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Jean Coutu: SCC Revises Test for Rectification under the Civil Code

On December 9, 2016, the Supreme Court of Canada rendered its judgment in Jean Coutu Group (PJC) Inc. v Attorney General of Canada (2016 SCC 55) along with its companion case Canada (Attorney General) v Fairmont Hotels Inc. (2016 SCC 56).

Our post on the Court’s decision in Fairmont Hotels is available here.

In Jean Coutu, a 7-2 decision, the Supreme Court specified and enhanced the civil law test applicable to rectification of a written instrument where the taxpayer has suffered an unintended and adverse tax result. The Court had previously addressed this test in Quebec (Agence du revenu) v Services Environnementaux AES Inc. (2013 SCC 65).

The Supreme Court confirmed that a general intention of tax neutrality does not permit the modification instruments in accordance with the Civil Code of Quebec.

In Jean-Coutu, the taxpayer brought a motion for rectification in the Superior Court of Quebec in order to modify certain documents for transactions that were undertaken to neutralize the effect of the fluctuations in foreign exchange rates. The transactions had achieved this goal, but such transactions had the unexpected and adverse effect of creating foreign accrual property income for one of the companies in the corporate group.

The taxpayer argued that the constant and clear intention of the parties to address the exchange rate fluctuation without generating adverse tax consequences was not reflected in the transaction documents.

The Quebec Superior Court allowed the taxpayer’s motion on the basis that the evidence showed there was discrepancy between the clear intention of the parties and the tax consequence of the transaction as executed.

The Quebec Court of Appeal allowed the Crown’s appeal and stated that the taxpayer’s general intent that its transactions be completed in a tax-neutral manner was insufficient to support a motion for rectification.

On appeal, the Supreme Court defined the issue as follows:

[14] This appeal raises the following key issue: Where parties agree to undertake one or several transactions with a general intention that tax consequences thereof be neutral, but where unintended and unforeseen tax consequences result, does art. 1425 C.C.Q. allow the written documents recording and implementing their agreement to be amended with retroactive effect to make them consistent with that intention of tax neutrality?

In its analysis, the Court applied and confirmed the guidelines it developed in Services Environnementaux AES Inc.

Pursuant to an exhaustive review of the provisions of the Civil Code of Quebec applicable to contracts, the Supreme Court reaffirmed that under the Quebec civil law the agrement or contract lies in the common intention of the parties. A contract is created by “an agreement of wills by which one or several persons obligate themselves to one or several other persons to perform a prestation” (see Article 1378 of the C.C.Q.), which prestation must be “possible and determinate or determinable” (see Article 1378 of the C.C.Q.), and must have a cause (see Article 1410 of the C.C.Q.) and an object (see Article 1412 of the C.C.Q.).

For the majority, Justice Wagner stated that, in light of these provisions of the Civil Code of Quebec, a court may not use the remedy offered by article 1425 C.C.Q. to modify a transactional scheme because it generated unforeseen adverse tax consequences. The Court stated:

[23] A taxpayer’s general intention of tax neutrality cannot form the object of a contract within the meaning of art. 1412 C.C.Q., because it is insufficiently precise. It entails no sufficiently precise agreed-on juridical operation. Nor can such a general intention in itself relate to prestations that are determinate or determinable within the meaning of art. 1373 C.C.Q. It says nothing about what one party is bound to do or not to do for the benefit of the other. Therefore, a general intention of tax neutrality, in the absence of a precise juridical operation and a determinate or determinable prestation or prestations, cannot give rise to a common intention that would form part of the original agreement (negotium) and serve as a basis for modifying the written documents expressing that agreement (instrumentum). As a result, art. 1425 C.C.Q. cannot be relied on to give effect to a general intention of tax neutrality where the writings recording the contracting parties’ common intention produce unintended and unforeseen tax consequences.

And specifying the applicable test developed in Services Environnementaux AES Inc., the Court stated:

[24] In my opinion, when unintended tax consequences result from a contract whose desired consequences, whether in whole or in part, are tax avoidance, deferral or minimization, amendments to the expression of the agreement in accordance with art. 1425 C.C.Q. can be available only under two conditions. First, if the unintended tax consequences were originally and specifically sought to be avoided, through sufficiently precise obligations which objects, the prestation to execute, are determinate or determinable; and second, when the obligations, if properly expressed and the corresponding prestations, if properly executed, would have succeeded in doing so. This is because contractual interpretation focuses on what the contracting parties actually agreed to do, not on what their motivations were in entering into an agreement or the consequences they intended it to have.

Furthermore, the Court distinguished Jean Coutu from Services Environnementaux AES Inc.:

[31] In contrast, in the appeal here, the parties to the contract did not originally and specifically agree upon a juridical operation for the purpose of turning their general intention to neutralize tax consequences into a series of specific obligations and prestations. This general intention of the parties was not sufficiently precise to establish the details of a contemplated operation […] The determinate scenario agreed on by PJC Canada and PJC USA was drawn up properly, but because it was drawn up properly, it produced unintended and unforeseen tax consequences.

The Court dismissed the taxpayer’s appeal and affirmed the decision of the Quebec Court of Appeal.

In dissent, Justice Côté stated that the convergence of principles between the common law and the civil law as expressed by the majority in Jean Coutu was inconsistent with the contract law applicable in Quebec:

[91] […] I agree with my colleague that convergence between Quebec civil law and the common law of the other provinces is desirable from a tax policy perspective (para. 52). Indeed, in this Court, the parties agreed that the common law and the civil law are functionally similar with respect to the availability of rectification. But retreating from the interpretation of art. 1425 C.C.Q. adopted in AES in order to achieve harmony with this Court’s contraction of equitable discretion in Fairmont is inconsistent with the law of contract in Quebec.. […] Given that contracts can be expressed orally without recourse to written instruments, AES left open the possibility of rectifying errors in oral expression (paras. 28 and 32). This is consistent with the civil law principle, inherent in arts. 1378 and 1425 C.C.Q., that a contract is based on the common intention of the parties, not on the expression of that intention.

[92] The majority’s reasons in Fairmont are irreconcilable with these articles of the Code. Rectification in Canadian common law jurisdictions in now “limited to cases where the agreement between the parties was not correctly recorded in the instrument that became the final expression of their agreement” (Fairmont, at para. 3). There appears to be no scope for rectifying oral agreements. With respect, to the extent that my colleague in this case would import this limitation into the civil law, the “convergence” between the two legal systems is, in my opinion, far from “natural” (majority reasons, at para. 52).

The decision rendered by the Supreme Court in Jean Coutu is of significant importance as it restricts the circumstances in which taxpayers may rely on Article 1425 of the Civil Code to rectify transaction documents in tax cases.

Quebec tax professionals should carefully consider the additional guidelines provided in Jean Coutu in assessing whether or not a motion for rectification is available to correct mistakes resulting in unintended and unforeseen adverse tax consequences.

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Jean Coutu: SCC Revises Test for Rectification under the Civil Code

Fairmont: SCC Revises Common Law Test for Tax Rectifications

In a 7-2 decision in AG (Canada) v. Fairmont Hotels Inc. (2016 SCC 56), the Supreme Court of Canada has modified the common law test for rectification where the taxpayer has suffered an unintended and adverse tax result. The Court also clarified the standard of proof in respect of evidence of the parties’ intent on a rectification application.

A general intent to avoid or minimize tax is no longer sufficient to support an application for rectification.

In the companion case of Jean Coutu Group (PJC) Inc. v. AG (Canada), the Supreme Court reached a similar conclusion regarding tax intent and the modification of documents under the Quebec Civil Code (we shall follow-up with another post on this decision).

In Fairmont, the taxpayer brought an application to rectify certain share redemptions and to substitute a loan arrangement. The taxpayer argued that its intent at all times was to unwind some earlier loan arrangements on a tax-neutral basis.

The Ontario Superior Court of Justice (2014 ONSC 7302) cited Juliar et. al. v A.G. (Canada) (50 O.R. 3d 728) (Ont. C.A.) (Dentons was counsel to the successful taxpayers in Juliar) and other tax rectification cases. The Superior Court of Justice allowed the taxpayer’s application and unwound the impugned steps in the transaction and substituted the proper steps that accorded with the parties’ intention to avoid tax.

The Ontario Court of Appeal dismissed the Crown’s appeal (2015 ONCA 441).

See our previous posts on Fairmont here and here.

In the Supreme Court, the Crown argued that the result in Juliar conflicts with the Supreme Court’s decision in Performance Industries. The Crown urged the Court to import the requirements from Performance Industries to tax rectification cases.

In response, the taxpayer noted that Juliar (and most other tax rectification applications) are cases of mutual mistake, whereas Performance Industries was a case of unilateral mistake. Previous lower court decisions had rejected this attempt to import the Performance Industries requirements to tax rectifications. Further, the taxpayer noted the irony that the Crown was suggesting the result in Performance Industries should limit the availability of rectification when the Court’s decision in that case had in fact broadened the application of rectification as a remedy.

For the majority, Justice Brown stated that, under the new stricter test for tax rectification, a court may not modify an instrument merely because a party has discovered that its operation generates an adverse and unplanned tax liability. The Court stated:

[16] As I have recounted, both courts below considered the Court of Appeal’s decision in Juliar, coupled with the chambers judge’s findings, to be dispositive. In my respectful view, however, Juliar is irreconcilable with this Court’s jurisprudence and with the narrowly confined circumstances to which this Court has restricted the availability of rectification. …

[23] … Juliar does not account for this Court’s direction, in Shell Canada Ltd. v. Canada[1999] 3 S.C.R. 622, at para. 45, that a taxpayer should expect to be taxed “based on what it actually did, not based on what it could have done”. While this statement in Shell Canada was applied to support the proposition that a taxpayer should not be denied a sought-after fiscal objective merely because others had not availed themselves of the same advantage, it cuts the other way, too:  taxpayers should not be judicially accorded a benefit based solely on what they would have done had they known better. …

[30] This Court’s statement in Performance Industries (at para. 31) that “[r]ectification is predicated on the existence of a prior oral contract whose terms are definite and ascertainable” is to the same effect. The point, again, is that rectification corrects the recording in an instrument of an agreement (here, to redeem shares). Rectification does not operate simply because an agreement failed to achieve an intended effect (here, tax neutrality) — irrespective of whether the intention to achieve that effect was “common” and “continuing”. …

On the standard of proof, the Court stated:

[36] In my view, the applicable standard of proof to be applied to evidence adduced in support of a grant of rectification is that which McDougall identifies as the standard generally applicable to all civil cases: the balance of probabilities. But this merely addresses the standard, and not the quality of evidence by which that standard is to be discharged. As the Court also said in McDougall (at para. 46), “evidence must always be sufficiently clear, convincing and cogent”. A party seeking rectification faces a difficult task in meeting this standard, because the evidence must satisfy a court that the true substance of its unilateral intention or agreement with another party was not accurately recorded in the instrument to which it nonetheless subscribed. A court will typically require evidence exhibiting a high degree of clarity, persuasiveness and cogency before substituting the terms of a written instrument with those said to form the party’s true, if only orally expressed, intended course of action.

In conclusion, the Court stated:

[38] To summarize, rectification is an equitable remedy designed to correct errors in the recording of terms in written legal instruments. Where the error is said to result from a mistake common to both or all parties to the agreement, rectification is available upon the court being satisfied that, on a balance of probabilities, there was a prior agreement whose terms are definite and ascertainable; that the agreement was still in effect at the time the instrument was executed; that the instrument fails to accurately record the agreement; and that the instrument, if rectified, would carry out the parties’ prior agreement.

The Court allowed the Crown’s appeal, with the result that the taxpayer’s application for rectification of the impugned transactions failed.

In dissent, Justice Abella stated that, in her view, there was no reason to impose a stricter standard in tax cases, and on the facts of the Fairmont case rectification should have been granted:

[71] It is true that a taxpayer should expect to be taxed based on what is actually done, not based on what could have been done (Shell Canada Ltd. v. Canada, [1999] 3 S.C.R. 622, at para. 45), but this principle does not deprive equity of a role where what a party or parties genuinely intended to do was transcribed or implemented incorrectly.

[72] On the other hand, parties should not be given carte blanche to exploit rectification for purposes of engaging in retroactive tax planning.  Courts will not permit parties to undo decisions simply because they have come to regret them later.  Allowing parties to rewrite documents and restructure their affairs based solely on a generalized and all-encompassing preference for paying lower taxes is not consistent with the equitable principles that inform rectification. …

[83] The requirements for rectification in the tax context articulated in AES are, in my respectful view, functionally equivalent to the test under the common law.  Civil law and common law rectification in the tax context are clearly based on analogous principles, namely, that the true intention of the parties has primacy over errors in the transcription or implementation of that agreement, subject to a need for precision and the rights of third parties who detrimentally rely on the agreement.

[84] That means that there is no principled basis in either the common or civil law for a stricter standard in the tax context simply because it is the government which is positioned to benefit from a mistake.  The tax department is not entitled to play “Gotcha” any more than any other third party who did not rely to its detriment on the mistake.

The implications of the Supreme Court’s decisions in Fairmont and Jean Coutu are far-reaching, as they significantly change the threshold requirements for granting rectification in tax cases.

The result in these cases also raises the issue of whether other equitable remedies (i.e., rescission, declaratory orders, etc.) may be available, and whether taxpayers may seek alternative remedies if the requirements for rectification may not be satisfied.

The broader impact of the Court’s decision in Fairmont is also unclear. Fairmont was a case in which the taxpayer sought to correct various documents relating to steps in a commercial transaction. How will the Fairmont principles in respect of intent in the commercial context impact rectification applications in respect of wills and trusts?

Tax professionals should consider this new test for tax rectifications to determine the appropriate manner for correcting mistakes that result in unintended and adverse tax consequences.

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Fairmont: SCC Revises Common Law Test for Tax Rectifications

SCC Rectification Decisions to be Released on Friday December 9

The Supreme Court of Canada’s decisions in two rectification cases, AG (Canada) v. Fairmont Hotels Inc. (Docket #36606) and Jean Coutu Group (PJC) Inc. v. AG (Canada) (Docket #36505), will be released on Friday December 9, 2016 at 9:45 a.m.

See our previous posts on Fairmont here and here.

The Supreme Court’s decisions in Fairmont and Jean Coutu will be the first decisions from the Court on rectification since AES and Jean Riopel.

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SCC Rectification Decisions to be Released on Friday December 9

Wilson: SCC Overhauls Standard of Review?

Tax professionals who advise clients on judicial review of the CRA’s discretionary decisions should monitor developments in the standard of review in light of the Supreme Court of Canada’s decision in Wilson v Atomic Energy of Canada Ltd (2016 SCC 29).

In Wilson, the appellant was a non-unionized procurement specialist who worked for Atomic Energy of Canada Ltd. for four and a half years. He was dismissed in November 2009 and filed an unjust dismissal complaint under the Canada Labour Code. At issue was whether the significant severance package provided to Mr. Wilson rendered the dismissal just.

The labour adjudicator found that a severance payment did not exempt an employer from a determination with respect to whether a dismissal was just. Applying a standard of review of reasonableness, the application judge reversed the decision of the labour adjudicator, finding that the Code permitted the dismissal of non-unionized employees without cause. The Federal Court of Appeal agreed, but held that the appropriate standard of review was one of correctness.

The Supreme Court of Canada allowed the appeal and restored the decision of the labour adjudicator. The Court split 5-3 and issued several sets of reasons in its decision.

On the merits, Justice Abella wrote for the Court that the standard of review with respect to a labour arbitrator was one of reasonableness, to be assessed in the specific context under review. In this case, Justice Abella found the interpretation of the labour adjudicator was reasonable. However, Justice Abella remarked – albeit in obiter – that the line between reasonableness and correctness had begun to blur in the case law. A single standard of reasonableness, she stated, would operate to both protect deference and give effect to one correct answer where the rule of law required it. This would give effect to the different gradations of deference to be given to administrative decision makers in different contexts.

Chief Justice McLachlin and Justices Karakatsanis, Wagner and Gascon concurred with Justice Abella’s reasons and expressed appreciation for her attempt to galvanize constructive conversation about the standard of review. However, they declined to recast the standard of review. Justice Cromwell also concurred in the result, but rejected Justice Abella’s attempt to define a new framework, finding that the correctness/reasonableness distinction that emerged in Dunsmuir was still appropriate.

Justices Cote, Brown and Moldaver dissented. Agreeing with the Federal Court of Appeal, they stated that a standard of correctness applied and that the contradictions inherent in a growing body of labour decisions called for judicial clarity. Specifically, they held that “where there is lingering disagreement on a matter of statutory interpretation between administrative decision-makers, and where it is clear that the legislature could only have intended the statute to bear one meaning, correctness review is appropriate”.

What does Wilson mean for tax litigators? First, even though four members of the Court declined to overhaul the Dunsmuir framework, they lauded Justice Abella’s attempt to refine this area of law. The views expressed in the reasons indicate that the Court may be willing to revisit and clarify Dunsmuir (which also contained three sets of reasons).

Second, to the extent that members of the Court wish to supplant the Dunsmuir test with a single standard of reasonableness (containing gradients of deference), attempts to challenge the CRA’s discretionary decisions could be met with increased difficulty in the future.

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Wilson: SCC Overhauls Standard of Review?

SCC Dismisses Appeal in Tax Advisor Penalty Case

The Supreme Court of Canada has dismissed the appeal of the taxpayer and determined that the tax advisor penalty in section 163.2 of the Income Tax Act is administrative in nature.

The Court’s 4-3 decision in Guindon v. The Queen (2015 SCC 41) (Docket No. 35519) has far-reaching implications for Canadian taxpayers and their professional advisors.

While the majority of the Court (Rothstein, Cromwell, Moldaver and Gascon) exercised its discretion to consider the taxpayer’s constitutional arguments despite the taxpayer’s failure to provide notice of constitutional question, the Court held that the penalty under section 163.2 was not criminal in nature:

[89] We conclude that the proceeding under s. 163.2  is not criminal in nature and does not lead to the imposition of true penal consequences. We agree with Stratas J.A., writing for the Federal Court of Appeal, that “the assessment of a penalty under s. 163.2  is not the equivalent of being ‘charged with a [criminal] offence.’ Accordingly, none of the s. 11  rights apply in s. 163.2  proceedings”: para. 37.

[90] Finally, we note that even though s. 11  of the Charter  is not engaged by s. 163.2  of the ITA , those against whom penalties are assessed are not left without recourse or protection. They have a full right of appeal to the Tax Court of Canada and, as the respondent pointed out in her factum, have access to other administrative remedies: R.F., at para. 99; see, e.g., ITA , s. 220(3.1) .

In a concurring opinion that dissented on the issue of the notice requirement, Justices Abella, Karakatsanis and Wagner held that the taxpayer’s failure to provide notice of constitutional question in the Tax Court or Federal Court of Appeal was fatal to her appeal.

See our previous posts on the Guindon case here and here.

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SCC Dismisses Appeal in Tax Advisor Penalty Case

SCC to Decide Tax Advisor Penalty Case on July 31

What is the nature of the third-party penalty in section 163.2 of the Income Tax Act? That question will be answered by the Supreme Court of Canada when it decides the case of Guindon v. The Queen (Docket No. 35519) on Friday July 31.

See our previous posts on the Guindon case here and here.

In Guindon, the Tax Court found that the penalty imposed under section 163.2 is a criminal penalty, not a civil one, and therefore subject to the protection of (inter alia) section 11 of the Charter of Rights and Freedoms.

The Federal Court of Appeal reversed on the basis that Ms. Guindon did not provide notice of a constitutional question, and thus the Tax Court lacked jurisdiction to make an order on the nature of section 163.2. In any event, the Federal Court of Appeal also stated that the penalty under section 163.2 was not criminal in nature, and hence, was not subject to Charter protections.

The Supreme Court heard arguments in Guindon in December 2014, and the Court’s decision will have significant implications for tax professionals across Canada.

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SCC to Decide Tax Advisor Penalty Case on July 31

Kruger: FX Derivatives Gains/Losses Taxed Only When Realized

In Kruger Incorporated v. The Queen (2015 TCC 119), the Tax Court held that the taxpayer could not value its foreign exchange options contracts on a mark-to-market basis, with the result that certain losses were not deductible by the taxpayer in a year. The Kruger case is another recent judgment of the Tax Court in the developing law on the Canadian tax treatment of financial derivative products (see George Weston Limited v. The Queen (2015 TCC 42)).

Facts

Kruger’s core business was manufacturing newsprint, paper-coated products and tissue paper. In the 1980s, Kruger started trading in foreign currency contracts, and over time these activities grew to involve more than 10 employees trading in currency, bonds and securities.

In 1997, Kruger was advised that it was required to start reporting its financial trading activities on a mark-to-market basis, which required the recognition of any change in market value in a year as an income gain or loss.

In 1998, certain of Kruger’s U.S. currency options contracts were “under water” due to fluctuations in the Canada-U.S. exchange rate. Accordingly, for its 1998 tax year, Kruger claimed losses totaling $91,104,379 from a business of trading in derivatives. The CRA reassessed to deny the deduction of $91,104,379, but excluded from income the amount of $18,696,881, which Kruger had included as the amortized portion of the net of premium income and expenses for the foreign exchange options contracts. The CRA also included the amount of $91,104,379 in Kruger’s taxable capital for the purposes of the large corporations tax (which has now been generally repealed).

Kruger appealed the reassessment on the basis that, in accordance with section 9 of the Act, it was entitled to value its foreign exchange options contracts using the mark-to-market method, and argued in the alternative that its foreign exchange options contracts were inventory and were to be valued at the lower of cost and fair market value under subsection 10(1) of the Act.

Analysis

The Court reviewed the key Canadian judicial authorities regarding the test for determining income under the Act, including Friedberg v. The Queen ([1993] 4 S.C.R. 285), Canderel Limited v. The Queen ([1998] 1 S.C.R. 147), Friesen v. The Queen ([1995] 3 S.C.R. 103). The Court referred to the oft-cited principles from Canderel that the determination of profit is a question of law, and a taxpayer is free to adopt any method for determining profit that is not inconsistent with the provisions of the Act, case law, and well-accepted business principles. Once the taxpayer has shown that it has provided an accurate picture of income, the onus shifts to the CRA to establish that the amount is not an accurate picture of profit or that another method would provide a more accurate picture.

The Court noted there were no provisions in the Act that required or authorized the valuation of property on a mark-to-market basis. Further, there is an important difference between financial and tax accounting:

[109] Financial accounting … is concerned with constructing a picture of profit from year to year in a consistent manner for the benefit of the audience for whom financial statements are prepared: shareholders, investors, lenders, etc. … FASB views mark to market valuation for the same reasons: to better enable investors, creditors and others to assess the entity’s performance. …

[110] Tax accounting normally is not overly concerned with the past; it wants a picture of income for a particular year and … the methodology used to calculate income in one year may be different from that used in an earlier year. … statements for tax purposes are solely concerned with the computation of income in achieving an accurate picture of income for the particular taxation year.

The Court noted that sections 142.2 to 142.5 of the Act require financial institutions and investment dealers to use mark-to-market, but these rules did not apply to Kruger. The Court stated,

[114] Mark to market accounting … would compel a taxpayer to include any loss or gain in value of the property at year-end in income for the year. This may be appropriate for financial statements for reasons discussed earlier. But, for income tax purposes, the taxpayer may be compelled to include an amount in income where there is no clear statutory language requiring him or her to do so. The realization principle is basic to Canadian tax law. It provides certainty of a gain or loss. Without some support of the statutory language or a compelling interpretation tool it ought not to be cast aside.

The Court also noted a difficulty in respect of the market prices for the foreign exchange options contracts, namely that such prices were formulated by the counter-parties to the contracts (i.e., Kruger’s banks). The Court held there was a “probably inconsistency in values” depending on the pricing method used by the counter-party.

In respect of Kruger’s alternative argument that the options contracts were inventory, the Court determined that Kruger was carrying on a business of speculating on foreign exchange currency options that was separate from its manufacturing business. Further, the Court determined that the foreign exchange options contracts were financial liabilities when such contracts were written by Kruger, and property (i.e., inventory) when purchased by Kruger.

The Court allowed the appeal only to permit Kruger to value its purchased foreign exchange options contracts in accordance with subsection 10(1) of the Act (which would have an effect similar to mark-to-market accounting in that the contracts would be valued each year at the lower of cost and fair market value). Additionally, the amount of $91,104,379 was to be added to Kruger’s taxable capital for the purposes of the large corporations tax.

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Kruger: FX Derivatives Gains/Losses Taxed Only When Realized

SCC Clarifies Law on Admissibility of Expert Evidence

The Supreme Court has released its decision in White Burgess Langille Inman v. Abbott and Haliburton (2015 SCC 23) in which it considered whether the standards for admissibility of expert evidence should take into account the proposed expert’s (alleged) lack of independence or bias.

The Supreme Court’s decision brings some much-needed clarity to the issue of whether a trial judge can disqualify an expert based on impartiality and lack of independence at the qualification stage (i.e., Mohan).  Until now, there has been conflicting case law on this issue, with the majority of the cases supporting the conclusion that, at a certain point, expert evidence should be ruled inadmissible due to the expert’s lack of impartiality and/or independence.

The important questions that remained unanswered, and that trial courts struggled with, were (1) should the elements of an expert’s duty (i.e., independence and impartiality) go to admissibility of the evidence rather than simply to its weight? (2) If so, is there a threshold admissibility requirement in relation to independence and impartiality?

The Supreme Court unanimously answered both questions with “yes.”

(1)   The Expert’s Duty

The Supreme Court stated that expert witnesses have a duty to the court to give fair, objective and non-partisan opinion evidence.  They must be aware of this duty and be able and willing to carry it out.  Underlying the various formulations of the duty of an expert are three related concepts:

(i)        Impartiality: The expert’s opinion must be impartial in the sense that it reflects an objective assessment of the questions at hand.

(ii)        Independent: It must be independent it in the sense that it is the product of the expert’s independent judgment, uninfluenced by who has retained him or her or the outcome of the litigation.

(iii)        Absence of Bias: It must be unbiased in the sense that it does not unfairly favour one party’s position over another.  The “acid test” is whether the expert’s opinion would not change regardless of which party retained him or her.

However, the Supreme Court recognized that these concepts must be applied to the realities of adversary litigation.  Experts are generally retained, instructed and paid by one of the adversaries. According to the Court, “these facts alone do not undermine the expert’s independence, impartiality and freedom of bias.”

(2)   The Framework

The Court concluded that concerns related to the expert’s duty to the court and his or her willingness and capacity to comply with it are best addressed at the “qualification of expert” element of the Mohan framework (which is part 4 of that test).  A proposed expert witness who is unable and unwilling to fulfill his or her duty to the court is not properly qualified to perform the role of an expert.  If the expert witness does not meet this threshold admissibility requirement, his or her evidence should not be admitted.  Once this threshold is met, however, remaining concerns about an expert witness’s compliance with his or her duty should be considered as part of the overall cost-benefit analysis which the judge conducts to carry out his or her gatekeeping function.

The Supreme Court essentially adopted the 2-part test set out by the Ontario Court of Appeal in R. v. Abbey (2009 ONCA 624) and added its own gloss with respect part 4 of that test:

Step 1

The proponent of the expert evidence must establish the threshold requirements of admissibility.  These are the four Mohan factors (relevance, necessity, absence of an exclusionary rule, and properly qualified expert).

In addition, in the case of an opinion based on novel or contested science or science used for a novel purpose, the reliability of the underlying science for that purpose (see R. v. J.-L.J. (2000 SCC 51) per Binnie J.).

After reviewing Canadian, British, Australian, and U.S. authorities, the Supreme Court concluded that an expert’s lack of independence and impartiality goes to the admissibility of the evidence in addition to being considered in relation to the weight to be given to the evidence if admitted.  In reaching this conclusion, it relied upon Justice Binnie’s oft cited quote in R. v. J-L.J.: “The admissibility of the expert evidence should be scrutinized at the time it is proffered, and not allowed too easy an entry on the basis that all of the frailties could go at the end of the day to weight rather than admissibility”.

The Court concluded that concerns related to the expert’s duty to the court and his or her willingness and capacity to comply with it are best addressed initially in the “properly qualified expert” element of the Mohan framework.  In another recent decision, the Supreme Court held that for expert testimony to be inadmissible, more than a simple appearance of bias is necessary.  The question is not whether a reasonable person would consider that the expert is not independent.  Rather, what must be determined is whether the expert’s lack of independence renders him or her incapable of giving an impartial opinion in the specific circumstances of the case (Mouvement Laïque Québécois v. Saguenay (City) (2015 SCC 160) at para. 106).

Evidence that does not meet these threshold requirements should be excluded.

Step 2

Finding that expert evidence meets the basic threshold does not end the inquiry. At the second discretionary gatekeeping step, the judge balances the potential risks and benefits of admitting the evidence in order to decide whether the potential benefits justify the risks (put another way, whether otherwise admissible expert evidence should be excluded because its probative value was overborne by its prejudicial effect).  This is a residual discretion to exclude evidence based on a cost-benefit analysis. The Court adopted Doherty J.A.’s summary of this balancing exercise in Abbey – that the “trial judge must decide whether expert evidence that meets the preconditions to admissibility is sufficiently beneficial to the trial process to warrant its admission despite the potential harm to the trial process that may flow from the admission of the expert evidence.”

(3)   The Threshold

The Court also discussed the appropriate threshold for admissibility.  If a witness is unable or unwilling to fulfill his or her duty, they do not qualify to perform the role of an expert and should be excluded.  The expert witness must, therefore, be aware of this primary duty to the court and be able and willing to carry it out.  While the Court wouldn’t go so far as to hold that the expert’s independence and impartiality should be presumed absent challenge, the Court did state that absent such challenge, the expert’s attestation or testimony recognizing and accepting the duty will generally be sufficient to establish that this threshold is met.

Once the expert testifies on oath to this effect, the burden is on the party opposing the admission of the evidence to show that there is a realistic concern that the expert’s evidence should not be received because the expert is unable and/or unwilling to comply with that duty. If the opponent does so, the burden to establish on a balance of probabilities this aspect of the admissibility threshold remains on the party proposing to call the evidence.  If this is not done, the evidence, or those parts of it that are tainted by a lack of independence or by impartiality, should be excluded.

The Court held that this threshold requirement is not particularly onerous and it will likely be quite rare that a proposed expert’s evidence would be ruled in admissible for failing to meet it. The trial judge must determine, having regard to both the particular circumstances of the proposed expert and the substance of the proposed evidence, whether the expert is able and willing to carry out his or her primary duty to the court.  It is the nature and extent of the interest or connection with the litigation or a party thereto which matters, not the mere fact of the interest or connection.  The Court further stated that the existence of some interest or a relationship does not automatically render the evidence of the proposed expert inadmissible.  For example, a mere employment relationship with the party calling the evidence will be insufficient to do so.

The Court went on to provide some examples of types of interests/relationships that may warrant exclusion of the expert’s evidence:

  • A direct financial interest in the outcome of the litigation will be of some concern;
  • A very close familial relationship with one of the parties;
  • Situations in which the proposed expert will probably incur professional liability if his or her opinion is not accepted by the court; or
  • An expert who, in his or her proposed evidence or otherwise, assumes the role of an advocate for a party.

The decision as to whether an expert should be permitted to give evidence despite having an interest or connection with the litigation is a matter of fact and degree.  The concept of apparent bias is not relevant to the question of whether or not an expert witness will be unable or unwilling to fulfill its primary duty to the court.  When looking at an expert’s interest or relationship with a party, the question is whether the relationship or interest results in the expert being unable or unwilling to carry out his or her primary duty to the court to provide fair, non-partisan and objective assistance.

The Court emphasized that exclusion at the threshold stage of the analysis should occur only in very clear cases in which the proposed expert is unable or unwilling to provide the court with fair, objective and non-partisan evidence.  Anything less than clear unwillingness or inability to do so should not lead to exclusion, but be taken into account in the overall weighing of costs and benefits of receiving the evidence.

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SCC Clarifies Law on Admissibility of Expert Evidence

Guindon: SCC Hears Arguments in Penalty Case

The Supreme Court of Canada heard oral arguments today in the case of Guindon v. The Queen (Docket No. 35519). At issue in the case is the nature of the third-party penalty in section 163.2 of the Income Tax Act.

See our previous post on the case here.

The taxpayer’s factum is available here, and the Crown’s factum is here. In written submissions, the taxpayer argued:

    1. Section 163.2 is an offence provision that attracts the protections of section 11 of the Charter, and
    2. No notice of constitutional question was required.

In response, the Crown argued:

    1. The taxpayer’s failure to file a notice of constitutional question is fatal to the appeal, and
    2. Section 163.2 is not an offence provision.

The seven-member panel was chaired by Justice Rosalie Abella. (Absent were Chief Justice Beverley McLachlin and recently appointed Justice Suzanne Côté.)

Taxpayer’s Arguments

The Appellant first addressed the question of whether notice of a constitutional question was required under section 19.2 of the Tax Court of Canada Act. The Appellant argued that it was not advancing the position that section 163.2 was invalid or inapplicable or inoperable, and thus no notice was required. Further, if notice was required, it had been provided in respect of the Supreme Court proceeding.

This brought a series of pointed questions from Justices Abella and Moldaver, who asked whether the effect of the Appellant’s interpretation would be to “throw out” the third-party penalty regime in section 163.2 because it would become subject to criminal procedural requirements. Further, the Court was unconvinced that providing the notice in respect of the Supreme Court hearing cured the failure to provide the notice in the Tax Court.

In respect of the Wigglesworth test, the Appellant argued that section 163.2 is directed at any person, and therefore it is intended to promote public order rather than to regulate a private sphere of conduct. Further, section 163.2 has a true penal consequence in that the penalty imposed under this section is identical to the penalty that could be imposed under section 239 for criminal tax evasion.

Justice Rothstein asked several questions about how section 163.2 differs from the other penalty provisions in the Act and whether a finding that section 163.2 was an offense would require Parliament to redraft the provision to include language similar to that found in section 239. On this point, Justice Abella returned to the issue of whether the Appellant was in fact seeking to have section 163.2 declared inoperable.

Crown’s Arguments

The Crown’s submissions were generally received with less judicial intervention from the Court.  The Crown began its submissions with a discussion of the issue of notice of constitutional question.  When asked whether the failure to give notice can be cured in subsequent proceedings, counsel for the Crown conceded that it could in certain cases, but that by the time the dispute comes before the Supreme Court, the matter should be fully argued and the evidentiary record should be complete.

The Crown argued that, in this case, the Federal Court of Appeal could have done one of three things, each of which would have been acceptable: (1) it could have said that notice of constitutional question is required, adjourned the proceedings to remedy the failure, and heard arguments on the substantive issue; (2) it could have returned the matter back to the Tax Court to have the notice served and arguments re-heard so that the evidentiary record could be completed at trial; or (3) it could have done what it did in this case, and held that failure to give notice prevented the court from considering whether section 163.2 implicates the Charter. On this point, Crown counsel argued that the Supreme Court should not sanction a practice that makes it better to ask for forgiveness on appeal rather than asking for permission in the Tax Court.

Regarding the substantive issue, Crown counsel argued that since the penalty is computed mathematically, and with specific reference to the amount of tax credits that the individual taxpayers claimed under the Income Tax Act, then the penalty in section 163.2 is a non-discretionary penalty that bears none of the principles of sentencing (e.g., blameworthiness, retribution, denunciation, reparation, etc.).

Crown counsel discussed the facts of the case to show the link between the penalty amount and the underlying income tax at issue.  Interestingly, Crown counsel distinguished this penalty (i.e., the “tax preparer” penalty) from the “tax advisor” penalty in section 163.2, on the basis that the tax advisor penalty takes into account “gross entitlements”, which this particular penalty does not (therefore, it remains to be seen in a future case whether the “tax advisor” penalty in section 163.2 could be treated differently).  In response to questions from Justices Abella and Rothstein, Crown counsel stated that this penalty is not an “outlier”, as counsel for the Appellant suggested, and that the type of stigma attached to this penalty is a different kind of stigma than the one attached to criminal sanctions.

Finally, regarding the issue of quantum, Crown counsel argued that the amount of the penalty was irrelevant to the analysis.  Justices Abella and Rothstein asked whether the analysis would change if the amount was sufficiently enormous.  Crown counsel argued that the analysis turns on whether the penalty is penal in nature, and if the answer is no, then only in extreme cases would the actual amount cause a penalty to be penal.

*     *     *

Following brief submissions made by the intervener, the Court reserved its decision.

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Guindon: SCC Hears Arguments in Penalty Case

Guindon: SCC Hearing Scheduled for December 5, 2014

The highly-anticipated appeal to the Supreme Court of Canada in Guindon v The Queen has been scheduled for hearing on December 5, 2014, and the parties have now filed their factums in the appeal.

For our prior posts on this decision, refer to our summary of the Tax Court decision (2012 TCC 287), our guest blogger’s summary of the Federal Court of Appeal decision (2013 FCA 153), and our summary of the Supreme Court leave application (Docket No. 35519).

The Appellant’s (Ms. Guindon’s) Factum is available here, and the Respondent’s (Crown’s) Factum is here.

The appeal concerns the “third party” penalties under section 163.2 of the Income Tax Act.  In short, the Tax Court found that the penalty imposed under section 163.2 is a criminal penalty, not a civil one, and therefore subject to the protection of (inter alia) section 11 of the Charter of Rights and Freedoms.

The Federal Court of Appeal reversed on the basis that Ms. Guindon did not provide notice of a constitutional question, and thus the Tax Court lacked jurisdiction to make an order on the nature of section 163.2.  In any event, the Federal Court of Appeal also stated that the penalty under section 163.2 was not criminal in nature, and hence, was not subject to Charter protections.

Taxpayer’s Arguments

On appeal to the Supreme Court, Ms. Guindon has framed her appeal as follows: based on the Supreme Court’s decisions in Wigglesworth and Martineau, section 163.2 is an offence provision that attracts the protection of (inter alia) section 11 of the Charter on the basis that section 163.2 is (1) an offence provision “by nature” and (2) an offence provision by virtue of its true “penal consequences”.

In addition, if section 163.2 is an offence provision, then Ms. Guindon argues that her section 11 Charter rights were breached in a manner that cannot be justified under section 1 of the Charter (applying the Oakes test).

Finally, Ms. Guindon asserts that a notice of constitutional question did not need to be filed in this case, since she was not seeking a declaration that section 163.2 was unconstitutional, but was rather merely asserting her Charter rights (and in the alternative, if notice of constitutional question was needed, Ms. Guindon argues that no prejudice resulted to the Crown and the Supreme Court can simply replace the lower court’s decision with its own).

Crown’s Arguments

The Crown, not surprisingly, has focused its primary argument on the fact that no notice of constitutional question was made by the taxpayer.  Accordingly, the Crown argues that the Supreme Court should dismiss the appeal on that basis alone and need not consider the substantive issues.

Alternatively, the Crown argues that section 163.2 is not an offence provision “by nature”, as its objects are purely administrative, the purpose of the penalty is to deter non-compliance under the Income Tax Act, and the process by which to challenge the penalty (i.e., the objection and appeal process under the Act) is not criminal in nature.

Moreover, the Crown asserts that section 163.2 does not impose true “penal consequences”, since (i) prosecution could have resulted in harsher sanctions (including prison time), and (ii) the magnitude of the penalty must be assessed in the context of the malady it intends to remedy (notwithstanding the lack of a penalty “ceiling”).  If the Supreme Court finds that section 163.2 infringes section 11 of the Charter, then the Minister will not seek to uphold it under section 1 of the Charter.

Potential Implications

Regardless of the Supreme Court’s finding on the issue regarding the notice of constitutional question, it would be surprising if the Supreme Court did not consider the substantive issue – it would be puzzling for the Court to grant leave and consider only the preliminary question. Accordingly, even if Ms. Guindon’s appeal fails on technical grounds, we expect the Court to offer much-needed guidance on the nature of section 163.2.

If the Court determines that section 163.2 infringes section 11 of the Charter (regardless of its finding on the “notice” issue), we can expect the Department of Finance may consider amendments to 163.2 (and the parallel provision under the Excise Tax Act) in a manner that takes into account the Supreme Court’s reasons.

The Court’s decision will also have implications for the Excise Tax Act (the “ETA”).  Section 285.1 of the ETA imposes a similar planner/preparer penalty for GST/HST purposes. At the CPA Commodity Tax Symposium in Ottawa (held on September 29 and 30, 2014), the CRA announced that it had recently issued the first penalty under section 285.1 of the ETA.

And for both the ITA and ETA, we expect there may be other potential penalty reassessments issued – or not – depending on the result of the Guindon case.

For these reasons, we eagerly await the hearing on December 5, 2014 and the Court’s subsequent decision.

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Guindon: SCC Hearing Scheduled for December 5, 2014