Executive Summary: Key Legal and Evidentiary Issues

• Reasonableness of $900,000 annual management fees paid by the taxpayer to its related management company for 2013–2015, under the Taxation Act and the Act respecting the Québec sales tax.
• Allocation of the evidentiary burden: the taxpayer’s obligation to “demolish” the statutory presumption that the Revenu Québec reassessments are valid.
• Weight given to documentary support and comparative/expert evidence (or the lack thereof) to prove that the management fees reflected market value and were commercially reasonable.
• Significance of the role of Marcarko Ltée and its officers in managing the 555 Chabanel Street property, and whether the taxpayer improperly minimized that role to justify the fees paid to Brooksam Inc.
• Adverse inferences drawn from the taxpayer’s failure to call key witnesses (notably Marcarko’s CEO and a representative of the co-shareholder 645038 Ontario Ltd) to explain the services rendered and cost allocation.
• Deference owed on appeal to the trial judge’s assessment and weighing of evidence, and whether any palpable and overriding error was shown in upholding the reassessments.

Background and facts

Immeubles C.R.K.C. Inc. (C.R.K.C.) is a Quebec investment company whose portfolio during the relevant years included a 50% interest in Marcarko Ltée, owner of a large commercial building at 555 Chabanel Street in Montreal. The remaining 50% of Marcarko was held by 645038 Ontario Ltd, a corporation controlled by New York interests. Marcarko was responsible for the day-to-day management and operation of the building, with an experienced real estate executive, Eyal Cohen, serving as president and chief executive officer supported by a staff of about 15 employees. C.R.K.C.’s other assets included a parcel at 9300 Meilleur Street in Montreal, passive investments in partnerships and corporations, bank deposits, negotiable securities, receivables, prepaid expenses, rental income and an inter-company loan, as well as office equipment and computer hardware. Despite this diversified asset base, the 555 Chabanel property was the primary income-producing asset, generating most of C.R.K.C.’s gross revenues in 2013–2015 through base rents and recoveries from tenants. In 2012, C.R.K.C. had also realized significant income from the sale of another building in Toronto (555 Richmond Street). During the 2013, 2014 and 2015 taxation years, C.R.K.C. paid fixed annual “management fees” of $900,000 plus GST and QST to its parent company, Brooksam Inc., for a total of $1,034,775 each year. Brooksam’s president and sole shareholder, Robert Carsley, was also the president of C.R.K.C. The company treated these fees as deductible expenses for income tax purposes and claimed corresponding GST/QST input tax credits. C.R.K.C. maintained that Brooksam, through Carsley, provided management and supervisory services not only in relation to the 555 Chabanel building, but also in respect of the Meilleur Street land, other investments, and the identification and pursuit of new acquisition opportunities (including work that later led to a 2017 investment in a property at 75 Scarsdale Road in the Toronto area).

The tax audit and reassessments

In late 2015 or early 2016, the Agence du revenu du Québec (Revenu Québec) conducted an audit of C.R.K.C. focused on the management fees paid to Brooksam during 2013–2015. The auditor concluded that the $900,000 annual fee was unreasonable, relying in part on a 2014 compensation study covering officers of private and public corporations. Using that benchmark, the auditor determined that a reasonable amount for the services in issue was $200,000 per year. Revenu Québec accordingly issued income tax reassessments for the 2013–2015 fiscal years, disallowing a large portion of the deduction for management fees. Because the reduction in deductible expenses had a knock-on effect on the GST and QST input tax credits claimed by C.R.K.C., Revenu Québec also issued corresponding reassessments under the Act respecting the Québec sales tax. C.R.K.C. filed notices of objection against all the reassessments, but the objections were dismissed. The company then appealed to the Court of Québec, Civil Division.

Proceedings before the Court of Québec

Before the Court of Québec, C.R.K.C. sought to overturn the reassessments by demonstrating that the full $900,000 annual management fee was reasonable and deductible. The trial judge began by recalling that, under Quebec tax legislation, an expense must be reasonable in the circumstances to be deductible from business income, and that assessments are presumed valid and binding. It was therefore for the taxpayer to rebut, by prima facie evidence, the presumption of validity attaching to the reassessments. The evidentiary focus at trial centred on the nature and value of the services allegedly rendered by Brooksam and Carsley. C.R.K.C. argued that Carsley devoted significant time and expertise to supervising the 555 Chabanel property and to managing the company’s broader portfolio, and sought to link his efforts to the substantial increase in the building’s market value, which it placed at around $50 million during the years in dispute. The judge, however, considered that C.R.K.C. had attempted to downplay Marcarko’s role in the planning, development and day-to-day management of the 555 Chabanel building. In his view, Marcarko and its CEO Cohen had in reality played a much more significant part in improving the property’s performance and value than Carsley’s account suggested. The trial court also placed considerable weight on evidentiary gaps. No comparative market data or expert evidence was adduced to show that a $900,000 annual fee was in line with what an arm’s length party would pay for similar services. The amount of the fee was not supported by detailed documentation, such as time records, breakdowns of tasks, or contemporaneous analyses explaining the quantum. The judge further drew adverse inferences from C.R.K.C.’s failure to call Cohen or any other Marcarko representative to testify about the nature and scope of Marcarko’s services, and from the absence of any witness from 645038 Ontario Ltd. The co-shareholder’s silence was viewed as undermining C.R.K.C.’s contention that the Brooksam fees reflected fair market value, especially since 645038 had not been asked to bear any share of these management costs. After reviewing the record, the Court of Québec held that the explanations and evidence offered by C.R.K.C. were not sufficiently detailed, substantial or persuasive to rebut the statutory presumption. Although the judge accepted that Carsley was a capable and successful businessman, he found that C.R.K.C. had failed even at the initial, prima facie stage to justify management fees of $900,000 (or the alternative of $700,000) per year for 2013–2015. He therefore maintained the reassessments in full, both for income tax and Quebec sales tax purposes.

Issues on appeal

C.R.K.C. appealed to the Quebec Court of Appeal. In its written brief, the company initially advanced three principal grounds: that the trial judge had applied the wrong legal test for the deductibility of expenses; that the judgment was affected by palpable and overriding errors in the assessment of the evidence; and that the conclusion that the management fees were unreasonable was erroneous. By the time of the hearing, however, C.R.K.C. effectively abandoned the first ground, despite having devoted much of its brief to it. Instead, it recast its main argument, alleging that the trial judge had improperly focused his analysis on the 555 Chabanel property and on Marcarko’s activities, to the exclusion of C.R.K.C.’s other assets and investments. According to the appellant, a proper reading of the financial statements showed that the interest in Marcarko represented only a marginal portion of its asset base, and that the judge’s “narrow” focus caused him to undervalue Carsley’s broader contribution via Brooksam. C.R.K.C. also argued that the fruits of Carsley’s management efforts might not appear in the same fiscal year as the work was done; therefore, the company’s annual financial results were not a reliable indicator of the real value of the services rendered and could mislead the court about the reasonableness of the fees. Reformulated in appellate terms, the question for the Court of Appeal was whether the trial judge had made any palpable and overriding error in concluding that C.R.K.C. had not discharged its burden of demolishing the presumption of validity of the reassessments.

Reasoning of the Court of Appeal

The Court of Appeal declined to interfere with the trial judgment. It first observed that the trial judge’s statement of the governing legal principles was not in dispute. There was no real controversy on appeal about the existence of the presumption of validity, the taxpayer’s evidentiary burden, or the requirement that deductible expenses be reasonable in the circumstances under the Taxation Act and the Quebec sales tax statute. The live issue concerned how those principles had been applied to the facts. On the appellant’s contention that the trial judge had treated the 555 Chabanel building as C.R.K.C.’s only significant asset, the Court of Appeal pointed to express passages in the first-instance reasons confirming the judge’s awareness of the company’s broader portfolio. The judge had specifically listed C.R.K.C.’s principal assets, including the Meilleur Street land, passive investments, financial assets and other holdings. He also recognized that the gross revenues for the 2013–2015 years were derived almost entirely from rents and recoveries, largely tied to the 555 Chabanel building, and he acknowledged Brooksam’s claimed work on the Meilleur Street property and on the search for new investments culminating in the 2017 Scarsdale Road purchase. Against that background, the Court of Appeal rejected the characterization of the judge’s approach as artificially narrow. It emphasized that the 555 Chabanel building was naturally at the centre of the debate because it was the most important and most discussed asset in relation to the disputed management fees. Giving the property substantial weight did not mean that the judge had ignored the rest of C.R.K.C.’s holdings. The appellate court further underlined that the decisive factor for the trial judge was not an undue focus on one asset, but the insufficiency of the evidentiary record as a whole. The judge had clearly concluded that the explanations and proof offered by C.R.K.C. were not sufficiently detailed, objective or corroborated to establish, even prima facie, that expenses of $900,000 (or $700,000) per year were reasonable. This assessment of the evidence fell squarely within the trial court’s purview. On the adverse inferences, the Court of Appeal noted that it was open to the judge, in the circumstances, to take into account the absence of key witnesses such as Cohen and a representative of 645038 Ontario Ltd, and to infer that their testimony would not have supported the taxpayer’s position. Those inferences were consistent with established jurisprudence and did not disclose any reviewable error. More broadly, the Court of Appeal emphasized that appellate courts owe significant deference to a trial judge’s findings of fact and to the weighing of evidence. An appeal is not an invitation to re-try the case or to substitute a different appreciation of the factual record merely because another reading is arguable. To succeed, C.R.K.C. needed to show a palpable and overriding error affecting the outcome; it failed to do so.

Outcome and practical implications

The Quebec Court of Appeal dismissed C.R.K.C.’s appeal and confirmed the Court of Québec’s decision upholding Revenu Québec’s income tax and sales tax reassessments for the 2013–2015 taxation years. The management fees paid by C.R.K.C. to its related company Brooksam Inc. were not accepted as fully deductible, and the reduced amounts determined by the tax authorities remained in place. The decision underscores that related-party management fees must be supported by robust, objective evidence of reasonableness, including documentation of services rendered, comparative or expert valuation where appropriate, and, critically, testimony from all key actors involved in the underlying operations and cost allocation. In the result, the successful party at both trial and on appeal was the Agence du revenu du Québec (Revenu Québec). The courts maintained the tax reassessments, but neither decision, on the information available, specifies the exact dollar amounts of additional tax, interest, or penalties, nor does the Court of Appeal quantify the “legal costs” awarded. Accordingly, while it is clear that Revenu Québec prevailed and that C.R.K.C. was ordered to pay the respondent’s legal costs of the appeal, the total monetary amount ordered in favour of the successful party cannot be determined from the decisions as provided.