2023 Federal Budget: Selected Tax Measures
| Jurisdiction | Canada |
| Law Firm | Blake, Cassels & Graydon LLP |
| Subject Matter | Finance and Banking, Corporate/Commercial Law, Tax, Energy and Natural Resources, Financial Services, Energy Law, Oil, Gas & Electricity, Income Tax, Capital Gains Tax, Tax Authorities, Property Taxes, Shareholders |
| Author | Blake, Cassels & Graydon LLP |
| Published date | 03 April 2023 |
On March 28, 2023 (Budget Day), the Minister of Finance introduced Canada's 2023 federal budget (Budget 2023). Notwithstanding some predictions that the heavy legislative agenda of the Department of Finance (Finance) in recent years would translate into a budget that was light on tax measures, Budget 2023 contains some dramatic changes to the fiscal landscape. This bulletin analyzes the most significant business tax measures addressed in Budget 2023.
HIGHLIGHTSDespite the pending Supreme Court of Canada decision in Deans Knight, Budget 2023 indicates Finance's intention to forge ahead with a material overhaul of the general anti-avoidance rule (GAAR). Proposed amendments include: 1) incorporating an interpretive preamble, 2) lowering the threshold for an "avoidance transaction", 3) mandating the consideration of "economic substance" as part of the misuse or abuse analysis, 4) extending the reassessment period, and 5) imposing a penalty of 25% of the amount of the tax benefit claimed.
In addition, in the post-COVID environment of increasing economic pressure on governments, Budget 2023 introduces draft rules to implement the tax on share buybacks that was announced in the 2022 Fall Economic Statement and proposes to eliminate the inter-corporate dividend deduction for financial institutions on shares held as mark-to-market property.
Budget 2023 also introduces an important set of tax credits designed to encourage the development of Canada's clean economy.
In August 2022, Finance released a consultation paper requesting input on ways to strengthen the GAAR. The consultation paper noted that there was already a large body of case law on the GAAR, and that the GAAR had proven to be a reasonably effective tool at combatting tax avoidance. Nevertheless, in the consultation paper Finance expressed concerns about some perceived shortcomings of the current version of the GAAR (based largely on court decisions where the Canada Revenue Agency (CRA) was unsuccessful).
Budget 2023 proposes meaningful changes to the GAAR. It is interesting that the government chose to propose these changes, which were foreshadowed by the consultation paper, without waiting for the highly anticipated and yet-to-be-released Supreme Court of Canada (SCC) decision in Deans Knight, which may provide further guidance on the interpretation or application of the GAAR. That being said, these proposals are described as continuing the consultation process, following which the government intends to publish a further draft of the proposals and announce their coming-into-force date.
As background, there are three elements that must be present for GAAR to apply: a "tax benefit", an "avoidance transaction", and a "misuse or abuse" of a provision of the Income Tax Act (ITA), or of the entire ITA, read as a whole. Where GAAR applies, the tax consequences of an "avoidance transaction" may be determined as is reasonable in the circumstances to deny a "tax benefit" that would otherwise be realized. However, the GAAR applies only if it may reasonably be considered that the transaction would otherwise result in a "misuse" of the provisions of the ITA or an "abuse" having regard to those provisions, read as a whole.
Preamble
Budget 2023 proposes to add a three-pronged preamble describing the scope of the GAAR in general terms, with the stated goal of helping to address interpretive issues and ensuring that the GAAR applies as intended.
The first prong describes the GAAR as applying to deny the tax benefit of avoidance transactions that result directly or indirectly either in a misuse of provisions of the ITA or an abuse having regard to those provisions as a whole, "while allowing taxpayers to obtain tax benefits contemplated by the relevant provisions". This emphasis on allowing "contemplated" benefits is arguably the reverse of how the GAAR currently operates. This is because subsection 245(4) of the ITA provides that the GAAR will only apply if it results in a misuse or abuse, and courts have determined that the CRA has the burden of demonstrating that the benefit results from a misuse or abuse. Budget 2023 does not propose to amend the requirement in subsection 245(4) that the GAAR only applies if there is a misuse or abuse, and so it seems unlikely that the reference to "contemplated" benefits in the preamble could shift the burden from the CRA to the taxpayer.
The second prong describes the GAAR as striking a balance between taxpayers' need for certainty in planning their affairs and the government's responsibility to protect the tax base and the fairness of the tax system.
The final prong of the preamble establishes that the GAAR can apply regardless of whether a tax strategy is foreseen (presumably by Parliament). This appears to have been proposed in response to a statement by the majority of the SCC in Alta Energy that the GAAR was "enacted to catch unforeseen tax strategies". It will be interesting to see how the CRA will meet its onus to establish that the obtaining of a foreseen tax benefit in compliance with the technical rules of the ITA is a misuse or abuse of those provisions if they were drafted in a way that permits the obtaining of such a benefit.
Avoidance Transaction
Budget 2023 proposes to reduce the threshold for finding an "avoidance transaction".
The existing definition of "avoidance transaction" captures a transaction that (by itself or as part of a series) would result directly or indirectly in a tax benefit, unless the transaction may reasonably be considered to have been undertaken or arranged primarily for bona fide purposes other than to obtain the tax benefit. Budget 2023 proposes to alter this definition by removing the "bona fide purpose" exception, and instead identifying an avoidance transaction as one where it may reasonably be considered that "one of the main purposes" for undertaking or arranging the transaction was to obtain the tax benefit. This "one of the main purposes" test is similar to the "one of the principal purposes" test under the Multilateral Instrument, which was enacted in Canada in 2019 and modifies many of Canada's existing tax treaties. However, unlike under the Multilateral Instrument, if the purpose test is satisfied, it is still the CRA that bears the onus of demonstrating a misuse or abuse for purposes of the GAAR.
The broadening of the "avoidance transaction" definition from a primary purpose to "one of the main purposes" test significantly weakens its gatekeeping role. It is a shift from the previous understanding of subsection 245(3) as removing "from the ambit of the GAAR transactions or series of transactions that may reasonably be considered to have been undertaken or arranged primarily for a non-tax purpose" (per the SCC's decision in Canada Trustco).
It remains to be seen how material this change is to the GAAR dispute landscape, given that the vast majority of GAAR cases are decided on the "misuse or abuse" prong of the existing test (the "avoidance transaction" determination having been met or conceded).
Misuse or Abuse Test
As previewed in the GAAR consultation paper (which was in response to the Prime Minister's Office's mandate letter to Finance), Budget 2023 proposes to introduce a unique economic substance interpretive rule to the "misuse or abuse" test. The proposed amendments, as currently drafted, state that if an avoidance transaction is "significantly lacking in economic substance", that "tends to indicate" that there is a misuse or abuse.
Budget 2023 notes, however, that economic substance would not supplant the general approach under Canadian tax law, which generally places primacy on a transaction's legal substance (i.e., this is not intended to be a general move to an "economic substance over legal form" approach). Budget 2023 also states that a lack of economic substance will not always mean that a transaction is abusive, noting that in cases where the tax results sought are consistent with the purpose of the provisions or scheme relied upon, abusive tax avoidance would not be found even in cases lacking economic substance.
The "tends to indicate" standard is a novel one for Canadian tax law. It is not entirely clear how one should weigh a potential or asserted lack of substance with the more traditional analysis of the object and spirit of the provisions or scheme at issue.
The proposed amendments list factors that tend, depending on the particular circumstances, to establish that a transaction is "significantly lacking" in economic substance. These include:
- Where all or substantially all of the opportunity for gain or profit and risk of loss of the taxpayer and non-arm's length taxpayers remains unchanged, including because of a circular flow of funds, offsetting financial positions, or the timing between steps in the series;
- Where it is reasonable to conclude that, at the time the transaction was entered into, the expected value of the tax benefit exceeded the expected non-tax economic return, excluding both Canadian and foreign tax benefits; and
- Where it is reasonable to conclude that the entire, or almost entire, purpose for undertaking the transaction was to obtain the tax benefit (it is unclear whether the "entire, or almost entire" standard is intended to mimic the "all or substantially all" language used in other places of the ITA which the CRA has stated generally means 90% or greater).
Extended Reassessment Period
Budget 2023 proposes to give the CRA three years beyond the normal reassessment period to assess or reassess on the basis of the GAAR, unless the transaction was disclosed to the Minister as a "reportable transaction" under section 237.3 of the ITA. Provision is made for optional disclosure under section 237.3, in which case the normal reassessment period would apply (generally, four years for mutual fund trusts (MFTs) and corporations other than Canadian-controlled private...
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