Triad Getsco Ltd vs. H. M. The Queen (Canada Tax Court)

General Anti Avoidance Rule (GAAR) Law Explained

The assessee, a Canadian Co controlled by its sole director Peter Cohen, earned capital gain of $7.7M from the transfer of property. Another company named “Rcongold Systems Inc” which was controlled by the assessee issued 8,000 voting “common shares” for a consideration of $8M to the assessee. Thereafter, Rcongold issued 80,000 Class “E” non-voting preferred shares with a redemption price of $100 each to the shareholders (the assessee) by way of dividend. The redemption price of the Class “E” non-voting preferred shares was identical to the fair market value (“FMV”) of the common shares. The said 8,000 “common shares” of Rcongold were sold by the assessee to “the Peter Cohen Trust” for an amount of $65, which resulted in the assessee reporting a capital loss of $7.9 M. The assessee’s claim to set-off the said capital loss of $7.9M against the capital gain of $7.9M was denied by the AO on the ground that the scheme was one for “tax avoidance” and hit by the “General Anti Avoidance Rule” (“GAAR”) in s. 245 of the Canadian Income-tax Act. HELD upholding the stand of the AO:

(i) For the GAAR in s. 245 to apply, three aspects have to be satisfied

(a) the assessee must obtain a “tax benefit” from a “transaction” or “series of transactions”,

(b) the transaction(s) must be an “avoidance transaction” in the sense of not having been “arranged primarily for bona fide purposes other than to obtain the tax benefit” and

(c) the avoidance transaction(s) must be abusive of the provisions of the Act, the burden being on the AO to establish the abuse;

(ii) On facts, all three requirements were satisfied because

(1) there were a “series of transactions” comprising of (a) the incorporation of Rcongold, (b) the subscription for shares of Rcongold by the assessee, (c) the declaration of a stock dividend by Rcongold, (d) the creation of the trust and (d) the sale by the assessee of shares of Rcongold to the trust and there was a “tax benefit” as a result of the transactions;

(2) the primary purpose of each transaction in the series was the avoidance of tax. While the incorporation of Rcongold and the issuance by it of common shares were not avoidance transactions in and of themselves, they were necessary steps taken in furtherance of the scheme. The primary purpose of the entire series of transactions was to obtain a tax benefit and so the entire series of transactions is an avoidance transaction;

(3) The transactions amounted to “abusive tax avoidance” because they sought to defeat the underlying rationale of the capital loss provisions in the Act. The assessee sought to create an “artificial capital loss” without incurring any “real economic loss”.