Two tax cases have their day in high court
If you disagree with the way the Canada Revenue Agency has assessed your tax
return, you are entitled to your proverbial "day in court."
Your first avenue of appeal is the Tax Court of Canada. And if you are
unsuccessful there, you can then take your case to the Federal Court of Appeal.
If you lose at this level, however, you are not automatically entitled to
have your case reviewed by the Supreme Court of Canada. The SCC only hears cases
of "national importance" and, thus, very few tax cases actually make it to the
land's highest court.
And so it was an auspicious day in March, 2005, when the SCC agreed to hear
not one but two tax cases. After much anticipation, the decisions in these twin
appeals were released late last month and are already the talk of the town among
Canada's tax community due to the impact they will undoubtedly have on tax
planning going forward.
Given that the SCC has only heard half about a half-dozen tax cases in the
last three years, you may be wondering what tax issue intrigued the esteemed
judicial panel enough to warrant a rare hearing?
Answer: the GAAR, or General Anti-Avoidance Rule.
Never heard of the GAAR? Don't worry, you're not alone. The GAAR is one of
the more ominous, elusive and mysterious pieces of tax legislation in the entire
Income Tax Act. Many brilliant tax-filing schemes have been dreamed up by tax
experts in the past two decades, but always with the warning that "the GAAR may
The GAAR basically states that if a tax transaction is classified as an
"avoidance transaction," the Act can deny any tax benefit resulting from that
An "avoidance transaction" is a transaction that results in a "tax benefit,"
unless the transaction is carried out primarily for bona fide, non-tax purposes.
A "tax benefit" may include a reduction, avoidance or deferral of tax.
The Act also goes on to state that the GAAR will not apply to a transaction
as long as the transaction does not result in the "misuse" of a provision of the
Act or an "abuse having regard to the provisions of the Act read as a whole."
The first case, involving Douglas Mathew and several other taxpayers,
concerned a series of transactions in which accrued losses on a mortgage
portfolio were transferred from a corporation, through a partnership formed
specifically for that purpose, to several taxpayers who then claimed those
losses personally. The CRA disallowed the deduction of the losses, concluding
that the transactions were avoidance transactions, and were "an abuse of the
Income Tax Act as a whole."
This was confirmed by both the Tax Court of Canada and the Federal Court of
Appeal. Two weeks ago, the SCC agreed with the lower courts' decisions,
concluding, "the series of transactions frustrated Parliament's purpose of
confining the transfer of losses such as these to a non-arm's length
partnership." The SCC found that the scheme resulted in "abusive tax avoidance."
The second case results released last week involved Canada Trustco Mortgage
Company, a subsidiary of Toronto-Dominion Bank, and whether Canada Trustco was
entitled to claim tax depreciation on $120-million worth of trailers that it
purchased, and then leased back to the vendor in a complex sale-leaseback
The SCC ruled that the tax depreciation claimed by Canada Trustco should be
allowed and was not abusive since it did not violate the "the object, spirit or
purpose of the relevant [tax depreciation] provisions."
So what's this got to do with you? Well, the SCC made several general
comments on the future application of the GAAR, stating that the onus is on the
CRA and not the taxpayer to establish whether a transaction is abusive. If the
abusive nature of a tax transaction is "unclear, the benefit of the doubt goes
to the taxpayer."
The SCC's decision was a victory not only for taxpayers, but for tax
litigation guru Al Meghji of Osler, Hoskin and Harcourt LLP, who argued the case
on behalf of Canada Trustco. Not surprisingly, he said he was "thrilled" with
The SCC's comments should provide more certainty when courts have to decide
future GAAR cases. As Meghji adds: "GAAR is not a smell-test which allows CRA to
say we don't like this one, we like that one. It's a legal test."
GRAPHIC: Black & White
Photo: Jeff Holobitsky, Canwest News Service; Only tax appeals of national
significance are heard by the Supreme Court of Canada.