Canadian taxpayers beware: foreign trusts may no longer be the same

Sunday, 01 November 2009
A look at Garron (Trustee of) v Canada and Antle v Canada, two cases decided on by the Tax Court of Canada which illustrated the risks for Canadian taxpayers who attempt to use foreign trusts for tax avoidance purposes.

Two recent decisions from the Tax Court of Canada illustrate the risks that taxpayers face when attempting to use foreign trusts as vehicles for tax avoidance. While, to be sure, there are many ways to employ international trusts for legitimate tax planning purposes, these decisions both provide useful illustrations of the care the Court takes to ensure the trust is genuinely resident in a foreign jurisdiction for tax purposes.

Garron (Trustee of) v Canada1

The Court’s decision in Garron involved a determination of the residence of two trusts that had been established in Barbados.

Both trusts [the ‘Barbados Trusts’] were settled by a resident in the Caribbean island of St. Vincent. The main asset of both trusts were shares in PMPL Holdings Inc. [‘Holdco’], a holding company for a Canadian corporation in the business of manufacturing and assembling automotive parts.

In the late 1990s, the share structure of Holdco had been reorganised in a transaction that was similar in structure to an estate freeze (which typically involves an existing shareholder converting common shares to fixed value preference shares and issuing new common shares for nominal consideration to the children of the former common shareholder). The reorganisation of Holdco shares differed from a typical estate freeze in that the new common shares were not held exclusively for children and other issue – the former common shareholder also had an interest.

The terms of both Barbados Trusts were similar. The trustee of both trusts was a trust company that had been incorporated in Barbados. The beneficiaries of both trusts included the shareholders (either directly or through other holding companies) of Holdco, their spouses, and issue.

The owners of the common shares of Holdco converted the shares to fixed value preference shares. Common shares of Holdco were then issued for nominal consideration to newly-incorporated Canadian holding companies, and the trusts subscribed for shares in the holding companies. As a result, the holding companies (which held the newly-issued shares in Holdco) were wholly owned by the trusts. The transactions all involved nominal consideration.

A couple of years after the reorganisation, Holdco was sold and as part of the sale the Barbados Trusts disposed of the majority of their Holdco shares. The result of this was more than CD450million in capital gains.

Pursuant to the withholding provisions of the Income Tax Act2 [‘ITA’], funds had been remitted to the Government on account of the potential capital gains taxes. The trustee of the Barbados Trusts applied for a refund, claiming that a Canada-Barbados tax treaty [the ‘Treaty’]3 applied and that the trusts were exempt from tax in Canada.

The Minister of National Revenue [the ‘Minister’] took the position that the exemption in the Treaty did not apply in the circumstances, and proceeded to issue assessments to each trust for the capital gains tax. The Minister also assessed several Canadian residents who had an interest in Holdco prior to the reorganisation and were resident in Canada for the same gains, and denied the refund. The trustee appealed.

There were a number of arguments raised by the Minister in support of his position that the exemption did not apply. For the purposes of this article, the focus is on the arguments as they relate to the residence of the trusts and the application of the Treaty.

With respect to the residence issue, the Minister argued that the Treaty exemption did not apply because the trusts were resident in Canada (the Minister also argued that, in the alternative, the trusts should be deemed resident in Canada pursuant to s. 94(1)(c) of the ITA as a result of having received property from beneficiaries in Canada).

The appellants took the position that, for the purposes of the Treaty, both trusts were resident in Barbados. The Minister did not take a position on the issue for the purpose of the appeal and, as a result, the Court ultimately declined to make a finding as to whether the trusts were resident in Barbados. It did, however, consider whether the trusts were resident in Canada.

An aspect of the dispute between the appellants and the Minister related to whether the legal principles related to determining the residence of a corporation could also apply to determining the residence of a trust. Generally speaking, in determining the residence of a corporation, the central enquiry involves determining where the management and control of the corporation actually resides.

The appellants took the position that the trusts were not resident in Canada. They argued that the residence of a trust is determined by the residence of the trustee, and that the actual management and control of the trust is irrelevant in determining residence. In support of their position, the appellants referred to the Court’s decision in Dill and Pearman, Trustees of the Thibodeau Family Trust v The Queen4 [‘Thibodeau’]. As there was no dispute about the fact that the trustee was resident only in Barbados, it followed that it could not be found that the trusts were resident in Canada.

The appellants further argued that, in any event, the management and control of the trusts were with the trustee and that, as such, even if the management and control of the trusts were a relevant consideration, the evidence established that such management and control were in Barbados.

The Minister argued that the trusts should be regarded as being resident in Canada on the basis that the trustee was compliant and simply implemented decisions made by or on behalf of some of the beneficiaries of the trusts. He further argued that the Federal Court’s decision in Thibodeau was an ‘anomaly’ and of little utility in the circumstances.

The Court ultimately held that the judicial test used to determine the residence of corporations was in fact applicable in determining residence for trusts. In doing so, it cited the following reasons:

  1. The basis for applying the test to corporations (the determination of the actual management and control of property) applies equally to trusts;
  2. Applying a similar test for trusts and corporations promotes the important principles of consistency, predictability, and fairness in the application of tax law; and
  3. The development of the test of trust residence in Canada exists at common law; it has not been created by statute. If the Court is going to develop a completely different test for trust residence than residence of corporations, it should have a very good reason for doing so.

Having determined that the test for establishing the residence of a corporation should apply to establishing the residence of a trust, the Court then considered the meaning of ‘management and control’. While it concluded that it was not helpful to express a concrete definition, because the determination is so fact-specific, it referred to the location of the effective management of the trust as being an important consideration nonetheless.

Turning to an examination of the residence of the two trusts in question, the Court found that the relevant time for determining residence was when the shares in Holdco were disposed of by the trusts.

In reviewing the management and control of the Barbados trusts, the Court found that the role of the trustee was quite limited and pointed to the following factors:

  1. The trustee had been selected to provide administrative services (such as executing documents)) – there was no expectation that the trustee would be involved in decision making relating to Holdco
  2. To the extent that the trustee’s legal status required any involvement in the operation of or decision making regarding Holdco, the Court found that it had always been understood by the parties that the trustee would defer to the beneficiaries
  3. The investment of the cash proceeds from the sale of the Holdco shares appeared to have been by the direction of the beneficiaries, not the trustee
  4. The trustee had a general practice in its administration of trusts to use the beneficiaries’ investment advisers and likely followed that practice in regard to the Barbados Trusts
  5. The tax planning initiatives involving the trusts were undertaken by Canadian counsel at the direction of the beneficiaries
  6. There was no documentation to suggest that the trustee took an active role in managing the trusts and what documentation had been produced suggested an inactive role; and
  7. There was no evidence to suggest the trustee had significant experience or expertise in managing trusts.

As a consequence, the Court ultimately determined that the central management and control of the trusts were located in Canada, thus making the Barbados Trusts resident in Canada for the purposes of the Treaty. It was this determination alone that was sufficient to dispose with the appeal.5

This decision is noteworthy in that it rejects the oft-relied upon proposition that a trust is resident in the jurisdiction where a trustee resides and exercises his or her discretion. The Court’s reliance on the ‘control and management’ test, previously applied mainly when determining residence of a corporation, establishes a new direction for determining the residence of trusts. Garron has the potential to impact many trusts – both international and domestic. Those wishing to avoid trusts being taxed in Canada (when such was not intended) would do well to ensure that the trust is being managed and controlled where the trustee is resident.

Antle v Canada6

The decision in Antle also involves a trust settled in Barbados, although the issue at dispute is slightly different. In this case, the Court provides a helpful review of the .’three certainties’ required to establish a valid trust.

Antle involved a taxpayer (Mr. Antle) who sought to avoid paying capital gains taxes in Canada. To do so, he ran a sale of shares through a spousal trust settled in Barbados and employed a capital property step-up strategy.

The transaction arose as a consequence of Mr. Antle wishing to sell shares he owned in PM Environmental Holdings Ltd. [‘Holdco’] to another company. Concerned about the capital gains tax he would face, he retained professional advisers to find a way to minimise it.

Mr. Antle decided to employ a capital property step-up strategy, which involved the following steps: a spousal trust was established in Barbados and the capital property (i.e. the shares in Holdco), including the accrued gain, was transferred to the trust. The property was then sold to Mr. Antle’s wife (who was the beneficiary of the trust) and the wife then sold the property to the third-party purchaser. She used the proceeds of sale of the shares to pay the trust the amount owed from when she purchased them. The trust then distributed the funds to the wife as beneficiary of the trust (who gave the funds to her husband). The trust was then dissolved.

The result of this transaction was that there was no capital gain that was taxable in Canada. The capital gain arose in Barbados, where the trust was, and Barbados does not levy taxes on capital gains. Of course, had the husband simply sold the capital to the third party himself, he would be liable for capital gains tax in Canada.

The Minister took exception to what had occurred and assessed Mr. Antle for the capital gain that arose. Not surprisingly, Mr. Antle appealed.

The Court considered a number of issues in making its determination, including whether a valid trust had in fact been created; whether the trust and share transfer was a sham transaction; whether the trust violated general anti-avoidance provisions in the ITA; and residence issues regarding the trust.

Ultimately, the Court disposed of the appeal on the issue of validity alone, and that is the issue explored below. The decision in Antle, however, also provides useful commentary on the other issues raised by the parties.

Validity of the Trust

In order for a trust to be valid, there must be three certainties:

  1. Certainty of intention to establish the trust
  2. Certainty in the subject matter of the trust; and
  3. Certainty in the objects of the trust.

The Minister argued that, in this case, the trust lacked certainty of intention and certainty of subject matter.

Certainty of Intention

With respect to certainty of intention, the Minister argued that the settlor never intended the trustee to have the discretion to deal with the trust property (namely, the shares). Rather, the intention was simply to avoid paying taxes. He also argued that the language of the Trust Deed was insufficient to establish that a trust was intended, insofar as Mr. Antle’s actions were incongruent with the language and terms of the Trust Deed itself.

The Court pointed to the fact that there seemed to be no question that Mr. Antle had intended to avoid capital gains tax in Canada, and had been told by professional advisers that the only way he could do this was by settling a spousal trust in Barbados. On a superficial level, this would indicate that Mr. Antle intended to settle the trust. In addition, the terms of the Trust Deed appeared clear and professionally prepared.  

On the face of the agreement, the intention to establish a trust appeared obvious. However, the Court then turned to look past simply the terms of the trust agreement and at the surrounding circumstances at the time the deed was signed in an effort to determine Mr. Antle’s true intentions. The factors that were considered included the following:

  1. The proposed trustee had signed the documents to effect the sale of the shares to Mr. Antle’s wife before the Trust Deed had been signed
  2. The funds involved were handled only through the trust account of Mr. Antle’s lawyer
  3. It had not been the trustee’s idea to sell the property to the beneficiary of the trust and distribute the proceeds back to her
  4. It was always contemplated (i.e. prior to the trust having been settled) that the trustee would take the steps necessary to effect the tax avoiding transaction and the trustee never had any real discretion
  5. Mr. Antle was always aware that the strategy had to be completed so as successfully to avoid taxes
  6. The terms of the Trust Deed did not operate to settle the shares in the body of the trust – the only reference to the shares was in the preamble; and
  7. Mr. Antle had never spoken to the trustee.

The Court concluded that Mr. Antle did not truly intend to create a trust. He simply signed the documents on the advice of his professional advisers with the intent of avoiding taxes. There was no intention that he would lose control of the shares and always the expectation that he would ultimately be the recipient of their proceeds of sale. Moreover, the Court was not convinced that Mr. Antle even understood the effect of settling a trust or the legal effects of signing the Trust Deed, beyond the tax results he desired.

Certainty of Subject Matter

The Court then turned to examine the certainly of the subject matter. That is, consideration was given to what Mr. Antle thought he was passing to the trustee and, by virtue, to the beneficiary (his wife).

At the time the trust was established, Mr. Antle did not settle his full interest in the shares in the trust. Consequently, there was an element of ownership that was not passed, insofar as Mr. Antle retained some right to receive a fixed financial benefit from the shares (this intent was associated with the outcome of litigation in which he had been involved). The Court found that this indicated a lack of certainty of the subject matter.

A further issue related to the constitution of the trust. The preamble of the trust made reference to the shares to be settled; however, nothing in the body of the trust referred to a gift or transfer of the shares, and the Trust Deed was not worded in such a way as to effect the transfer.

There were also issues with the share certificate involved. To begin with, it was not delivered until after the trust was purportedly settled and it was never given directly to the trustee. There was also no transferee indicated on the share certificate.

The Court found that, in order for the trust to have been settled, the settlor must have done everything necessary to transfer the property to the trust and render the settlement binding. In this case, this had not occurred. As a result, the Court concluded that the trustee never became the owner of the shares. He had not purchased or subscribed to them and there was nothing in the trust agreement laying out how the shares were to be held or on what terms. The Court also found that Mr. Antle never intended the trustee to become the owner of the shares.

On the basis of the foregoing, the Court determined that the trust was not properly constituted and never came into existence. It found that, without a valid trust, the share transfer to Mr. Antle’s wife was a sale of the shares from him to her, triggering a capital gain, or that, alternatively, Mr. Antle rolled the shares to his wife and was liable for the attributed capital gains. Accordingly, his appeal was dismissed.

In summary, the Court provided a useful observation for any taxpayer considering a similar scheme. In the words of the Court, ‘this conclusion emphasizes how important it is, in implementing strategies with no purpose other than avoidance of tax, that meticulous and scrupulous regard be had to timing and execution … if you are going to play the avoidance game, it is not enough to have a brilliant strategy, you must have brilliant execution.' 7


It will be interesting to see how Garron and Antle will be treated and the impact they will have on estate and tax planning, both here and abroad. Needless to say, these decisions are being monitored closely by estates and trusts practitioners in Canada.

  • 1. [2009], T.C.J. No. 345 (T.C.C.) [‘Garron’].
  • 2. R.S.C. 1985, c. 1, as amended.
  • 3. The treaty in question was the Agreement Between Canada and Barbados for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital.
  • 4. 78 DTC 6376 (Fed. Ct. Tr. Div.).
  • 5. Although not the subject of this commentary, the Court did go on to consider whether s. 94 of the ITA (which applies to certain non-resident trusts and their beneficiaries) applies, and provided a useful discussion on the scheme of taxation applied when the interest of a beneficiary is discretionary.
  • 6. [2009], T.C.J. No. 367 (T.C.C.) [‘Antle’].
  • 7. Ibid., para. 58.
Author block
Suzana Popovic-Montag, Megan Connolly

Suzana Popovic-Montag TEP is a Partner at Hull & Hull LLP, Toronto, Ontario.
Megan Connolly is an Associate at Hull & Hull LLP, Toronto, Ontario.

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