Science Fiction: Bagtech on CCPC Status and USAs
In Bioartificial Gel Technologies Inc. c. La Reine (2012 CCI 120) (Bagtech), the TCC found that a unanimous shareholders' agreement (USA) caused a corporation to qualify as a CCPC, and thus to be eligible for the refundable SR & ED tax credit, even though more than 50 percent of the voting shares of the corporation were held by non-residents. The USA specified that the Canadian-resident shareholders were to maintain the ability to elect a majority (or, for part of the period, one-half) of the directors on the board.
Paragraph (b) of the definition of "Canadian-controlled private corporation" in subsection 125(7) is a two-step test. First, all shares of any corporation that are owned by disqualifying persons (non-residents, public companies, or companies with shares listed on a designated stock exchange) are attributed to a single hypothetical person. Second, it must be determined whether that hypothetical "particular person" would control the corporation whose status is being tested.
The minister reasoned that the USA giving the Canadian-resident shareholders the ability to elect the majority of the board of directors (and thus de jure control) should be ignored because the hypothetical shareholder was not a party to it. This argument was made despite the SCC's decision in Duha Printers (Western) Ltd. v. Canada ( 1 SCR 795), which held that USAs, like other constating documents of a corporation, are relevant in determining de jure control. The minister further argued that in any event the only relevant provisions of a USA for the purposes of determining control are those restricting the powers of the directors, not those affecting the voting rights of shareholders. Not surprisingly, the taxpayer argued that the hypothetical "particular person" was a party to the USA and must be considered to be bound by all of its provisions.
The TCC agreed with the taxpayer's submissions. Bédard J noted that paragraph (b) of the CCPC definition creates a legal fiction. He held that the "particular person" must be deemed to have the same rights and obligations as the actual shareholders of the corporation, relying, in part, on the legal fiction set out at section 146(3) of the Canada Business Corporations Act (CBCA), which provides that a purchaser or transferee of shares subject to a USA is deemed to be a party to the agreement. Bédard J concluded that the hypothetical "particular person" was a party to the USA. Since, having regard to all the provisions of the USA, the non-resident shareholders did not have control of the taxpayer, the taxpayer was therefore a CCPC.
The Bagtech decision is noteworthy on two fronts. First, it reaffirms Duha Printers and clarifies that all provisions of a USA, not just those affecting the directors' powers, are relevant to determining corporate control. Second, it confirms a line of Canadian jurisprudence suggesting that legal fictions are to be interpreted broadly and extended to their logical consequences. Interestingly, the logical consequence in this case was the result of not one but two legal fictions: the hypothetical "particular person" and the deeming rule at section 146(3) of the CBCA. It remains to be seen whether the TCC's broad interpretation will be maintained; the case is under appeal to the FCA.
Bagtech raises an interesting tax-planning question: will shareholders contemplate adopting this type of USA at least partly for the purpose of obtaining CCPC status? If they do so, non-resident and other disqualifying shareholders will effectively be giving up control of the company (to the extent that they would otherwise have had it), so the tax advantages will have to be weighed against this important non-tax disadvantage.
(The Bagtech decision was rendered in French; it is expected to be translated into the other official language [the normal practice for general procedure cases], although this process can take up to a year, owing to the volume of cases.)
John J. Lennard
Davies Ward Phillips & Vineberg LLP, Montreal