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12.1. GAAR and General Anti-Avoidance Measures

Canadian tax laws include specific anti-avoidance measures (discussed below) as well as general anti-avoidance rules.

In case where a Canadian resident taxpayer acquires or disposes shares of a non-resident corporation, the domestic tax law includes a general anti-avoidance rule that prevents the taxpayer from availing certain tax benefits (such as deductibility of dividends, interest expense, etc.), if it can be reasonably considered that the principal purpose for acquisition or disposition of such shares is to permit a person to avoid, reduce or defer the payment of tax. In 2014, in the context of an appeal filed with Canada’s Federal Court of Appeal, it has been held by the Court that the aforementioned rule is intended to only address the issue of manipulating share ownership of a non-resident in order to meet or fail the relevant test of controlled foreign affiliate status, and thus gain a tax benefit. Consequently, the Court held that the tax authorities should not apply this rule as a broad anti-avoidance rule for all acquisitions or disposals of shares in a foreign affiliate that may result in a tax benefit.

Further, on 26 November 2021, the Supreme Court of Canada issued its majority decision  in the case of Canada v. Alta Energy Luxembourg S.A.R.L. (Case No. 39113). In the case, the tax authorities applied Canadian GAAR to deny an exemption from tax on capital gains realized by Alta Energy on the disposal of shares in a Canadian corporation as per the terms of the Canada-Luxembourg tax treaty, on the grounds that whilst Alta meets the residence test under the treaty, it had “insufficient ties” to Luxembourg and was established as a conduit for treaty shopping purposes. The Supreme Court majority foundhowever, in favour of Alta and held that because it meets the textual residence test in the treaty, it is etitled to the  exemption provided for under the treaty, notwithstanding the general anti-avoidance provisions contained in the domestic laws of Canada. The Supreme Court dissenting minority opinion found in favour of the tax authorities on the grounds that the taxpayer’s “patent lack of economic connection” to Luxembourg frustrates the policy purposes of the treaty, since “the common intention of Canada and Luxembourg could not have been to provide an avenue for residents of third-party states to indirectly obtain tax benefits they could not obtain directly absent any real economic connection with Luxembourg”. In contrast, the Court’s majority noted that GAAR is intended to address unforeseen tax strategies. Since the interposition of conduits for treaty shopping purposes was not an unforeseen strategy at the time of conclusion of the treaty, the Contracting Parties could have addressed it by any number of additional anti-avoisance rules, including those suggested under the OECD Model Convention.