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Rectification continues to be a topic of heated debate in
Quebec. After a series of decisions by the Court of Appeal last
year on the subject, the Quebec Superior Court rendered an
important judgment on June 19, 2012 (Mac's Convenience Stores Inc. v. Couche-Tard
Inc., 2012 QCCS 2745) on a motion for declaratory judgment
involving a well-known Canadian business.
This case is a reminder that rectification is not always
available to correct errors made in the planning of a transaction,
even if the unintended tax consequences result in a loss of several
million dollars for a taxpayer.
The Facts
On April 14, 2005, Mac's Convenience Store Inc.
("Mac's") borrowed $185 million from a U.S.
corporation, Sildel Corporation ("Sildel"), which was a
"specified non-resident" for purposes of the thin
capitalization rules in subsection 18(4) of the Income Tax Act (the
"Act"). Under this loan, Mac's paid interest to
Sildel ($911,854 in 2006, $11,069,590 in 2007, and $10,674,247 in
2008). These interest payments were deducted in computing the
income of Mac's for income tax purposes in the relevant years.
This loan was fully repaid by Mac's in 2008.
On April 25, 2006, Mac's declared and paid a dividend of
$136 million to Couche-Tard Inc. ("CTI") out of its
retained earnings. The decision to declare this dividend was taken
after consultation with professional advisers.
More than 18 months later, it was discovered that the dividend
of $136 million paid to CTI had the effect of raising the
"debt" portion of Mac's debt-to-equity ratio
vis-a-vis Sildel for thin capitalization purposes beyond the then
statutory limit of 2:1 under subsection 18(4) of the Act. In early
2008, Mac's notified the CRA of the situation. After conducting
an audit, the CRA issued notices of reassessment to Mac's
denying the deduction of all the interest it paid to Sildel during
taxation years 2006, 2007, and 2008.
Mac's filed a motion for declaratory judgment with the
Quebec Superior Court requesting that the dividend of $136 million
declared on April 25, 2006 and paid to the respondent CTI be
cancelled retroactively and replaced by a reduction of Mac's
paid-up capital in the same amount. This rectification would have
required no transfer of funds between the parties, but it would
have allowed Mac's to deduct the interest paid to Sildel in
computing Mac's income under the thin capitalization rules.
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