In The Queen v. Propep Inc. (2009 FCA 274), the Federal Court of Appeal (“FCA”) was asked to determine whether Propep Inc. (“Propep”) was associated with two other corporations, and therefore required to share the small business deduction. The FCA considered the look-through rules in subparagraph 256(1.2)(f)(ii) of the Income Tax Act (Canada) (the “Act”). Generally, subparagraph 256(1.2)(f)(ii) deems a beneficiary to be the owner of any shares held by a trust if their portion of the income or capital of the trust depends on any person exercising or failing to exercise discretionary power. The specific facts are as follows:
All of the voting shares of Propep were owned by 9059-3179 Québec Inc. (“9059”), and all of 9059’s voting shares formed part of the trust patrimony of Fiducie Propep (the “Trust”). The trustees of the Trust were Pierre Paquette (“Pierre”) and Pierre Choquette, who were not related. The first ranking beneficiary to the Trust was 9059 until the earlier of it being wound-up or the expiry of 100 years pursuant to article 1272 of the Civil Code of Québec. The second-ranking beneficiary was Pierre-Marc Paquette (“Pierre-Marc”), who was Pierre’s minor son. Pépinière Abbotsford Inc. (“Pépinière”), which was one of the corporations allegedly associated with Propep, was controlled by Pierre and his father Jean-Claude Paquette. Jardinage Abbotsford Inc. (“Jardinage”) was controlled by Pépinière. Due to the corporate share ownerships, Pépinière and Jardinage were associated.
The narrow issue before the Court was whether Pierre-Marc was a beneficiary of the Trust. If so, subparagraph 256(1.2)(f)(ii) would apply, and Pierre would be deemed to own the shares of 9059 pursuant to subsection 256(1.3) of the Act, as Pierre-Marc was a minor. Propep would be associated with Pépinière, as both would be controlled by 9059, and given the share ownership of Pépinière and Jardinage, all three corporations would be considered associated and thus have to share the small business deduction.
The Tax Court of Canada (“TCC”) (2009 DTC 1163) held that Pierre-Marc was not a beneficiary, and as such the look-through rules in subparagraph 256(1.2)(f)(ii) did not apply. Under the trust deed, Pierre-Marc’s right as a beneficiary was conditional on the earlier of 9059 being wound-up, or the expiry of 100 years. Only 9059 was entitled to the Trust’s income or capital, and the trustees could not have exercised their discretionary power to benefit Pierre-Marc.
In a unanimous decision, the FCA overturned the decision of the TCC and allowed the appeal. The FCA held that the shares of 9059 were deemed to be owned by Pierre-Marc, under subparagraph 256(1.2)(f)(ii). As the trustees could have exercised their discretion to benefit Pierre-Marc by winding-up 9059, Pierre-Marc was considered a beneficiary.
Mr. Justice Noël commented that the TCC could not conclude that Pierre-Marc was not a beneficiary because “income interest” in a trust, as defined in subsection 108(1), is an absolute right even if subject to conditions. Additionally, Mr. Justice Noël noted that the TCC failed to consider the expression “beneficially interested,” as defined in subsection 248(25) of the Act. The FCA stated that the concept “beneficially interested” applies whenever there is a question whether a person has a beneficial interest in a trust, regardless of whether the term is actually used in the applicable provisions of the Act. Application for leave to the Supreme Court of Canada was denied.
The decision of the FCA introduces uncertainty when interpreting provisions of the Act. In what other circumstances is it now necessary to complete the onerous task of conducting an exhaustive review of all defined terms in the Act to determine which may be applicable?