The Supreme Court of Canada and the General Anti-Avoidance Rule: Canada Trustco and Mathew

1. The Supreme Court of Canada and the General Anti-Avoidance Rule: Canada Trustco and Mathew November 18, 2005 David G. Duff Faculty of Law, University of Toronto

2. Canada Trustco - Transactions $97.35M (deposit) $19.05Mbond $97.35M loan (non-recourse) Royal Bank lease payments applied against loan payments lease payments assigned trailers leased with purchase option Canada Trustco Maple Assets Investments Ltd. trailers sub-leased trailers Transamerica Leasing Inc. $116.4M (prepaid rent) $120 M

3. Mathew - Transactions 99% p/s Standard OSFC taxpayers $ mortgages 24% 76% Sub 99% 99% 99% p/s $ SRMP 1% losses STIL II 99% losses

4. Canada Trustco - Disposition • Transactions did not contradict object, spirit and purpose of CCA regime, including leasing property and specified leasing property rules • No general policy that cost means real economic cost or amounts economically at risk • No general economic substance requirement

5. Mathew - Disposition • Transactions contradict general policy of ITA to prohibit transfer of losses between taxpayers, subject to specific exceptions • Transactions contradict object, spirit and purpose of subsections 18(13) and 96(1) • 18(13) – to disallow superficial losses on transfers of property that remain in the transferor’s control • 96(1) – to promote an organizational structure that allows partners to carry on a business in common, in a non-arm’s length relationship”

6. Statutory Interpretation • Textual, contextual and purposive interpretation (Driedger) • Goals of “consistency, predictability and fairness” suggest emphasis on text where explicit provisions dictate specific consequences (Hogg and Magee, Principles, 1st ed.) • Context and purpose may reveal ambiguities (Hogg, Magee, and Li, Principles, 4th ed.) • No reference to “plain meaning rule”

7. Tax Avoidance and the GAAR • Taxpayers may manage their affairs to minimize tax (Duke of Westminster, Shell Canada) • GAAR is a “provision to the contrary” that is “superimposed” onto this traditional approach, designed to “draw … a line between legitimate tax minimization and abusive tax avoidance” • Court’s task to unite both approaches, reflecting Parliament’s intent to preserve predictability, consistency and fairness in Canadian tax law

8. Application of the GAAR • Tax Benefit – subsection 245(1) • Avoidance Transaction – subsection 245(3) • Series of transactions – subsection 248(10) • Non-tax purpose test • Misuse or Abuse – subsection 245(4) • amended retroactively in 2005

9. Tax Benefit • Factual determination • true but governed by law • May be determined by comparison with alternative arrangement • Deductions are tax benefits because they result in a reduction of tax • conclusion contradicts structure and purpose of GAAR to prevent abusive tax avoidance • tax benefit should be assessed “in the context of whether there is an avoidance transaction” (Miller TCJ in Canada Trustco)

10. Series of Transactions • Ordinary meaning • “preordained in order to produce a given result” (UK step transactions doctrine) • Extended meaning • “related” transactions can occur before or after ordinary series • transactions completed “in contemplation of” series do not require “actual knowledge” (OSFC Holdings) but occur “because of” or “in relation to” the series • likely consistent with legislative intent, but not consistent with text of subsection 248(10)

11. Non-Tax Purpose Test • Factual determination • Objective and relative determination • Threshold neither high nor low • threshold should be low since taxpayer must only establish reasonable argument transactions carried out primarily for non-tax purpose • Not sufficient to show that alternative transaction would have resulted in higher taxes • higher taxed alternative may be relevant where lower taxed alternative undertaken primarily to obtain tax benefit • this does not involve “recharacterization”

12. Misuse or Abuse – Part 1 • Two-step inquiry: (1) legal inquiry requires “single, unified approach” to interpret object, spirit and purpose of provisions giving rise to tax benefit; (2) factual inquiry to determine if transaction frustrates these purposes • contradicts text of subsection 245(4), which refers to a misuse of provisions of the ITA and other enactments and an abuse having regard to these provisions, other than the GAAR, read as a whole • emphasis on “specific provisions” precludes broader abuse analysis • Lack of economic substance not sufficient to establish abuse • transactions lacking real economic substance might reasonably be regarded as an abuse having regard to provisions of the ITA read as a whole

13. Misuse or Abuse – Part 2 • Abusive nature of transaction must be clear, with doubts resolved in favour of taxpayer • consistent with former language in subsection 245(4) • amended language says GAAR applies where transaction can reasonably be considered to result in misuse or abuse • doubts should now resolved in favour of the Crown • Burden of proof on Minister to establish abuse • not clear under former subsection 245(4) • explicit under amended version

14. Disposition • Canada Trust • lack of economic substance could have been regarded as abuse having regard to provisions of the ITA read as a whole • arguable that tax shelter rules and partnership at-risk rules suggest general policy that cost means real economic cost or amounts economically at risk • Mathew • Given general policy against transfer of losses, misuse of subsection 18(13) sufficient • assumed purpose of subsection 96(1) questionable