CRA Assessment Vacated: TDL Group Co. v. Canada 2016 FCA 67

By Robert Robillard - 24 mars 2016

This blogpost originally appeared on

This tax case pertains to the deductibility of interest paid for the alleged purpose of earning income from a business or property, that is paragraph 20(1)(c) of the Canadian Income Tax Act as it applied to a cross-border intercompany loan.

The TCC had denied the interest deduction.

The FCA allowed the deduction and vacated CRA’s assessment.

The issue is aptly summarized by the FCA:

« [4] As the Tax Court noted, most of the relevant facts are not in dispute. A series of transactions began when Wendy’s International Inc. (Wendy’s), the ultimate parent corporation of the Wendy’s group of corporations, lent $234 million (Cdn) to a U.S. subsidiary, Delcan Inc., at a rate of interest not to exceed 7%. The same day, Delcan Inc. lent the full amount to the appellant taxpayer, at an interest rate of 7.125%. Next, the appellant used the full amount of the loan to purchase additional common shares in its wholly-owned U.S. subsidiary Tim Donut U.S. Limited, Inc. (Tim’s U.S.). The next day, March 27, 2002, Tim’s U.S. lent the monies received on account of the appellant’s share subscription to Wendy’s on an interest-free basis, evidenced by a promissory note.

[5] Counsel for the appellant accurately characterized this to be another “money in a circle case”. Thus, money that originated from Wendy’s, and was lent out by it at a 7% rate of return, wended its way back to Wendy’s on an interest-free basis.

[6]  Of relevance, in my view, is that the loan to Wendy’s was originally intended to be on an interest bearing basis, although no rate of interest was specified. Concerns arose, however, with respect to the impact an interest bearing note would have on state taxes in the U.S. and on the Thin Capitalization and Foreign Accrual Property Income Rules in Canada. As a result, it was decided the loan would be advanced on an interest-free basis until these concerns could be addressed.

[7] Subsequently, a revised plan was put forward in May 2002, approximately two months later. Pursuant to the revised plan, Tim’s U.S. incorporated a new U.S. subsidiary, Buzz Co., and assigned Wendy’s promissory note to Buzz Co. as payment for its acquisition of Buzz Co.’s shares. Ultimately, pursuant to the promissory note, Buzz Co. demanded repayment of the loan from Wendy’s. Wendy’s repaid the promissory note in full by issuing a new promissory note to Buzz Co. on November 4, 2002 for the same full amount, bearing interest at the rate of 4.75%. »

The FCA’s decision to reverse the TCC’s ruling is based on the following reasoning:

« [17] Since Ludco, it is settled-law that the taxpayer’s purpose when using borrowed monies is to be assessed at the time the monies are used; in this case, the required inquiry is what was the appellant’s purpose at the time it subscribed for the additional shares in Tim’s U.S.?

[18] Given that the appellant’s purpose is to be assessed at that one point in time, an unanswered paradox runs through the reasons of the Tax Court: how is it that there was no income earning purpose during the first seven months the additional common shares were owned by the appellant, but an income earning purpose thereafter?

[19] In my respectful view, this paradox stems from two legal errors on the part of the Tax Court.

[20] The first error resulted from the Court importing into subparagraph 20(1)(c)(i) a requirement that the appellant have a reasonable expectation of receiving income on account of the newly acquired shares within the first seven months of ownership of those shares. Without importing this requirement, one cannot explain how thereafter the shares carried an income earning purpose.

[21] The second legal error flows from the Tax Court’s concern with tax avoidance, hence its conclusion that for the seven month period in question (a period the Tax Court found was intended to be shorter) the “sole purpose of the borrowed funds [was] to facilitate an interest free loan to Wendy’s while creating an interest deduction for the Appellant”.

[22] In Shell Canada Limited v. Canada, [1999] 3 S.C.R. 622, the Supreme Court concluded, at paragraph 47, that this Court’s “overriding concern with tax avoidance not only coloured its general approach to the case, but may also have led it to misread the clear and unambiguous terms of s. 20(1)(c)(i) itself”. In my view, the same error led the Tax Court to its conclusion with respect to the purpose for which the borrowed monies were used. »

The complete case is available here.

TDL Group Co. v. Canada 2016 FCA 67

The library on Transfer Pricing in Canada is available here.

Robert Robillard, Ph.D., CPA, CGA, Adm.A., MBA, M.Sc. Econ., M.A.P.
Senior Partner, RBRT Inc.
514-742-8086; robertrobillard « at »

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