Ottawa to Combat Losses on Income Trusts
According to a report in the January 27, 2010 National Post, income trusts have been merging with corporations that have tax losses as a means of reducing their taxable income. The Income Tax Act contains provisions restricting the availability of losses upon the acquisition of control of a corporation, but they may not be applicable. In response, the Canada Revenue Agency (CRA) may consider using the general anti-avoidance rule (GAAR) to deny the use of the losses.
In order for GAAR to apply, three elements must exist:
1. The taxpayer must receive a tax benefit from a transaction or part of a series of transactions;
2. The transaction or series of transactions must constitute an “avoidance transaction”;
3. The tax benefit constitutes abusive tax avoidance. In other words the receipt of the tax benefit would be inconsistent with the object, spirit or purpose of the provisions relied upon by the taxpayer.
A superficial analysis of these transactions would show that these taxpayers receive a tax benefit as they would be receiving the loss carry-forwards that will reduce their taxable income. There may be a question, however, whether the transaction or series of transaction constitutes an “avoidance transaction”. Without knowing the specific facts of the conversions, it is impossible to say how these would be characterized. However, if these were found to be avoidance transactions, the tax benefit could constitute abusive tax avoidance.
The Supreme Court of Canada dealt with the issue of loss trading in the Mathew. Though the facts of the case were different than these cases, the Supreme Court of Canada recognized a general policy within the Income Tax Act that prevented the transfer of losses between taxpayers, subject to specific exemptions. However, a strong argument could be made that the availability of the losses to these trusts should be interpreted to mean that these transactions fall within one of these specific exemptions.
Given the amount at stake for both CRA and the trusts, it is likely that this issue will be brought before the Tax Court of Canada and the Federal Court of Appeal before all is said and done.
Originally posted on www.piccololaw.ca, used with permission.
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