The General Anti-Avoidance Rule

Transcription

1 The General Anti-Avoidance Rule Ed Kroft Q.C. Ian MacGregor, Q.C. Deen Olsen Ed Harris Q.C. Tax Law for Lawyers June 1, 2011

2 Introduction Almost 24 years since GAAR was announced (June 1987 Tax Reform) and almost 23 years since enactment (September 1988) Landmark decision of SCC in Canada Trustco and Kaulius on October 19, 2005 SCC decided Lipson case in January 2009 SCC heard Copthorne case on January 21, 2010 #

3 Introduction (cont d) A number of lower court decisions have emerged in the last 5 years Desmarais, Overs, McMullen, CECO, MacKay, Evans, Copthorne, Univar Canada, MIL Investments, Collins & Aikman, Lehigh Cement, Remai, Garron, Antle, Landrus Provincial GAAR assessment being raised (OGT Holdings, Kebet Holdings, and Husky Energy) #

4 The Current CRA Environment Tax avoidance = aggressive tax planning Aggressive international tax planning initiatives (AITP) Challenges to international transactions Collaboration in CRA seems to have increased with the reorganization (ILBD) #

5 The Current CRA Environment (cont d) Use of specific anti-avoidance rules (95(6)), 103, 237.1, 84.1, 69(4), 247) Univar Canada, Aventis, Lehigh Cement (95(6)) Baxter (237.1) Penn West, Lebow, Stow (103) Husky (87(4) and 69(4)) Emory (84.1) #

6 The Current GAAR Landscape Cases at Tax Court of Canada level at various stages Audit activity on various projects which involve the application of provincial GAAR legislation Rulings still being provided on GAAR #

7 Focus of the Presentation How have the courts interpreted the GAAR? Where might the jurisprudence be tending? What type of transactions are before the courts? What types of transactions are being challenged at the audit level? Some predictions about GAAR in tax practice #

8 GAAR Statistics March 2011 GAAR Statistics as of March 31, 2011 Issue Y N N/A Total % Foreign Tax Credit % Income Splitting % Partnership Issues % Kiddie Tax % Offshore Trusts % Cross-Border Lease % Part XIII Tax % Losses, Rental % Kiwi Loan % Losses, Stop Loss % Charitable Donations % Capital Gain % Interest Deductibility % Debt Parking % Indirect Loan % Debt Forgiveness % Losses, Capital & Non-Capital % Loss creation via stock dividend % Part I.3 Tax % Provincial GAAR % Surplus Strips % Tower Structure % Treaty Exemption Claim % Miscellaneous (see page 2) % % Cases referred to GAAR committee: 944 * see note below GAAR Applied % GAAR not applied % GAAR as primary position % GAAR as secondary position % * Note: Statistics do not take into account the following: - RRSP Project 1363 files - Barbados Spousal Trust proj 78 files In these cases GAAR was applied as a secondary position - More than 300 files to which the Provincial GAAR was applied #

9 How Have The Courts Interpreted The GAAR? Categories of cases Cases decided before the Supreme Court of Canada in Canada Trustco and Kaulius (16 cases) The Supreme Court of Canada: Canada Trustco and Kaulius Post-Trustco interpretation by the Tax Court and Federal Court of Appeal (10 cases) Lipson in the Supreme Court of Canada Post-Lipson cases in the lower courts Copthorne in the Supreme Court of Canada #

10 Canada Trustco: Summary of the SCC s Approach Basic Principles To permit application of the GAAR, there must be (a) tax benefit, (b) avoidance transaction and (c) abusive tax avoidance The burden is on the taxpayer to refute (a) and (b), and on the Minister to establish (c) #

11 Canada Trustco: Summary of the SCC s Approach (cont d) If abusive tax avoidance is unclear, the benefit of the doubt goes to the taxpayer The courts conduct a unified textual, contextual and purposive analysis of the provisions giving rise to the tax benefit #

12 Canada Trustco Summary of the SCC s Approach (cont d) Whether the transactions were undertaken for a non-tax purpose may be relevant but is by itself insufficient in establishing abusive tax avoidance The appellate courts should not interfere with the trial court s conclusion, absent a palpable and overriding error #

13 Canada Trustco Summary of the SCC s Approach (cont d) Abusive tax avoidance may be found where: documented relationships and transactions lack a proper basis relative to the object, spirit or purpose of the provisions conferring the benefit, or where they are dissimilar to the transactions contemplated by the provisions A provision of last resort (Canada Trustco Mortgage Co. v. The Queen, 2005 SCC 54 at para. 21) #

14 Subsection 245(3) of the Act Subsection 245(3) of the Act states: An avoidance transaction means any transaction 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 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 #

15 Avoidance Transaction - Canada Trustco The function of subsection 245(3) was found by the Supreme Court of Canada to be as follows: to remove from the ambit of the GAAR transactions or series of transactions that may reasonably be considered to have been undertaken or arranged primarily for a non-tax purpose. The majority of tax benefits claimed by taxpayers on their annual returns will be immune from the GAAR as a result of s. 245(3). Canada Trustco, supra, paragraph 21 #

16 Avoidance Transaction - Canada Trustco Involves an examination of the relationships between the parties and the relevant transactions leading to an objective assessment of the relative importance of the purposes of the transaction Burden is on the taxpayer to prove these facts A non-tax purpose is broader than a business purpose and may include family or investment purposes #

17 Avoidance Transaction - Canada Trustco If at least one transaction in a series of transactions is an "avoidance transaction", then the tax benefit that results from the series may be denied under the GAAR. This is apparent from the wording of s. 245(3). Conversely, if each transaction in a series was carried out primarily for bona fide non-tax purposes, the GAAR cannot be applied to deny a tax benefit. Canada Trustco, supra, paragraph 34 #

18 Avoidance Transaction Judicial Consideration Subsection 245(3) has not been subject to extensive judicial consideration In many appeals to the Tax Court of Canada and the Federal Court of Appeal, the taxpayers have conceded that the transactions at issue were avoidance transactions within the meaning of ss. 245(3) of the Act (e.g. Canada Trustco, Kaulius, Lipson) #

19 Subsection 245(3): Series of Transactions and Avoidance Transactions Canada Trustco (para 23-26) briefly discussed this concept Not clear on face Agreement with FCA in OSFC (Rothstein, J.) and H.L. concept (Craven, Ramsay) Common Law Test preordained to produce a given result not practical likelihood that the pre-planned events would not take place in order ordained #

20 Subsection 245(4) of the Act Subsection 245(4) of the Act states: Subsection (2) applies to a transaction only if it may reasonably be considered that the transaction: would, if this Act were read without reference to this section, result directly or indirectly in a misuse of the provisions if 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 purpose of that computation; or would result directly or indirectly in an abuse having regard to those provisions, other than this section, read as a whole #

21 Abuse or Misuse Issues Subsection 245(4) Some issues emerging from the case law: What is abusive? Why do similar cases get decided differently? Who has to prove it? What is the role of economic substance? #

22 Canada Trustco: Misuse or Abuse Subsection 245(4) The analysis of a misuse and abuse is inseparable Specific provisions must be interpreted in their legislative context The economic substance is only relevant where the statutory provisions focus on economic concepts #

23 Canada Trustco: Misuse or Abuse Subsection 245(4) Whether the transactions were motivated by a non-tax purpose may be relevant but is by itself insufficient to establish abusive tax avoidance The Crown has the onus of proving abusive tax avoidance #

24 Kaulius: Application of Canada Trustco (2005 SCC) Appeal of the taxpayer dismissed The use of the partnership rules by persons who deal at arm s length with the original vendor would frustrate or defeat the object, spirit or purpose of the statutory preservation of the losses on the transfer to the partnership The provisions of the Act establish a general policy against the transfer or sharing of losses between arm s-length taxpayers, subject to specific exceptions intended to promote a particular purpose #

25 GAAR Jurisprudence After Canada Trustco/Kaulius Lipson (SCC) 4 to 3 for Crown abuse of attribution rules; interest expense ok MacKay (FCA) leave to SCC denied avoidance transaction Landrus (FCA) - affiliated loss rules bright line test and GAAR Remai (FCA) charitable donation deductible #

26 GAAR Jurisprudence After Canada Trustco/Kaulius (cont d) Lehigh Cement (FCA) non-resident withholding tax on sale of stripped coupons TCC reversed taxpayer wins Collins & Aikman Products (FCA) surplus stripping taxpayer wins Garron (FCA) - Barbados trusts/estate freeze/use of treaty GAAR not applicable but trusts resident in Canada Antle (FCA) - capital gains step-up plan using a Barbados Treaty TCC found GAAR applicable to ignore transfer to Barbados Trust #

27 The GAAR Scorecard 2005 (Post-Canada Trustco) to May 2011 GAAR APPLIES Kaulius (SCC) Loss Transfer Desmarais Surplus Strip Lipson (SCC) Reverse Attribution/Interest CECO (TCC) Ptshp/Disguised Proceeds OGT Holdings (QCA) Quebec Shuffle Copthorne (SCC under reserve) Duplication of PUC MacKay (FCA) - Withholding Tax GAAR DOES NOT APPLY/NOT NEEDED Canada Trustco (SCC) Cost & Economic Substance Evans (TCC) Surplus Strip/Income Splitting Overs (TCC) Reverse Attribution/Interest MIL (FCA) Treaty Shopping Univar (TCC) Tiered Financing McMullan (TCC) Capital Gains Strip Remai (FCA) Charitable Donations #

28 The GAAR Scorecard 2005 (Post-Canada Trustco) to May 2011 (cont d) GAAR APPLIES Antle (FCA) (Leave to SCC Sought) - Capital Gains, Step-Up Strategy Using Barbados Trust (finding of TCC only) GAAR DOES NOT APPLY/NOT NEEDED Landrus (FCA) Terminal Loss Recognition Collins & Aikman (FCA) Surplus Stripping Garron (FCA) (Leave to SCC Sought) Barbados Trust Plan Maréchaux [GAAR argued not needed] (Leave to SCC Sought) Leveraged Donation Envision [GAAR argued not needed] (Appealed to FCA) Broken Amalgamation Husky (Alta QB) Finco interest shift Lehigh (FCA) Withholding Tax #

29 Some Trends in Post-Trustco Case Law Not meant to fill legislative gaps (Lehigh Cement Limited v. The Queen, 2010 FCA 124 & Collins & Aikman Products Co. v. The Queen, 2009 TCC 299 at para. 109) Overall result of transactions is important (Lipson 2009 SCC 1) #

30 Some Trends in Post-Trustco Case Law (cont d) GAAR does not incorporate an economic substance test (Canada Trustco Mortgage Co. v. The Queen, 2005 SCC 54 at para. 57 & Lipson v. The Queen, 2009 SCC 1 at para. 38) #

31 Some Trends in Post-Trustco Case Law (cont d) No need for GAAR if transactions don t work Garron Family Trust (Trustee of) v. The Queen, 2010 FCA 309 Maréchaux v. The Queen, 2010 FCA 287 Antle 2010 FCA 280 #

32 Supreme Court of Canada and the GAAR From Canada Trustco to Lipson and on to Copthorne Diverging views Implications for certainty, predictability and fairness #

33 Shams and GAAR The sham doctrine: what does it mean? Faraggi c. The Queen, 2008 FCA 398 at para 59 the existence of a sham under Canadian law requires an element of deceit which generally manifests itself by a misrepresentation by the parties of the actual transaction taking place between them. When confronted with this situation, courts will consider the real transaction and disregard the one that was represented as being the real one. #

34 Shams and GAAR (cont d) Antle v. The Queen, 2010 FCA 280 at para. 20 In so holding, the Tax Court judge misconstrued the notion of intentional deception in the context of a sham. The required intent or state of mind is not equivalent to mens rea and need not go so far as to give rise to what is known at common law as the tort of deceit It suffices that parties to a transaction present it as being different from what they know it to be. See also, Labow v. The Queen, 2010 TCC 408 (under appeal) #

35 Copthorne Holdings Ltd. v The Queen, 2009 DTC 5101 aff d 2009 FCA 163 #

36 Copthorne Holdings Ltd. v The Queen, 2009 DTC 5101 aff d 2009 FCA 163 Cross Border PUC: The Situation CANCO Subject Corporation Resident in Canada Low PUC - Defined in s.89(1) Low ACB - Defined as cost High FMV NON Resident Corp Deemed Dividend: s.84(3) - subject to withholding tax - ss.212(2) Capital Gain: Treaty exemption #

37 Copthorne: The Origins Big City PUC/ACB=$1 FMV=$150 M Copthorne I Related Group LI GROUP PUC/ACB=$97 M FMV= $30 M VHHC Investments VHHC Holdings PUC/ACB= $67 M FMV= $1,000 ss. 87(3) would eliminate the PUC of VHHC Holdings on any amalgamation with VHHC Investments and Copthorne #

38 Copthorne: The Start Big City LI GROUP PUC/ACB=$1 FMV=$150 M Copthorne I PUC=$67 M ACB=$1,000 FMV=$1,000 VHHC Holdings PUC/ACB=$97 M FMV= $30 M VHHC Investments s. 87(3) would eliminate the PUC of VHHC Holdings on any amalgamation with Copthorne-vertical amalgamation #

39 The Avoidance Transaction: The Share Sale Related Group BIG CITY LI GROUP PUC=$1 ACB=$1 FMV=$150 M PUC=$67 M ACB=$1,000 FMV=$1,000 PUC=$97 M ACB=$97 M FMV=$1,000 Copthorne I VHHC Holdings VHHC Investments #

40 First Amalgamation: Copthorne I and VHHC Holdings Big City LI GROUP PUC=$67 M ACB=$1,000 FMV=$150 M Copthorne II PUC=$97 M ACB=$97 M FMV=$30 M VHHC Investments ss. 87(3) does not eliminate PUC of VHHC Holdings on a horizontal amalgamation #

41 Second Amalgamation - Copthorne III LI INVESTMENTS PUC=$164 M (97 +67) ACB=$97 M FMV=$180 M ( ) Copthorne III #

42 Redemption at 150 M-FMV of Copthorne I LI INVESTMENTS PUC=$164 M ACB=$97 M FMV=$180 M COPTHORNE III Capital gain on the Redemption is Treaty Protected, no tax in Netherlands MNR applies GAAR to subtract duplicated PUC of 67 M down to PUC of 97 M-Withholding Tax #

43 Tax Court The series of transactions undertaken resulted in a misuse of the provisions of ss. 89(1), 84(3), and 87(3)(a) of the Act, in that they were used to artificially increase PUC on an amalgamation with the subsequent return of this increase to the shareholder on a tax-free basis, the very result that the provisions were intended to prevent. When the many transactions were distilled down to the essential core, it is clearly an abuse of the Act to which section 245 should apply. #

44 Federal Court of Appeal When the entire series of transactions is considered, it was apparent that the underlying principles respecting the calculation of PUC were offended. The court focused on the appellant s abuse of the provisions relating to amalgamations: the computation of the PUC of the shares of Copthorne II (formed as a result of the amalgamation of Copthorne I and VHHC Holdings) and of the shares of Copthorne III (formed as a result of the amalgamation of Copthorne II and VHHC Investments). #

45 Federal Court of Appeal (cont d) The purpose of the requirement that the PUC of inter-corporate shareholdings be extinguished on an amalgamation is to avoid duplicative increases in computing the PUC of the amalgamated corporation. This requirement had been circumvented in an abusive manner #

46 Copthorne - SCC Leave to appeal to the SCC has been granted with costs (per McLachlin, C.J., Abella J. and Rothstein J.) As per the SCC Case Summary, the issues under appeal are: applicability of GAAR to deny a tax benefit conflicting trends in the case law arising from a misinterpretation of the SCC s statements in Canada Trustco regarding the concept of series of transactions as defined in s. 248(10) of the Act #

47 Copthorne SCC (cont d) interaction of the GAAR with other statutory schemes examination of the FCA decision: does the decision create considerable uncertainty for amalgamations and paid-up capital? did the FCA misdirect itself and err? The hearing was on January 21/11 Will the Crown lose because it could not clearly point to why the series was abusive? #

48 GAAR Court Decisions Pending Triad Gestco Ltd. TCC (April 23/10) value shift/capital loss Ontario Limited TCC (December 1/10) value shift/capital loss Global Equity Fund TCC (January 17/11) value shift/capital loss #

49 GAAR Cases in Tax Court Process Kossow leveraged donations trial in progress began April 26/11 Edwards leveraged donations discovery process Dynacast Canada denial of section 113(1) deduction settled October 22/10 Future Electronic denial of 20(12) and 126 FTC settled March 1/11 McClarty Trust - kiddie tax avoidance scheduled for June 15/11 #

50 GAAR Cases in Tax Court Process cont d Rodan Energy section 80 abuse? Consent to Judgment December 1/10 Lehigh Cement second tier financing GAAR dropped 95(6) issue Spruce Credit Union alleged abuse of intercorporate dividend deduction and double deduction of deposit insurance premiums (trial scheduled for June 14-16/11) #

51 GAAR Cases in Tax Court Process (cont d) Jobin, Mastronardi, Gendron section 47 ACB averaging discovery process Schiesser RRSP strips discovery process case management SSI Investments alleged abuse of 97(2) rollover on sale of assets to income trust structure discovery process #

52 GAAR Cases in Tax Court Process (cont d) Walsh TCC (was scheduled for May 4 7/10 but discontinued) departure trade Swirsky TCC interest deductibility/reverse attribution scheduled for June 1/11 GTE Venezuela alleged surplus PUC stripping following sale of foreign holding company to Canadian OPCO discovery process Canada Inc. Brazilian tax sparing discovery process #

53 Some GAAR Areas Under Review Leveraged donations RRSP strips Tax attributes/value shifts/artificial capital losses Foreign tax credits and foreign accrual tax usage Provincial tax arrangements (Québec trusts, Ontario NRO, Québec year ends) Brazilian tax sparing #

54 Some GAAR Areas Under Review (cont d) Tax deferrals using partnerships 88(1)(d) bumps package and bump transactions Profitco transactions - partnership income allocated from a partnership with profit sheltered by deductions/losses of a party who acquires the partnership interest before year end #

55 Provincial GAAR Assessments Provincial income tax legislation in each province contains a GAAR The scope of these provisions is quite broad and might be challenged as unconstitutional Two cases have been decided (OGT Holdings and Husky Energy) OGT was unsuccessful in QCCA #

56 Husky (Alta Q.B.) April 2011 #

57 CFS I #

58 Results for CFS I Subsidiaries claimed interest expense under ITA 20(1)(c) and ACTA Operations claimed ITA 112(1) deduction for dividends Central reported interest income under ITA and OCTA but not taxable under OCTA only ITA 12(1)(c) West reported interest income and deducted interest expense #

59 CFS II (8) Payment of Dividend #

60 Results for CFS II Operations paid interest to Brae Pacific and deducted under ITA and ACTA Brae Pacific had interest expense and interest income Brae Finance had interest income but was only liable for tax under ITA 12(1)(c) and not OCTA Husky Energy claimed ITA 112(1) intercorp dividend deduction for dividends paid #

61 Alberta Reassessments Denied 112(1) deductions to Husky Energy and Operations Denied interest expense to Subsidiaries and Operations and treated Operations as having received interest income under CFS I #

62 Issues Denial of interest expense to Operations to redeem shares in light of Trans-Prairie decision? (Technical Issue) Does Alberta GAAR override ITA and ACTA so that: Operations gets tax on interest income under CFS I; Operations and subsidiaries get no interest deduction; and 112(1) dividend deduction is denied #

63 Decision Taxpayer wins Approval of certainty principle in Shell, Trans-Prairie, Singleton Review of GAAR principles and Lipson #

64 Decision Technical Issue Trans-Prairie complete answer $ used to earn income Nothing in 20(1)(c) requires an increase in capital #

65 Decision GAAR (Abuse Only) No abuse of 20(1)(c) Not abusive for corporations to reorganize and refinance Not chained to Alberta Lipson and Trustco principles help Singleton principle of legal relations help taxpayer #

66 Decision GAAR (abuse only) No abuse of 112(1) No need for income to be taxed for 112(1) to apply Non-Purpose of 112(1) to ensure income taxed at least once No circumvention of ITA 12(1)(c) by Operations in CFS I #

67 Decision GAAR (abuse only) (cont d) No recharacterization of interest to dividends in order to apply GAAR OK to rely on difference in provincial taxing policy Nothing unfair in Husky s refinancing if fairness is an important measure of abuse (Lipson LeBel) #

68 The Future Predictions About GAAR in Practice Harder to give opinions and advice? Harder to predict results? More or less GAAR litigation? Prospect of legislative overrides (e.g. March/11) Amendments to/creation of specific anti-avoidance rules changes to GAAR #

69 Predictions About GAAR in Practice (cont d) Pursuit of retail strategies (RRSP strips, Barbados trusts, leveraged donations) More litigation on specific anti-avoidance rules GAAR just one tool GAAR has two defences why use it? Other specific rules have fewer defences (e.g. 247(2)(b), 95(6)) The cases will turn on the facts as well as the law #

70 Predictions About GAAR in Practice (cont d) Documenting why transactions are done is important Important to have available personnel to talk about why a transaction was done Concessions on avoidance transactions may not always be appropriate #

71 Predictions About GAAR in Practice (cont d) How will the changing judicial landscape and the composition of the Courts (TCC, FCA, SCC) affect the interpretation of GAAR? What you do now will be litigated years from now when judicial attitudes may have shifted!! #