“Tax Benefit” for GAAR: The Defences

While GAAR jurisprudence and commentary typically focus on whether an avoidance transaction exists and is abusive, the threshold condition for the application of GAAR—that a tax benefit exist—has received less attention. Some may assume that there is no possibility of a successful defence on this basis, but the record shows otherwise. Jurisprudence has established two defences to the Crown’s assertion of a tax benefit:

  1. the transaction creates, increases, or preserves valuable tax attributes that could result in future tax savings but have not yet done so; and
  2. the alternative or benchmark transaction that the Crown has advanced to confirm the existence of a tax benefit fails in one or more established ways.

Similar defences apply where, instead of a single transaction, a series of transactions is involved.

Tax Attribute Defence

The taxpayer’s successful argument here is that creating, increasing, or preserving valuable tax attributes has merely “created the potential” for tax savings, and there is no tax benefit where “that potential has, to date, not been realized”: Wild, sub nom. 1245989 Alberta Ltd. v. Canada (Attorney General), 2018 FCA 114 (PUC increase, but no tax reduction). See also Rogers Enterprises (2015) Inc. v. The Queen, 2020 TCC 92 (CDA increase and income reduction, but no tax reduction) and Gladwin Realty Corporation v. Canada, 2020 FCA 142 (CDA increase, but no tax reduction).

Taxpayers should consider that using this defence may only delay a GAAR challenge until after the tax benefit is realized (if that occurs): Deans Knight Income Corporation v. The Queen, 2019 TCC 76 (taxpayer used various tax attributes). The avoidance transaction may conceivably have occurred many years earlier in the series of transactions. Recognizing this, the taxpayer in Gladwin undertook to pay a tax-free capital dividend so that the courts could find a tax benefit and focus on the abuse stage of the analysis.

Alternative Transaction Defence

In The Queen v. Canada Trustco Mortgage Company (2005 SCC 54), the SCC stated that, in some circumstances, the existence of a tax benefit can only be established by comparison with an alternative transaction. The alternative transaction can be challenged in various ways:

  • The alternative transaction produces the same tax result as the taxpayer’s actual transaction. In Canada v. Bank of Montreal (2020 FCA 82), the FCA held that even without the creation of a separate class of preferred shares, subsection 112(3.1) would not have reduced the capital loss realized on the disposition of the common shares.
  • It is not reasonable to conclude that the taxpayer would have undertaken the alternative transaction. In Univar Canada Ltd. v. The Queen (2005 TCC 723), the TCC found no tax benefit since the taxpayer’s officers’ evidence showed that the taxpayer had no intention of undertaking the Crown’s proposed alternative transaction. In Copthorne Holdings Ltd. v. Canada (2011 SCC 63), the SCC found in favour of the Crown: the SCC accepted the principle that the alternative transaction must be one that “might reasonably have been carried out but for the existence of the tax benefit” (paragraph 35) but concluded that the requirement was met.
  • The alternative transaction is not an appropriate comparison (perhaps for some non-tax reason, such as regulatory or commercial considerations). It appears that this defence has not yet been successfully argued.

An “Alternative” Alternative Transaction?

Another possible defence is for the taxpayer to propose its own alternative transaction. Similar to the three points above, the proposed transaction would have to (1) produce the same tax result as the actual transaction, (2) be an alternative that the taxpayer would have reasonably considered undertaking, and/or (3) be an appropriate comparison.

A defence of this type was attempted in 594710 British Columbia Ltd. v. The Queen (2016 TCC 288; aff’d on this point 2018 FCA 166), but it failed because of item 2 above: the TCC concluded that the taxpayer’s proposed alternative was not reasonable based on the facts, and that the only alternative transaction that should be considered was the possibility that the actual transaction had not occurred.

In Fiducie financière Satoma v. The Queen (2017 TCC 84; aff’d 2018 FCA 74), another attempted defence of this type, the taxpayer failed to prove item 3 above. The TCC did not consider the taxpayer’s proposed alternatives of investing directly or through a corporation as appropriate comparisons, because a trust was an essential part of the plan at issue, and the tax treatment of the taxpayer’s proposed alternatives differed substantially from the transactions it actually undertook.

Sameer Nurmohamed
Osler Hoskin & Harcourt LLP, Toronto

Canadian Tax Focus
Volume 11, Number 1, February 2021
©2021, Canadian Tax Foundation