Written by Jared Mackey, Derrick Hosanna and Allyson Cairns-Walji
On October 30, 2019, the British Columbia Court of Appeal upheld the rectification of an erroneously calculated capital dividend account, saving the corporate taxpayer from a punitive 60% tax.
In 5551928 Manitoba Ltd v Canada (Attorney General), the taxpayer sold property and subsequently sought to distribute the maximum amount of tax-free capital dividends to its shareholders. The taxpayer engaged third-party accountants to advise on the calculation of its capital dividend account. Due to a mistake in the accountants' analysis, the taxpayer paid a dividend that exceeded its capital dividend account.
The taxpayer successfully petitioned the B.C. Supreme Court for an order rectifying the resolution declaring the dividend to reduce the dividend to the actual balance of its capital dividend account. In obtaining this order, the taxpayer overcame the Supreme Court of Canada's 2016 decision in Canada (Attorney General) v Fairmont Hotels Inc.
The Fairmont decision dramatically narrowed the scope of rectification as an equitable remedy to avoid unanticipated tax consequences. The Supreme Court of Canada held that the rectification may only be granted if:
- an error resulted from a mistake common to both or all parties to an agreement;
- there was a prior agreement with definite and ascertainable terms;
- the agreement was still in effect at the time the relevant instrument was executed;
- the instrument failed to accurately record the agreement; and
- if the instrument is rectified, it would carry out the parties' prior agreement.
As a result, the Supreme Court held rectification was not available when the result of its application would alter a transaction or agreement itself rather than the instrument recording the agreement. Following Fairmont, it was unclear whether rectification remained available as a means of avoiding unintended tax consequences arising from a mistake.
The Attorney General in 5551928 Manitoba appealed the B.C. Supreme Court's grant of rectification on the bases that: (1) Fairmont precluded the use of rectification when a party's goal was to realize a favourable tax result, and (2) alternative remedies were available.
The B.C. Court of Appeal held that the test in Fairmont was satisfied and upheld the order for rectification. In the Court's view, the fact that a tax advantage was sought in Fairmont was not the reason rectification was denied. Rather, it was the fact that the intention of the parties was properly recorded at the time the documents were signed, and it was only when adverse tax consequences were discovered that the parties sought to amend the transaction itself. On the facts before it, the Court found that the directors of the Applicant had a clear intention to pay a dividend in an amount equal to the capital dividend account balance when seeking out the advice of its accountants and passing the resolutions. The only error was in the figure provided by its advisor. The Court agreed that rectification of the resolution was necessary to carry out the directors' prior agreement and original intention, and was within the scope of rectification as articulated in Fairmont.
With respect to the "alternative remedies" ground of appeal, the Attorney General argued that the B.C. Supreme Court should not have granted a rectification order because the taxpayer had other remedies available at law, including an order-in-council for remission, commencement of a lawsuit against its accountants, or to treat the excess amount of the declared dividend as a taxable dividend. In upholding the lower court's decision, the Court of Appeal stated that the courts of equity would not force a party to seek an alternative that was neither practical nor certain.
The case law with respect to equitable relief through rectification in Canada continues to develop. As the first post-Fairmont appellate-level decision granting rectification in a tax context, 5551928 Manitoba is encouraging for taxpayers. Given the complexity of Canadian tax legislation, fact scenarios such as those presented in 5551928 Manitoba are inevitable for taxpayers and their advisors. The B.C. Court of Appeal's decision confirms that rectification remains a valid remedy in appropriate circumstances to avoid unfair and unjust tax consequences resulting from a mistake.
Contact any member of the Bennett Jones Tax group to discuss the potential availability of equitable remedies in your circumstances.