Executive Summary: Key Legal and Evidentiary Issues

• Somerset Limited appealed reassessments of its 2019, 2020, and 2021 taxation years following its corporate continuation from British Columbia to the British Virgin Islands (BVI).
   
• Central to the appeal was whether this continuation caused Somerset to cease being a Canadian-controlled private corporation (CCPC) under section 89(1) of the Income Tax Act.
   
• Justice MacPhee found that the deeming provision in subsection 250(5.1)(a) attributed Somerset's incorporation to the BVI as of 1943, bringing it within paragraph 89(1)(b) of the "Canadian corporation" definition.
   
• Consequently, the Court held that Somerset remained a CCPC throughout the taxation years, subjecting it to tax under section 123.3 and disqualifying it from the general rate reduction under subparagraph 123.4(1)(b)(iii).
   
• Alternatively, the general anti-avoidance rule (GAAR) was found to apply, following the Federal Court of Appeal's reasoning in Canada v. DAC Investment Holdings.
   
• The appeal was dismissed in full, and costs were ordered payable by Somerset to the Respondent.
   

Facts of the case

Somerset Limited, a corporation incorporated in British Columbia on May 26, 1943, was a Canadian-controlled private corporation whose business was to make and hold long-term investments, including rental property and shares of TSX-listed companies. As of December 10, 2018, Somerset's common voting shares were held equally by Katherine Cairns, John Stekl, Robert Stekl, and Robyn Cairns. Katherine and John were directors of Somerset, with John also serving as an authorized representative.

As of October 16, 2018, Somerset owned two Vancouver apartment buildings, at 5450 University Boulevard and 5600 Dalhousie Road. On that date, Somerset agreed to sell the buildings to an arm's-length purchaser, Starlight Acquisitions Ltd., for $34,250,000, later adjusted to a total purchase price of $34,020,000. Before the sale closed, Somerset undertook a series of transactions intended to avoid tax otherwise payable by a CCPC under section 123.3 of the Income Tax Act and to preserve eligibility for the general rate reduction under section 123.4. The central step was Somerset's continuation out of British Columbia and into the BVI on December 10, 2018 (the "Continuation"). Three holding companies — Windfall Ventures Inc., J Stekl Holdings Ltd., and RG Stekl Investments Ltd. — were incorporated in December 2018, while a fourth, Rubberman Holdings Ltd., had been incorporated earlier, on December 4, 1989. Each holding company was held by one of the four individual shareholders, to whom the Common Shares were later transferred pursuant to a January 31, 2019 reorganization. Somerset's directors resolved to pay capital dividends and, in February 2019, to pay further dividends on the Common Shares to the holding companies totalling $7,264,220.

The sale of the buildings closed on December 17, 2018, and Somerset realized a capital gain of $32,239,142 (initially reported as $32,281,952 before a CRA-approved adjustment) and a taxable capital gain of $16,119,571. Somerset conceded that despite the Continuation, it remained factually resident in Canada throughout. On October 7, 2022, the Minister of National Revenue reassessed Somerset's 2019, 2020, and 2021 taxation years, concluding that Somerset had remained a CCPC and imposing tax under section 123.3 while disallowing the general rate reduction. Somerset objected on November 10, 2022, and appealed to the Tax Court after more than 90 days passed without a response to its objection.

Policy and legislative provisions at issue

The appeal turned on the interpretation of "Canadian corporation" in subsection 89(1) of the Income Tax Act, which is incorporated by reference into the definition of "Canadian-controlled private corporation" in subsection 125(7). Subsection 89(1) defines a Canadian corporation as one resident in Canada that either (a) was incorporated in Canada, or (b) was resident in Canada throughout the period beginning June 18, 1971. Also at issue was the deeming rule in paragraph 250(5.1)(a), which provides that a continued corporation is deemed, for purposes of the Act, to have been incorporated in its new jurisdiction and not to have been incorporated elsewhere. The decision further considered section 123.3 (refundable tax on a CCPC's aggregate investment income), subparagraph 123.4(1)(b)(iii) (exclusion of aggregate investment income from the general rate reduction), and the general anti-avoidance rule in section 245, including the abusive-transaction framework applied by the Federal Court of Appeal in Canada v. DAC Investment Holdings Inc.

Reasoning and analysis

Justice MacPhee began by determining whether the "or" joining paragraphs 89(1)(a) and (b) is disjunctive, concluding that it is: paragraph (a) captures corporations incorporated in Canada, while paragraph (b) applies only to corporations not incorporated in Canada that have been continuously resident since June 18, 1971. On this basis, the Court accepted the Appellant's position that, prior to the Continuation, Somerset fell under paragraph (a) but not (b).

However, the Court found this was not the end of the analysis. Applying the deeming rule in paragraph 250(5.1)(a), the Court held that Somerset must be treated as having been incorporated in the BVI from its original 1943 incorporation date, and as not having been incorporated in Canada, for all purposes of the Act other than subsection 250(4). Because Somerset was consequently deemed resident in Canada since a date well before June 18, 1971, and deemed incorporated outside Canada, the Court found it now fell within paragraph 89(1)(b). The Appellant's argument — that the deeming rule should apply only where it benefited Somerset (removing it from paragraph (a)) but not where it created a new basis for CCPC status (placing it in paragraph (b)) — was rejected as an inconsistent, one-sided reading of the fiction created by Parliament.

As an alternative basis for the same result, the Court addressed the GAAR. The parties agreed the transactions were avoidance transactions that produced a tax benefit, leaving only the question of whether they were abusive. Relying on the Federal Court of Appeal's findings in DAC Investment Holdings — that a similar BVI continuation circumvented the anti-deferral purposes of section 250(5.1) and sections 123.3 and 123.4 — Justice MacPhee found the same reasoning applicable here and that the transactions would be abusive if GAAR analysis were required. The Court also rejected the Appellant's proposed "alternative transaction" (hypothetically incorporating in the BVI, or another non-Canadian jurisdiction, in 1943) as too remote to be a feasible comparator and as one that, in any event, would still have resulted in CCPC status.

Ruling and overall outcome

The Tax Court dismissed Somerset's appeal in full, ruling in favour of the Respondent, the Crown. The Court held that Somerset remained a CCPC throughout the 2019, 2020, and 2021 taxation years, such that the refundable tax under section 123.3 applied to its investment income and taxable capital gains, and that the Minister had properly disallowed the general rate reduction under subparagraph 123.4(1)(b)(iii) for the same reason. Costs were ordered payable by Somerset to the Respondent, but no specific dollar amount was fixed in the judgment; the parties were instead given until September 15, 2026 to reach agreement on costs, failing which costs would be determined based on written submissions or, absent submissions, awarded to the Respondent as set out in the Tariff. Accordingly, no exact monetary amount of costs can be determined from this decision.