On February 12, the Federal Court of Appeal (FCA) released its decision in The Queen v. Alta Energy Luxembourg S.a.r.l.1 (Alta Energy), a case that represents an attempt by the Canadian tax authority to relitigate the issue of whether Canada’s domestic general anti-avoidance rule (GAAR) can apply to curtail so-called “treaty shopping”.2

What you need to know

  • The FCA in Alta Energy unanimously upheld the decision of the lower court that the GAAR did not apply to deny the foreign taxpayer’s claim for a treaty-based exemption from capital gains tax arising on a sale of shares of a Canadian subsidiary that derived their value from resource properties in Alberta.
    • In the earlier decision of The Queen v. MIL (Investments) S.A.,3 the Canadian tax authority had similarly asserted that the GAAR should apply to deny treaty benefits in a treaty shopping context, without success.
  • The FCA has placed an extremely high bar on applying the GAAR to deny the benefits of an applicable tax treaty where the express requirements to access the treaty benefits are properly established.
  • Historically, Canada’s main tool to combat treaty abuse, including treaty shopping, has been the GAAR. However, the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (MLI) introduces countermeasures to prevent treaty abuse, such as the principal purpose test (PPT). The MLI is an international tax treaty that will modify the majority of Canada’s bi-lateral tax treaties to incorporate these countermeasures, with coming-into-effect dates that vary from treaty to treaty.
  • With the MLI now in effect in respect of a number of Canada’s tax treaties, notably those with Luxembourg and the Netherlands, it is unclear whether the Canadian tax authorities will look to appeal the Alta Energy decision, which solely involved the GAAR, or consider domestic legislative measures to respond to the decision.
  • The MLI will import the PPT into most of Canada’s tax treaties in respect of treaty exemptions for tax on capital gains realized in taxable periods beginning as early as June 1, 2020 (depending on the particular treaty), even if the gains accrued in prior periods. The Alta Energy decision may embolden taxpayers wishing to crystalize accrued gains prior to the coming-into-effect of the PPT, for which there is little guidance and which has yet to be tested before the courts, in reliance upon the existing treaty provisions.


Alta Energy was a private U.S.-based company with experience in developing unconventional shale reserves and financial backing from a U.S. private equity fund. Alta Energy established a Canadian subsidiary (Alta Canada) to acquire an interest in a shale development in Alberta. When it was recognized that holding the Alta Canada shares could potentially give rise to adverse U.S. tax consequences for the private equity fund, this holding was restructured by way of a transfer of the Alta Canada shares to a Luxembourg holding company (Alta Lux).

Following a short period of accumulating properties, drilling several wells and planning the construction of the necessary infrastructure for a full-scale development, the board of Alta Energy determined that market factors warranted the consideration of an exit from the project. Ensuing discussions ultimately led to a deal being consummated and Alta Lux realizing a gain of over $380 million on the sale of the Alta Canada shares to the third-party buyer.

Alta Lux took the position that the gain was exempt from Canadian capital gains tax pursuant to the provisions of the Canada-Luxembourg tax treaty. While many of Canada’s tax treaties retain Canada’s right to tax gains in respect of shares of Canadian corporations that derive their value primarily from “real property” in Canada (including resource rights), the Luxembourg treaty is one of a small number of Canada’s tax treaties that excludes from the definition of “real property” any real property that is used in the business carried on in Canada. Alta Lux was of the view that the Alberta resource rights held by Alta Canada were used in its business, such that the treaty exemption applied.

The Canada Revenue Agency (CRA) denied Alta Lux’s exemption claim, which Alta Lux appealed to the Tax Court of Canada (TCC). At trial, the Crown advanced the following two defenses in support of its position:

  • the shares of Alta Canada were not treaty-protected property on the premise that the resource assets were not sufficiently actively used in the Canadian business; and
  • the GAAR should apply as this was abusive treaty-shopping.

Notably, the Crown did not challenge the other requirements in the treaty necessary to access treaty benefits, including that Alta Lux was resident in Luxembourg and the owner of the Alta Canada shares. The TCC allowed the appeal finding that the shares of Alta Canada were treaty-protected property and that the GAAR did not apply to deny the exemption under the Canada-Luxembourg tax treaty.

The Crown appealed to the FCA, although the appeal was limited to the GAAR issue.

The FCA decision

In dismissing the appeal by the Crown, the FCA did not take the easy path of simply affirming the decision of the TCC. Instead, the FCA rendered a 33-page decision which thoroughly addressed each of the assertions made by the Crown. This thoroughness might be expected to reduce the likelihood that the Supreme Court of Canada would consider any further appeal, if the Crown chooses to seek leave to appeal.

Fundamentally, and similar to the analysis of in the MIL decision, the FCA concludes that the language of the Canada-Luxembourg tax treaty is clear and unambiguous, leaving the court unable to read in the assertion of the Crown that only a narrower class of taxpayers should be entitled to claim the benefits of the treaty.

The Crown’s attempts to distinguish between residents of Luxembourg who are “investors” in the sense of having invested funds in the particular corporation, the lack of material Luxembourg tax on the gain, and the assertion that commercial and economic ties to Luxembourg were required to take advantage of the treaty were all summarily dismissed by the court. The FCA was not prepared to impose these additional requirements or limitations where there was no support for these propositions in the textual or purposive interpretation of the relevant treaty provisions.

Simply put, if the taxpayer is a resident of a treaty jurisdiction for purposes of the treaty, that taxpayer should be entitled to the benefits of the treaty absent a specific avoidance or limitation regime within the treaty. While the court does not conclude that there could never be a case of abuse of a treaty, the threshold implied by the court seems extremely high.

Is the decision too taxpayer friendly?

While the decision of the FCA is certainly taxpayer friendly, the question may arise whether the CRA and Department of Finance may view the decision as having set the bar so high for the court to find abusive treaty shopping that a domestic legislative response may be warranted.

Abusive treaty-shopping has been an issue that has troubled CRA and the Department of Finance since before the MIL decision 13 years ago. Their level of concern is evidenced by the proposals made to introduce domestic treaty-shopping legislation in 2013, only to later retract that proposal on the basis that Canada would instead focus on the OECD initiatives, which led to the adoption of the MLI.

The question will arise whether CRA and the Department of Finance are satisfied relying upon the treaty changes resulting from the MLI, or whether they believe something more substantive is required.

A shortlived victory

While the taxpayer in the Alta Energy decision was successful, the ability to rely on treaty-based structuring opportunities has already been significantly curtailed by the MLI. As described in more detail in our earlier tax bulletin, the MLI introduces a PPT into most of Canada’s tax treaties, which will deny the benefits of the applicable treaty where one of the principal purposes of the arrangement or transaction is to obtain the benefits of the treaty. For example, if one of the principal purposes of the use of a subsidiary in a particular treaty jurisdiction is to access the benefits of that treaty, having regard to all of the facts and circumstances, then the benefits of the treaty are denied.

Canada completed the ratification process for the MLI when it deposited its instrument of ratification with the OCED on August 29, 2019, with the result that the MLI came into force for Canada on December 1, 2019. However, the MLI will only begin to modify the terms of a particular tax treaty if the MLI has also come into force for the other party to the particular tax treaty. In this regard, the MLI is now in force for a number of Canada’s treaties, including the United Kingdom, France, Luxembourg and the Netherlands. Once in force for a particular tax treaty, the MLI will come into effect in accordance with the following rules.

  • Withholding taxes: Effective for transactions giving rise to withholding taxes on payments to non-residents on or after the first day of the next calendar year that begins on or after the latest of the dates on which the MLI comes into force for each of the contracting parties to the particular tax treaty.
  • Other taxes: Effective for other taxes levied by a contracting party with respect to taxable periods beginning on or after the expiration of six calendar months from the latest of the dates on which the MLI comes into force for each of the contracting parties to the particular tax treaty.

By way of example, in the context of the Canada-Luxembourg tax treaty, the MLI (and PPT) will apply to all withholding taxes (dividends, interest, royalties, etc.) as of January 1, 2020 and will apply with respect to other taxes (notably capital gains tax) arising in taxable periods commencing after June 1, 2020. For a taxpayer with a calendar taxable period, this would mean the PPT would apply to gains realized after January 1, 2021.

While the PPT is a new concept that will presumably need to be interpreted and refined by the courts in Canada and elsewhere, one would expect that investment structures that attempt to use an entity in a jurisdiction like Luxembourg for no other reason than to access the treaty will now be concerned about their eligibility for treaty benefits. Consequently, the taxpayer victory in Alta Energy may be shortlived as the CRA will have the benefits of the PPT.

Nevertheless, for taxpayers with existing structures in jurisdictions like Luxembourg and who are considering transactions to crystallize accrued gains, the Alta Energy decision may provide comfort that such transactions should be able to rely on the existing treaty protection until the MLI comes into force in respect of gains. Why the MLI did not offer some degree of grandfathering or step up for pre-existing structures is better left for a separate debate.


1 2020 FCA 43, aff’g 2018 TCC 152.

2 Tax authorities generally regard treaty shopping as arising when a person resident in a particular country inappropriately gains access to the benefits of a tax treaty between two other countries.

3 2007 FCA 236, aff’g 2006 TCC 460.

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.