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Contracts - Non-Arm's Length. Canada v. Microbjo Properties Inc.
In Canada v. Microbjo Properties Inc. (Fed CA, 2023) the Federal Court of Appeal considers indicia of an arm's length contractual dealings:[61] I first observe that although the Tax Court correctly states that the issue to be determined is whether WTC and the respondents were dealing at arm’s length “at a particular time” being the time of the transfer (Reasons, para. 182, citing paragraph 251(1)(c)), it remains that all the facts that bear on the relationship at that time, including those that relate to pre-sale transactions, must be taken into account. As was explained by the Supreme Court in Canada v. McLarty, 2008 SCC 26, [2008] 2 S.C.R. 79 [McLarty] (para. 61; see also Swiss Bank (Ex. Ct.), p. 438): “while the initial focus is on the transaction between the [parties], all the relevant circumstances must be considered to determine if the acquiring taxpayer was dealing with the vendor at arm’s length”. There is therefore no basis for the suggestion that preserving the certainty and predictability of the “relationship rules” requires courts to turn a blind eye on facts that bear on the relationship as it exists at the time of the transfer only because they took place in the past, at a time when the subsidiaries were legally controlled by the respondents (Reasons, para. 182).
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[78] The purpose of the arm’s length test is to verify whether the relationship between transacting parties is such that courts can have the assurance that the terms of the deal “will reflect ordinary commercial dealing[s] between parties acting in their separate interests” (Swiss Bank (SCC), p. 1152; McLarty, para. 43; Remai, para. 34). Such assurances cannot be found unless parties not only seek a profit, but also transact with their own property or money with the result that what is at stake is their own patrimony or property. Human behaviour being what it is, this combination allows for the presence of the tension that drives each party to “seek[] to get the best possible terms for himself” (Minister of National Revenue v. Kirby Maurice Company Limited., 1958 CanLII 715 (CA EXC), 58 D.T.C. 1033, [1958] C.T.C. 41 (Ex. Ct.), p. 1037). It is the existence of this tension that provides the assurance that the terms of the deal reflect ordinary commercial dealings.
[79] A cogent demonstration can be found in the Supreme Court’s decision in Swiss Bank (SCC), where the issue was whether non-resident lenders were dealing at arm’s length with a Canadian borrower, pursuant to then clause 106(1)(b)(iii)(A) of the Income Tax Act, R.S.C. 1952, c. 148 (now clause 212(1)(b)(i)(A) of the Act). The Supreme Court asked whether the lender-borrower relationship presented “the assurance that the interest rate will reflect ordinary commercial dealing between parties acting in their separate interests” (Swiss Bank (SCC), p. 1152) and found that it did not because the borrower was “captive to the interests” of the lenders and, therefore, no tension was in play (Swiss Bank (SCC), p. 1151). Subsequent rulings have reiterated the need for this tension to exist by insisting on the presence of “ordinary market forces” (Canada v. GlaxoSmithKline Inc., 2012 SCC 52, [2012] 3 S.C.R. 3, para. 1) or “commercial safeguard[s]” (Petro-Canada v. Canada, 2004 FCA 158, 58 D.T.C. 6329 [Petro-Canada], para. 59) before a factual arm’s length relationship can be found to exist.
[80] Whether and the extent to which this tension exists in any given case is an issue that must be addressed in light of the relevant facts (McLarty, para. 62) and the particular provision of the Act pursuant to which the issue arises (Keybrand Foods Inc. v. Canada, 2020 FCA 201 [Keybrand Foods], paras. 35; see also para. 46). Just as the applicable provision in Swiss Bank (SCC) was concerned with interest rate manipulations, subsection 160(1) is concerned with price manipulations in the context of non-arm’s length property transfers. As affirmed by this Court, subsection 160(1) was enacted to “protect the tax authorities against any vulnerability that may result from a transfer of property between non-arm’s length persons for a consideration that is less than the fair market value of the transferred property” (Eyeball Networks, para. 44, citing Canada v. 9101-2310 Québec Inc., 2013 FCA 241, [2013] D.T.C. 5170, para. 60; see also Canada v. 594710 British Columbia Ltd., 2018 FCA 166, [2019] 5 C.T.C. 1, para. 3).
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[84] A transaction that takes place at a price far removed from the price that one would expect based on the risks assumed and the rewards sought can provide a strong indication that the parties are not dealing at arm’s length (Keybrand Foods, para. 68; Remai, para. 34). ... . Golden Oaks Enterprises Inc. v. Scott
In Golden Oaks Enterprises Inc. v. Scott (Ont CA, 2022) the Court of Appeal set out the essence of a non-arm's length contract:[24] The trial judge identified the indicia of a non-arm’s-length transaction as the following: (1) a common mind directing the bargaining for both parties of a transaction; (2) parties to a transaction acting in concert without separate interests; and (3) de facto control: at paras 203-4, citing Canada v. McLarty, 2008 SCC 26, [2008] 2 S.C.R. 79, at para. 43, and Montor Business Corporation v. Goldfinger, 2016 ONCA 406, 36 C.B.R. (6th) 169, at para. 68.
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