Yesterday, the Supreme Court of Canada released the
eagerly-anticipated decision in Daishowa-Marubeni v. R. The question
before the Court was whether a reforestation obligation attached to
a timber resource property should form part of the vendor's
proceeds of disposition when the property is sold.
This decision is very significant in Canada since land
rehabilitation costs are common to all extraction related
industries, including oil & gas and mining. It is clear
from the Court's decision that future expenses that may be
obligated by statute, regulation or government policy should not
form part of proceeds of disposition. However, it is
important to note that the Court did not restrict their finding to
the fact that a reduction in the purchase price had to be derived
from statute, regulation or government policy. The real
question is whether certain land rehabilitation obligations may be
inextricably tied to a given property.
Writing on behalf of the Court, Justice Rothstein begins his
well-reasoned analysis by asking the tongue-in-cheek question,
"If a tree falls in the forest and you are not around to
replant it, how does it affect your taxes?"
In a nutshell, Daishowa-Marubeni International Ltd.
("Daishowa") assigned forest tenures located in Alberta
which included a license to cut timber from certain provincial
Crown lands as well as reforestation and silviculture obligations
with respect to these lands pursuant to forest management
agreements signed with the Alberta government. While the
parties agreed on a price of $180 million for the forest tenure
assignment, the sale price used in the agreement was discounted to
$169 million to reflect the cost of anticipated reforestation
obligations estimated at $11 million. Daishowa reported
proceeds of disposition for tax purposes of $169 million.
The Minister of National Revenue (the "Minister")
reassessed Daishowa asserting that proceeds of disposition for tax
purposes should actually be $180 million as it cannot include a
discount for a future obligation. The Minister argued that
the reforestation obligation was akin to a mortgage on a house: if
you sell your house and the purchaser pays you cash and assumes
your mortgage, the appropriate proceeds of disposition includes the
amount of cash you received plus the amount remaining on the
mortgage the purchaser assumed on your behalf.
The Court rejected the Minister's reasoning finding that the
sale of the forest tenures was more akin to selling a house in need
of repairs: if you sell a house in need of desperate repair the
purchaser will pay you only for the current market value of the
house. The appropriate proceeds of disposition is simply the
amount paid by the purchaser, and not an amount that includes both
the amount the purchaser actually paid and an estimated amount for
the much needed repairs. In other words, the repair
obligations are simply taken into account by the parties when they
agree on the market value of the property, and thus the agreed upon
amount forms the proceeds of disposition for tax purposes.
The Court's conclusion is quite sensible: if an obligation
cannot be severed from a piece of property, the obligation should
not form part of the proceeds of disposition as it is really just
representative of a future expense.
However, the more interesting question is whether obligations
associated with a property could be embedded in the property
without there being a statute, regulation or government policy that
expressly restricts a vendor from selling the property without
assigning these obligations to the purchaser. Consider
whether contractual obligations related to future rehabilitation of
farm land that was used in oil extraction may be so physically
connected to the process of extracting oil that such obligations
cannot be separated from the property itself?
When reviewing a purchase and sale agreement it will be
important to be aware of what obligations are being assumed by the
purchaser in connection with extraction properties and decide
whether such obligations are tied to the property itself. If
it can reasonably be concluded that the obligations are expressly
tied to the property itself then it will become important to ensure
that the purchase and sale agreement reflects a single price for
the transaction, which includes the both the right to the property
and the assumption of the related obligations.
We applaud the Court for its well-reasoned decision and note it
was refreshing to see the Court inject a bit of humour into the
decision since we all know that tax practitioners are very
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The new subsection 55(2) regime has now been enacted into law. With these new rules, the ability to pay tax-free dividends amongst related Canadian corporations, once a foundational concept of the Canadian tax system, can no longer be taken for granted for dividends received after April 20, 2015.
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