The COVID-19 pandemic has created many changes for corporate management throughout Canada. In the past, directors often traveled outside of Canada for purposes of attending board meetings in foreign jurisdictions. Directors often made such travel arrangements in order to maintain a corporation’s residency outside of Canada for tax purposes. However, the ongoing COVID-19 pandemic has significantly restricted directors’ abilities to travel abroad and, in turn, attend meetings in foreign jurisdictions.
Directors have, in response, created alternative local or “virtual” arrangements (i.e. video or teleconferencing) for such meetings. However, these arrangements may have potentially significant income tax consequences for a corporate taxpayer. This bulletin will briefly address some of these consequences:
General Principles of Residency
The Income Tax Act (Canada) (the “ITA”) imposes tax on corporations resident in Canada. The Courts generally determine a corporation’s residency by applying the common law test of “central management and control”. The test provides that a corporation is resident in the country where its central management and control is exercised. This is generally the country where the directors of the corporation exercise their responsibilities. It should also be noted that a corporation may be resident in one or more different countries (e.g. the directors may be exercising their responsibilities in multiple different countries).
On February 12, 2020, in Canada v Alta Energy Luxembourg S.A.R.L. (2020 FCA 43), the Federal
Court of Appeal (“FCA”) unanimously
held that the general anti-avoidance rule (“GAAR”) did not deny a capital gains exemption claimed by a
Luxembourg holding company under the Convention
between the Government of Canada and the Government of the Grand Duchy of
Luxembourg for the Avoidance of Double Taxation and the Prevention of Fiscal
Evasion with respect to Taxes on Income and on Capital (the “Treaty”) following a disposition of
“taxable Canadian property” that consisted of shares of a wholly-owned Canadian
subsidiary that principally derived its value from “Canadian resource
Although the formation of the Luxembourg holding company
and its subsequent acquisition of the subsidiary’s shares were tax-motivated,
the FCA stated that treaty shopping, in itself, does not trigger the
application of the GAAR. It found that the text, context and purpose of the
relevant Treaty provisions, as
mutually chosen by Canada and Luxembourg, were not frustrated by the avoidance
transactions at issue. It concluded that the tax-free result was therefore
appropriate in the circumstances.
Alta Energy Partners, LLC (“Alta US Holdco”), a Delaware limited liability company, formed Alta
Energy Partners Ltd. (“Alta Canada”)
for the purpose of developing shale oil and natural gas properties in Alberta.
A restructuring was implemented after it was discovered
that the US holding company structure exposed foreign investors to Canadian
income tax. To fix this, ownership of Alta Canada was transferred to a
newly-formed Luxembourg holding company, Alta Luxembourg S.A.R.L. (“Alta Lux”). A year
later, Alta Lux sold the shares of Alta Canada to a third party at a
It was not disputed that the shares of Alta Canada
principally derived their value from Canadian resource property and, as a
result, were “taxable Canadian property”. However, Alta Lux took the position
that the capital gain was not taxable in Canada due to the exemption set out in
Article 13(4) of the Treaty, which provides as follows:
4. Gains derived by a resident of a
Contracting State from the alienation of:
(a) shares (other than shares listed on
an approved stock exchange in the other Contracting State) forming part of a
substantial interest in the capital stock of a company the value of which
shares is derived principally from immovable property situated in that other
taxed in that other State. For the purposes of this paragraph, the term
“immovable property” does not include property (other than rental
property) in which the business of the company […] was carried on; and a
substantial interest exists when the resident and persons related thereto own
10 per cent or more of the shares of any class or the capital stock of a
The Canada Revenue Agency reassessed Alta Lux on the
basis that the Treaty exemption did not apply and raised the GAAR in the
Tax Court of
At the Tax Court of Canada, the Crown argued that the
Treaty exemption did not apply because Alta Canada did not carry on activities
in its shale property, as it was generally set aside for future drilling and
extraction. Failing that, it argued that the exemption should be applied on a
licence-by-licence basis, with
the exemption only qualifying for those sections of the resource reserve that
had drilling and extraction activities.
The Court dismissed these arguments, largely on the
basis of a government position paper that contradicted the Crown’s restrictive
interpretation, and the commercial reality of resource exploration and
development. Accordingly, it held that Alta Lux was entitled to claim the
exemption under Article 13(4) of the Treaty.
With respect to the GAAR, the parties agreed that the
restructuring of Alta Canada under Alta Lux resulted in a tax benefit and was
an avoidance transaction in the sense that it could not be said to have been
reasonably undertaken or arranged primarily for a bona fide purpose other than to obtain a tax benefit. The only
dispute was whether the restructuring resulted in a misuse or an abuse of the Income Tax Act (Canada) (the “Act”) and/or the Treaty.
The Crown argued in the affirmative because Alta Lux (i)
was created for the sole purpose of avoiding Canadian income tax on the capital
gain; (ii) was merely a conduit used to pass on the tax exemption to its
ultimate shareholders who were not entitled to claim Treaty benefits
themselves; and (iii) paid no tax in Luxembourg.
The Court ruled that there was no misuse or abuse of the
Act because, having found that the Treaty exemption applied, the Act operated
as intended (i.e., the Alta Canada
shares were “treaty-protected property” and therefore not taxable in Canada).
The Court also held that the Treaty provisions were not
misused or abused. It stated that there could be no misuse or abuse of the
Treaty exemption in Article 13(4) if Alta Lux was a resident of Luxembourg for
the purposes of the Treaty (which the Crown did not challenge) and all of the
other requirements of the exemption were met. The Court also stated that the
absence of foreign tax paid was not relevant to the GAAR analysis, and there was
no evidence to support the Crown’s claim that Alta Lux was acting as agent (i.e., a conduit) for its ultimate
Federal Court of Appeal
The only issue before the FCA was whether the GAAR
applied to Alta Lux’s use of the Treaty exemption.
The FCA rejected the Crown’s suggestion that there had
been an abuse of the Treaty, on the basis that the purpose of the Treaty
exemption was to encourage entities who have the potential to realize income
and have commercial and economic ties in Luxembourg to invest in Canada.
First, it did not accept that a Luxembourg taxpayer must
make an investment in a Canadian company in order to claim the exemption.
Second, the FCA did not accept that a taxpayer may only access the exemption if
it actually pays tax on the relevant capital gain in its country of residence.
And third, the FCA did not accept that the exemption should only benefit
Luxembourg residents who have commercial or economic ties to Luxembourg.
The FCA held that the object, spirit and purpose of the
Treaty exemption are no broader than its text, such that a Luxembourg entity
will qualify for the exemption if: (a) it is a resident of Luxembourg for
the purposes of the Treaty, (b) it holds a “substantial interest” in the
corporation the shares of which are disposed of, and (c) the value of the
corporation’s shares is principally derived from immovable property (other than
rental property) situated in Canada in which the corporation’s business is
carried on. Alta Lux having met all of these conditions, the FCA dismissed the
Of equal importance, the FCA also commented on the
Crown’s perceived abuse of Alta Lux’s treaty shopping. Although it acknowledged
that the Department of Finance has signalled that it would take steps to curb
this practice, it found that no such steps had been formally taken during the
period in dispute. The FCA further stated that treaty shopping is not, in
itself, abusive. In this regard, it cited with approval the TCC’s decision in MIL (Investments) S.A. (2006 TCC 460,
aff’d by 2007 FCA 236), which said in part that “[t]here is nothing inherently
proper or improper with selecting one foreign regime over another” and “the
shopping or selection of a treaty to minimize tax on its own cannot be viewed
as being abusive”. Instead, “[i]t is the use of the selected treaty that must
be examined.” Having found that Alta Lux used the Treaty (and, in particular,
the exemption under Article 13(4)) as the contracting states had intended, the
FCA Court concluded that the application of the GAAR could not be justified in
Although this decision is nothing short of a resounding
victory for the taxpayer, its long-term practical impact is questionable.
Importantly, this decision was made without reference to
the Multilateral Convention to Implement
Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting
(the “MLI”) and its principal
purpose test (“PPT”), neither of
which were in effect at the time of the transactions in question.
The PPT is a broad anti-avoidance rule which provides
that a benefit under a tax treaty shall not be granted if it is reasonable to
conclude that obtaining the benefit was one of the principal purposes of the
relevant arrangement or transaction, unless it is established that granting the
benefit would be in accordance with the object and purpose of the relevant
provisions of the treaty.
Furthermore, the MLI provides that all “Covered Tax
Agreements” will be amended to include the following text (which expressly
prohibits treaty shopping) in their preamble:
to eliminate double taxation with respect to the taxes covered by this
agreement without creating opportunities for non-taxation or reduced taxation through
tax evasion or avoidance (including through treaty-shopping arrangements
aimed at obtaining reliefs provided in this agreement for the indirect benefit
of residents of third jurisdictions),”. [Emphasis added.]
The MLI became effective for Canada’s tax treaties with
many countries, including Luxembourg, (a) for withholding taxes on January 1,
2020, and (b) for other taxes (including capital gains taxes), for taxation
years beginning on or after June 1, 2020 (which, for calendar year taxpayers,
would be January 1, 2021).
The MLI raises questions about its impact on the outcome of the
FCA’s decision and beyond, including the following:
If the MLI had been in effect
at the time of the Alta Canada sale, would the result have been the same?
If not, what if the Luxembourg
holding company structure had been implemented from the outset?
Will foreign courts and tax
authorities apply the PPT in a consistent manner across a common set of facts?
Although the FCA’s decision may significantly curtail the Minister’s ability to challenge treaty shopping under the GAAR moving forward, the same cannot be said with respect to the PPT. The impact of the MLI, however, may not be known until many years from now, once tax assessments make their way through court systems in Canada and abroad. In the meantime, taxpayers may need to rely on rulings and other administrative positions for guidance.
The Federal Court’s recent decision in Atlas Tube Canada ULC v MNR showcases an important advantage that lawyers bring to multi-disciplinary teams working on corporate transactions, namely solicitor-client privilege. The case instructs that, wherever appropriate, arrangements should be made to protect communications and other documents as legal advice. We recommend consulting with a tax lawyer to determine where and how this can be achieved.
The case concerned a due diligence report (the “Report”) prepared by an accounting firm for Altas Tube Canada ULC (“Altas”) in respect of a transaction that occurred in 2012.
In the course of auditing Altas for its 2012 taxation year, the Minister of National Revenue (the “Minister”) relied on subsection 231.1(1) of the Income Tax Act (the “Act”) to request a copy of the Report. Atlas refused and the Minister applied to the Federal Court for a compliance order under subsection 231.7(1) of the Act.
At the time the Report was commissioned, Atlas’s U.S. parent corporation was in the process of acquiring two corporations. The purpose of the Report was to describe and explain the tax attributes of the target corporations.
The Federal Court observed that paragraph 231.7(1)(b) of the Act requires that before issuing a compliance order for a document, a court must be satisfied that the document is not protected from disclosure by solicitor-client privilege. Holding that, among other things, the Report was not protect by solicitor-client privilege, the Federal Court decided in favor of the Minister.
The Federal Court relied on the test for solicitor-client privilege set out in Solosky v Canada, which established that a communication will be subject to solicitor-client privilege if it is a communication (i) between solicitor and client; (ii) seeking or giving legal advice; and (iii) intended to be confidential by the parties.
Reviewing the evidence, the Federal Court found that while the Report was commissioned for two purposes – the business purpose of assessing whether to proceed with the acquisition and the legal purpose of determining how to structure the transaction – ultimately the business purpose was dominant. The Federal Court concluded that the legal purpose was merely ancillary.
In addition, the Federal Court noted that Redhead established that solicitor-client privilege can extend to communication with a third party where the communication is “in furtherance of a function essential to the solicitor-client relationship or the continuum of legal advice provided by the solicitor”, but cannot be extended to communications in which a third party such as an accountant provides an opinion. The Federal Court found that the Report included an explanation of material tax exposures, an assessment of the probability that filing positions would be challenged, and an evaluation of whether appropriate reserves had been taken. In other words, the Report provided accounting opinions and as result could not draw upon Redhead’s extension of solicitor-client privilege.
Finding that the legal advice provided in the Report was ancillary to the Report’s business purpose and finding that the Report provided an accounting opinion, the Federal Court concluded that the Report was not protected by solicitor-client privilege. Accordingly, the Federal Court was able to issue a compliance order requiring Atlas to provide the Report to the Minister.
This case serves as a reminder that, wherever appropriate, arrangements should be made to protect communications and other documents as legal advice. Taxpayers involved in corporate transactions including sensitive tax information should consult with their tax lawyer to determine what can be protected and how to do so.
On July 16, 2018, the Ontario Superior Court of Justice delivered a major victory to Canadian charities that devote all or a portion of their resources to non-partisan political activities.
In Canada Without Poverty v. Attorney General of Canada, the Court held that non-partisan political activities constitute charitable activities for the purposes of the Income Tax Act (Canada) (the Act), provided that they are carried out in furtherance of an organization’s charitable purposes. Accordingly, a registered charity may devote significantly more than 10% of its resources to such activities, contrary to long-standing Canada Revenue Agency (CRA) policy.
This decision is of particular interest to registered charities that have been the object of increased audit activity from the CRA for having engaged in political activities. Depending on the specific circumstances at issue, the decision may forge a path to a successful outcome for those involved in administrative audits with the CRA or legal proceedings before the courts.