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Westerhoff and McCallum: More from the OCA on Expert Evidence

The Ontario Court of Appeal released its decision last week in Westerhof v. Gee Estate and McCallum v. Baker (2015 ONCA 206), which are the companion cases to Moore v. Getahun.  All three appeals were heard together.

The legal issue before the Court in Westerhof  and McCallum was whether participant experts and non-party experts could give opinion evidence without having to comply with Rule 53.03, which describes the deadlines and content requirements for expert reports.

The Court of Appeal held that the Divisional Court erred in concluding that the type of evidence – whether fact or opinion – is the key factor in determining to whom Rule 53.03 applies.

Rather, the Court of Appeal was unanimous in that participant experts and non-party experts may give opinion evidence without complying with Rule 53.03.  As a result, Rule 53.03 does not apply to the opinion evidence of a non-party expert or participant expert where he or she has formed a relevant opinion based on personal observations or examinations relating to the subject matter of the litigation for a purpose other than the litigation.

Background

At the trial of Mr. Westerhof, the plaintiff proposed to call evidence from nine medical witnesses.  From the outset, the trial judge ruled that the medical witnesses who treated or assessed the plaintiff but did not comply with Rule 53.03 would not be entitled to give opinion evidence concerning their diagnosis or prognosis, even though they had not been retained for the purpose of the litigation. Those witnesses were also prevented from giving evidence of the history they had taken from Westerhof. The Divisional Court upheld the trial judge’s conclusion.  The Court of Appeal did not agree and reversed the decision, ordering a new trial.

At the trial of Mr. McCallum, the defendant appealed that decision on the basis, inter alia, that the trial judge erred by allowing treating medical practitioners who had not complied with Rule 53.03 to give “an avalanche” of opinion evidence.  The Court of Appeal dismissed this appeal.

Principles set out by the Court of Appeal

Simmons J.A., writing on behalf of the Court of Appeal, concluded that a witness with special skill, knowledge, training or experience who has not been engaged by or on behalf of a party to the litigation may give opinion evidence for the truth of its contents without complying with Rule 53.03 where:

  • The opinion to be given is based on the witness’s observation of or participation in the events at issue; and
  • The witness formed the opinion to be given as part of the ordinary exercise of his or her skill, knowledge, training and experience while observing or participating in such events.

The Court also tried to clear the confusion that often arises from referring to these witnesses as “fact witnesses” because their evidence is derived from their observations of or involvement in the underlying facts.  Simmons J.A. preferred to refer to these witnesses as “participant experts,” which takes into account that in addition to providing evidence relating to their observations of the underlying facts, they may also give opinion evidence admissible for its truth.  As with all evidence, and especially opinion evidence, the Court reiterated that it retains its gatekeeper function in relation to opinion evidence from participant experts and non-party experts.

Six factors were cited by the Court as reasons why the Divisional Court erred:

  1. The Divisional Court failed to refer to a single case under the pre-2010 jurisprudence, which support the conclusion that Rule 53.03 does not apply to opinion evidence given by participant experts. The Court reiterated its view in Moore that “the 2010 amendments to rule 53.03 did not create new duties but rather codified and reinforced … basic common law principles.”  The Court found no basis for the Divisional Court to conclude that the pre-2010 jurisprudence did not continue to apply following the 2010 amendments to the Rules relating to expert witnesses.
  2. Apart from Westerhof, no cases were brought to the Court’s attention that support the view that participant experts are obliged to comply with Rule 53.03 when giving evidence concerning treatment opinions.
  3. There was nothing in Justice Osborne’s Report on the Civil Justice Reform Project that indicated an intention to address participant experts or non-party experts; rather, the focus was litigation experts – expert witnesses engaged by or on behalf of a party to provide opinion evidence in relation to a proceeding.
  4. The use of the words “expert engaged by or on behalf of a party to provide [opinion] evidence in relation to a proceeding” in Rule 4.1.01 and Form 53 makes it clear that an expert must be “engaged by or on behalf of a party to provide [opinion] evidence in relation to the proceeding before the rule applies.  The Court concluded that witnesses, albeit ones with expertise, testifying to opinions formed during their involved in a matter, do not come within this description.  They are not engaged by a party to form their opinions, and they do not form their opinions for the purpose of the litigation.
  5. The Court was not persuaded that disclosure problems exist in relation to the opinions of participant experts and non-party experts requiring that they comply with Rule 53.03.  Quite often, these experts will have prepared documents summarizing their opinions about the matter contemporaneously with their involved, which can be obtained as part of the discovery process.  In addition, it is open to a party to seek disclosure of any opinions, notes or records of participant experts and non-party experts the opposing party intends to rely on at trial.
  6. Requiring participant witnesses and non-party experts to comply with Rule 53.03 can only add to the cost of the litigation, create the possibility of delay because of potential difficulties in obtaining Rule 53.03 compliant reports, and add unnecessarily to the workload of persons not expected to have to write Rule 53.03 compliant reports.

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Westerhoff and McCallum: More from the OCA on Expert Evidence

ConocoPhillips: FCA Confirms Tax Court’s Jurisdiction to Determine Questions of Timing and the Validity of a Notice of Objection

In ConocoPhillips Canada Resources Corp. v. The Queen (2014 FCA 297), the Federal Court of Appeal overturned a Federal Court decision (2013 FC 1192) and dismissed an application for judicial review by the taxpayer finding that the Federal Court lacked jurisdiction in this case.

ConocoPhillips had commenced an application for judicial review as a result of a dispute between the CRA about whether a Notice of Reassessment had been validly sent to the taxpayer.  The CRA alleged that it mailed a Notice of Reassessment on November 7, 2008. ConocoPhillips alleged that it never received the Notice of Reassessment and that it first learned of the reassessment on April 14, 2010.

Accordingly, when ConocoPhillips filed a Notice of Objection on June 7, 2010, the CRA advised that it would not consider the objection on the grounds that it was not filed within 90 days of the alleged mailing date (i.e., November 7, 2008) and that no request for an extension of time was made within the year following the alleged mailing date of the reassessment.

The Federal Court considered the question of jurisdiction and found that it had jurisdiction because the Court was not being asked to consider the validity of the reassessment (which can only be determined by the Tax Court of Canada) but rather, was only being asked to review the CRA’s decision not to consider the objection.

Based on the standard of reasonableness, the Federal Court found in favour of ConocoPhillips on the basis that the CRA had not sufficiently engaged the evidence to appropriately render an opinion whether or not the reassessment was mailed on the alleged date. The Court set aside that decision.

The Crown appealed to the Federal Court of Appeal on the basis that the Federal Court lacked jurisdiction on this issue.  The Federal Court of Appeal allowed the appeal.

Section 18.5 of the Federal Courts Act provides that judicial review in the Federal Court is not available where, inter alia, an appeal is permitted on the issue before the Tax Court of Canada.  In the present case, the Federal Court of Appeal stated that, pursuant to subsection 169(1)(b) of the Income Tax Act (Canada), ConocoPhillips could have appealed to the Tax Court after 90 days had elapsed following the date its objection was initially filed and the Tax Court would have been the correct forum to determine if, or when, the Notice of Reassessment was mailed and when the time for filing a Notice of Objection expired.

The Federal Court of Appeal clarified that the Minister’s obligation to consider a Notice of Objection is triggered regardless of whether a Notice of Objection may have been filed within the required time-frame. Further, the Minister’s decision on this issue is not an impediment to filing an appeal to the Tax Court pursuant to paragraph 169(1)(b) of the Income Tax Act (Canada). Accordingly, judicial review of this issue was not available in the Federal Court.

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ConocoPhillips: FCA Confirms Tax Court’s Jurisdiction to Determine Questions of Timing and the Validity of a Notice of Objection

Brent Kern Family Trust: FCA Dismisses Appeal

In Brent Kern Family Trust v. The Queen (2014 FCA 230), the Federal Court of Appeal dismissed the taxpayer’s appeal with reasons delivered from the bench. The taxpayer had argued that the decision of Canada v. Sommerer (2012 FCA 207) should not apply in this case and, in the alternative, that Sommerer was wrongly decided and ought not to be followed.

Brent Kern Family Trust was a case in which the taxpayer undertook a series of transactions whereby a taxpayer (Mr. K) completed an estate freeze for two corporations (the underlying facts are described in detail in the Tax Court decision (2013 TCC 327)).

Following the estate freeze, two family trusts were set up each with Mr. K and his family as beneficiaries as well as each trust having a separate corporate beneficiary. Next, each of the trusts subscribed for common shares in the corporate beneficiary of the other trust.

Once the structure was in place, a dividend was flowed through the structure and, as a final step, one of the trusts paid funds to Mr. K but relied on the application of subsection 75(2) of the Act to deem the dividend income received by the trust to be income in the hands of one of the corporate beneficiaries. Accordingly, if subsection 75(2) of the Act applied, the income would not be subject to tax as a result of section 112 of the Act and Mr. K could keep the gross amount of the funds.

In the decision rendered at trial, the Tax Court held that Sommerer case applied and subsection 75(2) of the Act did not apply on the basis that the trust purchased the property in question for valuable consideration and no “reversionary transfer” occurred.

In Brent Kern Family Trust, the Court of Appeal found that there was no reviewable error in the trial judge’s finding that Sommerer applied, that the Court of Appeal in Sommerer “spent considerable time analyzing the text, content and purpose of subsection 75(2)”, and no reviewable error had been brought to the Court’s attention in the present case.

The Court of Appeal dismissed the taxpayer’s appeal and upheld the Tax Court’s decision.

We note also that at least one taxpayer has brought an application in a provincial court to correct a transaction where the taxpayer never intended for Sommerer to apply. In Re Pallen Trust (2014 BCSC 405), the B.C. Supreme Court rescinded two dividends, the effect of which was to eliminate the tax liability in the trust. Re Pallen Trust is under appeal to the B.C. Court of Appeal.

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Brent Kern Family Trust: FCA Dismisses Appeal

Bolton Steel Tube: TCC Orders Crown to Reassessment in Accordance with Settlement‏

In Bolton Steel Tube Co. Ltd. v. The Queen (2014 TCC 94), the Tax Court of Canada allowed the taxpayer’s motion requesting an Order that would require the CRA to reassess the taxpayer in accordance with the terms of a settlement agreement. In doing so, the Tax Court discussed certain principles regarding settlement agreements and the resulting reassessments.

In Bolton Steel Tube, the CRA reassessed the taxpayer for its 1994, 1995, 1996 and 1997 taxation years on the basis that the taxpayer failed to report income in each of those taxation years (the “2007 Reassessment”).

In 1996, the taxpayer reported $1.2 million of income. The CRA added approximately $600,000 of unreported income for total income of $1.8 million. During examinations for discovery, the CRA’s representative admitted that approximately $200,000 of the $600,000 increase should not have been made. Accordingly, for the 1996 taxation year, the maximum amount of income the CRA could have added as unreported income was $400,000. The CRA further confirmed this admission in its Reply.

On June 15, 2012, the taxpayer delivered to the Crown an offer to settle which proposed to settle the appeals on the basis that (i) the CRA would vacate the reassessments for 1994, 1995 and 1997, and (ii) the CRA would reassess the 1996 taxation year to add $403,219 to the taxpayer’s income and impose a penalty under subsection 163(2) of the Income Tax Act (the “Act”). The Crown accepted this offer without further negotiation, and the parties entered Minutes of Settlement on these terms.

Following the settlement, the CRA issued a reassessment that calculated the taxpayer’s income for its 1996 taxation year to be $2,266,291, essentially adding $403,219 to the $1.8 million that had been previously assessed (the “2012 Reassessment”). The result was illogical: The agreed amount of unreported income – $403,219 – was added twice, and the $200,000, which the CRA had admitted was not to be added to the taxpayer’s income, was included as well.

In requesting the Order, the taxpayer argued that:

The 2012 Reassessment was not supported on the facts and the law;

The 2012 Reassessment violated the principle that the CRA cannot appeal its own assessment; and

The 2012 Reassessment was made without the taxpayer’s consent, which would be required pursuant to subsection 169(3) of the Act.

The Crown argued that if the 2012 Reassessment was varied or vacated then there had been no meeting of the minds, the settlement was not valid, and the 2007 Reassessment should remain under appeal.

The Tax Court agreed with the taxpayer on all three arguments.

With respect to the first argument, the Tax Court found the CRA’s interpretation of the Minutes of Settlement to be “divorced from the facts and law”. The Crown’s position was unsupportable since settlements must conform with the long-standing principal from Galway v M.N.R. (74 DTC 6355 (Fed. C.A.)) that settlements must be justified under, and in conformity with, the Act. In Bolton Steel Tube, the Tax Court went as far to say “even if both parties consented to settling in this manner, it could not be permitted” and “there is nothing to support the [Crown’s] interpretation and nothing to support the [Crown’s] further contention that the [taxpayer] offered this amount in exchange for other years to be vacated”.

With respect to the arguments surrounding subsection 169(3) of the Act, the Tax Court found that the taxpayer had not consented to having its income increased by the amount in the 2012 Reassessment.

The Crown argued that subsection 169(3) of the Act, which allows the CRA to reassess an otherwise statute-barred year upon settlement of an appeal, also allows the CRA to increase the amount of tax which the CRA could reassess despite subsection 152(5) of the Act. Subsection 152(5) of the Act is the operative provision that prevents the CRA from increasing an assessment of tax. Here, the Tax Court maintained the longstanding principle that a reassessment cannot be issued that results in an increase of tax beyond the amount in the assessment at issue. This is tantamount to the CRA appealing its own reassessment, which is not permitted, and thus renders the 2012 Reassessment void. We note that the Tax Court also considered the 2012 Reassessment to be void on the basis that it was an arbitrary assessment.

The Tax Court rejected the Crown’s argument that the settlement was ambiguous and therefore there was no meeting of minds as would be required for a valid contract. The Crown argued that the settlement was not valid and therefore the years under appeal should remain in dispute. The Tax Court turned to fundamental principles of contractual interpretation and found that the contract validly existed since it could reasonably be expected that the Crown would have known that the addition of $403,219 was to be added to the appellant’s income as originally reported (i.e., $1.2 million) and not to the income amount in the 2007 Reassessment (i.e., $1.8 million).

Accordingly, the Tax Court rejected the Crown’s argument, found that the settlement was valid and that the Minister should reassess on the basis that $403,219 should be added to the taxpayer’s income as originally reported. Since the 2012 reassessment was not valid, and therefore did not nullify the 2007 reassessment, and a notice of discontinuance had not yet been filed, the Tax Court continued to have jurisdiction over the appeal.

The result of this motion was a clear victory for the taxpayer and for common sense. It serves as a reminder that precision is essential when entering into settlement agreements.

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Bolton Steel Tube: TCC Orders Crown to Reassessment in Accordance with Settlement‏

Out with the Old, In with the New: Clearwater Seafoods Holdings Trust v. The Queen

In the recent decision in Clearwater Seafoods Holdings Trust (2013 FCA 180), the Federal Court of Appeal considered the scope and purpose of Rule 29(1) of the Tax Court of Canada Rules (General Procedure) (the “Rules”).  When a trust ceases to exist during the course of a tax appeal, with tax liability shifting to a new person, may the new person continue the appeal?  The Court answered that question in the affirmative and unanimously held that this scenario falls within the language and intended purpose of Rule 29(1).

In 2011, Clearwater Seafoods Holdings Trust (the “Trust”) appealed an income tax assessment to the Tax Court of Canada.  In 2012, the Trust transferred all of its assets to Clearwater Seafoods Income Fund, which subsequently transferred the assets to Clearwater Seafoods Incorporated (the “Corporation”).  This transfer occurred in the context of the Trust “converting” to avoid application of the SIFT rules under the Income Tax Act.

At the Tax Court (2012 TCC 186), both parties accepted that the Trust had been terminated as a result of the disposition of all its property; however, this did not automatically bring the income tax appeal to an end.  The issue in Clearwater was whether the tax appeal could be continued with the Corporation as appellant in place of the Trust.  To obtain an order permitting the Corporation to assume the position of appellant going forward, a motion was brought by the Trust pursuant to section 29 of the Rules, which states,

29 (1) Where at any stage of a proceeding the interest or liability of a person who is a party to a proceeding in the Court is transferred or transmitted to another person by assignment, bankruptcy, death or other means, no other proceedings shall be instituted until the Registrar is notified of the transfer or transmission and the particulars of it. [emphasis added]

Once notice has been given to the Registrar, Rule 29 provides that the Chief Justice or a judge designated by him may direct the continuation of the proceeding.  At the Tax Court, the taxpayer brought a motion arguing that the Corporation is the appropriate party to continue the tax appeal as it now owned the property and would be liable if the appeal is unsuccessful.  The Crown argued that the tax appeal should be dismissed for want of an appellant.  The Tax Court held that the matter were not within the scope of Rule 29(1) and the motion was dismissed.  The order was appealed to the Federal Court of Appeal.

The Court of Appeal held that the lower court had construed Rule 29(1) too narrowly.  In arriving at this conclusion, the Court of Appeal addressed the rule’s underlying rationale.  The Court found that the purpose of Rule 29(1) is to deal with instances in which the circumstances of a litigant have changed and special accommodations are required in order to continue the proceeding.  Such changes may include bankruptcy, incapacity due to illness or injury, death of a litigant or the dissolution of a litigant that is a corporation.  The Court also considered such changes to include circumstances where a litigant that is a trust is terminated as a result of the disposition of all of its property.

The Federal Court of Appeal found that the transfer of the property to the Corporation, in effect, placed tax liability on the Corporation and the trustees in the event of an unsuccessful tax appeal.  The termination of the existence of the Trust was found to be within the meaning of “other means” in Rule 29(1).  Consequently, it was held that there was a transmission of liability from the Trust to “another person” by “other means”. The Court held that this scenario falls within the language and purpose of Rule 29(1).  As a result, the appeal was allowed and the matter was sent back to the Tax Court to be reconsidered with a view to directing the continuation of the proceedings.

The decision in Clearwater highlights the Court’s willingness to interpret Rule 29(1) in a broad manner.  It also raises the question of what constitutes “other means” for the purposes of Rule 29.  As a result, it is important for any taxpayer, or party which may acquire tax liability, to consider the implications of Clearwater prior to an income tax appeal.

Out with the Old, In with the New: Clearwater Seafoods Holdings Trust v. The Queen

The importance of a notice of objection: Salisbury v. The Queen

In Salisbury House of Canada Ltd. et al. v. The Queen (2013 TCC 236), the Tax Court of Canada reiterated the importance of the statutory preconditions that must be met before a taxpayer may appeal to the Court. These statutory requirements should be kept in mind by taxpayers who wish to ensure their disputes are heard on the substantive merits rather than dismissed for procedural reasons before they have an opportunity to argue their case.

In Salisbury, the corporate taxpayer operated several restaurants in the Winnipeg area. The company was assessed additional GST for the period February to June, 2006 but did not object to those assessments. Around the same time, a new board of directors was elected. Due to financial difficulties, the company made a proposal under the Bankruptcy and Insolvency Act and attempted to negotiate an agreement with the CRA pertaining to the GST arrears. The parties eventually agreed that a portion of the GST liability would be paid. Importantly, at this point, no directors’ liability assessments had been issued under s. 323 of the Excise Tax Act. Payment was remitted, but the directors sought to have their potential liability for tax determined “by a court of competent jurisdiction”.

The company and the individual directors each filed a Notice of Appeal in the Tax Court. In response, the Crown brought a motion to dismiss the appeals pursuant to paragraph 53(b) of the Tax Court of Canada Rules (General Procedure) on the grounds that (inter alia) the appeals were scandalous, frivolous or vexatious.

Under section 306 of the Excise Tax Act, a taxpayer must file a notice of objection before a Notice of Appeal may be filed in the Tax Court. In Salisbury, the GST assessments against the corporate taxpayer had not been challenged by way of objection and there had been no assessments issued against the directors.  The Minister argued that the appellants had no statutory right of appeal because the requirements of section 306 had not been met.

The Tax Court granted the Minister’s motion and dismissed the appeals. Since no notices of objection had been filed by the company, this precluded an appeal from the original GST assessments. In respect of the appeals by the individual directors, the Court held that they too could not succeed – no assessments had been issued, and no notices of objection filed.

The Salisbury decision is consistent with a long line of jurisprudence reflecting the requirement that taxpayers must satisfy the statutory preconditions before appealing to the Tax Court. In Roitman v. The Queen (2006 FCA 266), the Federal Court of Appeal stated that a court “does not acquire jurisdiction in matters of income tax assessments simply because a taxpayer has failed in due course to avail himself of the tools given to him by the Income Tax Act.” More recently, in Goguen v. The Queen (2007 DTC 5171), the Tax Court reiterated that, as “a matter of law, the failure of the [taxpayer] to serve a notice of objection on the Minister deprive[s] the Tax Court of Canada of the jurisdiction to entertain an appeal in relation to the assessment” (see also Whitford v. The Queen (2008 TCC 359), Bormann v. The Queen (2006 FCA 83), and Fidelity Global Opportunities Fund v. The Queen (2010 TCC 108)).

Salisbury reminds corporate and individual taxpayers of the need to obtain proper advice from tax professionals with respect to their rights and obligations under the Excise Tax Act and the Income Tax Act. This is all the more important in cases where the corporation is experiencing financial difficulty and/or contemplating protection under the Bankruptcy and Insolvency Act (i.e., as the CRA may be a primary creditor). In Salisbury, the directors may not have been personally liable for corporate taxpayer’s GST liability. However, because of the manner and timing of the payment of GST arrears, their “appeal” to the Tax Court was defeated on procedural rather than substantive grounds and they were, unfortunately, precluded from presenting their case.

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The importance of a notice of objection: Salisbury v. The Queen

Taxpayer entitled to disclosure of the “policy” underlying statutory provisions allegedly abused in GAAR cases

On December 20, 2012, the Tax Court ruled on a motion under Rule 52 of the Tax Court of Canada Rules (General Procedure) (the “Rules”) to require the Minister to comply with a demand for particulars specifying how the Income Tax Act (the “Act”) was abused in a General Anti-Avoidance rule (“GAAR”) case.

In Birchcliff Energy Ltd. v The Queen (2012-10887(IT)G), the Minister alleged that the GAAR should apply because the series of transactions (the “Transactions”) undertaken by the taxpayer resulted in a misuse of 10 sections of the Act and an abuse of the Act as a whole. In response, the taxpayer sought an order requiring the Minister to disclose the policy behind each section of the Act that was allegedly abused and how the Transactions abused that policy.

The Tax Court held that the Minister must disclose the object, spirit, and purpose of the provisions of the Act (the “Policy”) that the assessor relied upon in making the assessment. The Minister does not need to disclose the actual Policy that will be argued at trial, or the way that the Policy was abused.

Arguments

The taxpayer argued that in making a GAAR assessment, the Minister must assume as a fact the Policy and an abuse of that Policy. Relying on Johnston v M.N.R. (1948 S.C.R. 486), the taxpayer argued that the Crown had a duty to disclose “precise findings of fact and rulings of law which have given rise to the controversy”. The taxpayer also argued that there was a heightened obligation on the Minister to be specific in cases of misconduct, negligence, or misrepresentation, relying on Chief Justice Bowman’s decision in Ver v Canada ([1995] T.C.J. No. 593). Misuse or abuse, it was argued, belonged in the category of offenses requiring more precise disclosure.

The Minister, on the other hand, argued that the Policy was a conclusion of law, not fact and that only allegations of fact must be disclosed in particulars. The Minister raised a “slippery slope” argument, suggesting that this ruling could require the Crown to explain its legal interpretation of all provisions of the Act in the future. Although the Minister acknowledged that Trustco v Canada (2005 SCC 54) placed the burden of identifying the Policy on the Crown, that burden did not apply to pleadings. The Minister also argued that disclosing the Policy would not help the Appellant because the Minister could still argue a different policy at trial.

Decision

The Tax Court highlighted the unique nature of GAAR, and stated that any disclosure requirements from this case would only apply to GAAR assessments. Justice Campbell Miller specifically pointed to the Crown’s burden to prove the Policy in GAAR cases as evidence of its unique requirements.

Justice Miller separated the elements of the Policy into two distinct categories:

1)      The actual Policy that would be argued and decided at trial (the “True Policy”), and

2)      The fact that the Crown relied on a particular Policy when determining that GAAR should be applied (the “Historical Policy”).

The Court held that the True Policy was a question of law that should ultimately be decided by the court. This policy was open to change throughout the course of litigation and did not need to be disclosed to the Appellant at this stage.

The Historical Policy, however, was held to be “a material fact, not an assumption, but the fact the Minister relied upon x or y policy underlying the legislative provisions at play in the case.” Taxpayers are entitled in pleadings to know the basis of the assessment. Disclosing the Historical Policy would be similar to disclosing the legislation upon which non-GAAR assessments are made. The Court distinguished the Historical Policy from the type of materials to which the taxpayer was denied access in Mastronardi v The Queen (2010 TCC 57), a recent Tax Court decision holding that the Minister did not need to disclose the extrinsic materials on which the Minister relied in determining the Policy. In Mastronardi, the materials sought to be disclosed were evidence that could be used to prove the policy, rather than the material fact of which policy was relied on (evidence itself is not a material fact).

The Historical Policy that must be disclosed is not the Policy of each identified section in isolation. The Minister must identify the collective policy of all of the identified provisions together that the Crown relied on in making the assessment. The Historical Policy should be disclosed under paragraph 49(1)(e) of the Rules as “any other material fact”.

With regards to the Appellant’s request for information on how the Policy was abused, the Court held that it was not required to be disclosed. Abuse is a conclusion of law to be determined by the court based on the Policy and the facts of the case. The Minister did not assume how the Policy was abused as a fact. The Minister concluded, based on the Policy and the facts assumed, that there was an abuse.

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The Tax Court has reiterated that the taxpayer is entitled to know the basis of the assessment made against him.  Such an approach is consistent with principles of fundamental fairness and is entirely in keeping with the letter and spirit of the Rules.

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Taxpayer entitled to disclosure of the “policy” underlying statutory provisions allegedly abused in GAAR cases

Taxpayer wins an important and complex case – Tax Court orders CRA to pay 60% of his out-of-pocket costs

Traditionally in a Tax Court appeal the costs awarded to a successful taxpayer have been no more than a small fraction of the out-of-pocket costs actually incurred in pursuing the appeal. The Court made very rare exceptions in the case of improper or vexatious conduct on the part of CRA. In recent years, however, the Tax Court has shown an increasing willingness to award substantial costs in cases where the taxpayer has been successful on important and novel issues. The recent decision of the Tax Court in Dickie v. The Queen (September 19, 2012) is an important example of how the law is evolving in this area.

In order to understand the implications of the cost award one must briefly examine the background of the underlying tax issue which was reported as Dickie v The Queen (July 10, 2012). The taxpayer was an aboriginal person living on a Reserve. He carried on a substantial business of cutting and slashing timber and brush to permit oil and gas exploration companies to carry out seismic testing. The administrative functions of the business were carried on within the Reserve but the physical activity of the business was carried on almost exclusively outside of the Reserve, generally within an 80 kilometre radius of the Reserve:

[8] While the Appellant clearly negotiated and received accepted contracts for work from the Reserve location, it is clear that 99% of the work was conducted off Reserve, within an 80-kilometre radius of the Reserve. In 2003, the Appellant had over 140 workers engaged for his Business and had revenue of approximately $3.4 million. The Appellant testified he hired mainly aboriginal workers, 16 in all from the Reserve, and others from Reserves in other parts of British Columbia, Alberta, Saskatchewan and even as far away as Newfoundland and Labrador. In all, the evidence is that approximately 105 of the 140 workers were aboriginal workers.

[9] The Appellant testified that the Business would bid on between 20 to 25 tenders a year and was usually successful 20% of the time, hence was awarded four to five contract bids a year. He also testified a small portion of the work of the Business was from small job requests but that the great majority of the Appellant’s Business revenue was from the larger bid contracts. The evidence is clear that all of the clients of the Business, generally oil and gas exploration or distribution companies, were not located or based on the Reserve and in fact most were based in Calgary, Alberta, the place of their office. The Appellant also testified that in 2003 the Business was a competitive one, evidenced also by the fact he was only successful on 20% of his bids.

The taxpayer claimed that his income was exempt for taxation by virtue of paragraph 81(1)(a) of the Income Tax Act:

81(1) There shall not be included in computing the income of a taxpayer for a taxation year,

(a) statutory exemptions [including Indians] – an amount that is declared to be exempt from income tax by any other enactment of Parliament, other than an amount received or receivable by an individual that is exempt by virtue of a provision contained in a tax convention or agreement with another country that has the force of law in Canada; . . .

Traditionally the courts construed this exemption somewhat narrowly placing significant emphasis on physical connection to the reserve and displaying a certain reluctance to apply the exemption to activities in the commercial mainstream.

Two recent decisions of the Supreme Court of Canada, Bastien Estate v. Canada, 2011 SCC 38, [2011] 2 S.C.R. 710 and Dubé v. Canada, 2011 SCC 39, [2011] 2 S.C.R. 764, substantially changed the law in this area. In a nutshell they held that the commercial mainstream test should no longer carry the degree of weight it had historically:

[21] Cromwell J. made it clear that the expression “Indian qua Indian” referred to by La Forest J. and Gonthier J. in Williams does not mean one can import into the purpose of the legislation “an effort to preserve the traditional way of life in Indian communities” or consider as a relevant factor “whether the investment income benefits the traditional Native way of life”. While Cromwell J. found that he did not read the judgments in Mitchell or Williams “as departing from a focus on the location of the property in question when applying the tax exemption”, he also found that neither decision mandated an approach that assessed what is in fact, to use the parlance of the Appellant here, the “Indianness” of the activity. In paragraph 27 of Bastien Estate, Cromwell J. stated:

[27] . . . A purposive interpretation goes too far if it substitutes for the inquiry into the location of the property mandated by the statute an assessment of what does or does not constitute an “Indian” way of life on a reserve. . . .

[22] And in paragraph 28 stated:

[28] . . ., a purposive interpretation of the exemption does not require that the evolution of that way of life should be impeded. Rather, the comments in both Mitchell and Williams in relation to the protection of property which Indians hold qua Indians should be read in relation to the need to establish a connection between the property and the reserve such that it may be said that the property is situated there for the purposes of the Indian Act. While the relationship between property and life on the reserve may in some cases be a factor tending to strengthen or weaken the connection between the property and the reserve, the availability of the exemption does not depend on whether the property is integral to the life of the reserve or to the preservation of the traditional Indian way of life. . .

[23] Likewise Cromwell J. cautioned against elevating considerations of whether the economic activity was in the “commercial mainstream” as a factor of determinative weight in determining the situs of investment income, which he felt was done in Recalma v. Canada, 98 DTC 6238 (F.C.A.) and other decisions of the lower courts, as “problematic” as he stated in paragraph 56 :

[56] . . . because it might be taken as setting up a false opposition between “commercial mainstream” activities and activities on a reserve. Linden J.A. in Folster was alive to this danger when he observed that the use of the term “commercial mainstream” might “… imply, incorrectly, that trade and commerce is somehow foreign to First Nations” (para. 14, note 27). He was also careful to observe in Recalma that the “commercial mainstream” consideration was not a separate test for the determination of the situs of investment property, but an “aid” to be taken into consideration in the analysis of the question (para. 9). Notwithstanding this wise counsel, the “commercial mainstream” consideration has sometimes become a determinative test. . . .

Justice Pizzitelli applied the new test enunciated by the Supreme Court and came to the conclusion that the taxpayer had demonstrated an entitlement to the exemption claimed and made the following direction as to costs:

[74] The appeal is allowed with costs to the Appellant; however, the parties are invited to file written submissions within 30 days as to costs if any of them feel a standard cost award should not stand.

In making his cost award roughly two months later Justice Pizzitelli was critical of CRA’s reliance upon the “commercial mainstream” argument in light of the Bastien and Dubé decisions:

[20] I do however also agree with the Appellant that having regard to the clear wording and intention of the Supreme Court of Canada’s decisions effectively reducing the importance of the commercial mainstream factor, if not obliterating it, that the Respondent could have shortened the proceeding by conceding this fact before trial. While the Respondent’s counsel acknowledged the reduction in weight to be given to the issue in argument at trial, she nonetheless maintained its assumptions in its pleadings regarding the commercial mainstream and argued forcefully that such factor would grant an advantage to aboriginal businesses over non-aboriginal businesses, an argument in my opinion clearly not consistent with the Supreme Court of Canada’s decisions on the issue. As I referred to in my decision, if the other factors are sufficient to establish the income was situate on a Reserve, then any such resulting advantage was acceptable. In my view, the Respondent could have significantly reduced the length of the hearing by conceding the argument before trial on receiving the Appellant’s counsel’s letter. In my view, this matter falls under the heading of Rule 147(h) the denial or the neglect or refusal of any party to admit anything that should have been admitted. In my opinion, the Respondent paid lip service to the Supreme Court of Canada’s decisions on the importance of the commercial mainstream argument yet proceeded to trial on the basis it was one of its strongest arguments.

In the result he awarded the taxpayer 60% of his out-of-pocket costs and 100% of his disbursements claimed:

[26] In my view, having regard to the clear victory of the Appellant in this matter, the sizeable amount of taxes in dispute including for other years for which this case served as a test case, the importance of the commercial mainstream issue in particular and the complexity of the issue in light of the Respondent’s position notwithstanding the Supreme Court of Canada’s decisions in Bastien Estate and Dubé and the amount of work generated for the Appellant as a result of the Respondent’s position on that issue and the importance it continued to give to the commercial mainstream factor as above discussed, which in my view should have been conceded before trial to shorten the trial and narrow the issues, there clearly exist special circumstances justified by the application of factors listed in Rule 147(3) to merit awarding the Appellant costs in excess of the Tariff.

[27] The Appellant asked for between 50 and 75% of solicitor and client costs plus disbursements, consistent with the range of traditional awards cited by author Mark Orkin in the Law of Costs, 2nd ed., Vol. 1 (Aurora: Canada Law Book, 2008) at 2-3 as quoted by Campbell J. in Re Zeller Estate above at paragraph 9. The Appellant’s costs on a solicitor and client basis claimed are $133,000 plus $10,000 in disbursements. In my opinion, the Appellant is deserving of 60% of such claim, amounting to $80,000 plus $10,000 in disbursements, for a total award of $90,000.

While the background of this case is somewhat uncommon, the issues it presents occur frequently in serious commercial tax litigation: important, novel issues involving a great deal of tax. When this is combined with a stubborn refusal on the part of CRA to acknowledge the obvious weaknesses of some of its arguments, we may begin to see more significant costs awards in the mold of the Dickie decision.

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Taxpayer wins an important and complex case – Tax Court orders CRA to pay 60% of his out-of-pocket costs

No Medal for CRA’s Questionable Treatment of Canadian Olympic Medalists

On August 13 I came across this article in the Globe and Mail outlining how CRA treated prizes received by Canadian Olympic Medalists.

Gold medalists receive a $20,000 prize from the Canadian Olympic Committee, Silver medalists $15,000 and Bronze medalists $10,000. The CRA asserts that those amounts are taxable. The CRA’s position is based on what can only be described as a questionable interpretation of Income Tax Regulation 7700:

7700. For the purposes of subparagraph 56(1)(n)(i) of the Act, a prescribed prize is any prize that is recognized by the general public and that is awarded for meritorious achievement in the arts, the sciences or service to the public but does not include any amount that can reasonably be regarded as having been received as compensation for services rendered or to be rendered.

This regulation is directly related to the Nobel Prize in Chemistry awarded in 1986 to Dr. John C. Polanyi of the University of Toronto. There was considerable public sentiment that Dr. Polanyi not be subject to income tax on this prize. As a result the Income Tax Act was amended to introduce the concept of a tax exempt “prescribed” prize. It is one of the most straightforward provisions in Canadian tax law. All that is required is:

    1. recognition of the prize by the general public; and
    2. that the prize is awarded for meritorious achievement in the arts, the sciences or service to the public (I am intentionally omitting the irrelevant language about compensation for services).

Surprisingly, the CRA has concluded that Canada’s Olympic medalists were not being awarded for “service to the public”:

I must clarify that the media reports you refer to dealt not with the value of the medals themselves but with the prize money the Canadian athletes who won medals at the Games. Paragraph 56(1)(n) of the Income Tax Act states that the total of all amounts received in the year as, or on account of a prize for achievement in a field of endeavour that the taxpayer ordinarily carries on should be included in the taxpayer’s income. This provision of the Act would not normally apply to your example of a lottery winner; however, paragraph 56(1)(n) is sufficiently broad as to apply to a prize awarded to an athlete for winning an Olympic medal.

I note that the Act provides an exception to this rule for a prescribed prize. For purposes of this exception, section 7700 of the Income Tax Regulations defines a “prescribed prize” as any prize that is recognized by the general public and that is awarded for meritorious achievement in the arts, the sciences, or in service to the public. Although winning an Olympic medal may be an internationally recognized achievement and could indirectly promote a sense of nationalism, such a prize is not awarded in recognition of service to the public and therefore would not be a prescribed prize and would not fall within the exception.

CRA Document 2008-0300071M4 “Olympic medals” (26 June 2009)

Since it first participated in the games of 1900, Canada has won 278 medals in the Summer Games (an average of 11 per Games) and 145 in the Winter Games (an average of 7 per Games). It is astonishing that the CRA and the Department of Finance would regard the taxation of these awards as material. To suggest that these young men and women who spend years of their lives training for the chance once every four years to put the Canadian flag and anthem on display for the entire world to see and hear are not engaged in service to the Canadian public is not only unsupportable in light of the text, context and purpose of the provision, but serves to undermine the federal government’s own financial support of amateur athletics and best and brightest of Canada’s Olympic athletes. It is hoped that the CRA sees the light sooner rather than later and changes its position accordingly.

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No Medal for CRA’s Questionable Treatment of Canadian Olympic Medalists

Federal Court of Appeal Reserves Judgment in Transalta Corporation v. The Queen (Allocation of Goodwill in Arm’s-Length Transaction)

The Federal Court of Appeal heard the appeal in Transalta Corporation v. The Queen (Court File No. A-350-10) on December 13, 2011 in Calgary. The panel consisted of Justices Evans, Layden-Stevenson and Mainville.

The case concerns the allocation to goodwill of $190 million of a $818 million purchase price paid by AltaLink LP (“AltaLink”) to Transalta to purchase an electricity transmission business.  The Tax Court (2010 TCC 375) partially upheld the application of section 68 of the Income Tax Act  (the “Act”) to re-allocate a portion of the amount allocated to goodwill to tangible assets, despite the fact that the goodwill amount was approximately the amount in excess of the amount that all parties accepted as the net book value of the business assets and working capital.

On appeal, the Crown maintained its argument that not everything that increases the price of a business above its net book value must be regarded as goodwill, since goodwill is a distinct asset of the business with a value.  The Crown argued that the owners of a business would not receive any additional benefit from items such as a skilled employee force.

Transalta argued that the Tax Court had erred by adopting a new test for goodwill as something other than the established residual definition, i.e., the value of a business in excess of its realizable assets.  The test adopted by the Tax Court would require undue and costly subjective analysis and would be commercially unworkable.  Furthermore, one side of a transaction would usually be unaware of the reasons that another party would pay an amount in excess of the realizable value of the business assets.

Transalta argued that where sophisticated arm’s-length parties have agreed to an allocation, for the purposes of section 68 of the Act, there should effectively be a shift of the onus to the Minister of National Revenue to demonstrate that the allocation was not reasonable.  Translta argued that the test for section 68 should be whether a reasonable business person would have agreed to the allocation, having only business considerations in mind.  This would extend the test in Gabco Ltd. v. The Queen (68 DTC 5210), which is well-established as the test for the purpose of section 67 of the Act.

At the conclusion of the parties’ submissions, the panel reserved judgment.

The taxpayer’s Memoranda of Fact and Law are here and here.

The Crown’s Memorandum of Fact and Law is here.

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Federal Court of Appeal Reserves Judgment in Transalta Corporation v. The Queen (Allocation of Goodwill in Arm’s-Length Transaction)