A-433-83
The Queen (Appellant)
v.
Rex T. Parsons (Respondent)
A-434-83
The Queen (Appellant)
v.
Frederick G. Vivian (Respondent)
Court of Appeal, Urie, Ryan and Stone JJ.—
Toronto, June 6; Ottawa, June 25 and August 13,
1984.
Income tax — Income calculation — Assessments — Man
agement companies paid for services performed by respondents
personally — Trial Judge finding although no real business
purpose in creation of management companies, transactions
valid, subsisting, were what purported to be and acted and
relied upon by parties — Supreme Court of Canada in Stubart
Investments Limited v. The Queen, (19841 I S.C.R. 536,
holding transaction not to be disregarded for tax purposes
because entered into without independent business purpose and
holding Minister of National Revenue v. Leon limited to
particular facts by Massey Ferguson case — Facts here differ
ing from Leon case because transactions valid and complete —
No sham here, applying definition of sham adopted by
Supreme Court of Canada in Minister of National Revenue v.
Cameron from Snook v. London & West Riding Investments,
Ltd. — No evidence supporting allegations of agency —
Appeals dismissed.
These are appeals from the Trial judgment allowing the
respondents' appeals from income tax assessments for 1975 to
1978 inclusive. The Minister assessed as income amounts
received by the respondents' management companies from
Newfoundland Design Associates Limited. The respondents
were employed by Design until 1975 when they resigned and
became employees of their management companies. The man
agement companies entered into contracts with, performed
services for and billed Design, although the work was done by
the respondents personally. The respondents received salaries
from their management companies. The management compa
nies maintained offices and telephone listings. Services were
offered to clients other than Design, but the bulk of the work
came from Design. The Trial Judge found that although there
was no real business purpose in the creation of the management
companies, the transactions were valid, subsisting, were what
they purported to be and were acted and relied upon by the
parties. He refused to follow the definition of "sham" in
Minister of National Revenue v. Leon, [1977] 1 F.C. 249
(C.A.). The appellant submits that the Trial Judge, after
concluding that (1) the interposition of the management com-
panies had no bona fide business purpose (2) by the definition
of sham in the Leon case "the interposition of the management
companies was a sham" (3) the facts of this case are not
different from the Leon case, erred in law in failing to conclude
that the Leon decision governed this case. The appellant also
submits that the management companies were acting as agents
of the respondents, and the income was employment income
taxable in the hands of those who earned it.
Held, the appeals should be dismissed. Before the completion
of the hearing of this appeal, the Supreme Court of Canada
pronounced judgment in Stubart Investments Limited v. The
Queen, [1984] 1 S.C.R. 536. It rejected the view that a
transaction may be disregarded for tax purposes solely on the
basis that it was entered into without an independent business
purpose, although it noted that section 137 might apply on the
ground that the transaction falls within the expression "artifi-
cial transaction". Following the Stubart decision, the lack of
business purpose was irrelevant for the purposes of determining
whether or not the income should be taxable in the respondents'
hands.
As to the allegation that "the interposition of the manage
ment companies was a sham" according to the definition of
sham in the Leon case, the Supreme Court of Canada held that
the Leon case seems to have been isolated on its factual base by
the Massey Ferguson case. There is no sham here, applying the
definition of sham from Snook v. London & West Riding
Investments, Ltd., adopted by the Supreme Court of Canada in
Minister of National Revenue v. Cameron, that is, acts that
"are intended to give to third parties or to the court the
appearance of creating between the parties legal rights and
obligations different from the actual legal rights and obliga
tions (if any) which the parties intend to create".
The facts differ from Leon because here the transactions
were found to be valid and complete.
The other attacks also fail. The transactions were not shams.
They were full, complete and legal transactions. The two
management companies were not "bare incorporations". They
were fully clothed with all the legal relationships properly
documented and acted upon. The respondents were never en
titled to receive directly the amounts paid by Design to the
management companies, nor could they personally have sued
Design for the recovery of unpaid monies. There is no evidence
that the monies received from Design were received as an
agent, trustee or nominee of the respondents. The evidence is
all to the contrary.
Section 137 does not apply since it was not relied upon by the
appellant.
CASES JUDICIALLY CONSIDERED
FOLLOWED:
Stubart Investments Limited v. The Queen, [1984] 1
S.C.R. 536.
APPLIED:
Minister of National Revenue v. Cameron, [1974] S.C.R.
1062; Snook v. London & West Riding Investments, Ltd.,
[1967] 1 All E.R. 518 (C.A.).
DISTINGUISHED:
Minister of National Revenue v. Leon, [1977] 1 F.C. 249
(C.A.).
REFERRED TO:
Atinco Paper Products Limited v. The Queen (1978), 78
DTC 6387 (F.C.A.); W. T. Ramsay Ltd. v. Inland Reve
nue Comrs., [1981] 2 W.L.R. 449 (H.L.); Inland Reve
nue v. Burmah Oil Co. Ltd., [1981] T.R. 535 (H.L.);
Furniss (Inspector of Taxes) v Dawson, [ 1984] 1 All E.R.
530 (H.L.); Massey Ferguson Limited v. The Queen,
[1977] 1 F.C. 760 (C.A.); Stubart Investments Limited
v. Her Majesty The Queen (1981), 81 DTC 5120
(F.C.A.).
COUNSEL:
John R. Power, Q.C. and Deen C. Olson for
appellant.
Donald G. Bowman, Q.C. and Maralynne A.
Monteith for respondents.
SOLICITORS:
Deputy Attorney General of Canada for
appellant.
Stikeman, Elliott, Toronto, for respondents.
The following are the reasons for judgment
rendered in English by
URIE J.: This appeal from a judgment of the
Trial Division [sub nom. Vivian v. The Queen,
[1983] 2 F.C. 427] was heard together with an
appeal from a similar judgment in The Queen v.
Vivian, Appeal No. 434-83 so that the reasons
herein shall apply with equal force to the Vivian
appeal subject only to the appropriate adjustments
in amounts necessitated by the circumstances ap
plicable in the latter case and which amounts the
parties have agreed upon, as I understand it. The
Trial Division in this case allowed the respondent's
appeal from income tax assessments made by the
Minister of National Revenue who had assessed as
income of the respondent, amounts paid by New-
foundland Design Associates Limited ("Design")
to Rex T. Parsons Management Limited. In the
Vivian case the name of the management company
was Frederick G. Vivian Management Limited
and the respondent Vivian in that case had been
assessed for income tax on amounts received by his
management company from Design. The "man-
agement companies" will hereinafter be so desig
nated. In each case the personal assessments in
issue are for their 1975, 1976, 1977 and 1978
taxation years.
The relevant facts upon which there is little
dispute may be briefly stated. The shares of
Design, which was incorporated in Newfoundland
in 1963, were at all material times, owned equally
by Parsons, Vivian and their respective wives, or
by two holding companies, the voting shares of
which were wholly owned by them. Design is an
engineering firm. Parsons and Vivian are profes
sional engineers licensed to practice their profes
sion in Newfoundland. The management compa
nies were similarly licensed as, presumably, was
Design. From the date of Design's incorporation
until October 1, 1975, both the respondent and
Vivian were employed by Design and rendered
their engineering and management services to that
company.
By certificates of incorporation dated September
30, 1975, the respondents Parsons and Vivian
obtained voting control of their respective manage
ment companies. The objects of the companies
were identical and need not be spelled out here.
Suffice it to say, they were licensed to practice
engineering in Newfoundland. Parsons and Vivian
resigned from Design and became employees of
their respective management companies. All the
services which prior to October 1, 1975 they had
performed for Design, were now rendered for their
respective management companies. They received
salaries for such services, as did their wives, from
the management company bearing their names.
Each management company performed services
for Design for which that company was billed by
the company performing the services although the
work was entirely done by Parsons or Vivian,
personally. The management companies entered
into contracts with Design, the terms of which
were strictly complied with. In fact, all documen
tation called for in establishing the relationships
between Design, the management companies, cer
tain trusts which were set up and Parsons and
Vivian personally, was meticulously drawn and the
terms strictly complied with by all parties—a fact
conceded by counsel for the appellant.
Each management company maintained an
office in the residence of its controlling sharehold
er and each had its own telephone listing. Services
were offered to and performed for, clients other
than Design, although the bulk of the work came
from Design. Where services were required by
either management company which they were
unable to render themselves, Design usually, but
not always, performed them and billed at the tariff
rates prescribed by the Association of Professional
Engineers of Newfoundland.
The learned Trial Judge reviewed all of the
evidence relating particularly to the reasons
advanced by them for the complex rearrangement
of their business affairs but, for reasons that will
be seen shortly, it is unnecessary for me to do so.
The foregoing summary is sufficient to provide a
factual understanding for the disposition which I
propose for the appeals. In the result, the Trial
Judge made the following key findings [at pages
433-434]:
I find that the interposition of the management companies (1)
had no bona fide business purpose, (2) had, primarily, the
purpose of directly reducing their income tax liabilities, (3)
had, secondarily, an estate-planning purpose which, in the
absence of credible evidence to the contrary, must be taken to
have also been solely motivated by tax and personal, not
business, considerations and (4) was not a sham in the general
ly accepted legal sense of that word. I understand that to be the
frequently cited opinion of Lord Diplock in Snook v. London &
West Riding Investments Ltd. ([1967] 1 All E.R. 518 (C.A.))
[at page 528]:
I apprehend that, if it [sham] has any meaning in law, it
means acts done or documents executed by the parties to the
"sham" which are intended by them to give to third parties
or to the court the appearance of creating between the
parties legal rights and obligations different from the actual
legal rights and obligations (if any) which the parties intend
to create. One thing I think, however, is clear in legal
principle, morality and the authorities ... that for acts or
documents to be a "sham", with whatever legal consequences
follow from this, all the parties thereto must have a common
intention that the acts or documents are not to create the
legal rights and obligations which they give the appearance
of creating. No unexpressed intentions of a "shammer"
affect the rights of a party whom he deceived.
That definition appears recently to have been adopted in a
number of judgments, in the context of the Income Tax Act
[R.S.C. 1952, c. 148 (as am. by S.C. 1970-71-72, c. 63, s. 1)],
by the Federal Court of Appeal. (Stubart Investments Limited
v. Her Majesty The Queen [(1981), 81 DTC 5120 [F.C.A.]], at
p. 5123; Spur Oil Ltd. v. The Queen, [ 1982] 2 F.C. 113 [C.A.],
at p. 126.)
He then referred to decisions of this Court in
Minister of National Revenue v. Leon, [1977] 1
F.C. 249 (C.A.), at pages 256-257, Massey Fer-
guson Limited v. The Queen, [1977] 1 F.C. 760
(C.A.), at page 772, Stubart Investments Limited
v. Her Majesty The Queen (1981), 81 DTC 5120
(F.C.A.), at pages 5124 ff. and Atinco Paper
Products Limited v. The Queen (1978), 78 DTC
6387 (F.C.A.), at page 6395. After carefully con
sidering the ratio decidendi of those cases, he
concluded that, unlike the transactions or series of
transactions in issue in Atinco and Stubart, which
this Court held not to have accomplished what
they purported to accomplish, in this case they did
exactly what they purported to do. [At page 436
he stated:]
What was purported to be done was, in fact, done; what was
done to achieve the desired result, the reduction of tax, was a
valid, complete transaction, or series of transactions, and noth
ing less. Only if the definition of "sham" adopted in Leon
remains valid can the plaintiffs fail. It is apparent from its later
judgments that the Court of Appeal has not taken the refusal of
leave to appeal by the Supreme Court of Canada as approving
that definition. Those later judgments raise doubts as to its
validity.
The law is not clear. In tax matters, while the burden of
proof of facts rests generally upon the taxpayer, the burden of
demonstrating that the law clearly imposes the tax sought to be
levied invariably rests upon the fisc. The appeals from the
assessments are allowed with costs.
It is from those judgments that these appeals
were brought in Toronto.
Argument on the appeals commenced on June 6,
1984 but did not conclude on that day. As a result,
the hearing was adjourned to resume in Ottawa on
June 25, 1984 and was completed on that day. In
the meantime, the Supreme Court of Canada pro-
nounced judgment on Jul1e 7, 1984 [[1984] 1
S.C.R. 536] in the appeal from the judgment of
this Court in Stubart Investments Limited, supra.
Each of the parties was given an opportunity to
prepare and file supplementary memoranda of fact
and law as to the effect the Stubart decision on the
cases at bar. Each counsel availed himself of this
opportunity and, in fact, the appeals were fully
argued both on the pre- and post-Stubare argu
ments. It is my opinion that that decision effective
ly disposed of all attacks on the impugned judg
ments, for the reasons which I shall set out briefly
hereinafter.
In his original memorandum of fact and law,
counsel for the appellant couched his objection to
the judgments appealed from in the following way:
The Deputy Attorney General of Canada respectfully sub
mits that the learned Trial Judge after concluding that
(a) the interposition of the management company had no
bona fide business purpose;
(b) by the definition of sham as determined by this Court in
Leon
.. the interposition of the management companies
was a sham."
(c) the facts of the present case are not different from Leon
erred at law in failing to conclude that the Leon decision of this
Court governed the present appeals.
Mr. Justice Estey in the Stubart case, after
discussing the three House of Lords decisions in
W.T. Ramsay Ltd. v. Inland Revenue Comrs.,
[1981] 2 W.L.R. 449; Inland Revenue v. Burmah
Oil Co. Ltd., [1981] T.R. 535 and Furniss
(Inspector of Taxes) v Dawson, [1984] 1 All E.R.
530, as they relate to the necessity for a transac
tion to have a "business purpose" if it is, perhaps,
successfully to survive scrutiny in tax avoidance
schemes, put the issue in the Canadian context in
this passage from his reasons for judgment at page
564:
Section 137 might arguably apply on the grounds that the
transaction falls within the reach of the expression "artificial
transaction" but the taxing authority has not advanced this
position in support of the tax claim here made. However, there
remains the larger issue as to whether Canadian law recog
nizes, as a principle of interpretation, that the conduct of the
taxpayer, not dictated by a genuine commercial or business
purpose, and being designed wholly for the avoidance of tax
otherwise impacting under the statute, can be set aside on the
basis of Furniss, supra, or Helvering, supra, as though the
transaction were, in fact and in law, a "sham".
After a thorough analysis of applicable case law
from the United Kingdom, the United States, Aus-
tralia and Canada, Mr. Justice Estey concluded at
page 575 that:
I would therefore reject the proposition that a transaction
may be disregarded for tax purposes solely on the basis that it
was entered into by a taxpayer without an independent or bona
fide business purpose....
Later on, in the guidelines he propounded for
the use of courts in such cases, Estey J. said that
where the facts record no bona fide business pur
pose for a transaction, section 137 may be found to
be applicable. That section was not relied upon by
the appellant in these appeals.
The first of the alleged errors in the Trial
judgment is thus disposed of since the learned
Trial Judge had found that, although there was no
real business purpose in the creation of the man
agement companies, the transactions were valid,
subsisting, were what they purported to be and
were both acted upon and relied upon by the
parties. In other words, the lack of business pur
pose was, in the circumstances of these cases,
irrelevant for the purposes of determining whether
or not their income should be taxable in their
hands.
As to the allegation that "the interposition of
the management companies was a sham" accord
ing to the definition of sham in the Leon case,
Estey J. had this to say at page 570:
Leon, supra, at its highest, is a modification of the sham test,
but it seems to have been isolated on its factual base by
Massey-Ferguson, supra.
At pages 572 and 573 he reiterated that the
Supreme Court of Canada in Minister of National
Revenue v. Cameron, [1974] S.C.R. 1062, at page
1068 had adopted the definition of sham restated
by Lord Diplock in Snook v. London & West
Riding Investments, Ltd., supra [at page 528],
who found that no sham was there present because
no acts had been taken:
... which are intended by them to give to third parties or to the
court the appearance of creating between the parties legal
rights and obligations different from the actual legal rights and
obligations (if any) which the parties intend to create.
Since counsel for the appellant conceded that,
using this test, there was no sham in these cases,
the second allegation of error fails.
As to the facts here being not different from
those in Leon, I merely need say that the transac
tions in these appeals were found by the Trial
Judge to be valid and complete transactions in
every respect. I agree with that conclusion. They
were ; thus, unlike those in Leon and Atinco, supra,
in that they were in law valid, fully complete
transactions in the same way that the transaction
in the Stubart case was found by the Supreme
Court to be. The third allegation of error cannot,
therefore, withstand scrutiny.
Upon the resumption of the appeals, counsel for
the appellant argued that:
(a) the monies paid to the management compa
nies, should be taxed in the hands of those who
earned it, namely, Parsons and Vivian;
(b) the income in dispute was not income from a
business carried on by the management compa
nies on their own behalf—at most, at law, the
only relationship created by Parsons and Vivian
with their respective management companies
was but a simple agency relationship between
them and the bare incorporations so established;
(c) the income in dispute is income from
employment and as such is not the income of the
management companies—it is the income of
Parsons and Vivian who earned it;
(d) the fact of its diversion does not alter its
taxability whether pursuant to legal arrange
ments or otherwise; and
(e) the appearance created by the documenta
tion is not reality.
Dealing with (e) first. I gather that this means
the transactions must be shams. The Trial Judge
found them not to be shams and, as I understood
him, appellant's counsel conceded that "sham"
within the Snook definition thereof, was not
present on the facts of this case. That he was
bound to make such a concession is clear from the
record as I read it. This ground, therefore, must
fail.
As to the other four grounds, the facts and
circumstances all lead "inexorably to the conclu
sion" that the formation of the management com
panies, the resignations of Parsons and Vivian
from Design, their employment by the manage
ment companies, the operation of those companies
in the business of professional engineering whose
major, but not only, client was Design, from prem
ises distinct from Design and without one tittle. of
evidence of an agency relationship with anyone,
were full, complete and legal transactions. The two
management companies were not "bare incorpora-
tions"—they were fully clothed with all the legal
relationships properly documented and acted upon.
To ignore them would be to ignore the legal reali
ties of corporate entities and the complete transac
tions created by the valid agreements which they
entered into, particularly those between the man
agement companies and Design. Neither Parsons
nor Vivian was ever entitled to receive directly the
amounts paid by Design to the management com
panies pursuant to those agreements nor could
they, personally, have sued Design for the recovery
of unpaid monies. There is absolutely no evidence
that the monies received from Design were
received as an agent, trustee or nominee of either
Parsons or Vivian. The evidence is all to the
contrary. Therefore, these attacks, too must fail.
I should not leave this appeal without quoting
Mr. Justice Estey at pages 572-573 of his opinion.
It is wholly applicable to these appeals and brings
the fallacy of the appellant's case into sharp focus
in respect of the element of sham which, while
certainly not so couched, has to be the essence of
the appellant's supplementary argument.
The documents establishing and executing the arrangement
between the parties were all in the records of the parties
available for examination by the authorities. There has been no
suggestion of backdating or buttressing the documentation
after the event. The transaction and the form in which it was
cast by the parties and their legal and accounting advisers
cannot be said to have been so constructed as to create a false
impression in the eyes of a third party, specifically the taxing
authority. The appearance created by the documentation is
precisely the reality. Obligations created in the documents were
legal obligations in the sense that they were fully enforceable at
law.... There is, in short, a total absence of the element of
deceit, which is the heart and core of a sham. The parties, by
their agreement, accomplish their announced purpose. The
transaction was presented by the taxpayer to the tax authority
for a determination of the tax consequence according to the
law. I find no basis for the application in these circumstances of
the doctrine of sham as it has developed in the case law of this
country.
For all of the foregoing reasons the attempts to
distinguish the Stubart case fail. I would, accord
ingly, dismiss both appeals with costs.
RYAN J.: I concur.
STONE J.: I agree.
You are being directed to the most recent version of the statute which may not be the version considered at the time of the judgment.