Ludco Enterprises Ltd. v. Canada
A-884-97 / A-885-97 / A-886-97 / A-887-97
Marceau and Desjardins JJ.A., Létourneau J.A. dissenting
30/3/99
69 pp.
Appeals from Trial Division decision ((1997), 139 F.T.R. 241) upholding reassessments by MNR disallowing deduction of interest expenses (Income Tax Act (ITA), s. 20(1)(c)(i)) for interest paid on five loans appellants took out between September 1977 and June 1979 for purpose of investing in two foreign investment companies so created and structured as to secure shareholders certain number of tax benefits-Companies incorporated in Panama and operating from Bahamas where income non-taxable-Companies also non-taxable in Canada-Appellants realizing $9.24 million capital gain upon resale of shares in 1985-Appellants receiving some $600,000 in dividends over eight years, but interest on sums borrowed to invest amounting to $6,000,000-Appellants claiming latter sum as deduction, Minister disallowing, Tax Court of Canada and Trial Division upholding disallowance-Appeal dismissed (Létourneau J.A. dissenting)-Marceau J.A.: Department of National Revenue officials' waffling as to how to stem multiplication of investment vehicles organized offshore, efforts to bring about legislative solution to some of problems involved, and discussions concerning appellants' particular case may indicate level of interest in and complexity of overall problem, but no reason to argue against position ultimately adopted in instant case by Minister-No point either in stressing fact organization of both companies as investment vehicles perfectly legal-Trial Judge's finding appellants' true purpose in investing in both companies as structured being to defer tax and transform income into capital gains constitutes finding of fact, should not be altered-What Judge says about insignificance of dividends developed only in order to support key finding-No decision in case law pertains directly to problem raised by instant case-In s. 20(1)(c), obviously question of actual or true, not feigned or merely claimed, intention-Payment of dividends perhaps one consideration, but not true purpose appellants pursuing-True purpose precisely identified by Judge: to transform into non-taxable capital gains half of taxable income investments made with appellants' money might generate-To say applicable test limited to looking at whether income paid out and taxed has effect of depriving word "purpose" in English version, and corresponding expression "en vue de" in French version, of any meaning and flies in face of Parliament's intention, as recognized from outset by Supreme Court in Bronfman Trust v. The Queen, [1987] 1 S.C.R. 32-Hickman Motors Ltd. v. Canada, [1997] 2 S.C.R. 336, distinguished-Desjardins J.A. (concurring reasons): point in issue whether appellants, in determining income for 1981 through 1985 taxation years inclusive, permitted to deduct interest costs arising from bank loans that enabled appellants to invest in companies in question-S. 20(1)(c)(i) entitles appellants to do so if money appellants borrowed used for purpose of earning income from property-Létourneau J.A. correct to dismiss submission investor's dominant purpose must be to derive income from borrowed amounts in order for essential condition of s. 20(1)(c) to be met and interest to be deductible; correct taxpayer need only reasonable expectation of income at moment investment made; correct borrowed money must be used to acquire property for purpose of deriving gross, not net, income-However, not leading to conclusion appellants entitled to deduct interest on loans-Taken together, corporate structure established in tax haven appellants invested in, investment policy consisting exclusively of fixed-income debt securities, and share redemption method, clear indications appellants' real objective to make capital gains-Dividends appellants received and paid tax on merely secondary and incidental to loans and investment-Appellants' activity certainly lawful, but where such investments made with borrowed money, interest paid not deductible-Appellants actually received dividends, and dividends taxed, but receiving dividends not real objective sought by appellants' investments-Even assuming, for sake of argument, Létourneau J.A. correct there exists presumption taxpayer acquiring property producing any amount of income intended to derive income from property, documents establishing structure of corporations borrowed funds invested in rebut presumption in case at bar-Policy Revenue Canada stated and/or followed irrelevant, not changing Act in any way-Although Trial Judge erred in law on several points, conclusion supported by evidence before judge-Létourneau J.A. (dissenting): appeals should be allowed-Clever plan proposed for both companies' shareholders result of lawful legal planning-As result, planning must not colour legal analysis and interpretation of right to deduct interest under Act, s. 20(1)(c)(i)-Trial Judge dismissed appellants' arguments on two grounds: real and primary purpose and use of loans appellants took out not to earn income from property within meaning of s. 20(1)(c)(i), but rather to make capital gain; dividends appellants received neither profit nor was there any reasonable expectation of profit because interest cost greatly and inevitably exceeded dividend amounts (must therefore conclude Judge ascribed meaning of "net income" or "profit" to term "income" in s. 20(1)(c)(i))-In s. 20(1)(c)(i), Parliament described kind of purpose sought by acquisition of property, but did not indicate whether purpose had to be exclusive, immediate, primary or dominant, or whether purpose could also be non-restrictive, ultimate, secondary or incidental-Courts adopt and apply real or true purpose concept-Where, as in case at bar, borrower pursuing dual purpose of potentially making both profit and capital gain, inappropriate for purposes of interpreting s. 20(1)(c)(i) to accept one purpose and dismiss other on ground one corresponds more to borrower's real or true purpose and other must therefore be false-S. 20(1)(c)(i) not providing borrowed money must be used "mainly" for purpose of earning income from property; sufficient for investor to have reasonable expectation of income when investing borrowed money-Not necessary for investor to have expectation of reasonable income-Not for courts to rewrite s. 20(1)(c)(i) to introduce concept of degree, exclusivity or primacy in taxpayer's real or true purposes-Respondent's argument appellants' purpose not to earn income since income from capital nominal or insignificant, cannot be accepted-Argument not supported by text of Act and judicial interpretation thereof, and no basis for argument in evidence in record-Case law suggests presumption taxpayer purchasing property producing any amount of income probably intended to derive income from property-Argument income appellants earned nominal not supported by evidence when comparison of income made with business practices current at time and respondent's policies at time with respect to interest deduction on loans taken out to earn investment income-"While an item of property may produce revenue, it does not necessarily produce profit by itself, and it would be absurd to demand that each individual item of property actually yield "net income" (profit) in and of itself.": Hickman Motors Ltd. v. Canada, [1997] 2 S.C.R. 336-Not operation that would unduly or artificially reduce income (ITA, s. 245(1)): interest deduction in keeping with object and spirit of s. 20(1)(c)(i); loan in accordance with normal business practice relating to acquisition of shares or debt securities; loan taken out had bona fide business purpose-Last, appellant Ludco Enterprises Ltd. did not lose benefit of interest deduction by disposing of source of income in 1983 because income-generating property acquired with borrowed money replaced by other income-generating property and because value of taxable-income-generating assets acquired to replace original assets higher than amount of debt resulting from loan-Seems fundamentally unfair to disallow particular taxpayer's interest deduction on basis of purely arbitrary criterion when same criterion not applied to other taxpayers, in hope courts will be sympathetic to and supportive of approach-Income Tax Act, S.C. 1970-71-72, c. 63, ss. 20(1)(c)(i), 245.