Principal Issues: 1. Can the CRA provide an update of its policy regarding the disclosure of a nominee relationship? 2. In a context of the sale of a taxable Canadian property, should a non-resident person acting as a nominee for a resident of Canada obtain a certificate pursuant to section 116? 3. Does the CRA recommend disclosing a nominee relationship by sending Form TP-1079.PN that is filed with the Quebec Revenue Agency?
Position: 1. The CRA is still of the view that counter letters should be disclosed in a timely manner. 2. No. 3. No.
Reasons: 1. Case law and CRA’s long standing position. 2. Since the seller is a resident of Canada, section 116 does not apply. 3. The obligations of any taxpayer under the Act are based on the true rights and obligations of a taxpayer and include any tax implications arising from the counter letter. The documents and information filed with the CRA must reflect such rights and obligations of the taxpayer, including the counter letter.
FEDERAL TAX ROUNDTABLE, OCTOBER 7, 2021
APFF CONFERENCE 2021
Question 16
Nominee agreement and disclosure
On September 24, 2020, the Government of Québec assented to Bill 42, which implements mandatory disclosure measures for nominee contracts. Accordingly, any nominee contract [“contrat de prête nom”] entered into on or after May 17, 2019 must be disclosed to the Quebec Revenue Agency (the "ARQ"). The same applies to any nominee agreement entered into before that date but with tax consequences that continue after May 17, 2019.
Questions to the CRA
a) Is it possible to provide an update on the CRA's current policy regarding the disclosure of a nominee agreement?
b) In the case of a disposition of taxable Canadian property by a non-resident acting solely as nominee, is the non-resident (nominee) required to request a Certificate of Compliance under section 116? We have assumed that the beneficial owner is a tax resident of Canada and that the non-resident (nominee) has no interest in the property in question.
c) We understand that disclosure of a nominee agreement is not required at the federal level. When a taxpayer makes a disclosure of a nominee agreement in Quebec, does the CRA recommend that the taxpayer send a copy of the TP 1079.PN form filed with the ARQ or a letter containing similar information to the CRA to update the taxpayer's file with the CRA and avoid any potential consequences from non-disclosure?
CRA response to question 16(a)
Article 1451 C.C.Q. allows parties to modify or even annul the provisions contained in an ostensible contract, called an apparent contract, by means of a secret contract called a counter letter.
Failure to disclose to the CRA the terms or existence of a counter letter could be considered neglect, carelessness, wilful default, or fraud, and the CRA could assess at any time by virtue of subparagraph 152(4)(a)(i). In addition, reporting the tax obligations arising from the apparent contract rather than the actual agreement contained in the counter letter or failing to disclose the existence of the counter letter could result in the application of the penalty under subsection 163(2) if the taxpayer does so knowingly or in circumstances amounting to gross negligence.
To avoid the application of these provisions, in accordance with the CRA's long-standing position, the parties to a counter letter must therefore disclose its existence and determine the implications of any nature under the Income Tax Act in light of the true legal relationship it reflects.
Under the principles set out by the Supreme Court of Canada in Shell Canada Ltd. v. Canada, unless it can be concluded that a transaction or series of transactions is a sham or that the transaction is contrary to a provision of the Income Tax Act, the CRA must respect the true legal relationship between the parties. Generally, the CRA will recognize the legal effect of a counter letter for tax purposes to the extent that:
- the counter-letter has effective legal effects and does not contravene any legislation;
- the counter-letter is not a sham;
- the counter-letter is entered into before or at the same time as the apparent contract and is not an ex post facto arrangement;
- the terms of the counter letter are disclosed to the CRA and the relevant documents in that regard are provided to the CRA in a timely manner; and
- the facts of the particular situation are consistent with the legal relationship of the parties as described in the counter letter.
Finally, it should be noted that the 2021 Federal Budget proposes to consult on new mandatory disclosure rules under the Income Tax Act, but does not contain any specific measures regarding counter letters. However, it is possible that a transaction to which the counter letter is relevant may constitute a "reportable transaction" or an "avoidance transaction" within the meaning of the 2021 Federal Budget and may fall under the new rules to be introduced.
CRA response to question 16(b)
As stated in question (a), the legal relationship between the parties is determinative in tax matters and that applies in particular to the legal relationship arising from the disposition of taxable Canadian property for the purposes of section 116.
Subsection 116(1) provides that a vendor who is not resident in Canada and who proposes to dispose of taxable Canadian property within the meaning of subsection 248(1) may notify the CRA prior to the disposition of the property or must do so within ten days of the disposition because of the terms of subsection 116(3).
In this situation, the CRA recognizes that the beneficial vendor is resident in Canada. Consequently, subsections 116(1) and 116(3), which apply to dispositions of taxable Canadian property by a non-resident, will generally not apply. That is because the vendor is resident in Canada, whereas the nominee is not legally the owner of the property being disposed of.
It should also be noted that, in certain cases, the CRA could issue a letter to the taxpayer confirming that it is not necessary to withhold tax or to obtain a certificate of compliance under section 116, thereby recognizing the legal effect of a counter letter, provided the conditions set out in question (a) are satisfied.
Finally, subsection 116(5) provides that in certain circumstances the purchaser may be liable for a tax equal to 25% of the cost of the property acquired on behalf of a non-resident vendor. However, the purchaser may be relieved of that obligation if, after reasonable inquiry, the purchaser had no reason to believe that the vendor was not resident in Canada. The purchaser must therefore be diligent in confirming the vendor's residency status.
CRA response to question 16(c)
It is important to remember that tax law is an ancillary law that applies to the true legal effects of transactions between parties. The parties must file on the basis of their actual legal relationship and, in order to determine the tax consequences of any kind under the Income Tax Act, only those actual legal relationships must be considered.
Any taxpayer party to a counter letter must therefore, on that basis, determine the tax consequences of the counter letter and disclose its existence to the CRA. While there is no specific form of disclosure of a counter letter in the Income Tax Act, the onus is on the taxpayer to explain why the tax consequences it has determined do not correspond to the apparent contract and to provide all relevant documentation in a timely manner, including when filing the relevant tax returns.
Since an apparent contract does not reflect the true legal relationship between the parties, the parties should pay particular attention to making a clear demonstration of the true legal relationship between them at the outset, with all relevant supporting documentation. That demonstration must be made at the time of the return, regardless of its nature, so that the CRA is able to determine any tax consequences arising from the true legal relationships established under the counter letter, including the application of subparagraph 152(4)(a)(i) and subsection 163(2), in light of the circumstances.
Sylvain Grégoire
(514) 229-0301
October 7, 2021
2021-090106
FOOTNOTES
Due to our system requirements, footnotes contained in the original document are reproduced below:
1 [1999] 3 S.C.R. 622.