Case Comment on Chad v The King

Transactions for loss
Not seeking to make profit
No Income exists

Justice Sommerfeldt of the Tax Court of Canada (“TCC”) handed down last week an important decision regarding transactions designed to generate losses in Chad v. The King, 2024 TCC 142.

The case involved the Appellant paid $240,000 to a UK brokerage firm to make a series of foreign exchange (FX) transactions designed to create a loss a $22 million loss. The overall purpose of the transactions was to defer taxes by claiming the loss in one year to offset potential gains that year, while generating a gain in a subsequent year. The Appellant achieved their goals by generating a foreign exchange loss in 2011, in which they claimed a portion on their taxes as business loss and generated almost symmetrical forex gains in 2012. There was an overall gain on the of $6,200 on the two transactions, but a total net loss after expenses were taken into account.

The Crown brought multiple arguments, including that the transactions were a sham and that the contracts between the Appellant and the brokerage firm were not legally effective. However, both of these claims were rejected. The true significance of this case lies in the third argument: whether the source of income was defined business income under the ITA.

The test for source of income comes from Stewart v. The Queen, 2002 SCC 46; specifically, the Supreme Court of Canada stated that

“whether or not a taxpayer has a source of income from a particular activity is determined by considering whether the taxpayer intends to carry on the activity for profit, and whether there is evidence to support that intention”.[1]

In Chad, the evidence showed that the transaction for 2011 was not for the purposes of creating a profit. Therefore, Justice Sommerfeldt concluded that the transactions were not business income because they could not be categorized as activity for profit. This decision meant that the Appellant could not claim losses from the 2011 transactions, nor could the Appellant claim the $240,000 brokerage fee as business expense for the year.

The implications of Justice Sommerfeldt’s decision in are significant for those considering similar tax strategies. By ruling that the transactions were not undertaken with a profit motive, the TCC highlighted the importance of determining the true objective intent in any activity as either being for the purposes of earning potential income vs. transaction solely intended to, or indeed guaranteed to, generate losses in a year for tax purposes. Individuals who engage in transactions that are primarily designed to create artificial losses may find themselves exposed to scrutiny from the Canada Revenue Agency, potentially leading to denied claims and financial penalties.

This case serves as a cautionary tale, highlighting the need for a careful review tax planning strategies by lawyers with up-to-date knowledge of case law. Individuals must ensure that their activities are substantiated with evidence of intent to earn a profit, as failure to do so can result in significant adverse consequences. The ruling not only limits the ability to offset gains with claimed losses but also raises questions about the deductibility of associated expenses, such as brokerage fees. If you or your business has been involved in structures that have been sold to you on the basis that they will generate guaranteed losses to offset gains or income, reach out to us here at Dominion Tax Law at any time to discuss your options.

[1] As stated in Chad, at para. 113.