Tax Court confirms that arrears interest on taxes resulting from GAAR assessment accrue from the taxpayer’s balance-due day
In Quinco Financial Inc. v. R. (2016 TCC 190), the Minister of National Revenue had assessed Quinco under section 245 (the “GAAR”) of the Income Tax Act (Canada) (“ITA”) to deny certain claimed capital losses. Arrears interest on the resulting tax due was also assessed, which the Minister computed from Quinco’s “balance-due day”. The “balance-due day” is the deadline by which a taxpayer is required to pay to the Receiver General certain amounts payable under the ITA for a particular taxation year. For a corporate taxpayer, it is either two or three months after the end of the particular taxation year, depending on the circumstances.
Quinco took the position that it should not be liable for arrears interest on the assessed tax debt for the period prior to the assessment date. It proffered numerous arguments to support its position. The most interesting argument was that, although a GAAR assessment requires a determination of the tax consequences reasonably necessary to deny the tax benefit, it does not permit or extend to the recharacterization of the transaction for any other tax purposes; therefore, a taxpayer’s liability for interest does not arise until the date of the reassessment.
Justice Bocock rejected this argument and explained that an assessment under the GAAR,
“whether alone or in conjunction with another technical omission or non-compliant act, is not an assessment divorced from the other provisions of the Act.”
Here, the assessment was raised utilizing the GAAR, but the assessment “insinuated itself into Part I of the Act to reassess the taxpayer otherwise in the normal course.” Justice Bocock held that subsection 161(1) arrears interest accrues on any tax payable determined under the GAAR from the balance-due day until the GAAR assessment issuance date (and onwards until payment of the tax payable).
Test for reasonableness of interest amount is whether no business would have contracted to pay that amount: Alberta Court of Queen’s Bench
This summer saw the first case in which a court articulated the test for determining whether an interest amount is reasonable for purposes of paragraph 20(1)(c) of the Income Tax Act (Canada) (“ITA”). No other Canadian federal or provincial court has ruled on this question.
In ENMAX PSA Corp. v. Alberta (2016 ABQB 334), the two taxpayers were subsidiaries of ENMAX Corp., which was owned by the City of Calgary. Government-owned businesses in Alberta are usually exempt from provincial and federal tax statutes, unlike privately-owned and publicly-traded corporations. To even things out, government-owned businesses are required to make payments in lieu of tax (“PILOT”) to a “balancing pool”. PILOT payments are calculated in accordance with tax statutes. A taxpayer may deduct a “reasonable amount” of interest on borrowed money used for the purpose of earning income to the extent permitted under paragraph 20(1)(c).
The taxpayers in this case paid interest to ENMAX Corp. on funds borrowed from it and deducted the interest under paragraph 20(1)(c) in calculating their PILOT payments. Alberta’s Minister of Finance took the position that the interest rates on the loans were unreasonable and only allowed deductions for amounts computed at about half of the actual interest rates. The taxpayers appealed to the provincial court.
The issue before the Alberta Court of Queen’s Bench was whether interest paid by each taxpayer was reasonable pursuant to paragraph 20(1)(c). The Court identified three broad considerations that govern the determination of what is reasonable:
- Reasonableness must be measured with reference to the legal transaction to which the borrower was a party, not other contracts it might have made.
- The interest that would have been paid in an arm’s length transaction may be a relevant factor, but it does not define what is reasonable.
- The standard of reasonableness does not require that a taxpayer’s deduction be ascertainable as a precise, correct amount. Rather, it allows for a range of amounts to be considered reasonable.
Justice Poelman concluded that the question to ask when determining whether the interest deducted by a taxpayer is a reasonable amount is: Whether no business would have contracted to pay that amount, having only its business considerations in mind and under the form of transaction pursuant to which the obligation was incurred? Also noteworthy are his statements that the reasonableness standard in paragraph 20(1)(c) is not an arm’s length standard and that an interest rate higher than an arm’s length rate may be reasonable in the circumstances.
After extensively canvassing the evidence tendered by fact and expert witnesses, Justice Poelman found that the interest deducted by the taxpayers (and hence the interest rates) were reasonable.