Canada: Subsequent Legislative Changes Not A Basis To Find Abusive Tax Avoidance

Last Updated: November 9 2016
Article by Steven Baum

Most Read Contributor in Canada, October 2018

In Oxford Properties Group Inc. v. The Queen1, a case involving the application of the general anti-avoidance rule (GAAR), the Tax Court undertook a helpful review of the relevance of subsequent legislation in carrying out the abuse analysis under subsection 245(4) of the Income Tax Act (Canada) (ITA).

The facts of the case involved a fairly complex 'package and bump' transaction. In summary, BPC Properties Ltd. (BPC) entered into an agreement in 2001 to acquire the shares of a predecessor of Oxford Properties Group Inc. (Oxford).  As part of that agreement, Oxford agreed to undertake certain pre-closing reorganizations that might be requested by BPC.  To that end, Oxford transferred certain real property to newly established limited partnerships (First LPs) on a tax-deferred basis under subsection 97(2).  Following BPC's acquisition of Oxford and a subsequent amalgamation, the adjusted cost base (ACB) of the First LP interests were increased to fair market value pursuant to paragraph 88(1)(d) of the ITA.

Between 2002 and 2004, after the share acquisition and initial 'bump' transactions, new second tier limited partnerships (Second LPs) were created by the First LPs and specific individual real estate projects were transferred to the Second LPs, again utilizing the tax deferral provided by 97(2).  Subsequently, the First LPs were dissolved under subsection 98(3) of the ITA and the ACB of Oxford's interest in the Second LPs were 'bumped' pursuant to paragraph 98(3)(c) of the ITA.

Finally, in Oxford's 2006 taxation year, three of the Second LPs were sold to tax exempt purchasers.

The Canada Revenue Agency (CRA) reassessed Oxford, increasing the gain (or reducing the loss) on the sale of the Second LP interests, under GAAR, alleging that the reorganization transactions abused subsections 97(2), 88(1), 98(3) and 100(1) of the ITA by indirectly 'bumping' depreciable property.

In the context of the three-step GAAR analysis, Oxford conceded that the relevant transactions gave rise to tax benefits and that they included avoidance transactions.  Oxford did, however, unsuccessfully argue that the eventual sale of the Second LPs to the tax exempt purchasers was not part of the series,  D'Arcy, J., relying in large part on the decision in Copthorne Holdings Ltd. v. Canada2, rejected this argument.

Having dealt with the first two steps of the GAAR analysis, the Court proceeded to consider whether any of the relevant provisions were abused by the transactions.  In a clearly reasoned analysis, Justice D'Arcy ultimately found in favour of the taxpayer.  While the overall subsection 245(4) analysis of each of the relevant provisions by the Court is interesting, the key focus of this commentary is how the Court dealt with the relevance of the 2012 addition to the ITA of new subparagraph 88(1)(d)(ii.1).  Based on the Department of Finance Technical Notes and the 2012 Federal Budget, in which the proposal that led to the enactment of subparagraph 88(1)(d)(ii.1) was first announced, the rule was designed to prevent certain indirect 'bump' transactions.  As stated in the 2012 Federal Budget (Supplementary Information):

In recent years, corporate partnership structures have been used with increasing frequency to attempt to circumvent the denial of the section 88 bump in respect of a Subsidiary's income assets. Instead of the Subsidiary holding income assets directly, the income assets are held indirectly through a partnership. Upon the acquisition of control of the Subsidiary, the Parent amalgamates with, or winds up, the Subsidiary and then claims an increase (or "bump") to the cost of the partnership interest, even in circumstances where all of the fair market value of the partnership interest is derived from income assets.

A second concern arises in respect of section 100 of the Income Tax Act, which is meant to ensure that income assets held by a partnership are fully taxable on the sale of the partnership by a taxpayer to a tax-exempt person (since the tax-exempt person could wind up the partnership without paying any income tax). This rule does not currently apply to a sale of a partnership to a non-resident even though the income from a disposition of an income asset owned by the partnership may be exempt from Canadian income tax under either domestic law or one of Canada's tax treaties. As well, some taxpayers have sought to take advantage of the fact that section 100 does not expressly refer to indirect sales of partnership interests to a tax-exempt person.

The Canada Revenue Agency challenges these partnership structures where appropriate under the existing provisions of the Income Tax Act, including the general anti-avoidance rule. However, specific legislative action is warranted to explicitly prohibit the use of these and similar structures.

As noted, the CRA's main argument was that the assets could not be transferred to a partnership, 'bumped' and then sold to a tax exempt as that is abusive of the 'bump' provisions in subsections 88(1) and/or 98(3) since it allows an indirect bump of depreciable property.  The Court rejected this position, as stated at paragraphs 204 and 205:

I do not accept this argument.  In my view, the Respondent is asking me to do exactly what the Supreme Court said was not permissible in Copthorne: base my finding of abuse on a broad policy statement that the so-called "indirect" bumping of depreciable property is not permitted under the Act, without attaching the policy to specific provisions of the Act.

I cannot find, on a textual, contextual and purposive analysis, that one of the objects or purposes of paragraphs 88(1)(c) and (d), subsection 98(3) or any other provision of the Act that is relied upon by Respondent is to establish an "indirect" bumping rule or, for that matter, a latent recapture rule that, as envisaged by the Respondent, applied when the partnership interests in the First Level LPs and Second Level LPs were bumped.  Nor do I accept that one of the objects or purposes of paragraph 88(1)(c) and subsection 98(3), as they read during the relevant periods, was to reduce or deny the bump on the basis of the nature of the assets held by the partnerships. [citations omitted]

D'Arcy, J. acknowledged that a potential policy to prevent indirect 'bumping' of depreciable property could be found in the subsequently added subparagraph 88(1)(d)(ii.1).  As he stated, at paragraphs 210 and 211:

The legislative scheme that the Respondent is looking for exists in the current version of section 88, in particular as a consequence of the addition of subparagraph 88(1)(d)(ii.1) in 2012. However, in my view, the amendment reflects the adoption of a new policy by Parliament.

The amendment made substantial changes to the object of the legislation. It is not an amendment that clarified an existing objective.  In my view, it is clear from the text of subsection 88(1), as it read prior to the amendment, that the object of the subsection was to base the bump therein provided for on the fair market value of each qualifying non-depreciable asset of the subsidiary, including the fair market value of a partnership interest held by the partner.  However, this changed after the amendment, which restricted the amount by which the partnership interest may be bumped to the amount of the fair market value of the partnership that is not attributable to depreciable property, resource property and/or non-capital property. [emphasis added]

This analysis is refreshing in the context of GAAR since it has become increasingly common for the Department of Finance to propose legislative changes to the ITA to counter transactions in respect of which the CRA has already commenced challenges under GAAR.  These proposed changes often are accompanied by self-serving statements (similar to those set out above in the context of the changes to subparagraph 88(1)(d)(ii.1)) that they are a reflection existing policy that already could be challenged under GAAR.  Hopefully, the Oxford case will highlight the fact that scrutiny by taxpayers and the courts of such statements made by the CRA and the Department of Finance is always warranted to achieve fairness and predictability for taxpayers.


1 2016 TCC 2041.

2 [2011] 3 SCR 721.

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.

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