Below is a summary of recent developments in tax jurisprudence.
The Queen v. Cameco Corporation
The Supreme Court of Canada (SCC) dismissed the Minister’s application for leave to appeal, effectively ending Canada’s landmark transfer pricing case.
The Minister reassessed Cameco to include in its taxable income all the gains its European subsidiary earned from selling uranium. At the Tax Court of Canada (TCC), the Minister alleged that the creation of the European subsidiary was a sham established to avoid Canadian taxes and, in the alternative, that the transfer pricing rules applied to allow the Minister to reallocate the profits to Cameco. The TCC dismissed both arguments.
At the Federal Court of Appeal (FCA), the Minister’s only argument was that the transfer pricing rules applied because Cameco would not have entered into the same transactions with arm’s-length persons. The FCA disagreed, finding that Cameco’s transactions with its European subsidiary were on arm’s-length terms and, therefore, compliant with Canada’s transfer pricing rules.
The SCC’s dismissal means that the FCA’s interpretation of the transfer pricing rules will guide future transfer pricing cases.
The estate successfully appealed that it was entitled to $55 million in losses in the 2000 to 2006 taxation years generated through forward foreign exchange trading.
The estate purchased straddled forward foreign exchange contracts – one long and one short. The taxpayer closed the loss leg of the straddle before the end of the year (realizing a loss in the year) and closed the gain leg of the straddle early in the following year (recognizing the gain in the subsequent year). The taxpayer followed the same process year over year, using the loss leg of the straddle to shelter virtually all income earned in the year, including the gains from the straddle closed at the beginning of the year. The taxpayer followed this process for seven years, resulting in $55 million of losses.
The Minister disallowed the losses and advanced several arguments to support the disallowance of the losses, including that (i) the straddle transactions were not a source of income because there was no business purposes and (ii) the arrangement was a sham. The TCC found that the taxpayer purchased the straddles to incur tax losses in an amount that would be sufficient to offset the income earned in the year, but the absence of a business purposes did not lead to a finding that the straddles were not a source of income. Following the SCC’s decision in Stewart v. Canada, because forward foreign exchange trading is a commercial activity, it is a source of income notwithstanding the tax motivation. Moreover, the TCC dismissed the Minister’s sham argument on the basis that there was nothing false or misleading about the trades and that none of the parties sought to deceive anyone.
As a separate issue, the TCC held that the taxpayer underreported approximately $8M of income in the 2002 taxation year when the taxpayer failed to include the gain leg of the straddle transaction, and upheld the Minister’s assessment of gross-negligence penalties in respect of this income.