Case Comment on DAC Investment Holdings Inc. v. The King
Justice D’Arcy of the Tax Court of Canada (“TCC“) handed down last week an important decision regarding the General Anti-Avoidance Rule (“GAAR“) in DAC Investment Holdings Inc. v. His Majesty the King (2024 TCC 63).
GAAR decisions are some of the most complicated and deeply legalistic decisions that the TCC can make. They are also routinely appealed by the Crown (when they lose), so the decision of the trial court will likely not be the last we hear of this case.
The case involves a type of tax planning that has been largely overruled by recent legislation, which, strange as it sounds, goes a long way towards explaining why the taxpayer was victorious. This case addressed “Non-CCPC Planning”. There are a number of tax advantages associated with Canadian Controlled Private Corporation (“CCPC“) status, but there are also disadvantages. In this case the entity in question continued out of Canada (ending its CCPC status) just before it was about to execute on a transaction where the disadvantages outweighed the advantages of such status, and thereby slightly reduced and deferred the tax on the sale of an asset.
The GAAR is a separate section of the Income Tax Act (the “Act“)[1] designed to deny the benefits tax planning that ‘goes too far’. Although the CRA and the Crown would like the GAAR to be a sort of judicial tax ‘sniff test’; it is not, nor is the GAAR at all arbitrary.
The Supreme Court of Canada (“SCC“) has ruled in Canada Trustco that the GAAR may only be applied on a set of facts if the transaction or transactions at issue fail all three stages of a three-part test.[2] The burden of proving the failures lies on the Crown. The first two stages are relatively easy to fail; there needs to be a tax advantage or benefit incurred by the taxpayer and there has to have been a transaction or one transaction in a series of transactions for which one of the purposes was to obtain the tax benefit. Virtually every tax plan imaginable would fail these two tests, including in this case.
The core issue in almost every GAAR case is the final test, whether the transaction constitutes a “misuse or abuse” of the Act. Historically, the Crown has only won GAAR cases with respect to three specific abuses, which I refer to as the “Holy Trinity of GAAR”. The first of these commandments from the SCC is: “Thou shalt not fuck with PUC”. That is to say, if you “blow air into” or otherwise artificially increase the Paid-Up Capital (“PUC”) – the holist and most sacrosanct of all Canadian tax concepts – of a corporation by any means or over time or no matter how brilliant and technically correct your plan is, you will get GAARed.[3] The second commandment of GAAR is “Thou shalt not sell tax attributes unless expressly allowed”. This applies to any tax attribute, as a recent case illustrated with regard to investment tax credits.[4] You can sell the shares of a corporation with certain tax attributes, but in order to realize on them you must strictly qualify to do so.[5] Lastly, and perhaps the most complicated commandment to understand is “Thou shalt not beneficially rely on an anti-avoidance provision”. That is to say, if a provision of the Act is designed and intended to prevent a taxpayer from benefiting from a reduction in tax, but if you organize your facts and get the steps in the right order, so that the anti-avoidance provision winds up benefiting the taxpayer in any way, then the GAAR will apply.[6]
None of these Holy Commandments applied in this case. However, the Crown and the CRA keep trying to expand the GAAR to cover basically everything they do not like. In this particular case, the fact that the legislature specifically addressed this type of planning in a recent budget provided the taxpayer with ammunition to argue that if what they did was not okey-dokey GAAR-wise, then why did the legislature have to fix it? Which seems like a strange way to put it, but the point of the GAAR, which the SCC has made on several occasions, is not to fix loopholes or mistakes or problems with the way the Act is drafted. The objective is to stop plans that strictly comply with the wording of the Act but go against the spirit or intent of the Act. Which sounds like the same thing but is not. Effectively, if a tax plan can be prevented by just changing the legislation, then it is probably not GAARable, and the legislature can decide if it wants to stop the specific tax planning at issue or not.
The problem the Crown faces time and time again with regard to GAAR cases is that it is very difficult to discern what is the intent or objective of the Act. As a result, outside of the Holy Trinity the taxpayer usually prevails because the court can’t determine if there is any purpose or intent beyond the plain textual reading of the Act.
However, in this case, the intents and objectives of the Act are clear but were not misused or abused: if a corporation is a CCPC then it is taxed a certain way. If it is not a CCPC, then it is taxed another way. If a corporation ceases to be a CCPC then specific (generally adverse) things happen. On the facts, the taxpayer had a CCPC, then they made it not a CCPC, and then they did a transaction, and then the chips just fell where they were supposed to. Bad things happened, good things happened, but overall, on its specific facts, the corporation had to pay less tax in the year because the entity had changed status. Since the Act allowed taxpayers to change status (or at least it used to, now a plan like this would not work because the corporation would be seen as being effectively still a CCPC) then how could doing so become an abuse or misuse of the Act? More simply put, the corporation did a thing and then the Act did its thing as the policy of the Act intended. So GAAR should not apply, as the D’Arcy J. found.
Although we expect the Crown to appeal, this case seems fairly strong and as it is firmly outside of the Holy Trinity, it is therefore more likely to survive appellate review in my humble opinion.