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Chris Falk Stefanie Morand <strong>McCarthy</strong> Tétrault LLP The Facts The taxpayer was a medical doctor who practiced in Canada through a wholly-owned professional corporation (“Canco”), the shares of which had nominal cost and PUC. In the early 2000s, the taxpayer decided to emigrate to the United States. The taxpayer was advised by his accountant that the departure could result in double taxation since the taxpayer would be deemed to have disposed of the Canco shares for Canadian tax purposes on leaving Canada but would not obtain a corresponding step-up in cost for US tax purposes. 38 While the taxpayer could use his personal capital losses and loss carry-forwards (the “Losses”) to offset the capital gain in Canada arising on the deemed disposition, doing so would be an inefficient use of the Losses since the same economic gain would be subject to tax in the United States on any subsequent disposition of the shares. Given the potential for double taxation, a plan was devised to use the Losses while preventing a second taxable realization in the United States. As discussed more particularly below, an important component of the plan was the involvement of the taxpayer’s brother-in-law (“Brother”) who agreed to purchase the shares of Canco. Brother was given a complete indemnity and a $10,000 spread between what he could extract from Canco and what he would have to pay for the shares. Simplified: • in the months leading up to June 25, 2002: o o the taxpayer caused Canco to liquidate its assets; Brother incorporated a new holding company (“Holdco”); • on June 25, 2002: o o o o o the taxpayer and Brother entered into an agreement whereby Brother purchased the Canco shares from the taxpayer in exchange for a promissory note (the “Brother Note”) in the amount of $525,068; Brother transferred the Canco shares to Holdco in exchange for shares of Holdco and a promissory note (the “Holdco Note”) in the same principal amount as the Brother Note; Canco declared dividends and issued cheques in partial payment of the dividends; Holdco endorsed the cheques to Brother as partial payment of the Holdco Note; Brother endorsed the cheques to the taxpayer as partial payment of the Brother Note; 38 The fifth protocol, signed September 21, 2007, has since addressed the double tax issue for dispositions after September 17, 2000. See Article XIII(7) of the Canada-US tax treaty. 560600/422632 MT DOCS 11864055v1G 12
Chris Falk Stefanie Morand <strong>McCarthy</strong> Tétrault LLP o the taxpayer, Brother, Canco and Holdco entered into a further agreement confirming the transactions and providing that on September 1, 2002: • Canco would pay a final dividend to Holdco equal to Canco’s then remaining cash balance less all liabilities; • Holdco would direct that the amounts owed by Canco to Holdco be paid to Brother as payment of the remaining balance of the Holdco Note, and Brother would, in turn, direct that such amounts be paid to the taxpayer as payment of the remaining balance of the Brother Note; o the taxpayer crossed the border, moving to the United States; • on July 15, 2002, Canco paid Holdco $10,000; • on September 1, 2002, Canco declared a final dividend as contemplated in the June 25, 2002 agreement and Canco booked the amount as being owed to the taxpayer pursuant to directions from Holdco and Brother. In completing his tax return for the 2002 taxation year, the taxpayer reported a capital gain on the disposition of the Canco shares equal to $524,967 39 and applied the Losses to offset the gain. In 2008, the Minister reassessed the taxpayer to include in his income for the 2002 taxation year a taxable dividend in the amount of $524,967. 40 In so doing, the Minister relied upon subsection 84(2) and, alternatively, the GAAR in maintaining that the transactions triggered a deemed dividend to the taxpayer. The Minister also maintained that the transactions were a sham such that, on this basis as well, the taxpayer received dividends or deemed dividends. At trial, the principal issues were whether subsection 84(2) or the GAAR applied to recharacterize as a dividend the amount received by the taxpayer for the Canco shares. 41,42 Comparables Before reviewing the Tax Court of Canada’s decision, it is useful to consider the Canadian income tax consequences that would have arisen under several alternative arrangements. Had the taxpayer simply sold the shares to an arm’s length party, he would have realized a capital gain equal to the amount by which his proceeds of disposition exceeded his ACB of $101; however, the decision reports that there was no market for the shares of Canco, either as a professional corporation or a holding company. As noted above, had the taxpayer emigrated from Canada while he still owned the Canco shares, he would have been deemed to have disposed of the shares on leaving Canada and 39 40 41 42 The amount of the Brother Note less the taxpayer’s ACB of $101. The Minister also revised the capital gain from $524,967 to $10,000. This revision was consequential upon the inclusion of the deemed dividend. The sham basis for the assessment was abandoned at trial. In the event that the Court were to determine that subsection 84(2) or the GAAR applied, the taxpayer asked the Court to find that he was not a resident of Canada at the time of any deemed dividends. 560600/422632 MT DOCS 11864055v1G 13
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Presentation Material - McCarthy TÃ©trault

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