FMV Sale to a Trust: Sommerer Invoked

In Sommerer, the TCC (and ultimately the FCA) found that subsection 75(2) does not apply where assets are sold to a trust for FMV consideration. This conclusion was accepted by the minister, and then by the court, in Brent Kern Family Trust v. The Queen (2013 TCC 327).

Subsection 75(2) is an anti-avoidance provision, but in this case the taxpayer was apparently using it as a tool to achieve tax savings. The CRA has generally expressed concern with this technique (see, for example, CRA document nos. 2011-0401951C6, 2011-0412131C6, and 2012-0433261E5). It commonly attacks such plans by using GAAR (and it was successful in Lipson v. Canada, 2009 SCC 1). This was the CRA’s initial approach in Kern, but the situation changed as the case progressed because of the release of the FCA’s decision in Sommerer (2012 FCA 207).

In the Kern case, Mr. Kern intended to invoke subsection 75(2) by having a corporate beneficiary (Opco) sell property (Holdco) at FMV to the Brent Kern family trust. Because Opco was both a contributor to and a beneficiary of the trust, subsection 75(2) was meant to apply such that any dividend income realized by the trust on the shares of Holdco would be attributed to back to Opco. Opco would, in turn, claim an intercorporate dividend deduction pursuant to subsection 112(1), leaving cash from the dividend in the trust with no taxable income. The cash could then be distributed to Mr. Kern, who was a beneficiary of the trust, as a tax-free distribution of the trust’s capital.

The application of subsection 75(2) was essential for the plan in Kern to work as intended. At the initial hearing, however, the minister did not challenge the application of subsection 75(2), and instead argued that the series of transactions in issue was subject to GAAR. Interestingly, while the TCC was deliberating after the initial hearing, the FCA’s decision in Sommerer was released. On the basis of this change in law, the minister in Kern applied to the TCC for an opportunity to present additional submissions. The TCC granted the minister’s request, and further submissions on the application of subsection 75(2) to the facts in Kern were heard.

In his decision in Kern, Bocock J found that Sommerer was applicable and that the TCC was obligated to follow and apply the statements of law handed down therein. As a result, Bocock J concluded that subsection 75(2) was not applicable in Kern, since there was an FMV sale of the shares of Holdco to the Brent Kern family trust. As a result of the court’s finding that subsection 75(2) did not apply, the application of GAAR was not considered.

The Kern decision is helpful in that it confirms that the minister generally accepts the Sommerer decision regarding the application of subsection 75(2). Kern provides additional comfort when one relies on Sommerer in respect of an FMV sale to a trust. The decision also leaves open the possibility of intentionally invoking subsection 75(2) in situations where there is no FMV sale to a trust. Whether such planning is subject to GAAR remains a question to be answered by the courts.

Nathan Wright
Cadesky & Associates LLP, Toronto
nwright@cadesky.com

Canadian Tax Focus
Volume 4, Number 1, February 2014
©2014, Canadian Tax Foundation