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Further thoughts on the Fundy Settlement decision: Supreme Court offers a nuanced view of trust residence

In Garron Family Trust v. The Queen (2009 TCC 450), Justice Judith Woods of the Tax Court of Canada came down with a very broad new rule for determining the residence of trusts.

[162]  I conclude, then, that the judge-made test of residence that has been established for corporations should also apply to trusts, with such modifications as are appropriate. That test is “where the central management and control actually abides.”

This was viewed widely as a repudiation of the historic test based on the residence of the trustee. Many tax professionals thought that the test for residence of a trust required a determination of the residence of the majority of the trustees and where their functions were performed, and that it was not necessary to go beyond this test.

The Federal Court of Appeal in St. Michael Trust Corp. v. Canada (2010 FCA 309) appeared to endorse Justice Woods’ new legal test but in a somewhat guarded fashion:

[63]    St. Michael Trust Corp. argues that a test of central management and control cannot be applied to a trust because a trust is a “legal relationship” without a separate legal personality. I do not accept this argument. It is true that as a matter of law a trust is not a person, but it is also true that for income tax purposes, a trust is treated as though it were a person. In my view, it is consistent with that implicit statutory fiction to recognize that the residence of a trust may not always be determined by the residence of its trustee.

[64]    St. Michael Trust Corp. also argues that the residence of the trust must be determined as the residence of the trustee because section 104 of the Income Tax Act embodies the trust, as taxpayer, in the person of the trustee. In my view, that gives section 104 a meaning beyond its words and purpose. Section 104 was enacted to solve the practical problems of tax administration that would necessarily arise when it was determined that trusts were to be taxed despite the absence of legal personality. I do not read section 104 as a signal that Parliament intended that in all cases, the residence of the trust must be the residence of the trustee.

When the Supreme Court of Canada granted leave to appeal, some tax professionals were puzzled.  These tax professionals believed that it was unlikely the decision would be reversed since the Crown had a very strong factual case that the trusts in question were managed in Canada by the trust beneficiaries.  The decision released on April 12 by the Supreme Court (Fundy Settlement v. Canada, 2012 SCC 14) in fact dismissed the appeal in somewhat cursory fashion.

[15]    As with corporations, residence of a trust should be determined by the principle that a trust resides for the purposes of the Act where “its real business is carried on” (De Beers, at p. 458), which is where the central management and control of the trust actually takes place.  As indicated, the Tax Court judge found as a fact that the main beneficiaries exercised the central management and control of the trusts in Canada.  She found that St. Michael had only a limited role ― to provide administrative services ― and little or no responsibility beyond that (paras. 189-90).  Therefore, on this test, the trusts must be found to be resident in Canada.  This is not to say that the residence of a trust can never be the residence of the trustee.  The residence of the trustee will also be the residence of the trust where the trustee carries out the central management and control of the trust, and these duties are performed where the trustee is resident.  These, however, were not the facts in this case.

[16]    We agree with Woods J. that adopting a similar test for trusts and corporations promotes “the important principles of consistency, predictability and fairness in the application of tax law” (para. 160).  As she noted, if there were to be a totally different test for trusts than for corporations, there should be good reasons for it.  No such reasons were offered here.  [Emphasis added]

On a close reading it is arguable that the Supreme Court has gently tempered the new rule set out by Justice Woods and, to some extent, by the Federal Court of Appeal.  Where the trustee does what it is supposed to do, including managing the trust and its properties, the operative test remains the residence of the trustee.  It would seem that only where the trustee carries on those “management and control” activities in a place other than where the trustee is resident, or where the trustee abdicates many of its powers to a third party, that Justice Woods’ new test becomes relevant.

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Further thoughts on the Fundy Settlement decision: Supreme Court offers a nuanced view of trust residence

Federal Court Cancels its Earlier Orders Authorizing Issuance of “Unnamed Persons” Requirements as Canada Revenue Agency Failed to Disclose all Relevant Facts

The decision of the Federal Court in Minister of National Revenue v. RBC Life Insurance Company et al., 2011 FC 1249 may have opened the door to new opportunities for judicial review in the context of ex parte orders in federal tax matters only days after the decision of the Federal Court of Appeal in Stemijon Investments Ltd. v. Attorney General of Canada (see our earlier post) appeared to have narrowed those opportunities in the context of so-called “fairness applications” dealing with late-filed forms under federal tax statutes.

By way of background, the case concerned insurance products known in the industry as 10-8 plans. These essentially were a tax-effective insurance structure where, in very general terms, the taxpayer paid a high rate of deductible interest on loans in connection with insurance products where relatively high rates of interest accrued free of tax. The Canada Revenue Agency was aware of these structures at the highest levels and the record disclosed that they had considerable concern that the structures were abusive, violated GAAR, etc. As a result, CRA made ex parte applications under subsection 231.2(3) of the Income Tax Act against a number of the issuers of such 10-8 plans requiring the production of detailed information about these plans and their customers.

What CRA did not disclose to the Court on these ex parte applications was that one of the principal purposes of these applications was to take measures to “chill” 10-8 plan business. This offended the Court:

[58] At the hearing, the Insurers conceded that the Minister had a valid audit purpose in issuing the requirements, but argued that this valid purpose was extraneous to her primary goal, which was to chill their 10-8 plan business. I agree.

[59] I do not believe that the Minister’s central purpose in issuing the requirements is sufficiently tied to her valid audit purpose. Contrary to the Minister’s pretension, I did find evidence that the targeted audit of specific 10-8 plan holders was not only done to test the reasonableness of the 10% payable interest rate or the possible application of the GAAR but to send a message to the industry. I am not satisfied that the Minister’s attempt to “send a message” is a valid enforcement purpose such that subsection 231.2(3)(b) of the Act is satisfied or that this goal is sufficiently connected to the Minister’s valid audit purpose.

Accordingly, Justice Tremblay-Lamer cancelled the earlier ex parte orders with costs.

The Federal Court’s decision is a refreshing affirmation of the Crown’s duty of fairness and candour, particularly in ex parte proceedings. The decision should encourage those in receipt of “unnamed persons” requirements to challenge such requirements with a view to ascertaining whether the facts put forward by the CRA on the ex parte application to obtain the order constituted a “full and frank” disclosure of all the relevant facts.

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Federal Court Cancels its Earlier Orders Authorizing Issuance of “Unnamed Persons” Requirements as Canada Revenue Agency Failed to Disclose all Relevant Facts