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6 December 2005

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Tax Court finds anti-avoidance rules not violated

On 3 November 2005, the Tax Court of Canada released its judgment in Univar Canada Ltd. v. The Queen 2005 TCC 723. The Court found that Canada's anti-avoidance rules were not violated in circumstances where a Canadian subsidiary of a US parent financed the parent's European operations through the use of a lending subsidiary in Barbados.


Univar Canada Ltd. (Univar) primarily carried on the business of industrial and agricultural chemical processing and distribution. It was part of the Univar group of corporations (UC-Group). The parent company of the group (UC) was located in the United States. In the early 1990s, there were a number of problems within UC-Group:

Univar had excess cash. This resulted in the need for long-term investment opportunities that would produce a higher rate of return than the interest rate on Canadian Bankers' Acceptance Notes;

Univar was under leveraged. UC wanted the company's debt-to-equity ratio to be 1:1 in that if the business was under-leveraged (i.e., too little debt), it was not fully utilizing its capital;

Univar had a guarantee fee issue. Univar was a guarantor for debts of UC and its wholly owned US subsidiary, the operating company. This exposed it to possible income inclusion by the Minister of National Revenue in respect of a guarantee fee;

UC was also advised by its solicitors that US law would deem UC to have received a dividend, on most, if not all, of Univar's earnings and related deemed taxes;

There was a further issue with debt. Univar Europe borrowed funds from its shareholders and loaned the proceeds of those loans to the UK and Swedish operating companies. Some loans were interest bearing and others non-interest bearing. As a result, UC was holding a disproportionate amount of UC-Group's debt and was looking for strategies where it could equalize the debt-to-equity ratios throughout UC-Group as a whole; and the guarantee arrangements above also triggered US foreign tax credit rules and limitations on their use. They had excess foreign tax credits that could not be used as they could be used only to the extent of "qualifying foreign source income".

They developed the following strategy to address the above:

-   the number of tiers within UC-Group in Europe would be reduced;
a greater amount of the European loans would be restructured into interest bearing obligations so the operating companies would bear their proportionate amount of UC-group's debt and the notes receivable would become an attractive investment;
-   Univar and Univar Europe would enter into a Multi-Currency Line of Credit;
-   Univar would establish and capitalize an international financing subsidiary in a jurisdiction which had a corporate tax rate of less than 90% of the prevailing US corporate federal tax rate and would have no existing retained earnings or profits ("NEWCO");
-   NEWCO would purchase the notes receivable from UC, earn interest income thereon and pay dividends to Univar;
-   Univar would use a combination of excess cash and borrowed funds to capitalize NEWCO and thereby improve its debt-to-equity ratio while still generating a good return on its investment; and
-   these solutions would also address a number of US tax issues

Barbados was chosen as the jurisdiction in which to incorporate NEWCO. UC would then pay interest to NEWCO which, after tax and administrative costs, would pay the remainder, as a dividend, to Univar. The interest to NEWCO would be active business income and Univar would, accordingly, be entitled to deduct the appropriate amount pursuant to Sec. 113(1)(a) of the Canadian Income Tax Act.


The primary issue was whether the principal purpose for the acquisition by Univar of shares of NEWCO was to permit Univar to avoid, reduce or defer the payment of tax that would otherwise be payable under the Canadian Income Tax Act within the meaning of Sec. 95(6)(b) with the result that NEWCO would not be a foreign affiliate of Univar, and, therefore dividends received by Univar from NEWCO would not be deductible under Sec. 113(1). In the alternative, the Court considered whether Canada's general anti-avoidance rule in Sec. 245(3) applied. The imposition of penalties was also at issue.


The Court concluded that it cannot, under Sec. 95(6)(b), be reasonably considered that the principal purpose for the acquisition of the shares of NEWCO was to permit Univar to avoid, reduce or defer the payment of tax or any other amount that would otherwise be payable under the Canadian Income Tax Act. Further, there was no avoidance transaction within the meaning of Sec. 245(3). The penalties should also be reversed.

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