By Marissa L. Halil LLB BCL
Once again, be warned that this blog is lengthier than usual given the importance of this topic. Antle v. The Queen 2009 TCC 465 is an interesting new case released on September 18, 2009. It involved the use of a Barbados Spousal Trust to avoid Canadian capital gains tax on the sale of shares. In Antle, the taxpayer husband rolled shares with inherent gains to a Barbados Spousal Trust. The Barbados Trust sold the shares to the beneficiary wife, who then sold them to a third party purchaser. The sale proceeds from the third party purchaser were used by the beneficiary wife to pay off the Trust. The Trust made a tax-free distribution to the beneficiary wife. The Trust was then immediately dissolved. The result was no tax was payable, either in Canada or Barbados (Barbados does not impose tax on capital gains, which is where the gain arose). Justice Miller, writing for the Tax Court of Canada, found that the Barbados Spousal Trust was not validly constituted and, even if it had been, GAAR would apply to deny any tax benefits to the taxpayer husband.
Although tax practitioners will likely be disappointed by the result of this case, the news is not altogether bad. In our view, the case significantly advances the discussion on what might constitute “abuse” under GAAR. For example, the distinction Justice Miller draws between “unintended loopholes” and “policy” is fairly novel, as is the notion that one cannot necessarily infer policy from an omission by Parliament to enact anti-avoidance rules. Whether or not one agrees with the ratio of Justice Miller in this decision, cases such as these add depth to the GAAR discourse and represent a step in the direction of having a GAAR which is more easily applied and predicted.
Furthermore, Justice Miller’s approach was laudable in that he appears to have carefully substantiated his conclusions on abuse.1 He stopped short of applying GAAR to the Barbados Trust, because going down that route would be “unreceptive to analysis”. On this point, he writes:
To suggest one can cobble together some policy underlying the interplay between Article XIV of the Treaty and the Income Tax Act provisions at issue is to provide fodder perhaps for academics, but it is, with all due respect to the drafters of both, an attempt to create an object, spirit and purpose – policy if you will – where none was contemplated. Certainly, no such policy was pointed out to me. Article XIV is what it is. [our emphasis]
Justice Miller thus appears to be introducing the notion that, in some cases, no policy is contemplated beyond the text of a provision itself. This represents a welcome development for tax planners. Indeed, if certain provisions lack an underlying policy beyond the text of the provision itself, then there can be no abuse of such provisions where the letter of the law is met.
Of less appeal to tax practitioners is Justice Miller’s reliance on a broadly worded, and by his own admission, “overarching” policy of the OECD that tax conventions – generally – are to prevent tax avoidance and evasion.2 Whether this violates the prescriptions of Canada Trustco,3 namely, that the judiciary should not utilize an “overarching policy” to “override the wording of the provisions of the Income Tax Act” remains to be seen.
A detailed summary of the decision, with important passages in bold, follows.
Validity of Trust
The Court examined whether the Barbados Trust met the three certainties, namely: certainty of intention; certainty of subject matter; and certainty of objects. The Trust failed the first test. The appropriate intention to create a Trust was found to be lacking. According to the Court, a determination of intention cannot be based on the language of the Trust Deed alone; rather the intention to create a Trust must also be evidenced in the conduct of the parties. In this case, basing itself on a number of unfavorable facts, the Court found that the taxpayer never intended to lose control of the shares in favor of the Trustee, nor did the taxpayer fully appreciate the significance of settling a discretionary Trust. The Trust was only used as a conduit to avoid tax.
The Trust also failed the second test-certainty of subject matter. Although the Trust Deed contained a statement that the subject matter of the Trust was the shares, title to those shares was never in fact transferred to the Trustee. Indeed, at all times, the share certificates were held by a third person (the person from whom the taxpayer had originally acquired the shares) until the certificates were delivered directly to the ultimate purchaser. At no point were the certificates ever delivered to the Trustee, as required under the relevant provincial legislation.
Given the Barbados Spousal Trust failed the first two certainties, it was not found to be validly constituted. The judge concluded:
“(…) there is no properly constituted Trust: the Trust never came into existence. This conclusion emphasizes how important it is, in implementing strategies with no purpose other than the avoidance of tax, that meticulous and scrupulous regard be had to timing and execution. Backdating of documents, fuzzy intentions, lack of transfer documents, lack of discretion, lack of commercial purpose, delivery of signed documents distributing capital from the trust prior to its purported settlement, all frankly miss the mark-by a long shot. (…) In short, it is not enough to have a brilliant strategy, you must have brilliant execution.” [our emphasis]
Trust a Sham?
Although the Trust was found not to be valid, Justice Miller nonetheless turned his mind to whether the Trust (if it had been validly constituted) was a sham. The notion of sham requires an element of deceit which generally manifests itself by a misrepresentation by the parties of the actual transaction taking place between them. In the case of a Trust, a finding of sham requires that both the settlor and the trustee share in the deceit. In this case, the taxpayer never intended the Trustee to have control of the shares. Moreover, the Trustee took directions from the taxpayer and failed to show any exercise of discretion. However, according to Justice Miller, such facts did not amount to a finding of intentional deceit as required by the doctrine of sham. Interestingly, Justice Miller agreed with the appellant’s submission that a tax motivation does not create a sham. Moreover, he agreed that the retention of power by a settlor to direct or influence trust investments does not result in sham.
In applying GAAR, the Court quickly concluded there had been a tax benefit and an avoidance transaction. The Court then spent the next 15 pages considering whether the Barbados Spousal Trust strategy had been abusive within the meaning of subsection 245(4). As mandated by the Supreme Court in Canada Trustco, the Court purported to apply the unified textual, contextual and purposive approach in finding the object and spirit of the provisions of the Act or Treaty relied upon by the taxpayer to obtain the tax benefit. The Court specifically considered the object and spirit of the provisions relied upon by the taxpayer – section 73, paragraph 94(1)(c), paragraph 110(1)(f) of the Act, and Article XIV(4) of the Treaty – but also the provisions circumvented by the taxpayer, being the attribution rules in sections 74.1 to 74.5.
According to Justice Miller, the policy underlying subsection 73(1) of the Act is to recognize that spouses are a single “economic unit” by allowing a tax-deferred rollover of property between them. Viewed in the context of the spousal attribution rules contained in subsection 74.2(1) of the Act, Justice Miller found that the object, spirit and purpose of the rollover/attribution regime is to ensure that gains are taxed when property leaves the marital unit.4
Justice Miller went on to consider the policy underlying paragraph 94(1)(c). (Paragraph 94(1)(c) was relevant because it deemed the Barbados Spousal Trust to be resident in Canada, which allowed the taxpayers to take advantage of the subsection 73(1) rollover, as that provision read at the time). Basing himself on Finance Technical Notes, he noted that paragraph 94(1)(c) is an anti-avoidance rule designed to prevent Canadian residents from deferring or avoiding Canadian tax by holding property in a non-resident Trust established for the benefit of Canadian resident beneficiaries.
The Barbados Spousal Trust then claimed the exemption in Article XIV(4) of the Canada-Barbados Treaty, pursuant to which the share sale would only be taxable where the trust-alienator was resident (Barbados). Paragraph 110(1)(f) of the Canadian Act further clarifies that amounts exempt from tax in Canada because of a tax treaty are to be deducted from a taxpayer’s income in the year. The Court noted that the purpose of Article XIV(4) of the Canada-Barbados Treaty and paragraph 110(1)(f) of the Act was to exempt from Canadian tax gains realized by Barbados residents on the disposition of capital property. However, the Court went on to look for a broader purpose of what tax treaties are generally intended to accomplish, based on OECD Commentary.5 It noted that, according to OECD Commentary, the purpose of tax treaties is to prevent tax avoidance and evasion. Importantly, the Court quoted the following examples of abuse from the OECD Commentary:
(…) for example, if a person (whether or not resident of the Contracting State) acts through a legal entity created in a State essentially to obtain treaty benefits that would not be available directly. Another case would be an individual who has in a contracting State both his permanent home and all his economic interests, including a substantial shareholding in a company of that State, and who, essentially in order to sell the shares and escape taxation in that State on the capital gains from the alienation (…), transfers his permanent home to the other Contracting State, where such gains are subject to little or no tax. [our emphasis]
In light of the above, the Court applied GAAR to Mr. Antle, the Canadian resident taxpayer. The Court stated in this regard:
(…) by relying on paragraph 94(1)(c) to deem the Trust to be a Canadian resident to take advantage of the subsection 73(1) rollover, and then escaping Canadian tax liability by invoking paragraph 110(1)(f), (…) Mr. Antle has blatantly frustrated the object, spirit and purpose of the rollover/attribution regime. (…)
It is an outcome that subsection 73(1), the attribution rules and paragraph 94(1)(c) specifically sought to prevent; that is, the marital unit cannot escape liability by using an offshore trust. (…)
Further, the outcome also defeats the underlying rationale of these particular provisions and indeed Canada’s policy of taxing capital gains generally. Canadian residents and deemed residents are to be taxed on their capital gains in Canada. Rules to capture the gain on disposition of capital property by the marital unit, in keeping with the Canadian policy, are rendered meaningless simply by finding a willing Barbados Trustee.
However, the Court would not go as far as to apply GAAR to the Barbados Trust itself. In this regard, the Court writes:
To apply GAAR to the Trust itself would require identifying the spirit, object and purpose of the Treaty provision (Article XIV) or to identify the policy of that Treaty provision together with the relevant Income Tax Act provisions read as a whole. The former analysis is not difficult: for the most part gains on disposition of movable property are to be taxed in the alienator’s country of residence. There is no further object or purpose to be found – it is clear from the provision itself. The latter analysis is not so straightforward. Indeed, it is, I suggest unreceptive to analysis. To suggest one can cobble together some policy underlying the interplay between Article XIV of the Treaty and the Income Tax Act provisions at issue is to provide fodder perhaps for academics, but it is, with all due respect to the drafters of both, an attempt to create an object, spirit and purpose -policy if you will – where none was contemplated. Certainly, no such policy was pointed out to me. Article XIV is what it is.
Finally, the Court went on to deal with a number of specific arguments advanced by the taxpayer as to why the plan was not abusive (all of which were rejected by the Court). The appellant argued, for example, that if former section 94 had applied, the Trust would have been taxable with no Treaty exemption. Under the new rules, the Trust is still taxable under paragraph 94(1)(c), but can claim the Treaty exemption in article XIV. While the Court agreed that this is how the rules operate, the legislative amendments could not used to infer that the Barbados Spousal Trust strategy was not abusive. According to the Court, the legislative amendments together with the Treaty exemption resulted in an “unintended loophole”, and that “loopholes are not policy makers”.6
The appellant argued there was no abuse in this situation because of what the Canada-Barbados Treaty does not say. Namely, the Treaty puts no limits on who can create trusts, contain no denial-of-benefits clauses, limitation-of-benefits clauses, or anti-avoidance rules that would catch such transactions. Each of these arguments was rejected by the Court for fundamentally the same reason: such omissions do not lead to the inference that there is a policy in the Treaty allowing the Barbados Spousal Trust Strategy. The appellant’s argument that the Canadian Government must have known that Canadian taxpayers could engage in such strategies because the Canada-Barbados Treaty invited them to do so was rejected by the Court. Rather, the Court was of the opinion that the Canadian Government never contemplated that tax planners would come up with such tax avoidance plans.
1. Relying for example, on OECD Commentary and Department of Finance Technical Notes.
2. The word “overarching” is used by Justice Miller to describe the OECD policy in paragraph 98 of the Antle decision.
3. 2005 SCC 54.
4. The spousal attribution rule under subsection 74.2(1) of the Act provides that any gain in a disposition of the property transferred to a spouse or a spousal trust is deemed to be the gain of the transferor.
5. Crown Forest Industries Limited 95 DTC 5389 (SCC) was relied on to consider OECD Commentary in interpreting a Tax Treaty.
6. The taxpayer – appellant made a similar argument with respect to section 73. The appellant argued that by enacting “no section 94 Trust” rule for purposes of the section 73 rollover, effective after 1999, it was apparent there was no policy before that time ensuring the Trust had to be created in Canada. The Court rejected that argument for the same reason as above. The Court stated that the Government of Canada was obviously reacting to close when it perceived to be a loophole.