Digests

Canada v. Canadian Utilities Ltd.

A-438-03, A-439-03

2004 FCA 234, Rothstein J.A.

18/6/04

27 pp.

Appeals from Tax Court's decision ([2004] 1 C.T.C. 2001) regarding meaning of term "series of transactions or events" in Income Tax Act (Act), s. 55(2)--S. 55(2) capital gain stripping anti-avoidance rule--Under rule, otherwise tax- free inter-corporate dividend deemed to arise on redemption of shares deemed to be proceeds of disposition of shares where deemed dividend part of "series of transactions or events" that results in significant reduction of capital gains realized on disposition of shares--Under exception to this rule (Part IV tax exception), deemed dividend will not be re-characterized as proceeds of disposition of shares to extent redeeming shareholder subject to Part IV tax on deemed dividend-- However, Part IV tax exception not applying if Part IV tax refunded on payment of further dividends by recipient corporation to other corporations where further dividend payments part of same "series of transactions or events" that includes initial deemed dividend--In 1995, ATCO Ltd. (ATCO), Alberta company owned by Ronald Southern, controlled Canadian Utilities Limited (CU) and Canadian Utilities Holdings Limited (CUH)--Both CU and CUH publicly traded corporations--ATCOR Resources Ltd. (ATCOR) publicly traded corporation engaged in oil and gas exploration, production, processing and marketing-- Collectively, ATCO, CU and CUH controlled ATCOR, owning 87% of voting shares of ATCOR--In May 1995, owner decided to explore possibility of selling ATCOR-- Forest Oil Corporation (Forest), potential purchaser, New York oil and natural gas company whose shares publicly traded--At all material times, ATCO, CU and CUH dealt with Forest at arm's length--By agreement entered into on December 12, 1995, Forest agreed to purchase ATCOR-- 3140334 Canada Ltd. (Newco) incorporated as wholly owned subsidiary of ATCO--ATCO held Newco's one outstanding issued share--By amalgamation agreement dated December 15, 1995, ATCOR and Newco amalgamated to form new corporation which would continue to be known as ATCOR Resources Ltd. (Amalco)--Forest incorporated 3189490 Canada Ltd. (Forest Subco), wholly owned subsidiary, under Canada Business Corporations Act (CBCA) for purpose of acquiring Amalco--In January 1996, ATCOR and Newco amalgamated to form Amalco--Under amalgamation agree-ment, one outstanding share of Newco held by ATCO converted into one common share of Amalco--By virtue of ownership of this only issued voting share of Amalco, ATCO controlled Amalco--Under Act, s. 87(4), aggregate adjusted cost base (ACB) of Amalco shares acquired by CU and CUH deemed to be equal to aggregate ACB of their respective ATCOR shares--As required under CBCA, ss. 26(3)(b) and 182(1)(c) and under Act, ss. 87(3) and 89(1), amalgamation agreement provided for aggregate paid-up capital (PUC) of Newco and ATCOR to be allocated among four classes of Amalco shares--On January 31, 1996, Forest Subco acquired from ATCO one common share of Amalco, thereby acquiring control of Amalco from ATCO--Immediately thereafter, Forest Subco suscribed for 1,000,000 Amalco common shares for aggregate subscription price of $129,161,278--Amalco redeemed all of its Class A and B shares for redemption proceeds of $4.88 per share for total of $129,161,278--Forest Subco then acquired all outstanding Amalco Class C shares at $4.88 per share for total of $56,805,527.76--CU paid dividends on common shares since 1950, and fixed rate dividends on preferred shares--CUH paid dividends on preferred shares--Referred to as "normal course dividends"-- CU, CUH deducted deemed dividends in respect of redemption of Amalco shares equal to amount paid on redemption less PUC--Treated entire amount of deemed dividends as assessable dividends subject to Part IV tax-- Offset Part IV tax liability by claiming dividend refund-- Minister reassessed on ground s. 55(2) applied to deemed dividend--Trial Judge of opinion payment of normal course dividends not part of ATCOR/Forest series of transactions that gave rise to dividends deemed to have been received by CU and CUH on redemption of Amalco shares--As result, concluded s. 55(2) not applicable because CU and CUH subject to Part IV tax and because refunds of Part IV tax occasioned, not as part of ATCOR/Forest series of tran-sactions giving rise to deemed dividends and significant reduction in capital gains, but by independent transactions-- Trial Judge also held appeal would have succeeded on basis nothing in Act required pro rata allocation of Part IV tax refunds as between dividends paid to corporations and dividends paid to individuals when dividends paid to both-- Therefore concluded CU and CUH could allocate normal course dividends in manner most beneficial to them--To degree dividends allocated to individuals, Part IV tax exception in s. 55(2) would apply--As "series" not defined in Act, common-law definition of "series" considered --In OSFC Holdings Ltd. v. Canada, [2002] 2 F.C. 288 (C.A.) Court adopted "preordination test" to determine whether series exists at common law, i.e. each transaction in series must be preordained to produce final result-- Preordination meaning when first transaction of series completed, all essential features of subsequent transaction determined by persons who have firm intention, ability to implement them--OSFC "adopting House of Lords approach" in Craven v. White, [1989] A.C. 398 (H.L.)--But four factors in Craven v. White do more than define series--Craven v. White factors are common-law code for determining not only whether series exists, but also when legal effect of intermediate transaction in series, which has no other purpose than tax avoidance and which not intended to have any independent life, may be ignored--Thus second and third parts of four-part test not concerned with when individual transactions sufficiently connected that court may consider them as having composite effect they were intended to have--Rather, they are concerned with whether one transaction in series inserted solely for tax purposes, and, as matter of judicial anti-avoidance, should not be given what would otherwise be its legal effect--As Canadian approach statutory rather than judicial anti-avoidance measures, inappropriate to import in entirety common-law test--Adoption of approach described in OSFC means adoption of preordination test for determining whether series of transactions exists at common-law--Only necessary to determine whether each of transactions in alleged series preordained (as defined in OSFC) to produce final result and whether those preordained transactions did in fact take place--Trial Judge should not have considered second and third parts of test set out in Craven v. White in determining whether ATCOR/Forest series of transactions and normal course dividends together constituted common-law series--Furthermore, trial Judge added to test for determining existence of series, requirement not existing at common- law--In trial Judge's view, fact transactions preordained to occur and do in fact occur not sufficient to make them part of same series--Transaction can be part of common-law series if it has genuine independent purpose and existence--In Canada, common-law series only requires, when initial transaction completed, subsequent transaction or transac-tions needed to avoid tax have been determined by those persons who have firm intention and ability to implement them and that all of those transactions do in fact occur--In proposing series, Minister may choose whatever transactions he considers relevant--If it is determined they were preordained to occur and did in fact occur, they will constitute series of transactions for purposes of s. 55(2)--Once series determined, whether s. 55(2) applies will turn on whether one of purposes of series to effect reduction in capital gains that otherwise would have been realized--Trial Judge found as fact that both ATCOR/Forest series of transactions and normal course dividends preordained--Fact CU and CUH intended to use both ATCOR/Forest transactions and normal course dividends to achieve tax avoidance objective, that they had ability to ensure all transactions would occur, and all transactions did indeed occur as intended sufficient to constitute them all part of common-law series for purposes of s. 55(2)--Of no consequence one or more of transactions had independent purpose and existence--Merely finding series existed not meaning s. 55(2) applied--Other requirements of provision, including requirement one of results of series be significant reduction in amount of capital gains that would otherwise have been realized, still had to be met--Here, however, no dispute they were--As to pro rata allocation of dividends giving rise to Part IV tax refunds, CU and CUH paid normal course dividends to both corporations and individuals--As result, they were entitled to dividend refund under Act, s. 129--Minister submitting, for purpose of determining extent to which Part IV tax exception in s. 55(2) applies, it must be determined what proportion of total dividends paid to corporations and to individuals--Minister says subset of dividends needed to refund Part IV tax must be apportioned in same proportions between individuals and corporations-- Minister's argument simply not supported by language of Act --Nothing in s. 129(1) suggesting when dividends paid both to individuals and to corporations, dividend refunds to be allocated on pro rata basis between them--Parties agreed, if Minister's pro rata argument rejected, CU paid sufficient amount of normal course dividends to individuals in 1996 taxation year to entitle it to refund of all Part IV tax--As to CUH, it did not pay sufficient dividends to individuals in 1996 and 1997 to entitle it to full refund of Part IV tax--Normal course dividends paid to individuals in CUH's 1996 and 1997 taxation years should be deducted from deemed dividend attributable to CUH to arrive at amount of deemed dividend to be treated as capital gain for purposes of s. 55(2)--In respect of series issue, Minister's appeal allowed--As to allocating dividends paid bu each CU and CUH on pro rata basis, Minister's appeal dismissed-- Income Tax Act, R.S.C., 1985 (5th Supp.), c. 1, ss. 55(2), 87(3) (as am. by S.C. 1994, c. 7, Sch. VIII, s. 37), 89(4), (as am. idem, Sch. II, s. 67; c. 21, s. 42), 129(1) (as am. by S.C. 1994, c. 7, Sch. VIII, s. 73; 1996, c. 21, s. 32; 1998, c. 19, s. 154)--Canada Business Corporations Act, R.S.C., 1985, c. C-44, ss. 26(3), 182(1).