Selected Income Tax Considerations in Court-Approved Debt Restructuring and Liquidations

Selected Income Tax Considerations in Court-Approved Debt Restructuring and Liquidations, Stikeman Elliott, Stikeman Elliott 67 th Annual Tax Conference 67e Conférence fiscale annuelle 2015 Historical Background of CCAA Regime The CCAA was enacted by Parliament in 1933 when the nation and the world were in the grip of an economic depression. ( ) The government of the day sought, through the CCAA, to create a regime whereby the principals of the company and the creditors could be brought together under the supervision of the court to attempt a reorganization or compromise or arrangement under which the company could continue in business. Chef Ready Foods Ltd. v. HongKong Bank of Canada, 51 BCLR (2d) 84. 2

More than 150 applicants since September 18, 2009. Per Office of the Superintendent of Bankruptcy Canada website. Some notable CCAA applicants: AbitibiBowater Sino-Forest Corporation Stelco Air Canada Target Canada Boutique Jacob Inc. Davie Yards Inc.- Chantiers Davie Inc. Canwest Global Communications Corp. HFI Flooring Inc. Kitco Metals Inc. Nortel Networks Quebecor World Bombay & Co Inc., Bowring & Co. and Benix & Co. Inc. Aveos Fleet Performance Inc. Hollinger Canadian Publishing Holdings Co. White Birch Paper Company 3 CCAA - Key Elements Application to the Court Stay of proceedings initially lasting up to 30 days (renewable) until a compromise is negotiated and approved Requires (a) approval by a vote of the majority in number representing at least 2/3 in value of each class of affected creditors and (b) sanction by the Court Appointment of a monitor Debtor in possession ( DIP ) financing arrangement to ensure continuity of operations during process Flexible discretionary approach as opposed to the stricter rulebased approach under the Bankruptcy and Insolvency Act ( BIA ) Conditional authority to disclaim or cancel agreements 4

CCAA Process Eligibility: debtor company (with affiliated companies) owing in excess of $5 million. Insolvent : no statutory CCAA definition. Courts rely on broader version of BIA definition and can include a prospective looming liquidity crisis. Initial Order: debtor company presents an initial application to the Court, which issues an initial order for 30 days (can be extended) for: stay of proceedings appointment of monitor authorizing DIP financing priority charges for payment of the monitor, legal counsel, as well as director's charges Interim Orders: restructuring steps, including orders that deal with solicitation process and adjudication of claims against the debtor company. Final Order: granted by the Court where an arrangement has been negotiated and voted on. Time Limit: None. 5 BIA Key Elements BIA governs (i) formal bankruptcy liquidations and (ii) restructurings (in parallel with the CCAA process). Applicable to debtor (i) with liabilities to creditors of at least $1,000; and (ii) who reside, carry on a business, or have property in Canada. Statutory test for an insolvent person : cannot meet its obligations or has stopped paying its current obligations or at a fair valuation, the aggregate of the debtor's property is insufficient or, if sold through a fairly conducted sale under legal process, would be insufficient to pay its obligations, due and accruing. Procedure: debtor files a Notice of Intention to make a proposal to creditors, resulting in an automatic stay of proceedings; and files a proposal within 30 days thereafter (possible 45-day extensions, up to 6 months). BIA 2009 amendments provide for DIP financing similar to CCAA. 6

Key Differences - CCAA and BIA BIA is simpler, rules-based. CCAA is more costly but also more flexible; Court-supervision provides more latitude. CCAA provides more time for the company to negotiate a compromise. Both regimes require the debtor to obtain creditors approval of the proposal/arrangement BIA provides rules; CCAA leaves determination to the Court. Under the BIA, a refusal by the creditors results in automatic bankruptcy. Under CCAA, refusal by the creditors only precludes a subsequent filing under the BIA it is not automatically terminated or bankrupted. Both CCAA and BIA are used for orderly liquidation of assets or for restructuring. 7 Key Tax Differences - CCAA and BIA Century Services Inc. rule of consistency between the CCAA and BIA. -Both regimes form part of an integrated body of insolvency law which in their application should not produce an anomalous outcome No debt forgiveness rules under ss. 80 to 80.04 where debtor is a bankrupt. Two case studies will involve a restructuring and a liquidation under the CCAA. 8

CCAA - Erodes Tax Attributes Compromise or restructuring of debts under CCAA will typically result in significant debt forgiveness. Debt forgiveness erodes debtor s tax attributes in descending order of their value to debtor (some mandatory, others discretionary). Tax policy behind tax attributes erosion debt enabled taxpayer to acquire property or incur expenditures giving rise to deductions forgiveness of debt means expenditure not economically borne by taxpayer and thus expenditures should be adjusted downward. 9 Key Debt Forgiveness Principles Commercial debt obligation is settled (or deemed to be settled) for an amount that is less than the lesser of the principal amount or issuance amount of debt. Forgiven amount: principal (or issuance) amount of debt - amount paid in settlement of debt and certain other amounts. on foreign currency debt determined with reference to value of Canadian dollar vs. foreign currency at the time debt issued. par. 80(2)(k) 10

Key Debt Forgiveness Principles Debt settled by the issuance of a new debt by debtor to creditor If principal amount of new debt is lower forgiven amount. par. 80(2)(h) Debt settled by issuance of shares of debtor to creditor If FMV of shares issued lower than principal amount of debt forgiven amount (subject to distress preferred share rules). par. 80(2)(g), (g.1) Forgiveness of interest may also lead to application of debt forgiveness rules. par. 80(2)(b) 11 Forgiven Amount - Tax Attributes 1. Automatically reduces tax attributes of debtor in following order: Prior year net operating losses ("NOLs"), ss. 80(3). Prior year net capital losses ("NCLs"), ss. 80(4). 2. If debtor designates, reduces in any order: Tax pools (UCC, CEC, resource pools), ss. 80(5), 80(7) and 80(8). 12

Forgiven Amount - Tax Attributes 3. If maximum designations under 2 (ss. 80(5), 80(7) and 80(8)), debtor may elect to reduce in the following order: a) ACB of capital properties other than shares and debts of corporations of which debtor is a specified shareholder and certain other properties under ss. 80(9). b) If maximum designations under ss. 80(9), ACB of shares and debt of unrelated corporations of which debtor is a specified shareholder under ss. 80(10). c) If maximum designation under ss. 80(10), ACB of shares and debt of related corporations under ss. 80(11) watch for deferred gain under s. 80.03. 13 Forgiven Amount - Tax Attributes 4. If balance remaining after maximum designations under 2, 3(a) and 3(b) (ss. 80(5) to 80(10)): Section 80.04 - can transfer unapplied forgiven amount to "eligible transferee" (certain related parties) within debtor group. 14

Forgiven Amount - Income Inclusion SS. 80(13) Income inclusion of 50% of unapplied forgiven amount. If debtor designates to shares and debt of related corporations per ss. 80(11) rather than transferring unapplied forgiven amount under s. 80.04, then 50% income inclusion will nevertheless arise (concept of residual balance ). Debtor should not designate under ss. 80(11) unless related entities have no remaining tax attributes (unless an insolvency deduction is otherwise available). 15 Forgiven Amount - Income Inclusion ss. 80(13) Income inclusion may be offset against: Current year deductions and NOLs. Current year NCLs pursuant to ss. 80(12), only if maximum designations under ss. 80(5) to 80(9). Available insolvency deduction may be available under s. 61.3. Five-year reserve under s. 61.4. Minister s authority to designate amounts and reduce tax attributes under ss. 80(16) applies only when s. 61.3 insolvency deduction is claimed. 16

Potential Planning Avenues In CCAA restructuring, critical to minimize impact of tax attributes reduction and future taxes after emergence. In CCAA liquidation, critical to avoid post-filing taxes and consider monetizing tax attributes when appropriate A carefully designed plan may prevent settlement (or deemed settlement) of debt and/or ensure that the debt forgiveness rules apply in most tax advantageous way. 17 Planning - Preserves Tax Attributes Convert NOLs to other tax attributes that will be available after debt settlement: a) internal taxable transfer of assets in the tax year preceding settlement b) acceleration of income in preceding year c) amend prior year tax returns to reduce discretionary deductions (ex. CCA, ECE, reserves, etc.) No (or less than maximum) designations under ss. 80(5) to 80(8) resulting in 50% inclusion under ss. 80(13). Maximize current year deductions and consider claiming five-year reserve. 18

Other Potential Planning Realization of embedded capital loss on shares of subsidiaries. Trigger acquisition of control ( AOC ) and consequential write-down off debtor s assets or consider taxable wind-up of subsidiaries or ss. 50(1) election. Issuance of distress preferred shares. Potential for five-year deferral of application of debt forgiveness rules. Eliminate inter-company debts ATR 66. Changing the terms of the debt to reflect more favorable terms or issuing a new debt in satisfaction of old debt to avoid application of debt forgiveness rules. 19 Case Study Restructuring - Facts Bonds (unsecured) $300 NOLs $240 UCC $500 Upstream debt ACB $200 Widely held Pubco NOLs $400 ACB $200 Third-party debt (secured) $300 Depreciables: FMV $500 > UCC Operating leases Pubco is a widely held Canadian public company whose shares are traded on the TS. Due to financial difficulty, it has filed under CCAA. All debts and contracts are to be restructured or cancelled. Pubco s and s creditors are to receive common shares of Pubco ( Pubco Shares ) and current shareholders will not receive anything. The CCAA process is to take place over an 18-month period. Pubco is to emerge from CCAA as a viable and profitable company whose Pubco Shares will be traded on the TS. 20

Case Study Restructuring - Facts Bonds (unsecured) $300 NOLs $240 UCC $500 Upstream debt ACB $200 Widely held Pubco NOLs $400 ACB $200 Third-party debt (secured) $300 Depreciables: FMV $500 > UCC Operating leases Pubco has NOLs of $400. Pubco has depreciables with FMV $500 greater than UCC of (embedded recapture of $400). has NOLs of $240. The shares have an ACB of $200 and no value. Pubco owes trade payables. has depreciables with UCC of. s operations are to be shut down. The shares have an ACB of $200 and no value. 21 Case Study Restructuring - Facts Bonds Widely held Third-party debt (unsecured) (secured) Pubco $300 Shares $500 Pubco Shares Pubco cash $300 Upstream debt Secured third-party lenders are paid in full (cash and Pubco Shares) and bondholders (unsecured) and other creditors (i.e., contractual damage claims) will receive Pubco Shares. 90% of the Pubco Shares will be delivered within a few days after compromise (final order approving the plan) and the residual 10% once disputed claims are settled. Absent planning, no AOC of Pubco arises as a result of restructuring (debt widely held). 22

Determination of Forgiven Amount Forgiven amount determined based on FMV of Pubco shares. Since Pubco shares will be listed, precise value (and hence forgiven amount) may not be known until shares begin to trade. Common to use average trading price on first day Pubco Shares trade as indication of value. What about Pubco shares held in escrow pending resolution of disputed claims? 23 Determination of Forgiven Amount Bonds (unsecured) $300 NOLs $240 UCC ACB $200 Widely held Pubco Shares $500 Upstream debt Pubco NOLs $400 ACB $200 Third-party debt $300 (secured) Cash and Pubco Shares Depreciables: FMV $500 > UCC Operating leases No forgiven amount in respect of thirdparty lenders. Assume Pubco Shares have value equal to 20% of unsecured debt. Pubco forgiven amount: Unsecured lenders : $500 less FMV of shares of $400 Total: Pubco FA: $400 forgiven amount: Unsecured lenders : $300 less FMV of shares of $60 $240 Total FA: $240 24

Tax Results if No Planning Widely held Pubco? Upstream debt NOLs $400 Complete loss of NOLs of Pubco reduced from $400 to nil, and reduced from $240 to nil, absent designations. NOLs $240 UCC ACB $200 ACB $200 Depreciables: FMV $500 > UCC Operating leases If upstream debt owing from Pubco to is compromised under CCAA plan potential ss.15(1) inclusion to Pubco. (ss. 15(1.2) and 15(1.21)) Watch terms of plan! 25 Actions to Preserve Tax Attributes Pubco NOLs: $400-$200=$200 -$200 transfer =Nil ACB $500 New Sub Depreciables: FMV $500 UCC $300+$200=$500 Taxable Tranfer of depreciables Amend Pubco s returns of prior years reversing discretionary deductions (i.e. UCC) of $200 thereby reducing NOLs from $400 to $200. Pubco transfers its depreciables to a newly created subsidiary (by interim order) in tax year of Pubco ending before tax year of compromise, triggering recapture of $200, thereby absorbing $200 of NOLs. Revised Pubco NOLs are nil prior to compromise. Other possibilities to convert NOLs? 26

Actions to Preserve Tax Attributes Bonds (unsecured) $300 NOLs $240 UCC $500 Upstream debt ACB $200 Widely held Pubco Third-party debt (secured) $300 Wind-up Wind-up into Pubco under ss. 88(1) prior to, but in year of, compromise under final order: Upstream debt settled at its cost amount so no debt forgiveness (ss. 80.01(4) election required). $240 NOLs of flow to Pubco (ss. 88(1.1)) but not considered NOLs of Pubco for tax year of Pubco ending before compromise thus not reduced under ss. 80(3). UCC of available to Pubco in year of compromise. 27 Actions to Preserve Tax Attributes Bonds (unsecured) $800 Widely held Pubco ACB $200 Third-party debt (secured) $300 Dissolution is wound-up and dissolved (through interim order) in the tax year ending before the tax year of compromise to realize accrued capital loss in Shares. OR Accrued capital loss in Shares may be realized through a ss. 50(1) election in the tax year before the tax year of compromise. Best to realize accrued capital loss in the tax year prior to the tax year of compromise. ss. 80(11) designation as a possible alternative not helpful. ss. 80(13) residual balance/s. 80.04 28

Tax Results Bonds (unsecured) Pubco Shares $800 NOLs $240 UCC Operating leases Widely held Pubco NOLs nil NCLs $200 Third-party debt (secured) $300 Newco Pubco Shares/ cash UCC $500 Pubco forgiven amount: Unsecured lenders : $800 less FMV of shares $160 $640 NCLs of $200 (attributable to shares) reduced to nil. Of remaining FA of $440, $220 (50%) is included in Pubco s income, absent designations. $220 income inclusion can be spread over 5 years ($44 per year). 29 Tax Consequences - Comparison No Planning Planning Attributes: Attributes: Pubco UCC UCC No income inclusion NOLs from $240 (following year) UCC in Newco $500 UCC from But $220 income inclusion ($44 each year over five years) 30

Offsetting ss. 80(13) Income Inclusion $220 income inclusion offset by: Year of compromise NOLs CCA/rent from lease with Newco CCAA transaction expenses Other deductions? Contractual damages? Pubco s NOLs of $240 (from ) can t be used until the following tax year Detailed calculations are key to ensure income inclusion won t result in taxes 31 Treatment of Contractual Claims Pubco could have substantial claims for damages against it (e.g., lease repudiation damages). Are damage claims deductible and, if so, when? 1. Par. 18(1)(a): incurred for the purpose of gaining or producing income from the business? Income earning purpose should be met if damages emanate from contracts integral to business and business will continue. Damages should be considered incurred in a year when there is an enforceable legal obligation to pay the amounts in such year and the amounts are ascertained or ascertainable for such year. IT-457R2: an allowable deduction in respect of damages can only be claimed by a taxpayer when paid, or where there is a legal or contractual liability to pay the damages, and the amount thereof has been quantified. 32

Treatment of Contractual Claims 2. 18(1)(e): Is any liability for damages contingent? A stay of enforcement/proceedings for damage claims does not mean liability is contingent. Question is whether there is a present legal obligation or whether the obligation may only come into existence on the happening of an event which may never occur. McLarty and Wawang decisions. s. 143.4 limit for contingent amount: Is there a right to reduce by the debtor company at that time? 33 Treatment of Contractual Claims 3. Par. 18(1)(b): Are damages on income or capital account? Support in case law for position that a payment to eliminate a recurring expenses (i.e. lease payments, etc. ) from a continuing business should be considered on income account. Conclusion: A fact-specific analysis, but if damage claims are ascertained or adjudicated through claims process in taxation year of compromise, then the damages may be deductible in that year. 34

Treatment of Contractual Claims s. 80 impact are claims for damages commercial debt obligations? ss. 248(26) deems debt obligation to be issued provided that amount is deductible. Issue then becomes whether interest on the damage claim was or would have been deductible by the taxpayer. par. 20(1)(c) would likely not provide a deduction for such interest. interest may be deductible under s.9, depending on the facts, though arguably the Gifford decision creates some uncertainty. If damage claim is deductible in year of compromise, result for taxpayer would be beneficial even if debt-forgiveness rules apply (particularly where forgiveness results in 50% income inclusion under ss.80(13). 35 Case Study Liquidation - Facts Third-party lenders US $1,000 Plant 3 Mr. Canco Plant 1 NOLs $300 UCC FMV $10 Plant 2 NOLs UCC /FMV $10 R&D credits $20 Canco is privately owned. Due to financial difficulty, Canco and have filed under CCAA. has filed under chapter 11 (the US equivalent to CCAA). Canco owns Plant 1, Plant 2 and USco Plant 3 (located in the US). Shortly after filing, the Plants (including all assets) will be sold for cash. Cash is retained until claim process is completed (expected to take 18-months). Once CCAA process completed, Canco will be dissolved. 36

Case Study Liquidation- Facts Third-party lenders US $1,000 Mr. Canco Plant 1 NOLs $300 UCC $FMV $10 Canco has NOLs of $300 and UCC of (embedded loss of $90). has NOLs of, UCC of (embedded loss of $90) and R&D credits of $20. Plant 3 Plant 2 The shares have ACB of and no value. NOLs UCC /FMV $10 R&D credits $20 The shares have ACB of and no value. 37 Case Study Liquidation- Facts Buyco Third-party lenders US$1,000 Sale for cash Sale for cash Plant 3 Mr. Canco Plant 1 Sale for cash NOLs $390 UCC FMV $10 Plant 2 Assets are sold to Buyco (and its ). Buyco and Canco are at arm s length and not related. Canco s NOLs are increased to $390 and s NOLs to $190. The sale of s assets generates an exempt loss. NOLs $190 UCC /FMV $10 R&D credits $20 38

Case Study Forgiven Amount Third-party lenders US$500 cash Mr. Canco NOLs $390 Cash proceeds used in the following tax year to pay third party debt claims, pensions claims and CCAA/Chapter 11 expenses. Assumes 5% recovery for unsecured claims. Canco Forgiven Amount: Third-party debt US$1,000 Repayment US$ 50 Unpaid amount US$ 950 NOLs $190 R&D credits $20 Forgiven Amount: par. 80(2)(k)/ historical rate (US$1.00/C$1.48) C$1,400 39 Case Study Tax Results- No Planning Mr. Canco NOLs $390 Complete loss of NOLs for Canco reduced from $390 to nil. Forgiven amount of $1,400 NOLs of $390 = $1,010. Income inclusion in Canco: ss. 80(13) ($1,010 50%) $505 s. 61.3 Insolvency deduction ($505) $NIL NOLs $190 R&D credits $20 Capital gain: Repayment US$50 Historical rate (US$1.00/C$1.48) $74 Current rate (US$1.00/C$1.00) $50 ss.39(2) capital gain: $24 40

Case Study Tax Results- No Planning Mr. Canco NOLs $190 R&D credits $20 Because of insolvency deduction claimed to reduce ss. 80(13) inclusion to nil, designation under ss. 80(11) not helpful. Reduces ss. 80(13) inclusion by only $200 - residual balance of $190 50% = $5 causing a reduction in insolvency deduction of $5. designation under s. 80.04 also not helpful. Reduces ss. 80(13) inclusion by $190 50% = $95 causing a reduction in insolvency deduction of $95. Minister may designate under ss. 80(16) to reduce ACB of shares. How to reduce ss. 39(2) capital gain of $24 if Canco s residual tax attributes only in ACB of shares? 41 Case Study Post-FilingTaxes Post-filing taxes are not compromised! Should cash proceeds used for payments of such taxes? What if cash held in US$? Additional taxable gain can result. What if FAPI in on held cash? No FAPI on debt forgiveness G of definition of FAPI/par. 95(2)(g.1) Planning is important to avoid post-closing taxes! 42

Case Study Actions to Eliminate Post-Filing Taxes Mr. Canco Dissolution Capital gain $24 NOLs $190 R&D credits $20 Election under ss. 50(1) in the tax year of compromise helpful subject to Minister s right to designate to reduce ACB of shares to nil ss. 50(1) not helpful in prior tax year as the prior year NCLs is absorbed by forgiven amount. Dissolution of immediately prior to compromise to trigger accrued capital loss on shares (subject to stop loss limitation under ss. 93(2)). if after compromise - watch for Minister designation to reduce ACB of shares to nil. Timing of dissolution is key. 43 Case Study Actions to Eliminate Post-Filing Mr. Canco Taxes Wind-up into Canco in tax year of compromise to use Canco R&D credits to offset taxes. NOLs only available in the following tax year. ss. 88(1.1). Capital gain $24 Amalgamate and Canco prior to compromise for Amalco to use R&D credits to offset taxes. Amalco NOLs (from ) will be absorbed by forgiven amount. Wind up or Amalgamation NOLs $190 R&D credits $20 Watch for provincial tax and whether also reduced by R&D credits. 44

Case Study Offsetting ss. 39(2) Gain Payment of pension claims deductible under par. 147.2(2). Compromise of pension claims probably not commercial debt obligation because interest paid or payable on unpaid pension claim probably not deductible thus not subject to s. 80. Payment of CCAA expenses. Deductible under par. 20(1)(e)?, s. 9? 45 Arm s length Group Loss Monetization - Sale of Shares Mr. Buyco acquired the assets of Canco and and has continued to carry on the business of both Canco and. Buyco Sale of shares for cash Canco Amalgamation After compromise, shareholders of Buyco acquire the shares of for small cash consideration. Canco has extra cash to pay claims. NOLs $190 R&D credits $20 then amalgamates with Buyco to form Amalco. 46

Loss Monetization - Sale of Shares Mr. Canco triggers the NCL (less cash proceeds) on the Shares (subject to stop loss rules ss. 112(3)). Canco Capital gain $24 Capital loss Dissolution NOLs $190 R&D credits $20 Arm s length Group Sale of Buyco Minister may designate under ss. 80(16) to reduce ACB of shares to nil- watch for capital gain! Current year NCLs of on dissolution of prior to compromise should offset ss. 39(2) capital gain of $24 any capital gain on sale of (only if designation made by Minister). PS. Because dissolution of occurred prior to compromise (in tax year of compromise), Minister can t designate to reduce ACB of shares to nil and current year NCLs are not reduced by Canco s forgiven amount. 47 Loss Monetization - Sale of Shares Arm s length Group Amalco Plants 1&2 NOLs $190 R&D credits $20 AOC of ss. 111(5) applies. ss. 87(2.1) deems Amalco to be the same corporation and continuation of Buyco and. Provided that s business (Plant 2) is carried on by Amalco for profit throughout the tax year after the AOC, NOLs (and possibly R&D credits) are available to Amalco. Must ensure business is carried on by, Buyco and Amalco without interruption. GAAR n/a - same result as if Buyco shareholders bought shares from Canco owning Plant 2 (but not possible due to CCAA process) - CRA Interpretation 2002-0151343. 48

Re: Nortel Networks (2015 ONCA 681) Issue: Does interest on a debt obligation of a debtor continue to accrue after the debtor files a petition under the CCAA? Interest Stops Rule : Common law provides that for purpose of claim quantification, contractual interest stops accruing on unsecured debt as of the date the insolvency proceeding is filed. Holding: The Interest Stops Rule, as developed in common law, should apply to CCAA proceedings. Accordingly, the unsecured third-party lenders in Nortel were not entitled to claim for postfiling interest. 49 Re: Nortel Networks (2015 ONCA 681) Reasoning: (i) It would be unfair and contrary to the purposes of the status quo under the stay of proceedings to allow only a certain class of creditors to benefit from post-filing interest thereunder; (ii) The BIA and CCAA are considered parts of an integrated solvency scheme and thus the Court has to favour interpretations that give creditors analogous entitlements under both regimes. (Century Services Inc.) Unfair results if interest accrued: Third-party lenders post-filing interest claim added an additional US$1.6 billion to their US$4.092 billion in principle and pre-filing interest claim while other principle creditors were disabled employees, former employees and retirees with pension claims with no interest accruing. 50

Post-Filing Interest Under CCAA Rights of creditors to enforce payment of post-petition interest are stopped under CCAA plan. Based on Nortel, unsecured creditors have no legal entitlement to post-filing interest. Ontario Court of Appeal in Nortel did not reference any distinction between liquidating and restructuring CCAA proceedings. Post-filing interest of unsecured creditors unlikely to be deductible in light of Nortel decision. 51 Re: Girard (2014 QCCA 1922) Issue: Must CRA obtain prior leave from the Court for the procedure in the ITA to be applicable (i.e., 90-day limitation period for objecting to the notice of assessment) under BIA? CRA is an ordinary creditor subject to the BIA (except for certain specific provisions); Issuing a notice of assessment or reassessment constitutes the first stage in the process to recover a claim. Holding: A notice of assessment is permitted, however it constitutes a proceeding prohibited by the BIA and will have no legal effect unless leave from the Court is obtained. On the basis of Century Services Inc., should the same reasoning apply in CCAA requiring Court intervention for CRA to issuing a notice of assessment or reassessment? 52

Tax Claims - Priority "[28] Prior to the 1990s, Crown claims largely enjoyed priority in insolvency. This was widely seen as unsatisfactory as shown by both the 1970 and 1986 insolvency reform proposals, which recommended that Crown claims receive no preferential treatment [29] Claims of priority by the state in insolvency situations receive different treatment across jurisdictions worldwide.( ) Canada adopted a middle course through legislative reform of Crown priority initiated in 1992. The Crown retained priority for source deductions of income tax, Employment Insurance ("EI") and Canada Pension Plan ("CPP") premiums, but ranks as an ordinary unsecured creditor for most other claims. Century Services Inc. v. Canada (Attorney General), 2010 SCC 60 53 Tax Claims Deemed Trust under CCAA Section 37(1) CCAA, No deemed trust except: ss. 227(4) or (4.1) of the ITA; ss. 23(3) or (4) Canada Pension Plan; ss. 86(2) or (2.1) of the Employment Insurance Act. any deemed trust created under the ETA is invalid upon debtor s protection under the CCAA. Confirmed in Century Services Inc. Deemed trust: tax debtor s property is deemed beneficially owned by the Crown, irrespective of any pre-existing security interest (except for any mortgage in real property). 54

Tax Claims Crown Security The CCAA provides that any secured claims of the Crown rank as unsecured claims, unless the security is publicly registered on the day immediately prior to which proceedings under CCAA commence. Upon CCAA proceedings, Crown claims will be subordinated to security set up prior to the Crown's registration and limited to the amount owed by the tax debtor at the time of the registration. 55 Tax Claims Garnishment Allows the Crown to garnish funds owed to a tax debtor by any third party by notice of garnishment. Crown s garnishment right is subject to stay under CCAA, except for a garnishment pursuant to ss. 224(1.2). These are essentially debts for amounts withheld or deducted but not remitted under the ITA, and amounts payable by non-residents that Canada may not have the jurisdiction to collect otherwise. 56

Tax Claims - Right of Set-Off ITA and ETA permit the set off of amounts owing to a taxpayer by the Crown under any federal act against amounts owing by the taxpayer to the Crown under the ITA or the ETA. In Quebec, s. 31 Tax Administration Act provides that any amounts owed to a taxpayer may be offset by the Minister under any fiscal law administered by Revenue Quebec. CCAA proceedings Set-off when mutual debts come into existence in the pre-filing period. What about set-off of pre-filing debts against post-filing debts? Right of set-off according to Re: Air Canada, 2003 Carswell Ont 4016 (C.S.O.). Right of set-off also allowed during BIA proceedings in Industries Davie Inc. (Proposition de), 2000 CanLII 10623 (QC C.A.), REJB 2000-15884. 57 Tax Claims - Right of Set-Off In D.I.M.S. [2005] 2 S.C.R, the Supreme Court interpreted narrowly the right of sett-off under the BIA (ss. 97(3) BIA) and concluded that mutual debts must come into existence before the bankruptcy. Thus - no pre and post set-off of tax claims in bankruptcy. 58