Canada: Rescission Remedy Takes A Step Sideways In JAFT

Last Updated: September 30 2015
Article by John Sorensen

On Aug. 20, 2015, the Manitoba Court of Appeal ("MCA") dismissed the appeal in the JAFT Corp v, Jones et al.1 rescission case. The application judge declined to exercise jurisdiction on the basis of parallel proceedings in the Tax Court of Canada ("TCC") and her alternative position that rescission was not available in any case. The appellants, JAFT Corporation ("JAFT") and two individuals who were directors, shareholders and employees, unsuccessfully appealed to the MCA.  A third employee was a respondent who did not oppose. The Attorney General of Canada intervened, opposed, and was successful in the application and on appeal.

The TCC appeals concerned CRA third party assessments for source deductions. The rescission application sought to have employment contracts and compensation rescinded for 2005 and 2006. The three employees worked for JAFT between 2003 and 2006. They agreed in 2004 that they would be paid if/when their work met the requirements of the SR&ED program. It was agreed that if a claim was denied, their compensation was to be repaid to JAFT. The 2003 and 2004 SR&ED claims included salaries that were payable but unpaid which would be paid out when the SR&ED funds were received. The CRA audited those SR&ED filings and took the position that contingent salaries could not be part of a claim. Consequently, to address this concern, JAFT paid salaries in 2005 and 2006. However, JAFT was not able to pay salaries in 2005 and 2006. Therefore the salaries were paid without source withholdings and immediately loaned back to JAFT. The expectation was that source deductions could be remitted when the SR&ED tax credits were received. However, JAFT's 2005 and 2006 SR&ED claims were denied, leading to notices of objection being filed with the CRA.  The notices of objection were not appealed, but third party assessments for source deductions were appealed to the TCC.

In 2007, the loans to JAFT were repaid, the employees refunded their compensation, and the company sought to amend T4s to eliminate the salaries paid out. The CRA assessed JAFT and two directors for source deductions and refused to accept amended T4s. Further, personal deductions for repaid salaries were denied. The rescission application was commenced on the basis that the tax liabilities were unexpected, unforeseen and unintended, since the parties believed they would receive SR&ED tax credits for 2005 and 2006 and that unremitted source deductions would have been covered by SR&ED tax credits. JAFT argued it would not have paid salaries if it knew its SR&ED claims would be denied and thought that salaries could be later reversed if necessary.

The Crown argued that JAFT was seeking to circumvent the TCC process. This raised a jurisdictional question: the Crown argued that the TCC may make ancillary findings to determine tax appeals, including determining legal rights between parties in the course of determining the correctness of an assessment. JAFT argued that the TCC lacks equitable jurisdiction and the application was not meant to circumvent the TCC. The application judge stated that Courts should be reluctant to exercise jurisdiction where the TCC has parallel jurisdiction and agreed that the TCC would have ancillary jurisdiction. The application judge held that rescinding the employment contracts would have an effect on JAFT's pending TCC appeals and refused to grant rescission. 

The application's judge was correct that the TCC makes ancillary determinations to determine the correctness of an assessment, assuming a court of competent jurisdiction had not already ruled. However, respectfully, the application judge's reasoning may be criticized: had the judge granted rescission, the TCC would have been bound – and bound by a determination it could not make. While the merits of the rescission application may have been lacking, in my respectful view the application judge should have exercised her jurisdiction.

Although the application was determined on jurisdictional grounds, the application judge also considered the rescission argument. The judge confirmed that the equitable doctrine of rescission is broader than the common law doctrine of void ab initio, and also confirmed the availability of rescission in Canadian law. However, the judge relied on the rectification case 771225 Ontario Inc. v. Bramco Holdings Co.2 to confirm that Courts will not rewrite history to allow more favourable tax treatment. In the application judge's view, the applicants in JAFT did not intend the taxation results they sought. However, they did contemplate that their SR&ED claims could be reduced or denied and the employment agreements contemplated what would occur if claims were denied. The problem was that JAFT did not withhold and remit source deductions as required and chose to pay salaries without remittances, despite acknowledged uncertainties. The application judge held that JAFT was closer to Bramco than to other leading cases and the relief was more a matter of hindsight rather than intention – thus, the relief was retroactive tax planning.

On appeal to the MCA, the Crown argued that rescission is discretionary and the judge correctly exercised her discretion. The MCA held a discretionary decision is reversible when a Court misdirects itself, arrives at a decision that is so clearly wrong that it amounts to an injustice, or where a Court gives insufficient or no weight to relevant matters. The MCA summarized case law regarding jurisdiction in cases that touch on tax assessment litigation:  courts should be cautious with parallel litigation because the integrity of the assessment litigation system should be preserved; incidental litigation should not be used to circumvent the assessment litigation system that was set up by Parliament; if there is no dispute between the parties other than an underlying dispute with the CRA, this suggests incidental litigation intended to influence a TCC appeal; and judicial economy dictates that parallel proceedings should be discouraged.

The MCA confirmed the TCC does not have equitable jurisdiction, but may fashion alternative remedies: thus, the TCC could rule on whether the salary transactions and agreements between JAFT and the employees should be upheld. In the MCA's view, the TCC has broad powers to determine assessments including the validity or legal effect of a transaction and it does not matter whether the TCC can grant remedies such as rescission as long as it can grant adequate, if imperfect, remedies. The MCA cited commentary for the proposition that the TCC can decide a case as though the underlying transaction had been rectified. The MCA summarized the jurisdictional question as follows:

... the issue at the heart of this matter is whether the tax assessment is correct and the tax liability is owing. This is a matter for the Tax Court, which is a specialized court created by Parliament with expertise in tax matters. The application here was contrary to the principle of judicial economy as, whatever the outcome in the Court of Queen's Bench, the appeal of the tax assessments must still be heard by the Tax Court. Finally, while the Tax Court cannot grant an order of rescission that will be effective for all purposes, it can rule on the validity of the employment contracts, the development agreement and the salary transactions as part of its role in determining whether the tax assessments are correct. It will then use those determinations to decide whether to dismiss the appeal, vary or vacate the tax assessments or refer the matter back to the Minister. This, in my view, is an adequate alternative remedy.

JAFT has ramifications not only for the private bar, but also for Crown counsel, for the following reasons.

Private practitioners know that seeking rescission or rectification while objections are outstanding is acceptable and the CRA will hold objections in abeyance pending recission or rectification. However, after JAFT one may reasonably be concerned about whether a Superior Court would entertain an application seeking rescission or rectification after TCC proceedings are instituted. Thus, the decision to seek equitable relief should be made early in the dispute resolution process and likely before a TCC appeal is instituted.

On the other hand, although the Crown won JAFT, it may have opened a Pandora's box and with respect the MCA may have muddied rather than clarified the law. Rather than take the dangerous route of seeking equitable relief in the Superior Courts, taxpayers with pending TCC appeals may more frequently argue that they are not bound by mistaken transactions the results of which did not accord with their true intentions, without relying on equitable principles. If the TCC accepts the JAFT challenge and adopts a practice of disregarding transactions with unintended consequences (despite well-established principles of form over substance and the parol evidence rule) then Canadian tax law would enter a new, fuzzy phase of assessment litigation during which new principles of quasi-equitable TCC assessment litigation would be fashioned. On the other hand, if the TCC maintains a strict approach and holds taxpayers to the outcome of mistaken transactions, then taxpayers would be forced into the untenable position of not being able to rescind or rectify mistakes and not being able to obtain alternative relief in the TCC.

One wonders what the Crown will argue in the TCC appeal of JAFT and whether its argument will contradict its position in the JAFT rescission case. Stated another way, a skeptic might expect the Crown to argue in the TCC that the taxpayers were bound by their agreements and that Canadian tax law respects form and the integrity of contracts. A skeptical practitioner might expect the Crown to strenuously argue against the TCC fashioning faux equitable remedies in future litigation. In my respectful view, the TCC should accept the MCA decision in JAFT, as strongly argued by the Crown, and respectfully remind the Crown in each and every future case that the TCC has accepted its incidental jurisdiction with vigor – and thus fashion its own body of law around incidental "rectification" and "rescission" in assessment litigation.

Footnotes

1 2015 MBCA 77, on appeal from JAFT Corp. v. Canada (A.G.), 2014 MBQB 59 (collectively, "JAFT").

2 (1995), 21 OR (3d) 739 (CA) ("Bramco").

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Topics
 
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions