The SCC released its decision in Copthorne Holdings Ltd. v. Canada on Dec. 16, 2011, dismissing the taxpayer’s appeal and holding that the general anti-avoidance rule in s. 245 of the Income Tax Act applied to a series of transactions entered into by a corporation of which the taxpayer was a part. The transactions had the effect of duplicating cross-border paid-up capital. PUC can be a valuable tax attribute because Canadian tax rules allow a corporation to return PUC to a non-resident shareholder without withholding tax.
Speaking as part of a recent panel discussion at the University of Toronto entitled “Copthorne Holdings Ltd. and the Future of the GAAR,” Phil Jolie, director general of the Canada Revenue Agency, said that while he found the decision to be a good one, it won’t change things at the CRA.
“There’s nothing new in it in a big way; it will not influence CRA’s interpretation of future events in any major way and it probably will not influence our decisions on prior cases in any meaningful way. It was almost too easy — they doubled the PUC in a short period of time and in pulling it out, it was easy to track the money.”
Copthorne I was incorporated under Canadian law to acquire a hotel in Toronto. It had nominal PUC and its shares were owned by a Dutch company (Big City Project Corporation B.V.) controlled by Li Ka-Shing. Copthorne I realized a significant capital gain on the sale of the hotel in 1989. The proceeds of the 1989 hotel sale were invested by Copthorne I in Copthorne Overseas Investment Ltd. (COIL), a wholly owned Barbados corporation that carried on an active bond-trading business.
VHHC I was a Canadian corporation incorporated by Li Ka-Shing’s son Victor. Victor and related entities capitalized VHHC I with $97 million and VHHC I used $67 million of this capital to invest in the share capital of VHHC II, another Canadian corporation. VHHC II used the $67 million to invest in shares of Husky Oil Ltd., which by the end of 1991 had significantly declined in value.
So, the PUC was used to permit the non-resident to withdraw $142 million from Canada free of withholding tax.
Copthorne is the fourth case in which the SCC has considered the application of the GAAR. While earlier cases were also unanimous, the SCC’s third GAAR decision in Lipson v. Canada in early 2009 was a split decision with three separate sets of reasons and a strong dissent.
“I like to think they are circling in on some kind of stable way of thinking about the GAAR,” says Benjamin Alarie, associate dean at U of T’s Faculty of Law. “The Supreme Court rehashes again that there are three necessary steps to applying the GAAR. First you need to establish that there is a tax benefit; you need to find an avoidance transaction, and the most difficult part is to link it to misuse or abuse.”
In fact, in his written decision, Justice Marshall Rothstein noted that: “The most difficult issue in this case is whether the avoidance transaction was an abuse or misuse of the Act. The terms abuse or misuse might be viewed as implying moral opprobrium regarding the actions of a taxpayer to minimize tax liability utilizing the provisions of the Income Tax Act in a creative way. That would be inappropriate. Taxpayers are entitled to select courses of action or enter into transactions that will minimize their tax liability (see 1936’s Inland Revenue Commissioners v. Duke of Westminster).”
Donald G.H. Bowman of Fraser Milner Casgrain LLP and a former chief justice of the Tax Court of Canada also spoke at the session and praised Rothstein for the decision and the fact the ruling was unanimous.
“Perhaps the most remarkable thing about the Copthorne case is we’ve got nine judges together all agreeing on one judgment. Compare what they did in Lipson — they all jumped on their horses and rode off madly in all directions,” said Bowman. “I think it’s a credit to Chief Justice [Beverley] McLachlin that she managed to say, ‘Look guys, you didn’t look too great in Lipson, did you? So try and get your act together.’”
Bowman says the decision reaffirms several aspects of the GAAR as examined in previous cases — the methodology in Canada Trustco Mortgage Co. v. Canada and the interpretation of “in contemplation of.”
“I think Mr. Justice Rothstein’s decision on behalf of the Supreme Court is a well written and sensible judgment,” he says. “I suppose that interpreting ‘in contemplation of’ makes a certain amount of sense and gives consistently to the interpretation, but it’s certainly not the interpretation I would have drawn on as a matter of common sense. If I draft a will, I’m doing it in contemplation of dying. But if I die, I certainly didn’t do it in contemplation of having drafted the will.
“I’m saying despite the respect I have for Justice Rothstein and the Supreme Court, to say there is no subjective element or smell test in s. 245 is unrealistic,” said Bowman.
Most experts on the panel said they didn’t see the decision as a “particularly earth-shattering judgment.”
“Some people have said that maybe when [the Department of] Finance reflects on the Copthorne decision will they think the paid-up-capital system isn’t quite doing what they think it ought to do?” says Robert Couzin of Couzin Taylor LLP. “I don’t think this is a particularly exciting judgment; I don’t think it’s going to change people’s GAAR analysis.”