Introduction – Canadian Tax Issues Involving Agents
Agency is a legal relationship whereby parties agree that one (the agent) shall act in accordance with the direction of the other (the principal). The employee-employer relationship is perhaps the most recognizable agency relationship.
One crucial aspect about the agency relationship is that the agent's dealings are attributed directly to the principal. For example, when an agent holds property on the principal's behalf, the agent is ignored, and the property is treated as though it were held directly by the principal. Likewise, if an agent receives the principal's funds, those funds are the principal's income, not the agent's. And a principal may incur tort liability for an agent's negligent conduct.
After reviewing the legal concept of agency, this article looks at three examples in Canadian tax law where the existence of a principal-agent relationship proves significant: (i) the beneficial-owner test in Canada's tax treaties; (ii) derivative tax liability under section 160 of the Income Tax Act and section 325 of the Excise Tax Act; and (iii) the GST/HST new housing rebate under section 254 of the Excise Tax Act.
The Legal Concept of Agency
The term agency has been defined as "a fiduciary relationship which exists between two persons, one of whom expressly or impliedly consents that the other should act on his behalf so as to affect his relations with third parties, and the other of whom similarly consents so to act or so acts." (Kinguk Trawl Inc. v. Canada, 2003 FCA 85).
An agency relationship has three essential ingredients: (1) the consent of both the principal and the agent; (2) the agent's authority to affect the principal's legal position; and (3) the principal's control over the agent's actions. (Royal Securities Corp. Ltd. v. Montreal Trust Co. et. al, 1966 CanLII 173 (ONSC)).
An agency relationship may emerge in at least one of two ways:
- by agreement, whether contractual or not, between principal and agent, which may be express or implied from the conduct or situation of the parties; or
- etrospectively, by the principal's subsequent ratification of acts done on the principal's behalf. (see: Fourney v. The Queen, 2011 TCC 520, at para 37).
If no written agency agreement exists, the parties' conduct determines whether they intended to create an agency relationship. The key feature is the level of control that the alleged principal exerts over the alleged agent. (Fourney, ibid., at para 45.)
In an agency relationship, the principal retains beneficial ownership of any property subject to that relationship. For example, in Prévost Car Inc. v. The Queen, 2008 TCC 231; aff'd 2009 FCA 57, the Tax Court of Canada held, and the Federal Court of Appeal affirmed, that:
- It is the true owner of property who is the beneficial owner of the property. Where an agency or mandate exists or the property is in the name of a nominee, one looks to find on whose behalf the agent or mandatary is acting or for whom the nominee has lent his or her name. (TCC, at para 100).
The Tax Court of Canada has also repeatedly affirmed that a property's beneficial owner is the person who may use, enjoy, possess, dispose of, and destroy the property:
- A property is deemed to be beneficially owned when one person possesses the three attributes of the ownership of property (usus, fructus, abusus). (Larose v. Minister of National Revenue,  T.C.J. No. 910 (QL), 92 DTC 2055, at para. 4.03.10.)
- The test for beneficial ownership is the date at which the party has acquired the indicia of ownership, those being risk, use and possession. (Smedley v. The Queen,  T.C.J. No. 64 (QL) (General Procedure), 2003 DTC 501, at para. 7.)
The Tax Court's comments reflect the private-law decisions about agency. Trident Holdings Ltd v Danand Investments Ltd., (1988) 49 DLR (4th) (ONCA), illustrates that a titleholder is only an agent if the titleholder cannot use, dispose of, enjoy, or possess the property. Moreover, Trident shows that the titleholder cannot even be considered a trustee if the titleholder has no independent power, discretion, or responsibility. In Trident, the Ontario Court of Appeal held that the defendant, Danand, held title to land as an agent and not a trustee because Danand exercised no power or ownership rights over the land. Danand's sole function was to "hold legal title to the land and to do the bidding of the beneficiaries."
To that end, the principles of agency law—not the principles of trust law—govern a bare-trust relationship. A bare trust is a trust where the trustee legally owns a property with the sole duty of conveying title to the beneficiary upon demand. Otherwise, a bare trustee has no independent power, discretion, or responsibility. (see: Trident, ibid.). In these circumstances, agency law applies because relationship between the trustee and beneficiary is chiefly an agent-principal relationship:
- A person may be both agent of and trustee for another. If he undertakes to act on behalf of the other and subject to his control he is an agent; but if he is vested with the title to property that he holds for his principal, he is also a trustee. In such a case, however, it is the agency relation that predominates, and the principles of agency, rather than the principles of trust, are applicable. (DeMond v The Queen,  4 CTC 2007 (TCC), at para 37.)
As a result, Canada's tax laws generally look through a bare trust—that is, they ignore the bare trustee and treat the beneficiary as having dealt directly with the trust property. Subsection 104(1) of the Income Tax Act says that "a trust is deemed not to include an arrangement under which the trust can reasonably be considered to act as agent for all beneficiaries under the trust." Various commentators—including the Canada Revenue Agency—have interpreted this clause as Parliament's way of confirming that the Income Tax Act's trust rules don't apply to a bare trust.
The Beneficial-Owner Test: Preventing the Use of Agency as a Means of Treaty-Shopping
Canada's tax law typically aims to reflect how the private law would treat an agent. It does so by ignoring the agent and by treating the income or property as that of the principal. And Canadian lawmakers have anticipated situations where a taxpayer might attempt to avoid tax by invoking an agent to enter an artificial transaction.
An example of this is the beneficial-owner test, which seeks to prevent taxpayers from treaty-shopping favorable tax rates by incorporating a mere agent in a treaty country.
A tax treaty is a bilateral agreement between Canada and another country. These treaties demarcate tax jurisdiction between the contracting countries with respect to taxpayers who are subject to both countries' tax regimes. As a result, Canada's tax treaties ensure that taxpayers don't incur double tax.
To do this, a tax treaty might, say, reduce the rate at which Canada may tax the Canadian-sourced income of a tax resident in the other country. For instance, if a Canadian corporation pays a dividend to a US corporation, Article X in the Canada-US Tax Treaty limits the rate at which Canada may tax the US resident's dividend income. Specifically, Canada cannot charge more than 5% withholding tax on the dividend if the US corporation is the "beneficial owner" of that dividend.
The beneficial-owner requirement prevents a taxpayer—who otherwise has no connection to either treaty country—from inserting an agent in a treaty country to enjoy the favorable tax rate. Suppose that a corporation in a non-treaty country expected to receive a dividend from its Canadian subsidiary. If the dividend were paid directly to the parent corporation, the Canadian subsidiary must withhold 25% for Canadian tax. (Unless a tax treaty specifies a lower rate, the 25% rate is the default withholding rate under Canada's Income Tax Act.) Hoping to obtain the 5% withholding-tax rate under the Canada-US Tax Treaty, the parent corporation might transfer its shares in the Canadian corporation to a wholly owned US corporation. Now, if it weren't for the beneficial-owner requirement, the dividend could flow from Canadian corporation through the US corporation to the non-treaty parent, and the Canadian corporation need only withhold 5% Canadian tax on the dividend.
The Canada Revenue Agency challenged a similar transaction in Prevost Car Inc. v The Queen, 2008 TCC 231; aff'd 2009 FCA 57. In this case, a Canadian corporation paid dividends to its Dutch parent company, which in turn paid roughly the same total amount to its own shareholders: a Swedish company and a UK company. When paying the dividends to its Dutch parent, the Canadian company withheld 5% for Canadian income tax in accordance with the Canada-Netherlands Tax Treaty.
When the CRA assessed the Canadian corporation, however, it applied the withholding rates from the Canada-Sweden Tax Treaty (15%) and the Canada-UK Tax Treaty (10%). The Canada Revenue Agency alleged that the Dutch parent was merely an agent, and that the UK company and the Swedish company were the "beneficial owners" of the dividend. Therefore, the CRA reasoned, the Canada-Netherlands Tax Treaty didn't apply, nor did its 5% income-tax withholding rate.
The Canadian corporation appealed the CRA's assessment to the Tax Court of Canada.
The Tax Court of Canada ultimately rejected the Canada Revenue Agency's position. The Tax Court concluded that the Dutch company was not an agent but the "beneficial owner" of the dividends paid by its Canadian subsidiary. The court based its conclusion on the following findings:
- The relationship between the Dutch parent and its own shareholders was not one of agency because no evidence suggested that it acted as a conduit for its shareholders;
- The flow of funds from the Dutch parent to its own shareholders wasn't pre-determined or automatic;
- The Dutch company was a statutory entity carrying on business operations and corporate activity in accordance with the Dutch law under which it was constituted;
- The Dutch company's constating documents didn't oblige it to pay dividends to its shareholders, so neither the Swiss company nor the UK company could take action against the Dutch company for failing to pay out the funds it received from its Canadian subsidiary; and
- The Dutch company was the registered owner of shares in the Canadian company, and, when the Dutch company received dividends from its Canadian subsidiary, those dividends were the Dutch company's property and thus available to its creditors.
As a result, the court allowed the taxpayer's appeal, vacated the CRA's assessment, and reinstated the 5% income-tax withholding rate. The Federal Court of Appeal later affirmed the Tax Court's decision.
The Prevost decision illustrates the factors that a court may consider to discern whether an agency relationship exists.
Derivative Tax Liability for Non-Arm's-Length Transfers: Unanswered Questions About Transfers to an Agent
Section 160 of the Income Tax Act is a tax collection tool. It thwarts a taxpayer who attempts to hide assets from the CRA's tax collectors by transferring those assets to a non-arm's-length party. If the rule applies, the recipient becomes "jointly and severally liable" for an amount equal to the lesser of:
- the transferor's tax debt at the time of the transfer; and
- the value of the transferred property minus the value of what the recipient paid in consideration for that property.
This means that income-tax debts can pass from one taxpayer to another as a result of a non-arm's-length transfer involving below-market consideration.
Section 325 of the Excise Tax Act contains a similar rule in relation to GST/HST. So, like income-tax debts, GST/HST debts can pass from one taxpayer to another as a result of a non-arm's-length transfer involving below-market consideration.
Courts readily admit that this tax rule may lead to a patently unjust result. The Federal Court of Appeal has gone so far as to call section 160 a "draconian provision" (Wannan v. Canada, 2003 FCA 423, at para. 3).
So, it's no surprise that a court may look to oust the provision when faced with a very sympathetic case. To this end, courts have often relied on the existence of an agency relationship.
For instance, in LeBlanc v The Queen, 99 DTC 410 (TCC), a taxpayer's wife took over his financial affairs when he became very ill. The wife deposited the taxpayer's RRSP into their joint bank account and used the funds solely for her husband's finances. The taxpayer owed money to the CRA when his wife transferred his RRSP into their joint account. So, the CRA assessed the wife under section 160 of the Income Tax Act. Notably, the rule applies only if the original tax debtor taxpayer "transferred property, either directly or indirectly, by means of a trust or by any other means whatever." This inclusive language would suggest that the wife was caught by the rule. Yet the Tax Court of Canada held that no transfer took place. In particular, the court decided that the funds did not vest in the wife because she only dealt with the funds as her husband's agent. Subsection 160(1) therefore did not apply.
After the LeBlanc decision, the Tax Court of Canada and the Federal Court of Appeal released several conflicting decisions about whether section 160 applied to a person who acquired property solely as an agent.
Some decisions suggest that acquiring property solely as an agent doesn't thereby render one immune from section 160. In The Queen v Livingston, 2008 FCA 89, a tax debtor deposited funds into his friend's bank account. The CRA assessed the friend under section 160. In response, the friend appealed, arguing that she had acted as a mere agent when receiving the funds. She based her position on the Tax Court's LeBlanc decision. The Federal Court of Appeal rejected her arguments and questioned the LeBlanc decision:
- The respondent cites the Tax Court of Canada's decision in Leblanc v. The Queen... . In that case, Tax Court Justice Hamlyn found that following a deposit into a jointly held bank account the property did not vest in or pass to the wife as the wife was acting as agent for her ill husband. That finding in and of itself is suspect: there was certainly a transfer of property [Livingston, ibid, at para 23].
The appellate court held that the deposit constituted a transfer to the friend because the bank account was solely under the friend's name and thus "permitted [her] to withdraw those funds herself anytime." The court concluded that section 160 therefore applied to the friend.
Yet other decisions suggest that an agent isn't liable when acquiring property in that capacity. In Lemire v The Queen, 2012 TCC 367, a tax debtor and his friend made an oral agreement: the tax debtor would write cheques to his friend, who would then deposit the cheques into her personal bank account, withdraw the equivalent in cash, and promptly pay that cash back to the tax debtor. The CRA assessed the friend under section 160 for the amounts she deposited into her personal bank account. The Tax Court of Canada held that section 160 didn't apply because no transfer took place. The agreement between the debtor and his friend meant that "[a]t no time did the [friend] have the right to use, enjoy or dispose of the proceeds of the deposited cheques as she saw fit." Moreover, the friend "never believed that the deposits would profit her, or even that she could appropriate them, in whole or in part." The Tax Court explained that, despite the Federal Court of Appeal's comments in Livingston, the notion of agency still proved relevant in determining whether a transfer indeed took place:
- Although Livingston is of precedential value, several cases of the Tax Court of Canada stand for the proposition that amounts paid to a mandatary for the sole benefit of the mandator, or according to the mandator's specific instructions, do not constitute a transfer within the meaning of subsection 160(1). ... [S]ince Livingston, some cases of the Tax Court of Canada have continued to take the concept of mandate or agency into account in determining whether there has been a transfer under section 160 [Lemire, TCC, at paras 41 and 45].
And when the Crown appealed the Tax Court's decision to the Federal Court of Appeal, the appellate court upheld the lower court's decision (see: Lemire, 2013 FCA 242).
None of these decisions, however, examined the extent of the alleged agent's liability given the value of the property that was transferred. The above-noted jurisprudence focused on the question whether a conveyance from an alleged principal to an alleged agent constituted a "transfer" for the purpose of section 160.
Yet even if such an arrangement constitutes a "transfer," a significant question remains: What property has been transferred? Recall that a taxpayer's liability under section 160 is capped at the fair market value of the transferred property. And in an agency relationship, the principal retains beneficial ownership of any property subject to that relationship. So, if the agent obtains legal title to that property, then the transferred property is the right consisting of legal title absent the rights that come with beneficial ownership.
This means that, regardless of whether a transfer occurred, an agent's liability under section 160 should be nominal. For legal title is arguably of nominal value if it doesn't come with the other rights that normally accompany true ownership—e.g., the right of disposition, the right of possession, the right of use and control, the right of enjoyment, the right of exclusion, etc. Yet this barren legal title is exactly what an agent acquires in the context of an agency relationship. Because the liability under section 160 cannot exceed the value of the transferred property, the agent should seemingly incur minimal liability as a result of a section 160 assessment.
Unfortunately, Canada's tax jurisprudence has yet to address this question.
The GST/HST New Housing Rebate: A Situation Where an Agent Won't be Ignored
In The Queen v Cheema, 2018 FCA 45, a majority of the Federal Court of Appeal held that a new-home purchaser cannot claim the GST/HST New Housing Rebate if a co-signer of the purchase agreement doesn't also occupy the home—even if the co-signer acted as a bare trustee for the purchaser's benefit.
This decision stands in sharp contrast to the treatment of bare trusts in Canadian tax law, which generally ignores such a trust because it constitutes an agency relationship (DeMond v The Queen,  4 CTC 2007 (TCC), at para 37).
Mr. Cheema wanted to buy a new-build residential property. But he couldn't secure a mortgage by himself. So, Cheema asked his friend, Dr. Akbari, for help.
To this end, Dr. Akbari signed the agreement of purchase and sale as a purchaser—along with Cheema and his spouse. Cheema and Akbari also agreed that Akbari wouldn't have any substantive interest in the property, wouldn't pay any of the purchase price or expenses, and wouldn't live in the house.
On closing, Cheema and his spouse acquired an undivided 99% interest in the property; Akbari acquired a 1% interest. The parties also signed a bare-trust agreement documenting the nature of their relationship. The agreement stated that:
- Cheema and his spouse were the beneficial owners of the property;
- Akbari held his 1% interest in trust for the beneficial owners; and
- Akbari would convey his interest on demand.
The Canada Revenue Agency rejected Cheema's GST/HST New Housing Rebate. Section 254(2) of the Excise Tax Act bars the rebate unless (among other conditions):
- the purchaser intends to use the home as a "primary place of residence [...] at the time the [purchaser] becomes liable or assumes liability under the agreement of purchase and sale"; and
- the purchaser is the first individual to occupy the home after its construction. (If there is more than one purchaser, each must satisfy the occupancy requirement.)
Although Akbari signed the purchase and sale agreement, he didn't use the property as his primary residence, and he didn't personally occupy the home. So, he didn't meet the conditions in section 254(2) of the Excise Tax Act. As a result, the CRA denied Cheema's GST/HST New Housing Rebate.
Cheema appealed the CRA's reassessment to the Tax Court of Canada.
Appearing before the Tax Court of Canada, Cheema argued that Akbari wasn't subject to the conditions set out in subsection 254(2) of the Excise Tax Act because Akbari was a bare trustee. In other words, those conditions only apply to the beneficial owners—namely, Cheema and his spouse.
The Crown didn't dispute the fact that Cheema and his spouse satisfied the rebate conditions. But, the Crown argued, because Akbari signed the agreement of purchase and sale, he was required to occupy the property. Since Akbari didn't occupy the property, the rebate was unavailable.
The Tax Court of Canada sided with Cheema. Drawing from the traditional tax treatment of bare trusts, the court reasoned that a bare trustee need not meet the conditions set out in subsection 254(2) of the Excise Tax Act. As a result, the court allowed Cheema's appeal and permitted the GST/HST New Housing Rebate.
In response, the Crown appealed the Tax Court's decision to the Federal Court of Appeal.
A split Federal Court of Appeal overturned the Tax Court of Canada's decision and decided that a taxpayer couldn't qualify for the GST/HST New Housing Rebate unless everyone who signed the purchase agreement occupied the home as a primary place of residence. Stratas J.A. delivered the majority opinion; Nadon J.A. concurred. Webb J.A., however, produced a forceful dissent.
The majority reasoned that the Tax Court erred by relying on the bare-trust agreement when rendering its decision. According to the majority Federal Court of Appeal, subsection 254(2) of the Excise Tax Act doesn't distinguish between beneficial and legal ownership; it requires that each individual who assumes legal liability to the builder under the purchase agreement to satisfy the rebate conditions.
Justice Webb, however, offered a robust dissent opinion. He concluded that Akbari needn't satisfy the rebate conditions subsection 254(2) of the Excise Tax Act.