The recent Harvard Properties Inc. v. The King[1]decision from the Tax Court of Canada (the “TCC”) highlights the expansive scope of section 160 of the Income Tax Act (Canada) (the “Tax Act”)[2] and its application to transactions between commercially independent and unrelated parties, but that were determined to be “factually” non-arm’s length because the transactions did not reflect ordinary commercial dealings. Harvard Properties Inc. (“Harvard Properties”) was a co-owner of the North Hill Shopping Centre (“North Hill”) in Calgary and was held liable under section 160 for taxes owing by a subsidiary corporation it formed and sold to an otherwise unrelated party as part of a tax-planned sale of North Hill by its co-owners.
Understanding section 160
Section 160 has been described as “draconian”[3] because it generally allows the Minister of National Revenue (the “Minister”) to assess and collect tax owing by a tax debtor from a transferee in circumstances where property is transferred from the tax debtor to the transferee for insufficient consideration and the tax debtor and transferee do not deal at arm’s length. For subsection 160(1) to apply to a transferee, the following criteria must be met:[4]
- The transferor must be liable to pay tax under the Tax Act at the time of transfer;
- There must be a transfer of property, either directly or indirectly, by means of a trust or by any other means whatever;
- The transferee must either be:
- the transferor’s spouse or common-law partner at the time of transfer or has since become one;
- a person who was under 18 years of age at the time of transfer; or
- a person with whom the transferor was not dealing at arm’s length; and
- The fair market value (“FMV”) of the property transferred must exceed the FMV of the consideration given by the transferee.
The 2021 federal budget introduced a number of measures to strengthen section 160, including a penalty for planners and promoters of tax debt avoidance schemes[5] and a rule that deems an otherwise arm’s length transferor and transferee at the time of a transfer of property to not have been dealing at arm’s length provided certain conditions are satisfied.[6]
The Abacus plan
In 2005, the co-owners of North Hill, including Harvard Properties, received an unsolicited letter of intent from Abacus for the potential purchase North Hill. The series of transactions undertaken by the co-owners as part of the sale of North Hill included a share sale transaction designed by Abacus with a purchase price that included a premium in excess of the FMV of the sold shares that was calculated as though North Hill was sold by way of an asset sale. Below are the principal steps of the Abacus-planned sale transaction of North Hill relating only to Harvard Properties, with each step having occurred immediately after the previous step:
- Harvard Properties incorporated a new wholly-owned subsidiary corporation (“Subco”) and transferred its interest in North Hill to Subco on a rollover basis pursuant to subsection 85(1) for a combination of voting and non-voting shares of Subco.
- Harvard Properties sold its Subco voting shares to a subsidiary of Abacus (“NH Properties”) in exchange for a $700,000 cash payment and a $7 million promissory note (the “Voting Share Promissory Note”).
- Subco sold its interest in North Hill to a third-party buyer (the “Purchaser”), which triggered recapture and capital gains for Subco.
- NH Properties repaid the Voting Share Promissory Note by directing Subco to release to Harvard Properties the cash that Subco received from the Purchaser from the sale in Step 3.
- Subco increased the stated capital and paid-up capital of its non-voting shares held by Harvard Properties and elected that the consequential deemed dividend arising under subsection 84(1) be a capital dividend for purposes of the Tax Act. (This also increased Harvard Properties’ adjusted cost base of the Subco non-voting shares pursuant to paragraph 53(1)(b).
- Harvard Properties sold the Subco non-voting shares to NH Properties for the balance of the agreed upon purchase price, which was $8.7 million. NH Properties paid this amount by directing Subco to release to Harvard Properties the cash that Subco received from the Purchaser from the sale in Step 3.
The TCC’s decision and factual findings
According to TCC, the transfers of funds to Harvard Properties in Steps 2, 4 and 6 amounted to transfers of properties from NH Properties (i.e., the transferor)[7] to Harvard Properties (i.e., the transferee) for purposes of section 160. The fact that the transfers of funds in Steps 4 and 6 were indirect from NH Properties given the directions by which they were made was of no consequence in light of the “directly or indirectly” language in subsection 160(1).
The TCC also concluded that Harvard Properties and NH Properties were factually not dealing at arm’s length because the premium received by Harvard Properties from Abacus as part of the share sale was “anomalous, lopsided, off-the-mark, intentionally removed from, and clearly out of whack with, a fair market value price,”[8] such that the planned transactions did not reflect ordinary commercial dealings. Based on the evidence presented, it was only possible for Abacus to pay this premium if it did not pay the taxes owing by Subco on the capital gains and recapture generated from Subco’s sale of its North Hill interest in Step 3. Since Harvard Properties was aware of this, but chose to not know or inquire about how Abacus would address that tax liability, the TCC concluded that Harvard Properties, Subco, Abacus and NH Properties were not dealing at arm’s length. The TCC also supported this conclusion based on evidence that Harvard Properties, Abacus and NH Properties “clearly acted together to dictate [Subco’s] actions from their inception and throughout the closing of this series of transactions.”[9]
Additionally, the TCC was of the view that the price paid by NH Properties to Harvard Properties for the Subco shares exceeded their FMV as Subco and NH Properties were “irreversibility destined to be stripped”[10] once the series of transactions started, such that no arm’s length party would have acquired, or paid for, the Newco shares. According to the TCC, there was “little to no chance that any arm’s length party unrelated to these transactions would agree to accept, much less pay for, the [Subco] shares at the relevant time as [Subco] would moments in time later have no assets, no business, and the possibility of a significant liability for [its] role in these transactions.”[11]
Based on these findings, the TCC held Harvard Properties to be potentially liable under section 160, with the maximum amount of NH Properties’ tax liability, if any, for which Harvard Property can be assessed and potentially liable under section 160 being at least $8.7 million.
Key takeaways
Although section 160 has always been an important consideration in the context of transfers between related parties, it is becoming an increasingly important consideration in circumstances where independent and unrelated commercial parties use a tax-driven transaction to complete a purchase and sale. In this regard, the TCC’s decision in this case, and the recent decision of the Federal Court of Appeal in Canada v. Microbjo Properties Inc.,[12] may embolden the Canada Revenue Agency to increasingly seek to characterize commercially independent and unrelated transaction parties as factually non-arm’s length because they enter into structured arrangements that give rise to favourable tax consequences.
Understanding the nuances of section 160 and its expansive scope is critical for tax professionals and business owners navigating complex transactions. Our Corporate Tax team has specialists who can assist with any section 160-related questions or issues you may have.
[1] 2024 TCC 139 (“HPI”).
[2] Unless otherwise indicated, all statutory references are to the Tax Act.
[3] See Allen v. The Queen, 2009 TCC 426, at para. 16.
[4] See The Queen v. Livingston, 2008 FCA 89.
[5] See section 160.01.
[6] See paragraph 160(5)(a).
[7] The TCC presumed that NH Properties was a tax debtor at the time of the transfers in Steps 2, 3 and 6 (see HPI, supra note 1 at para. 151).
[8] HPI, supra note 1 at para. 144.
[9] Ibid., at para. 161.
[10] Ibid, at para. 172.
[11] Ibid., at para. 174.
[12] 2023 FCA 157.
