, such as exists
in the case of a parent-subsidiary relationship, is not to be aggregated.
Again, having regard to the fact that PUC may be withdrawn from a corporation
not as a dividend subject to tax but as a non-taxable return of capital, the
indication is that the parenthetical clause is intended to limit PUC of the
shares of the amalgamated corporation to the PUC of the shares of the
amalgamating parent corporation. While the creation of PUC in the shares of
downstream corporations is valid, its preservation on amalgamation may be seen
as a means of enabling the withdrawal of funds in excess of the capital
invested as a return of capital rather than as a deemed dividend to the
shareholder subject to tax.
(b) The Context of the Provision
[91]
The consideration of context involves an
examination of other sections of the Act , as well as permissible extrinsic aids
(Trustco, at para. 55). However, not every other section of the
Act will be relevant in understanding the context of the provision at issue.
Rather, relevant provisions are related “because they are grouped together” or
because they “work together to give effect to a plausible and coherent plan”
(R. Sullivan, Sullivan on the Construction of Statutes (5th ed.
2008), at pp. 361 and 364).
(i) The PUC Scheme of the Act
[92]
The first contextual consideration is the PUC
scheme in the Act , including ss. 84(3) and 89(1) .
[93]
In oral argument, counsel for Copthorne conceded
that s. 84(3) provides for payment of PUC to shareholders on redemption of
shares by the corporation without liability for tax in recognition of the fact
that the initial investment is made with tax-paid funds.
[94]
I agree that this is why s. 84(3) provides that
any payment on redemption of shares is only deemed to be a dividend where the
amount paid is in excess of PUC. Section 84(3) helps to explain why, in s.
87(3), PUC is limited to the PUC of the shares of the amalgamating corporations
in a horizontal amalgamation and why the PUC of the shares of a subsidiary held
by a parent will be cancelled on a vertical amalgamation. Without limiting or
cancelling PUC as provided in s. 87(3), payments to shareholders on redemption
of their shares in excess of the investment made with tax-paid funds could be
made without liability for tax by the shareholder.
[95]
Section 89(1) incorporates by reference
provisions which reduce the PUC of the shares of a corporation. They are
colloquially referred to as “grinds”. For example, ss. 84.1 and 212.1 both
grind PUC in non-arm’s length transactions. These sections have been described
as “anti-avoidance” provisions aimed at “dividend stripping” (Collins &
Aikman Products Co. v. The Queen, 2009 TCC 299, 2009 D.T.C. 1179, at
paras. 55 and 105, aff’d 2010 FCA 251, [2011] 1 C.T.C. 250) because such
non-arm’s length transactions may provide an opportunity for corporations to
return funds in excess of the initial investment made with tax-paid funds to a
shareholder as a non-taxable return of capital, rather than as a taxable
dividend.
[96]
The existence of such grinds is an indication
that the subsections enumerated in s. 89(1) are mostly intended to prevent the
preservation of PUC in instances where bare reliance on stated capital would
not achieve Parliament’s intended tax purpose of allowing only for a return of
tax-paid investment without inclusion in income. Because s. 87(3) is one
provision within this series of grinds, it is reasonable to conclude that it
shares the same purpose of precluding the preservation of PUC where such
preservation would allow for a withdrawal, without liability for tax, of an
amount in excess of the investment made with tax-paid funds.
(ii) The Principle of Non-Consolidation
[97]
I turn now from the immediate PUC scheme to
other related provisions in the Act . Copthorne points out that the Act does
not generally consolidate the financial results of separate corporations for
tax purposes. Section 2(1) of the Act states that income tax is computed “for
each taxation year of every person resident in Canada”. Because each
corporation is a separate taxpayer for the purposes of the Act , the tax
computation for each corporation is separate. Copthorne refers to this as a
policy of corporate “non-consolidation”.
[98]
In the context of PUC, this means that the
shares of a corporation have their own PUC, and that this PUC exists
independently from the PUC of the shares of other corporations, whether or not
the corporations are related. For example, an investment may be made by an
individual in a parent company, by the parent in a subsidiary, and by the
subsidiary in a further subsidiary, with PUC created at each step. This
non-consolidation of PUC results from the non-consolidation of stated capital.
In corporate law stated capital is determined by reference to each corporation,
whether related to one another or not, and is based on the consideration
received for shares issued by the corporation (see CBCA, s. 26(2) and ABCA,
s. 28(2)).
[99]
This context suggests that the creation of PUC
of the shares in a downstream corporation is not contrary to any policy of the
Act . However, this point speaks to the creation of PUC, rather than the
preservation of PUC. Simply because PUC was validly created does not mean that
it may be validly preserved. Section 87(3) does not speak to creation, but
instead to limitation or cancellation of PUC upon amalgamation. In
amalgamations, two unconsolidated corporations become one consolidated
corporation. Section 87(3) provides a bridge connecting the PUC of the shares
of the prior unconsolidated corporations and the subsequent consolidated
corporation. In a horizontal amalgamation, the PUC of the shares of the
amalgamated corporation cannot exceed the PUC of the shares of the amalgamating
corporations. Upon a vertical amalgamation, all PUC of shares held by a parent
corporation in a subsidiary will be cancelled. The principle of
non-consolidation recognizes the valid creation of PUC in a subsidiary
corporation, but does not justify preservation of PUC when parent and
subsidiary are amalgamated.
(iii) The Relevance of the Capital Gains Scheme
[100]
Copthorne argues that the provisions of the Act
relating to capital gains and PUC are part of a single integrated scheme that
“provides a complete solution to this situation” and ensures that tax
eventually is applied to shareholder returns, either as a deemed dividend or as
a capital gain (A.F., at para. 69).
[101]
On the basis of the arguments made, I have not
been convinced to accept Copthorne’s position. Capital gains or losses are
calculated in relation to the adjusted cost base (“ACB”) of a share, not its PUC.
While PUC relates to shares, ACB relates to a specific taxpayer. PUC depends on
the amount initially invested as capital, whereas the ACB reflects the amount
the current shareholder paid for the shares. In some cases the ACB and PUC may
be the same, but in others they may not be. In the case of shares acquired
from a prior shareholder it will be unlikely that the ACB will be equal to the
PUC.
[102]
I would hesitate to conclude that the Act
contains a “complete solution” whereby any withdrawal that would not be caught
under the PUC-deemed dividend scheme would be caught instead by the capital
gains scheme. An amount returned to a shareholder on a share redemption may be
considered a return of capital rather than a deemed dividend under s. 84(3) .
However, the return of capital may reflect either a capital gain or a capital
loss, which would be determined in relation to the ACB of the shareholder.
[103]
Further, the tax rates applicable to dividends
and capital gains are not identical. With respect to non-resident
shareholders, tax treaties may exempt capital gains from tax but not
dividends. This suggests that the capital gains scheme is not an automatic
proxy for the PUC-deemed dividend scheme, whereby a taxpayer will always be
liable for the same tax under one tax scheme or the other on a redemption.
Copthorne did not cite any sources directly on this point. The capital gains
issue was not addressed by either the Tax Court judge or the Federal Court of
Appeal. In the circumstances, Copthorne has not substantiated this argument
sufficiently that it can be accepted in this case.
(iv) The “In Rem” Nature of PUC
[104]
Copthorne says that PUC is in rem, and as
a result should not be “traced” back to an initial investment. It is true that
PUC is a tax attribute of a share that does not generally change with a change
of shareholder, and thus can be considered in some ways to be in rem.
Copthorne argues that the courts below only found that the preservation of PUC
was inappropriate because it was “traced” to the same initial investment of
funds. It argues that the PUC should have been treated in the same way,
regardless of how it was created.
[105]
The difficulty is that s. 87(3) is an example of
where the treatment of PUC does depend on who owns the shares, because
PUC associated with inter-corporate shareholdings is cancelled on
vertical amalgamation. In this circumstance, the PUC is not exclusively in
rem. Thus, it cannot be said that the treatment of PUC is never dependent
on the identity of the owner of the shares. Instead, under s. 87(3), where
shares of an amalgamating corporation are owned by another amalgamating
corporation, the PUC of those shares is cancelled.
(v) Stop-PUC Rules in the Act
[106]
Copthorne says that the absence of specific
stop-PUC rules, similar to stop-loss rules, suggests that the Act does not have
a policy against PUC preservation. Thus, Copthorne argues, the object, spirit
and purpose of s. 87(3) cannot be against the preservation of PUC. A stop-loss
rule is a “non-recognition rul[e] that prevent[s] the realization of a loss on
the disposition of a particular property . . . . The purpose . . . is to
prevent the realization of accrued losses where the taxpayer’s economic
interest in the property is not actually relinquished” (Duff, Canadian Income
Tax Law, at pp. 1109-10).
[107]
However, the grinds set out in s. 89(1) ,
including s. 87(3), act to cancel or limit PUC in situations where it is
considered inappropriate for tax purposes for it to be preserved. While s.
87(3) is not a “stop-loss” rule, it can be viewed as a “stop-PUC” rule intended
to stop the aggregation of PUC in vertical amalgamations and to limit the
aggregation upon horizontal amalgamation so that PUC of an amalgamated
corporation does not exceed the total of the tax-paid investment in the
amalgamating corporations.
(vi) Expressio Unius Est Exclusio Alterius
[108]
Copthorne argues that Parliament has enacted a
number of PUC provisions which are intended to prevent taxpayers from
inappropriately increasing or preserving PUC. It argues that the detail of the
PUC provisions, such as s. 87(3), suggests that where the taxpayer’s actions
are not caught by a provision, the actions cannot abuse the purpose of the
provision. I interpret this argument as what Professor Sullivan calls “implied
exclusion”. In essence the argument is that “there is reason to believe that
if the legislature had meant to include a particular thing within its
legislation, it would have referred to that thing expressly” (Sullivan, at p.
244). Section 89(1) is a definition section. As such, I would agree with
Copthorne that when the definition lists a series of “grinds”, without any
indication of the possibility of making additions to that list, that it may be
assumed that the list is exhaustive. Thus, if this were a case of traditional
statutory interpretation, an argument that the series of transactions here are
somehow contemplated by the listed grinds could fail.
[109]
However, that is not the nature of a GAAR
analysis. When the Minister invokes the GAAR, he is conceding that the words
of the statute do not cover the series of transactions at issue. Rather, he
argues that although he cannot rely on the text of the statute, he may rely on
the underlying rationale or object, spirit and purpose of the legislation to
support his position.
[110]
I do not rule out the possibility that in some
cases the underlying rationale of a provision would be no broader than the text
itself. Provisions that may be so construed, having regard to their context
and purpose, may support the argument that the text is conclusive because the
text is consistent with and fully explains its underlying rationale.
[111]
However, the implied exclusion argument is
misplaced where it relies exclusively on the text of the PUC provisions without
regard to their underlying rationale. If such an approach were accepted, it
would be a full response in all GAAR cases, because the actions of a taxpayer
will always be permitted by the text of the Act . As noted in OSFC, if
the Court is confined to a consideration of the language of the provisions in
question, without regard to their underlying rationale, it would seem
inevitable that the GAAR would be rendered meaningless (para. 63).
(vii) Conclusion of Contextual Considerations
[112]
Having regard to the PUC scheme and the
principle of non-consolidation and the other arguments made by Copthorne, the
necessary conclusion remains that one rationale for s. 87(3) is that payments
to shareholders from an amalgamated corporation on a share redemption should
not be taxable as a deemed dividend, only to the extent that such payments
reflect investments made with tax-paid funds. The objective of this exemption
is to recognize PUC as a return of capital to shareholders.
(c) The Purpose of the Provisions
[113]
Tax provisions are intended to “promote purposes
related to specific activities” (Trustco, at para. 52). This step seeks
to ascertain what outcome Parliament intended a provision or provisions to
achieve, amidst the myriad of purposes promoted by the Act .
[114]
Copthorne claims that the purpose of these
provisions is to compute PUC based on stated capital in most cases, except
where a specific exception exists. It argues that s. 87(3) represents one
exception, which is intended to ensure continuity or to “preven[t] corporate
law increases to stated capital on horizontal amalgamations” (A.F., at para. 82
(emphasis deleted)).
[115]
However, while continuity may explain part of s.
87(3), it is not a tax rationale for the parenthetical exception for vertical
amalgamations. As discussed above, s. 87(3) ensures that the PUC of the shares
of an amalgamated corporation does not exceed the PUC of the shares of the
amalgamating corporations in a horizontal amalgamation. For this reason, I
would agree that continuity is one of the purposes promoted by s. 87(3).
However, as noted by this Court in Trustco, a provision “can serve a
variety of independent and interlocking purposes” (para. 53). The words of s.
87(3), other than the parenthetical words, are directed at continuity in a
horizontal amalgamation. The parenthetical portion, dealing with vertical
amalgamations, functions to cancel the PUC of the shares of an amalgamating
subsidiary corporation. By cancelling the PUC of shares held by a parent
corporation, rather than simply continuing the PUC of those shares, the
parenthetical portion reflects an additional purpose in s. 87(3). The
parenthetical portion seeks to preclude corporations from preserving PUC of the
shares of a subsidiary corporation on amalgamation with the parent corporation
as that PUC reflects investment of the same tax-paid dollars as in the parent
corporation.
[116]
It has also been argued that s. 87(3) is simply
intended to maintain consistency between corporate law and tax law, and that s.
87(3) takes its purpose from the corporate law cancellation of shares upon a
vertical amalgamation. Under s. 182(2) of the CBCA , the shares held by
one amalgamating corporation in another must be cancelled on amalgamation (s.
182(2) of the ABCA has the same effect). While neither explicitly
requires the cancellation of the stated capital in those shares, it is
generally accepted that the stated capital is cancelled along with the shares
(see C. Cardarelli, “Transactions Involving Paid-Up Capital”, in the Canadian
Tax Foundation’s Report of Proceedings of the Fifty-Sixth Tax Conference (2005),
26:1, at p. 26:20). In this way, corporate law treats horizontal
amalgamations differently than vertical amalgamations. Similarly, s. 87(3)
treats horizontal amalgamations and vertical amalgamations differently. The
argument is that on vertical amalgamations, the purpose of s. 87(3) is simply
to cancel PUC because shares and therefore stated capital are cancelled. As I
understand the argument, cancellation of PUC on vertical amalgamations is to
align PUC with corporate law. Therefore, there is no tax reason to cancel PUC
of the shares of a corporation that was a subsidiary if through a series of
transactions it was no longer a subsidiary.
[117]
The difficulty with this rationale is that in
corporate law, shares held by one amalgamating corporation in another are
cancelled to prevent an inappropriate dilution of the shares of a corporation
upon amalgamation (R. W. V. Dickerson, J. L. Howard and L. Getz, Proposals
for a New Business Corporations Law for Canada, vol. I, at para. 362). However,
the aggregation of PUC would not dilute the share capital of a corporation, and
thus the purpose of s. 87(3) cannot be taken directly from the purpose for the
cancellation of shares in corporate law, because the two are not aimed at the
same concern. Instead, the independent cancellation of the PUC under the Income
Tax Act attributable to shares held by an amalgamating corporation in a
subsidiary suggests that Parliament believed that aggregating PUC upon a
vertical amalgamation would result in an excessive preservation for a tax
reason.
[118]
Copthorne submits that such a conclusion could
only rest upon a general policy against surplus stripping. It argues
that no such general policy exists and therefore the object, spirit and purpose
of s. 87(3) cannot be to prevent surplus stripping by the aggregation of PUC.
This argument is based upon this Court’s admonition in Trustco that
“courts cannot search for an overriding policy of the Act that is not based on
a unified, textual, contextual and purposive interpretation of the specific
provisions in issue” (para. 41). What is not permissible is basing a finding
of abuse on some broad statement of policy, such as anti-surplus stripping,
which is not attached to the provisions at issue. However, the tax purpose
identified in these reasons is based upon an examination of the PUC sections of
the Act , not a broadly stated policy. The approach addresses the rationale of
the PUC scheme specifically in relation to amalgamation and redemption and not
a general policy unrelated to the scheme under consideration.
[119]
Copthorne argues that upholding the decision of
the Tax Court would leave taxpayers under the “Damoclesian menace of the GAAR”
(A.F., at para. 57). It suggests that taxpayers would not be able to determine
whether PUC which had been validly created in a downstream investment would be
subject to cancellation if it was sold to a third party or to an unrelated
non-resident party. Copthorne says that this will leave taxpayers in a state
of impermissible uncertainty. However, before the GAAR may be applied in any
circumstance, there must be an avoidance transaction which results in a tax
benefit. In the absence of a specific transaction undertaken primarily to
obtain a tax benefit, a sale of shares to a third party or to an unrelated
non-resident party primarily for a bona fide non-tax purpose will not
trigger the GAAR. In such a case, PUC will continue to be a valid attribute
which allows for a return of an amount equivalent to PUC to be paid to new
shareholders without inclusion in their income.
[120]
I should emphasize that
the purchase of shares may have a tax purpose, but that does not necessarily
mean that the tax purpose will always be the primary reason for the
transaction. In the numerous share transactions taking place each year, the
party acquiring shares of a corporation will likely be aware of the tax
implications of the existing PUC. However, where a transaction takes place
primarily for a non-tax purpose, there will be no avoidance transaction. In
the absence of an avoidance transaction, the fact that a transaction may have a
secondary tax benefit purpose will not trigger the GAAR. Whether the
transactions are between parties at arm’s length or not at arm’s length should
be immaterial (Stubart Investments Ltd. v. The Queen, [1984] 1 S.C.R.
536).
[121]
Copthorne also argues that the Act does not
contain a policy that parent and subsidiary corporations must always remain as
parent and subsidiary. I agree. There is no general principle against
corporate reorganization. Where corporate reorganization takes place, the GAAR
does not apply unless there is an avoidance transaction that is found to
constitute an abuse. Even where corporate reorganization takes place for a tax
reason, the GAAR may still not apply. It is only when a reorganization is
primarily for a tax purpose and is done in a manner found to circumvent
a provision of the Income Tax Act that it may be found to abuse that
provision. And it is only where there is a finding of abuse that the corporate
reorganization may be caught by the GAAR.
(d) Conclusion on the Object, Spirit and Purpose of
the Parenthetical Portion of Section 87(3)
[122]
Having regard to the text, context and purpose
of s. 87(3), I would conclude that the object, spirit and purpose of the
parenthetical portion of the section is to preclude preservation of PUC of the
shares of a subsidiary corporation upon amalgamation of the parent and
subsidiary where such preservation would permit shareholders, on a redemption
of shares by the amalgamated corporation, to be paid amounts as a return of
capital without liability for tax, in excess of the amounts invested in the
amalgamating corporations with tax-paid funds. Having identified the object,
spirit and purpose of s. 87(3), it is now necessary to determine whether the
provision has been abused in this case.
(4) Was There an Abuse of the Provisions of the Act?
[123]
While Parliament’s intent is to seek
consistency, predictability and fairness in tax law, in enacting the GAAR, it
must be acknowledged that it has created an unavoidable degree of uncertainty
for taxpayers. This uncertainty underlines the obligation of the Minister who
wishes to overcome the countervailing obligations of consistency and
predictability to demonstrate clearly the abuse he alleges.
[124]
Copthorne agrees that s. 87(3) would have led to
a cancellation of the PUC of the VHHC Holdings shares if it had been vertically
amalgamated with Copthorne I. Instead of amalgamating the two companies,
Copthorne I sold its VHHC Holdings shares to Big City, in order to avoid the
vertical amalgamation and cancellation of the PUC of the shares of VHHC
Holdings. The transaction obviously circumvented application of the
parenthetical words of s. 87(3) upon the later amalgamation of Copthorne I and
VHHC Holdings.
[125]
The question is whether this was done in a way
that “frustrates or defeats the object, spirit or purpose” of the parenthetical
words of s. 87(3) (Trustco, at para. 45). In oral argument, Copthorne
argued that leaving VHHC Holdings and Copthorne in a vertical structure would
be “throwing away” the PUC upon amalgamation. It argued that the purpose of s.
87(3) cannot require shareholders to throw away valuable assets. However, it
must be remembered that there has been a finding of tax benefit (protecting the
PUC of the shares of VHHC Holdings of $67,401,279 from withholding tax upon
Copthorne III redeeming a large portion of its shares) and an avoidance
transaction (the sale of VHHC Holdings from Copthorne I to Big City). The GAAR
analysis looks to determine whether the avoidance of a vertical amalgamation
and preservation of VHHC Holdings’ PUC of $67,401,279 circumvented s. 87(3),
achieves an outcome s. 87(3) was intended to prevent or defeats the underlying
rationale of s. 87(3). If such a finding is made, the taxpayer is not “throwing
away” a valuable asset. It is the application of the GAAR that applies to deny
the benefit of that “asset” to the taxpayer.
[126]
It is true that the text of s. 87(3) recognizes
two options, the horizontal and vertical forms of amalgamations. It is also
true that the text does not expressly preclude a taxpayer from selecting one or
the other option. However, I have concluded that the object, spirit and
purpose of s. 87(3) is to preclude the preservation of PUC, upon amalgamation,
where such preservation would allow a shareholder, on a redemption of shares by
the amalgamated corporation, to be paid amounts without liability for tax in
excess of the investment of tax-paid funds.
[127]
I am of the opinion that the sale by Copthorne I
of its VHHC Holdings shares to Big City, which was undertaken to protect
$67,401,279 of PUC from cancellation, while not contrary to the text of s.
87(3), does frustrate and defeat its purpose. The tax-paid investment here was
in total $96,736,845. To allow the aggregation of an additional $67,401,279 to
this amount would enable payment, without liability for tax by the
shareholders, of amounts well in excess of the investment of tax-paid funds,
contrary to the object, spirit and purpose or the underlying rationale of s.
87(3). While a series of transactions that results in the “double counting” of
PUC is not in itself evidence of abuse, this outcome may not be foreclosed in
some circumstances. I agree with the Tax Court’s finding that the taxpayer’s
“double counting” of PUC was abusive in this case, where the taxpayer
structured the transactions so as to “artificially” preserve the PUC in a way
that frustrated the purpose of s. 87(3) governing the treatment of PUC upon
vertical amalgamation. The sale of VHHC Holdings shares to Big City circumvented
the parenthetical words of s. 87(3) and in the context of the series of which
it was a part, achieved a result the section was intended to prevent and thus
defeated its underlying rationale. The transaction was therefore abusive and
the assessment based on application of the GAAR was appropriate.
VI. Conclusion
[128]
I would affirm the findings of the Tax Court and
Federal Court of Appeal and dismiss the appeal with costs.
APPENDIX A
I. The companies involved in this case are all
controlled by Mr. Li Ka-Shing, and his son, Victor Li (the “Li Family”). They
are:
a. Copthorne Holdings Ltd.
(“Copthorne”). The case involves three companies named Copthorne
Holdings Ltd. While each has the same name, they are not the same, nor are
they the same as the appellant in this Court. The first Copthorne was
incorporated under the laws of Ontario in 1981, with one share owned by Big
City. The second and third companies are amalgamated successor companies that
continued business using the name Copthorne Holdings Ltd. I refer to the three
companies as Copthorne I, II and III. The appellant in this case is actually
the product of a third amalgamation that also continued under the same name.
b. VHHC Investments Ltd. (“VHHC
Investments”), an Ontario company incorporated in 1987, owned directly and
indirectly by Victor Li, son of Li Ka-Shing.
c. VHHC Holdings Ltd. (“VHHC
Holdings”), an Ontario corporation incorporated in 1987, initially owned
entirely by VHHC Investments.
d. Big City Project Corporation B.V.
(“Big City”), a Netherlands company indirectly controlled by Li Ka-Shing.
e. Copthorne Overseas Investment
Ltd. (“COIL”), a Barbados company incorporated and owned by Copthorne I.
f. Asfield B.V. (“Asfield”), a
Netherlands company indirectly owned by a trust whose primary beneficiary was
Victor Li.
g. L.F. Holdings Ltd. (“L.F.
Holdings”), a Barbados company controlled by Li Ka-Shing.
h. VHSUB Holdings Inc. (“VHSUB”),
a Canadian company owned by VHHC Holdings.
i. Husky Oil Ltd. (“Husky”), a
Canadian company owned in part by the Li Family companies that carried on the
business of oil and gas production, refining and distribution.
j. Copthorne International
Investment Ltd. (“CIIL”), a British Virgin Islands company incorporated in
1994.
k. L.F. Investments (Barbados) Ltd.
(“L.F. Investments”), a Barbados company incorporated in 1994 by L.F.
Holdings.
Background
II. Copthorne I was first incorporated as an
Ontario corporation in 1981. It purchased the Toronto Harbour Castle Hotel in
1981 and sold it in 1989 for a substantial capital gain. Its only share was
owned by another company within the Li Family group, Big City.
III. After selling the hotel, Copthorne I
incorporated a new company, COIL. COIL carried on a bond-trading business in
Singapore.
The Creation of the VHHC Companies
IV. In 1987, VHHC Investments was incorporated in
Ontario. Victor Li owned the Class A voting common shares, which had a PUC of
$100. He also held 18.75% of the Class B non-voting common shares. The rest of
the Class B shares were owned by Asfield, which was indirectly owned by Victor
Li.
V. In 1987, 1988 and 1991, Victor Li, Asfield and
L.F. Holdings further invested in shares of VHHC Investments. As a result of
these investments the common and preference shares of VHHC Investments had a
total PUC of $96,736,845.
VI. During this time VHHC Investments in turn used
$67,401,279 of the invested funds to purchase common shares of VHHC Holdings.
As a result, the shares of VHHC Holdings had a PUC of $67,401,279.
The VHHC Companies’ Losses From Husky Investments
VII. VHHC Holdings, in turn, invested in Husky
directly and through a subsidiary, VHSUB. By the end of 1991 the Husky shares
had lost substantial value, and as a result VHHC Holdings had suffered a
substantial capital loss.
VHHC Holdings Sold to Copthorne
VIII. In 1992, VHHC Investments sold all of its
common shares in VHHC Holdings, which still had a PUC of $67.4 million to
Copthorne I for 1 Class A special share of Copthorne I valued at $1,000. This
was done in order to shift the capital loss from the Husky investment suffered
by VHHC Holdings to Copthorne I to shelter the capital gains from the sale of
the hotel. As a result of this sale Copthorne I owned the shares in VHHC
Holdings, with the $67.4 million PUC but only a nominal fair market value.
The First Series — Amalgamating Copthorne and VHHC Holdings
IX. In 1993, the Li Family decided to amalgamate
Copthorne I, VHHC Holdings and two other corporations which it controlled. This
was done to simplify the structure of the group of companies and to allow the
losses from each of the predecessor corporations’ businesses to shelter the
profits of others.
X. However, a direct vertical amalgamation of
VHHC Holdings and its parent company, Copthorne I, would result in a
cancellation of the $67.4 million PUC in the shares of VHHC Holdings under s.
87(3) of the Income Tax Act . To avoid this result, the Li Family
decided to engage in a number of transactions to protect the PUC.
XI. In July 1993, Copthorne I sold its VHHC
Holdings common shares to Big City, Copthorne I’s parent company, for $1,000.
This is referred to as the “1993 Share Sale”. This meant that any amalgamation
between Copthorne I and VHHC Holdings was “horizontal” not “vertical”. This
share sale is the transaction that the Minister found was an “avoidance
transaction”.
XII. On January 1, 1994, Copthorne I, VHHC
Holdings, and two other corporations amalgamated to form “Copthorne II”. The
PUC from the common shares of VHHC Holdings was added to $1 of PUC from the
single common share of Copthorne I, resulting in a total PUC of approximately
$67.4 million distributed evenly between the 20,001,000 common shares of
Copthorne II. All of these shares were owned by Big City.
XIII. Both the 1993 Share Sale and the subsequent
amalgamation are agreed to be part of a first series of transactions.
The Second Series — Amalgamating VHHC Investments With Copthorne II
XIV. In 1994, legislative amendments were proposed to
the Foreign Accrual Property Income (“FAPI”) rules of the Act which
stood to negatively affect COIL’s business. In response to these proposed
changes, the Li Family decided to dispose of some of COIL’s assets.
XV. A new company, CIIL, was incorporated to
purchase the bond-trading business from COIL. A new Barbados company, L.F.
Investments, was incorporated to purchase all of the shares of Copthorne II
from Big City and VHHC Investments from L.F. Holdings. The two purchased
companies were then amalgamated with two other companies to form “Copthorne
III”.
XVI. Upon amalgamation, L.F. Investments received
Class D shares of Copthorne III with a PUC that was the sum of the PUC in the
common shares of Copthorne II (approximately $67.4 million) and the PUC in the
common and preferred shares of VHHC Investments (approximately $96.7 million),
for a total PUC of $164,138,025. This PUC was held in 164,138,025 Class D
preference shares each having a PUC of $1.
The Redemption
XVII. Copthorne III then redeemed 142,035,895 of its
Class D preference shares held by L.F. Investments for $142,035,895. As the
redemption amount was no more than the total PUC in the shares redeemed by
Copthorne III, it was not deemed to be a dividend. Nor did the redemption give
rise to a capital gain.
XVIII. Thus, Copthorne did not withhold or remit any
tax on behalf of L.F. Investments pursuant to s. 215(1) of the Act .
XIX. The transactions beginning with the
incorporation of CIIL and ending with the redemption are agreed to be part of
the second series of transactions.
XX. On February 1, 2000, the Minister assessed
Copthorne for unwithheld tax under the GAAR. He concluded that Copthorne III
was liable for unremitted taxes because the PUC in the shares of Copthorne III
should have been calculated to be $96 million, not $164 million. This amounted
to $8,748,783.40 in tax which Copthorne III had been obligated to withhold and
remit on behalf of L.F. Investments. Given that Copthorne had not withheld any
tax, the Minister assessed this amount against Copthorne III.
APPENDIX
B
Income Tax Act, R.S.C. 1985, c. 1 (5th Supp .)
245. (1) In this section,
“tax
benefit” means a reduction, avoidance or deferral of tax or other amount
payable under this Act or an increase in a refund of tax or other amount under
this Act , and includes a reduction, avoidance or deferral of tax or other
amount that would be payable under this Act but for a tax treaty or an increase
in a refund of tax or other amount under this Act as a result of a tax treaty;
“tax
consequences” to a person means the amount of income, taxable income, or
taxable income earned in Canada of, tax or other amount payable by or
refundable to the person under this Act , or any other amount that is relevant
for the purposes of computing that amount;
“transaction”
includes an arrangement or event.
(2) [General anti-avoidance provision]
Where a transaction is an avoidance transaction, the tax consequences to a
person shall be determined as is reasonable in the circumstances in order to
deny a tax benefit that, but for this section, would result, directly or
indirectly, from that transaction or from a series of transactions that
includes that transaction.
(3) [Avoidance transaction] An avoidance
transaction means any transaction
(a) that,
but for this section, would result, directly or indirectly, in a tax benefit,
unless the transaction may reasonably be considered to have been undertaken or
arranged primarily for bona fide purposes other than to obtain the tax
benefit; or
(b) that
is part of a series of transactions, which series, but for this section, would
result, directly or indirectly, in a tax benefit, unless the transaction may
reasonably be considered to have been undertaken or arranged primarily for bona
fide purposes other than to obtain the tax benefit.
(4) [Application of subsection (2)]
Subsection (2) applies to a transaction only if it may reasonably be considered
that the transaction
(a) would,
if this Act were read without reference to this section, result directly or
indirectly in a misuse of the provisions of any one or more of
(i) this
Act ,
(ii) the
Income Tax Regulations,
(iii) the
Income Tax Application Rules ,
(iv) a
tax treaty, or
(v) any
other enactment that is relevant in computing tax or any other amount payable
by or refundable to a person under this Act or in determining any amount that
is relevant for the purposes of that computation; or
(b) would
result directly or indirectly in an abuse having regard to those provisions,
other than this section, read as a whole.
(5) [Determination of tax consequences]
Without restricting the generality of subsection (2), and notwithstanding any
other enactment,
(a) any
deduction, exemption or exclusion in computing income, taxable income, taxable
income earned in Canada or tax payable or any part thereof may be allowed or
disallowed in whole or in part,
(b) any
such deduction, exemption or exclusion, any income, loss or other amount or
part thereof may be allocated to any person,
(c) the
nature of any payment or other amount may be recharacterized, and
(d) the
tax effects that would otherwise result from the application of other
provisions of this Act may be ignored,
in
determining the tax consequences to a person as is reasonable in the
circumstances in order to deny a tax benefit that would, but for this section,
result, directly or indirectly, from an avoidance transaction.
. . .
248. . . .
(10)
[Series of transactions] For the purposes of this Act , where there is a
reference to a series of transactions or events, the series shall be deemed to
include any related transactions or events completed in contemplation of the
series.
Appeal dismissed with costs.
Solicitors for the
appellant: Stikeman Elliott, Montréal.
Solicitor
for the respondent: Attorney General of Canada, Ottawa.